SAFE Financing – Valuation Cap vs. Discount Variants

Emerging Companies & Venture Capital

So you decided to use a SAFE (Simple Agreement for Future Equity) to raise money for your new startup – congratulations! And you’re off to a good start because you read our previous article, which summarized how to use the (apparently) simple SAFE form. To keep things uncomplicated, that article glossed over the distinctions between the main types of SAFE, but we’ll take a closer look here.

As of the date of this article, there are three different types of SAFE hosted in the Y Combinator SAFE document repository: (1) the Discount variation, with no Valuation Cap, (2) the Valuation Cap variation, with no Discount, and (3) the MFN variation, with no Valuation Cap and no Discount. Picking the one that is best for your startup’s situation requires you to reach a consensus with the potential investors, based on an understanding of the investors’ main priorities.

The Discount variation is most appropriate when both the startup and the investors agree it is too early in the company’s life to reach a reasonable conclusion about the fair market value of the company. One of the SAFE’s key benefits is allowing the startup and the investor to kick the valuation can down the road, assuming that later investors who are writing much bigger checks will set an accurate valuation (the “pre-money valuation”), at a time when the startup has accomplished more milestones. If the startup and the investors share that viewpoint, the only thing left to negotiate is the discount the SAFE investors will get on the price per share when the SAFE converts at the time of that priced round. The discount is entirely negotiable but, in our experience, it tends to average around 20%. **If you are using the Discount SAFE variation, please be careful to complete the discount variable accurately! The SAFE form uses the term “Discount Rate,” which means the price AFTER the discount has been applied. So, if you have a 20% discount, the “Discount Rate” would be 80%!**

The Valuation Cap variation is most appropriate when the investors are willing to wait for a priced round to determine the startup’s precise pre-money valuation, but the investors want some guarantee that they will own a designated minimum percentage of the startup immediately prior to the priced round. This guaranteed percentage requires the parties to reach agreement on a “valuation cap” (also referred to as a “post-money valuation cap”) that will apply unless the pre-money valuation of the priced round results in a lower price per share. Once the parties have agreed upon that valuation cap, each investor will know that they ultimately (just before the priced round) will have a percentage ownership no less than the amount of their investment divided by the valuation cap. For example, if an investor made a $250,000 investment using a SAFE with a $5,000,000 post-money valuation cap, the investor would know that they will own at least 5% ($250,000 / $5,000,000) of the startup just before the startup’s priced round of equity financing, regardless of the pre-money valuation of the priced round and regardless of how many other SAFEs the startup sells before the priced round. With this approach, the SAFE investor can be confident that they will not “overpay,” but there also is a chance they will derive no economic benefit by investing in the SAFE before the priced round. Specifically, if the pre-money valuation of the priced round comes in at a lower price per share than would result from the valuation cap, the SAFE investor will simply get the same deal as the later investors in the priced round. Another potential weakness of the Valuation Cap variation is that, by definition, it does require the parties to agree upon some maximum potential valuation, even though the startup presumably is too early in its life for a reasonable valuation to be calculated.

As noted earlier, there is a third SAFE variation – the MFN (“most-favored nations”) variation. While Y Combinator maintains this form, in our experience it is rarely used. The form does not offer investors any pre-negotiated discount or valuation cap. The only benefit it provides the investor is a provision requiring the startup to amend the SAFE, upon request, to match the terms of any future SAFE sold by the startup with more favorable terms. Theoretically this form might be useful for an investor who simply wants a guarantee that they will have a piece of the future priced round, with no economic benefit for investing early. The form also could also be useful if the startup is committed to offering a Discount or Valuation Cap SAFE in the future, but an early investor is inexperienced and is willing to provide funding early while allowing future SAFE investors to negotiate beneficial terms.

Hopefully this article makes clear that none of the SAFE forms is the “best” one. Picking the right form for your situation requires an understanding of the priorities the investors have as part of their willingness to invest before a priced round of financing. In each case, everyone is betting that a more complicated priced round will occur in the future. If the investors care mostly about a guaranteed economic benefit at that time, they will lean toward the Discount variation. If the investors are more concerned about the risk of an irrational valuation for the priced round, they will lean toward the Valuation Cap variation.

Chris has spent most of his career as a strategic legal advisor to company founders, board members, executives, and investors, primarily for companies in the information technology and life sciences industries. His deep experience with companies in those industries helps him bring a practical business perspective to his legal work. Chris often serves as outside general counsel for these companies, and his practice includes a high volume of seed and venture capital financings, private placements, and mergers & acquisitions for his clients. You can email him at

The purpose of this brief is to provide general information, and it is not intended to provide, and should not be relied upon as, legal advice.