Difference between Convertible Notes vs SAFE agreements

Written By:

Team Qapita

October 2, 2024

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Choosing the right investment instrument is a crucial decision for any startup founder. Convertible notes and SAFEs (Simple Agreements for Future Equity) are popular options for early-stage companies seeking capital.

Convertible notes provide early-stage funding through debt that later converts into equity, while SAFEs streamline the process with a straightforward equity agreement.

Understanding their differences ensures your startup secures the right financial support for sustainable growth.

What are Convertible Notes?

Convertible notes are financial instruments used by startups to raise capital. They function as short-term debt that converts into equity at a future date, typically during a subsequent financing round. Frequently used to bridge funding gaps, they allow startups to access funds quickly without immediately determining the company's valuation.

When a future financing event occurs, the debt converts into equity, usually at a discount or with other favorable terms, giving investors an equity stake in the company.

What is a Simple Agreement for Future Equity (SAFEs)?

A Simple Agreement for Future Equity (SAFE) helps startups raise capital without setting an immediate valuation. SAFEs are popular for their simplicity and efficiency, offering a streamlined alternative to traditional equity financing or convertible notes in early-stage fundraising.

Difference between Convertible Notes Vs Simple Agreement for Future Equity (SAFEs)

Here are six key differences between Convertible Notes and SAFE agreements:

	Convertible Notes	SAFE agreements
Valuation Cap	Convertible notes have a pre-determined valuation cap that sets the price at which the debt converts into equity during the next qualified financing round.	In contrast, SAFEs usually defer valuation until the next financing round, converting at the same terms as new investors.
Discount Rate	Convertible notes often include a conversion discount, allowing holders to exchange their debt for equity at a lower price per share than what new investors will pay.	SAFEs may also or may not have a discount rate, which, if included, functions similarly to that of convertible notes.
Interest Rate	Convertible notes may carry an annual interest rate that accrues over the note's term. This interest is added to the total amount owed and becomes payable when the note is converted into equity.	Conversely, SAFEs do not typically accrue interest as they are not convertible debt instruments.
Maturity Date	Convertible notes have a maturity date, the deadline for converting the note into equity or repaying it. If a qualified financing round doesn't occur by this date, holders can demand repayment of the principal and any accrued interest.	SAFEs have no maturity date, there’s no obligation for startups to repay the invested amount.
Investor Protection	In convertible notes, investors can demand repayment if the startup fails to raise a qualified financing round by the maturity date.	On the other hand, SAFEs do not allow for this demand, as no maturity or debt is involved.
Conversion Trigger	Convertible notes convert into equity when triggered by a future financing event, typically involving raising a specific amount of capital.	SAFEs transform into equity during a future financing event that meets specific criteria set by the startup.

Conclusion

In conclusion, deciding between convertible notes and SAFEs depends on your startup's specific needs and circumstances. Convertible notes offer advantages like delayed valuation and investor protection, while SAFEs provide simplicity and control with fewer negotiation points. As you prepare for future funding rounds, it's essential to understand the implications of each option on your cap table and overall strategy. Ultimately, focus on securing the right investors and capital to drive your vision forward. Fundraising is a milestone, not the end, so build something great while keeping long-term goals in sight.

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