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Convertible and SAFE notes

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Re: Convertible and SAFE notes

#41

Post by fredwilson »

beambot wrote: post #16
3pt14159 wrote: post #12

> They defer the issue of valuation and, more importantly, dilution That's what the cap if for. If the founder is 19 years old, fine, read a book on it (I recommend this: https://www.amazon.com/Funded-Entrepreneurs-Guide-Raising-Fi... but basically any will do) but angel investors that don't know what caps are are dumb angels. > They obfuscate the amount of dilution the founder(s) is taking. Also what a cap is for. U…

> The first convertible or SAFE note issued in a company should have a cap on the total amount of notes than can be issued. A number like $1mm or max $2mm sounds right to me. By "cap" in this context, I believe he's referring to the aggregate amount of convertible notes.

Yes

Re: Convertible and SAFE notes

#42

Post by sandGorgon »

ravibala1 wrote: post #11
paul wrote: post #6

It's really not that hard to understand how these notes convert and how much you are diluting if you spend just a few minutes modeling it out with https://angelcalc.com Of course it's still possible to get more dilution than expected if you raise at unrealistically high caps (or uncapped!) and convert at a lower valuation down the road, but even that is probably less painful than a conventional down round.

Agreed. We walked all our angels through a 3 scenario (low, goal, home-run) Series A pre-money valuation analysis using a calculator. Bit overwhelming for some but everyone appreciated the effort. The biggest benefits of the note structure to us were a) Rolling close b) Not wasting time debating "valuation" when neither us nor the angels were capable of estimating a number with limited to no data.

>Not wasting time debating "valuation"

+100 on this. This is particularly problematic in India where most early stage investing is priced. The opportunity to bully founders to accept weird valuation terms is limitless.

notes are a trade-off of current capped valuation for future capped dilution. Guess which one gets misused by investors ?

Re: Convertible and SAFE notes

#43

Post by svskeptic »

pbiggar wrote: post #10

I really really dislike when VCs make a pro-investor claim and try to hide it in founder-friendly terms. Priced rounds are great for VCs because they remove all their risk. But they don't remove any founder risk. Do a down-round after a priced round and you'll wish you were just taking more dilution from a SAFE. > "1. They defer the issue of dilution until a later date". When the company is doing well, notes allow fo…

The VCs keep pushing the 'stage ask' further upstream every year. So, what used to be considered good for A round traction/revenue/MAU is now considered Seed and so on up.

They'll only want to invest when 'I know this is the winner in this category', but I'll call it Series A and Series A has always been done at valuation $x.

FU! You won't fund a deal till it's profitable and all the risk is taken off. But, I need to get money from somewhere! So, I'll get it from small angels and individuals. And since I have to collect it 25-50K at a time, I can't do a priced round.

You set this board up, now don't complain that you have to deal with the mess.

[Edit] And if you'll only be dealing with a startup once it has gotten some level of success, you have no option but to deal with the mess, if you want the deal.

Re: Convertible and SAFE notes

#44

Post by throwaway23422 »

fredwilson wrote: post #33
pbiggar wrote: post #10

I really really dislike when VCs make a pro-investor claim and try to hide it in founder-friendly terms. Priced rounds are great for VCs because they remove all their risk. But they don't remove any founder risk. Do a down-round after a priced round and you'll wish you were just taking more dilution from a SAFE. > "1. They defer the issue of dilution until a later date". When the company is doing well, notes allow fo…

I wrote this from the heart. You can ascribe whatever agenda you want to believe. But I wrote this for founders and it is based on thirty plus years of working with founders. I don't want to see them get screwed and notes screw them over a lot

Could you poke holes in his/her arguments? Or perhaps cite examples? The counterpoints seem convincing but, hey, I might be totally missing something.

For context, I'm a long-time fan of your writings and REALLY appreciate how much you've given to the community (with the only VC blog worth reading IMO). Just want to fully understand the issue at hand here.

Re: Convertible and SAFE notes

#45

Post by pbiggar »

fredwilson wrote: post #33
pbiggar wrote: post #10

I really really dislike when VCs make a pro-investor claim and try to hide it in founder-friendly terms. Priced rounds are great for VCs because they remove all their risk. But they don't remove any founder risk. Do a down-round after a priced round and you'll wish you were just taking more dilution from a SAFE. > "1. They defer the issue of dilution until a later date". When the company is doing well, notes allow fo…

I wrote this from the heart. You can ascribe whatever agenda you want to believe. But I wrote this for founders and it is based on thirty plus years of working with founders. I don't want to see them get screwed and notes screw them over a lot

Thanks for saying that!

