What are the best strategies for negotiating SAFE agreement terms?

As mentioned earlier, a SAFE simplifies the investment process in early-stage companies by deferring the valuation of a startup to the moment of a priced round. Most importantly, a SAFE is one of the few "standardized" documents founders can usually negotiate by themselves without necessarily requiring legal counsel - saving thousands in legal fees in the early days of the startup.

SAFE (Simple Agreement for Future Equity) were created by Y Combinator, and they provide YC standard templates (Value Cap, Discount and MFN) and other useful documents on their website.

To negotiate SAFE (Simple Agreement for Future Equity) agreement terms effectively, consider these strategies: 1) Understand your goals and priorities, 2) Research market standards and comparable deals, 3) Identify potential areas of negotiation, such as valuation, discount rate, or conversion terms, 4) Communicate openly and build rapport with the other party, 5) Be prepared to compromise and find win-win solutions, 6) Seek legal advice to ensure your interests are protected, and 7) Document all agreed-upon terms in writing.

It simplifies the investment process, reduces legal costs, and, most importantly, adds velocity to a round so that the founders can close the round quickly. The SAFE is widely understood by non-institutional investors (e.g., Angels) and founders and, therefore, levels the playing field between early-stage investors and startups.

Conventional wisdom is that using a YC SAFE greatly reduces your time and money spent reviewing contracts (on both sides) since its status as a "standard" form allows investors to sign without additional review of the legal language in the contract.

Pre-money vs Post-money SAFE structure is an important but often overlooked deal point. Start with a Pre-money SAFE. That is more founder friendly. It can have a material difference in dilution if you end up raising more than expected under the SAFE (e.g., extension of the SAFE) YC started with a pre-money SAFE and changed the standard document to a post-money SAFE in recent years (which benefits YC). However, many early stage investors are still okay with pre-money SAFEs. Don’t fall into the default bias and give up a key negotiation point just because that is the YC template available online.

The two biggest things that are usually negotiated are: 1. Valuation cap 2. Discount The valuation cap is the valuation the company will valued at its max (e.g. $5M). The discount applies if the valuation cap is not reached (for example from above, the valuation cap is $4M). The discount reduces the valuation of the priced round by the discount. For example, A startup signs a $250k SAFE with a $8M valuation cap and an 80% discount. Assuming their next priced equity round is valued at $5M, then the discount of 80% applies and the SAFE is valued at $4M. If the priced equity round is $10M, then the cap of $8M applies and the SAFE is valued at $8M.

As with any terms negotiation, make a good point and quantify your argument why you belive a certain cap is appropriate. The discount is very rarely negotiated and ranges usually between 15-20%. All other terms, such as MFN, pro-rata, etc., are standard terms and shouldn't be a reason to negotiate.

Preparing for negotiating SAFE (Simple Agreement for Future Equity) terms is key. From my experience, thorough research is crucial. Understand the startup's value, potential, and the specifics of their market. It's important to know your own investment limits and goals too. Also, familiarize yourself with common SAFE terms like valuation caps and discount rates. This knowledge base allows you to negotiate from a position of strength and clarity. Drafting a flexible yet clear set of objectives before the negotiation helps in steering the conversation. Remember, effective negotiation in SAFE agreements is about finding a balance that aligns both parties' interests.

Really knowing the market rates, what is considered "normal", what points can be negotiated, and where your company stands in terms of the market should be the starting point of developing your negotiation strategy.

Negotiating SAFE (Simple Agreement for Future Equity) terms effectively is a mix of clarity, flexibility, and understanding. From my experience, it's vital to enter negotiations with clear goals but remain adaptable. Articulate your terms clearly, focusing on key aspects like valuation caps and discount rates. Listen actively to the other party's concerns and objectives. This not only builds rapport but also helps find common ground. Emphasize mutual benefits, showing how your terms support both the investor's and the startup's interests. Remember, successful negotiation is about creating a win-win scenario, fostering a positive, long-term relationship with the startup.

The biggest pitfall is when founders raise multiple rounds on SAFEs. Usually, you can go by the rule: 1 SAFE round is good 2 SAFE rounds are troublesome 3 SAFE rounds mean a conversion nightmare The issue is not that multiple SAFEs convert; the problem lies in the equity a founder loses, and very often, founders are not aware of how much equity they have actually given up in all their rounds. Very rarely do founders (or investors) make an effort to map out the different SAFE rounds on a hypothetical cap table to predict the dilution, which most certainly always results in a surprise.

Stacking up multiple SAFEs is a little like paying off your credit cards with other credit cards. You can do it once but after a while the credit bureaus will probably get you cut off. Better to find someone willing to commit to a priced round (even if it’s not the price you want) and move forward with a more stable cap table.

Negotiating a SAFE (Simple Agreement for Future Equity) agreement requires careful consideration and strategic planning. To secure favorable terms for your startup, it's important to conduct thorough due diligence on the company, define the valuation and conversion price, negotiate liquidation preferences and drag-along rights, establish board representation and veto rights, and seek professional legal and financial advice. By approaching negotiations with transparency, respect, and a focus on building a strong relationship with investors, you can create a mutually beneficial partnership that supports the growth of your startup.

Having multiple SAFEs with different investors with different terms (various discounts, value cap, side letters etc)- aka stacking- can make it really hard for the company, to understand how much equity they are giving up. Have seen several founders shocked at how little equity they were left with once all the SAFEs converted.