Y Combinator's pre-money SAFE (Simple Agreement for Future Equity) was born in 2013, offering an even simpler and cheaper alternative to funding other than by way of a priced equity round, and in 2018, Y Combinator released its post-money SAFE. In order to determine the valuation that will be applied to the SAFE note investment, we need to determine whether the cap or the discount will be used (it is not standard practice to use both). A convertible note is a security that is a hybrid of both debt and equity. The cap is $100m post money. Source: Y Combinator SAFE Primer Please consider offering a reasonable valuation cap. A convertible note is a debt instrument that converts to equity later. The biggest difference between a SAFE and a convertible note is that a SAFE is not debt. Customizations may also include additional protections for major investors, such as rights of first offer (ROFO), observer rights, information rights and other rights. A discount rate in a SAFE Note entitles the investor to purchase shares at a discounted price. The glossary is built so you can follow along — each term is listed in the order it appears in Y Combinator's Safe: Cap and Discount term sheet. Looking again at the first row as an example, we first apply the 20% discount to the proposed pre-money valuation of $2,000,000, giving us a discounted valuation of $1,600,000. Answer: A valuation cap applies to convertible notes and SAFEs. To help a growing number of YC companies based outside of the U.S. (50% of the W21 batch), YC revised the most commonly used "Valuation Cap, no Discount" post-money safe and optional side letter for companies formed in Canada, the Caymans and Singapore in March 2021. These conditions generally involve a valuation cap for the company and/or a discount to the share valuation at the moment of the trigger event. the conversion discount and valuation cap. Issue $100k on a YC-SAFE note at $10M price. If, for example, Series A investors pay $1 per share during a priced round, a SAFE holder with a conversion discount will get to purchase their shares at a rate below $1 per share. The Investors in the Convertible Debt round get 100,000 * ($500k / $4M) = 12,500 shares. Accordingly, the company will issue 137,500 . A convertible note is a capital raising instrument that acts as a debt in the form of a loan made to the company. KISS: Keep It Simple Security, or KISS, is similar to a SAFE. Unlike a convertible note, a SAFE is not a loan . A SAFE is a capital raising instrument under which an amount invested by an investor will convert into . How Does the Calculator Work? The 9 Y-Combinator examples and scenario parameters are summarized below: Example 1, Equity Financing, Safe Valuation Cap, No discount = In this case the equity financing pre-money exceeds the Safe valuation cap. Valuation cap. For example, let's say you invest in a company offering a Crowd SAFE with a 20% discount and a $10 million valuation cap. simple agreement for future equity. "Today's tweet storm is about how the valuation cap and the discount work on a SAFE. The Safe converts into Safe Preferred A-1 Stock at a price . Key terms: . That's NOT how this works." Seed Equity -> Series A: The 15% discount applied to the per share price of the Series A Preferred is $0.77265. Generally speaking, the discount is only applied if the valuation is below the agreed-upon cap. SAFE's provide the company with an obligation to deliver a variable number of shares based on a future unknown priced round (discounted) or a valuation cap. The TEN Capital Convertible Note Calculator provides the amount of equity a convertible note takes upon conversion. In this example, the Early investor will choose for the cap. The valuation cap on this SAFE is $10 million. Without a valuation cap or a discount price, the SAFE Note simply converts into equity at the price . If the SAFE had a valuation cap of $1 million, the SAFE holder would receive shares valued at $0 . The Valuation Cap is an upper limit on the price per share a SAFE investor will pay for Series A stock. If the Crowd SAFE includes both a valuation cap and a discount, the provision more favorable to the investor applies if there is ever a trigger event. $1 million investment / $10 million valuation cap = 10% Because it's a post-money SAFE, the investor has effectively "locked in" a 10 percent ownership in your company. In order to determine the valuation that will be applied to the SAFE note investment, we need to determine whether the cap or the discount will be used (it is not standard practice to use both). The discount only applies when the cap value isn't reached. The shortcomings of . The discount is used if the SAFE investor money converts in future financing rounds and the valuation was at or below the valuation cap. Because a safe has no . Now let's compare the Post-close Series A cap table between the Seed Equity v. the Seed Note/SAFE scenarios. Get a safe note template and fill out the concrete parts: Y Combinator offers a few formats. Accordingly, the company will issue 137,500 shares of Series A-1 Preferred to the safe holder, at $0.72727 per share. It is incredibly important to know that the SAFE defines a "Discount Rate", not a discount. A discount reduces the price per share for the SAFE note holder when the company actually starts selling stock. Example 2: a VC invests $2.5M on a pre-money valuation of $4M. With a valuation cap, they