I don't have any agenda or ascribe any to you. All I think is that to the untrained eye, this post comes across as founder-unfriendly.

Re: Convertible and SAFE notes

#46

Post by genericpseudo »

lpolovets wrote: post #30

(I'm a seed-stage VC, but as a caveat I'm not an expert when it comes to cap tables.) He's an example of where having many notes can hurt founders: - Raise $2m at an $8m cap, 15% discount. - Raise $2m at an $18m cap, 15% discount. - Raise $2m at a $28m cap, 15% discount. - Sell 20% of company for $X in the Series A. Caps are "sort of" like pre-money valuations, so the founder might expect that their dilution from the…

Isn't that functionally just a down round?

Re: Convertible and SAFE notes

#47

Post by lpolovets »

genericpseudo wrote: post #46
lpolovets wrote: post #30

(I'm a seed-stage VC, but as a caveat I'm not an expert when it comes to cap tables.) He's an example of where having many notes can hurt founders: - Raise $2m at an $8m cap, 15% discount. - Raise $2m at an $18m cap, 15% discount. - Raise $2m at a $28m cap, 15% discount. - Sell 20% of company for $X in the Series A. Caps are "sort of" like pre-money valuations, so the founder might expect that their dilution from the…

Isn't that functionally just a down round?

Yes. But based on my understanding of conversion mechanics, the anti-dilution terms in priced seed rounds are often "weighted average" (which are more founder friendly) while in SAFEs and notes they are closer to "full ratchet" (which are founder unfriendly). An example of the two types of anti-dilution provisions is worked out at https://www.strictlybusinesslawblog.com/2014/03/08/venture-c...

Re: Convertible and SAFE notes

#48

Post by brudgers »

fredwilson wrote: post #33
pbiggar wrote: post #10

I really really dislike when VCs make a pro-investor claim and try to hide it in founder-friendly terms. Priced rounds are great for VCs because they remove all their risk. But they don't remove any founder risk. Do a down-round after a priced round and you'll wish you were just taking more dilution from a SAFE. > "1. They defer the issue of dilution until a later date". When the company is doing well, notes allow fo…

I wrote this from the heart. You can ascribe whatever agenda you want to believe. But I wrote this for founders and it is based on thirty plus years of working with founders. I don't want to see them get screwed and notes screw them over a lot

I believe that. Yet, I think founders getting screwed over is largely orthogonal to the type of instrument used to fund companies in the early round. The scruples and sophistication of the parties involved play will tend to play a bigger role.

Among the asserted merits of SAFE's when the came into the YC ecosystem was that it removed some of the distraction that trying not to get screwed over created for founders at 'demo day' or earlier stage companies. At the time, an investor's willingness to use a SAFE might have had an inverse correlation to their willingness to take undue advantage of unsophisticated founders.

Re: Convertible and SAFE notes

#49

Post by rdl »

rdl wrote: post #17

This isn't as epic as the "extended option exercise periods screw employees! Really!" post from Scott Kupor of a16z ( http://a16z.com/2016/06/23/options-timing/ ), but close. FFS. The "bad case" alternative to the second/third round of notes is often a down round or running out of money -- way worse. The "good case" alternative of a second higher cap note batch is fine. Founders and early investors can get screwed ev…

(Er, sorry, didn't mean to be this mean; I'd been stuck in flight delays for hours.)

I do think the analysis is both incorrect in conclusion (SAFE is the best choice in many/most cases for both sophisticated founders and new founders), and the case badly supported in the blog post.

But it probably isn't someone doing the equivalent of pushing a self-serving agenda, which was my instinctive reaction and thus defensiveness.

Re: Convertible and SAFE notes

#50

Post by [deleted] »

fredwilson wrote: post #33
pbiggar wrote: post #10

I really really dislike when VCs make a pro-investor claim and try to hide it in founder-friendly terms. Priced rounds are great for VCs because they remove all their risk. But they don't remove any founder risk. Do a down-round after a priced round and you'll wish you were just taking more dilution from a SAFE. > "1. They defer the issue of dilution until a later date". When the company is doing well, notes allow fo…

I wrote this from the heart. You can ascribe whatever agenda you want to believe. But I wrote this for founders and it is based on thirty plus years of working with founders. I don't want to see them get screwed and notes screw them over a lot

[deleted]
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