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The Finance of Startups: For Dummies (Part 9.5 – Examples of a Safe)

I wanted to continue on my last post considering the simple agreement for future equity (“safe”) by reviewing a couple examples of how a safe works.
As mentioned in the last post (Part 9 – Raising Funds through a Safe — follow to understand the concepts), there are a few combinations safes using levers such as discounts and valuation caps (or cases with neither which likely includes an MFN provision). Let’s walk through a few examples:

Example 1: No Discount, Valuation Cap
Post-Money Valuation
Investor Invests in Safe
$100,000
Discount Rate
None
Valuation Cap
$5,000,000
Post-Money Valuation
New Investment through Series A Equity Financing
$1,000,000
Pre-money Valuation
$10,000,000
Fully-Diluted Outstanding Capital Shares
11,000,000
Here, the company will issue sell shares at $0.909 per share ($10,000,000 ÷ 11,000,000 shares). Thereby, the company issues 1,100,110 shares ($1,000,000 ÷ $0.909).
However, the safe investor from earlier will be issued shares at $0.4545 per share ($5,000,000 ÷ 11,000,000 shares). The per-share price is based on the $5,000,000 cap as it is lower than the $10,000,000 valuation from the Series A fundraise. The safe investor would then be issued 220,022 shares ($100,000 ÷ $0.4545).
Note: this assumes the company does not pay back any amount of the initial $100,000 safe investment.
Standard Preferred Stock
Safe Preferred Stock
Price Per Share
$0.909
$0.4545
Investment Amount
$1,000,000
$100,000
Series A Preferred Stock Issued
1,100,110
220,022

Example 2: No Discount, Valuation Cap
Post-Money Valuation
Investor Invests in Safe
$100,000
Discount Rate
None
Valuation Cap
$4,000,000
Post-Money Valuation
New Investment through Series A Equity Financing
$600,000
Pre-money Valuation
$3,000,000
Fully-Diluted Outstanding Capital Shares
12,500,000
Here, the company will issue sell shares at $0.24 per share ($3,000,000 ÷ 12,500,000 shares). Thereby, the company issues 2,500,000 shares ($600,000 ÷ $0.24).
However, the safe investor from earlier will be issued shares at $0.24 per share ($3,000,000 ÷ 12,500,000 shares). The per-share price is based on the $3,000,000 valuation as it is lower than the $4,000,000 cap. The safe investor would then be issued 416,666 shares ($100,000 ÷ $0.24).
Note: this assumes the company does not pay back any amount of the initial $100,000 safe investment.
Standard Preferred Stock
Safe Preferred Stock
Price Per Share
$0.24
$0.24
Investment Amount
$600,000
$100,000
Series A Preferred Stock Issued
2,500,000
416,666

Example 3: Discount, No Valuation Cap
Post-Money Valuation
Investor Invests in Safe
$20,000
Discount Rate
80%
Valuation Cap
None
Post-Money Valuation
New Investment through Series A Equity Financing
$400,000
Pre-money Valuation
$2,000,000
Fully-Diluted Outstanding Capital Shares
10,500,000
Here, the company will issue sell shares at $0.19 per share ($2,000,000 ÷ 10,500,000 shares). Thereby, the company issues 2,105,263 shares ($400,000 ÷ $0.19).
However, the safe investor from earlier will be issued shares at $0.152 per share ($5,000,000 ÷ 11,000,000 shares = $0.19 per share * 80% discount). Notice that the price-per-share must be discounted to arrive at a discounted price-per-share. The safe investor would then be issued 131,578 shares ($20,000 ÷ $0.152).
Note: this assumes the company does not pay back any amount of the initial $20,000 safe investment.
Standard Preferred Stock
Safe Preferred Stock
Price Per Share
$0.19
$0.152
Investment Amount
$400,000
$20,000
Series A Preferred Stock Issued
2,105,263
131,578

