A founder asked me the other day “are there any problems with uncapped SAFEs?” The short answer is yes, absolutely. The more accurate response requires some nuance, so I told him he’d get his answer in the next issue of this newsletter.

First - what’s a SAFE? 

A SAFE is a Simple Agreement for Future Equity. SAFEs, as I've described in the past, are a way to take on investment dollars with fewer legal requirements and documentation (and in turn less time and money) than a traditional equity round.

When you invest in a SAFE, you technically do not own equity (the thing that could be sold for actual dollars/profit down the road) until a future round of funding is raised. The SAFE says that when the equity round is raised, the SAFE investment converts into equity at some agreed upon terms. Those terms usually include a VALUATION CAP and a DISCOUNT which determine what price is used to calculate the amount of equity an investor gets.

The valuation cap and discount are there to address two scenarios:

1. The value of the company going up

2. The value of the company going down

Take the hypothetical situation of a company raising money using a SAFE with a $10MM pre-money valuation cap and a 20% discount.

The $10MM valuation cap defines the highest value that can be used to calculate the conversion of a SAFE investment. So, if the company goes up after the investment is made, the investor will convert at the valuation cap. For all intents and purposes, a valuation cap is essentially a proxy for valuing the company today. In other words, it would be like the investor negotiated an equity investment where the company was valued at $10MM.

So at that valuation cap of $10MM, if the company raised its next round at a $5 million valuation, SAFE investors would convert at a $4MM price ( 20% lower $5MM).

Again…what is an uncapped SAFE?? 

Now that you have the background, I can drop the no cap knowledge (awesome incorporation of slang, amirite?). An uncapped SAFE as you might expect from its name, is a SAFE without a valuation cap 🚫🧢. Without a cap, the only feature that determines the conversion price of a SAFE is a discount. That means whether the value of the company goes up or down, an investor always converts at a discount to the next round valuation…no cap :).

Why uncapped SAFEs?

For founders, it lets you avoid the time and brain damage that comes from setting a valuation. Negotiations can be uncomfortable and there are some situations where it could be helpful to avoid revealing your valuation to the market.

The bigger value to the founder occurs if they can use the money invested on an uncapped SAFE to grow the value of the company tremendously. Remember, even if the company skyrockets in value, the investor just gets a set discount…again, no cap.

Here’s the money scenario for founders – (continue reading....)

Smart Twitter Takes

Always helpful to see materials used in the wild! Just use as inspiration though..the flow might not work for your story!

Twitter threads might make you cringe, but it’s nice to have a list of examples to model off of. Also can be good inspiration for how you open up a hook for your startup pitch

P.S. So relatable.