Why This Choice Matters
When raising a pre-seed or seed round, most founders use either a SAFE (Simple Agreement for Future Equity) or a convertible note. Both defer valuation to a later round, but they differ in important ways that affect your cap table, your relationship with investors, and your future fundraising.
SAFE Notes: The Y Combinator Standard
Created by Y Combinator in 2013, SAFEs have become the default instrument for early-stage raises. Key features:
- No debt: A SAFE is not a loan. There's no interest rate and no maturity date.
- No repayment obligation: If your startup fails, you don't owe the money back.
- Simple terms: Typically 3–5 pages, with just a valuation cap and/or discount.
- Converts at next priced round: When you raise a Series Seed or A, the SAFE converts to equity.
Convertible Notes: The Traditional Approach
Convertible notes are debt instruments that convert to equity. They've been used for decades and some investors still prefer them:
- Debt with interest: Typically 4–8% annual interest that accrues until conversion.
- Maturity date: Usually 18–24 months, after which the note must convert or be repaid.
- Conversion triggers: Usually converts at a qualified financing round above a certain threshold.
- More protective for investors: The debt nature gives investors more legal recourse.
When to Use a SAFE
SAFEs are ideal when you're raising a small round quickly from multiple angels or micro-VCs. They're faster to close, cheaper in legal fees, and founder-friendly. If you're at pre-seed or early seed, SAFEs are almost always the right choice.
When to Use a Convertible Note
Convertible notes make more sense when your investors require them (some institutional investors have mandates), when you're raising in a market where SAFEs aren't well understood, or when the maturity date actually helps create urgency to raise your next round.
The Cap and Discount Question
Both SAFEs and convertible notes typically include a valuation cap (the maximum valuation at which the investment converts) and/or a discount (typically 15–25% off the next round's price). The cap is usually more important than the discount. Set it at a level that rewards early investors without giving away too much of your company.
Common Mistakes
Stacking too many SAFEs at different caps creates cap table confusion. Raising on a convertible note without understanding the maturity date implications can lead to an awkward renegotiation. Always model out the dilution impact before signing anything.