Example 4: Discount, Valuation Cap
Post-Money Valuation
Investor Invests in Safe
$100,000
Discount Rate
85%
Valuation Cap
$8,000,000
Post-Money Valuation
New Investment through Series A Equity Financing
$1,000,000
Pre-money Valuation
$10,000,000
Fully-Diluted Outstanding Capital Shares
11,000,000
Here, the company will issue sell shares at $0.909 per share ($10,000,000 ÷ 11,000,000 shares). Thereby, the company issues 1,100,110 shares ($1,000,000 ÷ $0.909).
However, the safe investor from earlier will be issued shares at $0.72727 per share calculated by the minimum of:

  • Valuation Cap: $8,000,000 valuation cap ÷ 11,000,000 shares = $0.72727 per share.
  • Discount: $10,000,000 full valuation ÷ 11,000,000 shares = $0.909 per share × 85% discount = $0.77265
Thus, the minimum price-per-share is $0.72727. The safe investor would be issued 137,500 shares ($100,000 ÷ $0.72727).

Note: this assumes the company does not pay back any amount of the initial $100,000 safe investment.
Standard Preferred Stock
Safe Preferred Stock
Price Per Share
$0.909
$0.72727
Investment Amount
$1,000,000
$100,000
Series A Preferred Stock Issued
1,100,110
137,500

And…

You can find more examples on the Safe primer by the Y Combinator team here.
What questions do you have about safes? How do you view safes to be advantageous for both entrepreneur and investor?
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The Finance of Startups: For Dummies (Part 9 – Raising Funds through a Safe)

A friend looking to raise money recently told me a new form of raising money I hadn’t heard of before referred to as a Safe (simple agreement for future equity). A safe is a mechanism Paul Graham and his YC partner and lawyer Carolynn Levy created as an alternative to convertible notes – refer Finance of Startups: For Dummies (Part 4) for a short description of convertible notes.

Safes are meant to remove the clutter and complications of convertible notes in that they are not debts themselves. Instead, they are agreements for rights to the purchase of future stock – goal is to convert safeholders into stockholders.
  • Convertible notes can be highly regulated via their maturity dates, interest rates, etc. Safes, on the other hand, have no maturity date and as they are not debt, are not beholden to regulations regarding interest rates.
  • Safes remove the complexity of having to extend maturity dates as there are none (vs. convertible notes).Safes are converted to equity at specific events such as an equity financing round, liquidity event, or dissolution of the company (insolvency).
  • Like convertible notes, there are variations to the safes – those with a discount, valuation cap, or some combination of those two (with/ without) or none at all – instead, with an MFN (“Most Favored Nation”) provision.
  • Most Favored Nation provision (MFN) are used to amend a safe’s terms with a safe raised at a later date. This is common for safes with no discount or cap set. Note: safe can only be amended once, not multiple times.
Safes have been a big hit for YC-backed companies, and have been finding traction here in ATL for early stage startups looking to raise funds quickly without the battle over valuation. For more details on safes, check out this primer.

What are your questions about safes? If you were a startup or investor, what would your apprehensions about safes be? Versus convertible notes?
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Spinning Wheels on the Next Move, but Finding Traction with a Serial Entrepreneur