know that their money will convert from loan to equity at or below a certain dollar . Next, we apply the discount to the new investment valuation, which in this case is $5,000,000 * (1-.2) = $4,000,000. Initially made available by Y Combinator (YC) in 2013 and subsequently updated in late 2018, the SAFE investment instrument was intended to improve on the highly popular convertible note used by startups during the seed stage or as a short-term bridge between equity funding rounds. Your input variables are: the amount you're raising on the convertible note (say $500k), the conversion discount of the note (say 20%), the pre-money valuation cap of the note (say $4m), the percentage of your company which the VCs will take in your Series A (say 30%), the amount of money you expect to raise in your Series A (say somewhere . The valuation cap defines the maximum valuation at which a SAFE converts, effectively creating a floor for the SAFE holder's conversion. (in this particular SAFE the cap of $10M is the conversion price and even if the future equity round happens at a valuation less than $10M, the note will still convert at $10M. This would generally lead you to Accounting Standards Codification ("ASC") 480-10-14 which talks about a . Seed Equity -> Series A: Depending on your negotiating skills and your company's traction, you can get a SAFE or convertible note without a valuation cap. Notes are issued i. The Discount Rate does not apply in this case. It then converts into equity in that company at a trigger event. with valuation cap, no discount, 2) no valuation cap, with discount, 3) valuation cap and discount, 4) no valuation cap, no . "Conversion Price " means the either: (1) the Safe Price or (2) the Discount Price, whichever calculation results in a greater number of shares of Safe Preferred Stock. The discount is a discount for the SAFE Cap and Discount investor on the price that a series-a investor pays. Many startups are initially seed-funded, meaning that they initially receive . For a more complete description of the valuation cap . FINALLY A safe is a Simple Agreement for Future Equity. Using a SAFE means, technically, you can delay valuing your company. When valuation cap is a better deal: if the company was raising their next financing round at a $20 million valuation and converting the SAFEs, then your SAFE would either convert at a 20% discount ($20M*.8 = $16M), or a . the Conversion Cap: $4M. The SAFE is something like a warrant entitling investors to shares in the company, typically preferred stock, if and when there is a future valuation event (i.e., if and when the company next raises "priced" equity capital, is acquired or files an IPO.) The discount price generally refers to the price per share of the equity or liquidation event multiplied by the discount rate. Outside of Y Combinator, the SAFE is being scrutinized and utilized by startups in the . For example, an investor buys a note with a 20% discount and a cap of $5M. . One of the most important features of a SAFE Note is a valuation cap. In our first scenario . One of the most important features of a SAFE Note is a valuation cap. By using the valuation cap the number of shares the Early Investor will receive is: EUR 100.000 / EUR 200 = 500 shares. A discount rate in a SAFE Note entitles the investor to purchase shares at a discounted price. You have set aside 300,000 shares in your equity incentive plan. Startups and investors will usually only have to negotiate one item: the valuation cap. Discount and Valuation Caps: SAFE notes can include a discount that is applied to a future valuation when it is time to convert. Everyone is excited, they haven't done a lot of angel investing before, don't . In this case, during your first funding round, your Series A documents will include three subseries: Series A1, Series A2, and Series A3. To compensate for this, founders often offer early investors discounts in addition to caps. I let out a big groan. The Double-Edged Sword of the Valuation Cap. For example, a 20% discount rate means an investors money would buy shares at a $8m valuation if the priced round was $10m (20% discount). Commonly, I hear founders say, investors will convert at $90m (= 90% * $100m) post-money valuation. Let's get the conclusion out there and go through the "why" next. In this example, that means the future valuation must exceed $5M before the cap comes into play. A quick calculation learns that in this example a valuation of EUR 2,500,000 is the turning point, because: EUR 2,000,000 (cap) / 0,8 (discount) = EUR 2,500,000. So, for example, if your seed investors invest in a convertible note with a $10 million valuation cap, this "super MFN" provision will amend the F&F SAFEs to provide an $8 . if, at the series a, the startup raises money from a venture capital firm that invests at a pre-money valuation of $10m with a per share price of $5.00 if we apply the discount, the price per share would be $4.00/share ($5.00 times (1 minus 20%)) if we apply the cap, the price per share would be $2.50/share ($5.00 times ($5m cap divided by $10m … Purchase shares at a discounted price selling stock Combinator, the discount applies. Entitles the investor to purchase shares at a discounted price the trigger event pre-money valuation of 5M... This would generally lead you to Accounting Standards Codification ( & quot next. 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