Safe (Simple Agreement for Future Equity)

A young company needs money early on, often even before it has a finished product. Whoever gives it this money usually wants a share of the company in return. That’s exactly where the problem lies: nobody knows at this stage what the company is worth. A Safe sidesteps this question. The investor transfers the sum immediately but does not receive shares right away, only a written promise of them. Only later, when a major investor comes in and sets a price for the company, does the promise turn into an actual share. The abbreviation stands for “Simple Agreement for Future Equity,” roughly meaning a “simple agreement regarding future company shares.”

Why founders avoid the paperwork

A classic funding round is expensive and slow. Lawyers negotiate for weeks over how much the company is worth and what rights the investor receives. For two million euros, this effort is worthwhile. For 100,000 euros from a single backer, it is not. A Safe, by contrast, fits on a few pages and can be signed within days.

The second reason is the valuation itself. Fixing it at a very early stage often harms both sides. If it is set too low, the founders give away too much of their company. If it is set too high, the next round becomes difficult. The Safe simply pushes this decision further down the line.

The instrument was invented in 2013 at the US startup incubator Y Combinator. Since then it has become the standard for early-stage startup financing, especially in the US. European companies are now also using similar contracts, in Germany usually known under the name convertible loan (Wandeldarlehen).

Cap and discount: the two decisive numbers

Whoever gives money early bears the greatest risk. In return, they should later receive more shares than someone who only comes in once the company is already running. Two mechanisms ensure this. The first is called the valuation cap. It sets the maximum value of the company at which the conversion takes place.

An example makes this clear. Someone gives 100,000 euros with a cap of five million. Two years later, an investor comes in at a valuation of 20 million. The Safe is still converted as if the company were only worth five million. So the 100,000 euros become two percent of the company instead of half a percent.

The second mechanism is a discount, usually between 10 and 25 percent. The Safe holder pays less per share than the new investor. Many contracts include both, in which case the variant more favorable to the investor applies. It is important to distinguish this from a loan: a Safe is not a loan. There is no interest and no repayment date. If a funding round never happens, the money invested can be completely lost.

Safes in news coverage of AI startups

The term constantly appears in news about young technology companies. Sentences like “the startup raised three million via Safes” mean: the money is there, but the ownership stakes are still open. This is especially common with AI companies, since a lot of capital flows into very early-stage ideas there.

For observers, this has a consequence that is easily overlooked. Valuations from Safe rounds are not real market prices. A cap of 20 million does not mean the company is worth 20 million. It only means that two parties have agreed on a calculation threshold.

A typical mistake founders make is issuing several Safes one after another without keeping track of the math. They all convert into shares simultaneously in the same round. Some founding teams then discover that they own significantly less of their own company than they thought. The technical term for this is dilution.