The last several months for me have been… interesting. Since Body Boss became a zombie, I’ve been poking and prodding and brainstorming and wandering what the Next Move is. I’ve helped out a startup with business development, but decided it wasn’t a good long-term fit. Though, I still have demos and conversations just to practice. It would appear at times that I’m spinning my wheels.
I’ve been putting myself in various positions whether that be working with startups, interviews of restaurateurs, and of course, good ole reconnects with friends and otherwise. A couple weeks ago, I was staring down from a new nadir… unable to sleep, I got up and wrote a Proclamation of sorts to my close friends and family about continued support and to push me and hold me accountable to what I’m trying to achieve. Needless to say, it was a dash of poignant revelations and a whole lot of “I think I can, I think I can”. It’s good to know I have some very good family and friends who push me and are supportive…
Aside from knowing who’s got my back, I was able to connect with a serial entrepreneur out in San Francisco who’s a friend of my older brother. I didn’t ask if I could use his name, so I’ll call him “Wayne”. Wayne has been an entrepreneur since his days in high school. He’s founded companies whilst at Georgia Tech, and had a great idea go bigger when he joined YCombinator (YC) a few years ago. If you don’t know Y Combinator, think of it as the Harvard Business School of technology accelerators with notable alums including Dropbox, Reddit, Airbnb, and so many more incredible companies. Since then, though, he’s founded another startup that is reaching crazy great levels of recruiting with specific roles, companies, and even select cities. It’s how he maintains some version of what Paul Graham describes as “wells” – target companies/ pains/ niches and go deep vs. going after a larger audience with limited depth of services or otherwise.
So, Mr. Wayne… I explained to him my position, and inquired about his experience and sought his advice. Here are some take-aways from our conversation:
  • If you want to be on the business side, know your numbers. I shared with Wayne an idea I’m currently incubating, and he had some great questions regarding the business model. In effect, he was testing the economic feasibility of the idea as well as my wit. Sadly, I didn’t quite respond as well as I wanted. His advice was to practice mental/ back-of-the-napkin math for ideas. That should at least help early on determine if there’s a viable business idea.
  • Early on, it’s about the product rather than the team. This was an interesting viewpoint. For… ever, I heard how VCs, entrepreneurs, etc. invest in the team behind the startup. Wayne’s point was that if the idea (i.e. product, service) is good, then the market will pull you up. From there, you’ll find money both from your customers and want-to-be investors. Also, the team will quickly learn and get the experience. Wayne cited this as a key learning from watching company after company go through YC.
  • Build a pain pill, not a vitamin. Okay, that phrase is actually pulled from David Cummings, but it’s apparent in what Wayne was prescribing (see what I did there?). From the preceding bullet, the underlying take-away is to find an idea that addresses pain points for markets. If you find a real pain killer, customers will come to you. Of course, marketing will help, too.
  • If you’re not a programmer, don’t bother. On Saturday, I bit the bullet and bought a MacBook to learn how to program in iOS for this new idea I’m incubating. Since then, I’ve churned through hours and hours of iOS programming tutorials (for Swift) through 4 courses. Wayne cited that if I wanted to stick to the business-side of things, get better at that. Many good programmers have been programming for a long time, and there are 18 year-olds who would smoke me. It’s always going to be catch-up. I should focus on what my experience has given me, and hone those skills.
  • Notion of “Liquidity” – 3 tenets: proximity of the sale, right product and right customer, and timing. At least for my current incubating idea, I must deal with these three sides of liquidity that will challenge my success vis-à-vis if I can EASILYaddress these three tenets to facilitate the marketplace.
  • It’ll take 2-3 years to reach any level of success. Obviously, that’s not applicable to every startup, but from his experience, that where he’s found the greatest success in his startups. He also cites that San Francisco could be a great place for entrepreneurs, but with the added cost-of-living considerations, there are significant downsides. At the end of the day, be good at where you are.

It’s great knowing a couple degrees of connections away is yet another successful serial entrepreneur. It’s incredibly inspiring. Though, I have to admit that it’s also incredibly daunting. You can tell Wayne’s got his $h!t together with how we speaks and his questions – no doubt through fine tutelage of YC and Paul Graham et al. I’ve taken a lot of his advice to heart, and I’ll be considering all of these take-aways and then some over my present and future (both short and long-term).
Though, I will say that I will still plug away at iOS. I don’t hope to become a CTO and CEO in a startup I found. Instead, I do want the ability to quickly build apps web or mobile and test out ideas. Wayne cited his earlier days in Berkley, CA where he was holed up in a house with two other co-founders, and they would build an idea a day. With that type of iterating, they were able to test ideas quickly. That’s where I want to be. I want to be able to test ideas quickly, and build something great like him.
Closing thoughts. Wayne suggested reading the following two Paul Graham essays:

What are your thoughts on my conversation with Wayne (or at least the take-aways)? How else would you recommend entrepreneurs building up for the Next Move?
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