TL;DR: An uncapped, discounted SAFE with a special (not conventional) “Super MFN” provision that allows your F&F investors to get a discounted (from your seed round) valuation cap is the best and fairest structure for most friends and family rounds, but none of the public SAFE templates provide for this concept. Uncapped SAFEs are typically designed to provide a discount only on a future equity round (not future convertible round), which means the discount won’t apply if the round after your F&F is another convertible round. Use an F&F SAFE instead to ensure your F&F investors get a fair deal, but you avoid the downsides of setting a valuation too early.
Note: If you’d like to discuss this template or F&F Financings generally, try Office Hours.
For true seed rounds, convertible notes and SAFEs (preferably pre-money, and not post-money, SAFEs) are both viable options, along with equity.
However, for friends and family (F&F) rounds – the first and usually “friendliest” money in the door – there are very good reasons to utilize a SAFE. First, your friends and family are unlikely to be insistent on significant investor protections (like debt treatment), and so they are likely to accept whatever reasonable instrument you ask them to sign. Second, because your F&F round occurs very early in the company’s history, it may be outstanding and unconverted for a long time; which makes having a maturity date of a convertible note more risky.
The problem is that all the SAFE templates currently out there aren’t really well-structured for an F&F round.
Valuation Cap SAFEs – In the case of SAFEs with valuation caps (the most common), an F&F round often occurs so early in the company’s life that setting a valuation is fraught with excessive risk. If you set it too high, you can create unrealistic expectations, and your first true professional round (seed) may end up being a “down round.” If you set it too low (often the case), it can “anchor” the valuation that your seed investors are willing to pay; they’ll question why they should pay X multiples of what your F&F got. We generally recommend that companies avoid valuation caps in their F&F rounds. Whatever you end up picking will just be a random guess anyway. Wait to set any valuations until serious investors are at the table, so they can provide a realistic market check.
Uncapped, Discount SAFEs – Conventional uncapped “discount only” SAFEs are often also a poor fit for an F&F round, because the discount applies only to a future equity round. In the vast majority of cases, your first serious financing after an F&F round will itself be a convertible round (note or SAFE), and so the conventional discount in this SAFE won’t apply. Your F&F may end up getting only a 20% discount on your Series A price, which is quite disproportionate if they invested years before the closing of your Series A round.
MFN SAFEs – The only other public template alternative is a conventional “MFN” (most favored nation) SAFE. This effectively gives your F&F the right to get the same deal that your seed investors get. But is that really fair? If your friends and family invested a year before your seed round investors, before you hit significant milestones, shouldn’t they get a better economic deal than your seed?
Better: an F&F SAFE – For this reason, we’ve found a modified SAFE to be the most logical structure. We’ve taken a conventional SAFE, and added an extra concept to ensure that an MFN provision gives your F&F a discount on the valuation cap that your seed investors get. So, for example, if your seed investors invest in a convertible note with a $10 million valuation cap, this “super MFN” provision will amend the F&F SAFEs to provide an $8 million cap (assuming a 20% discount is provided for). Thus with this structure your F&F get the best deal on the cap table, but you avoid all the downsides of setting a valuation cap too early in the company’s history.
Important note: the F&F SAFE Template can also be an excellent way for founders to paper their own cash investments in their companies. In all cases, consult with counsel before relying on any public template, including this one.
The F&F SAFE Template can be downloaded here.