Understanding the Crowd SAFE

Clay Norris
Oct 29, 2019 · 3 min read

The term “Crowd SAFE” was dubbed by Republic, a crowdfunding investment platform based out of NY. This term was new to me when I first came across it, and this article is aimed at breaking down how a Crowd SAFE works.

A Crowd SAFE is an investment contract between investors and companies looking to raise capital. Investors in this sense can be defined as individuals looking to make investments for the chance to earn a return — in the form of equity in the company or a cash payout — if the company is acquired, goes public, or sells all of its assets. These individuals do not need to be accredited investors, at least on the Republic platform.

The Crowd SAFE is an adapted version of the SAFE, a financial instrument created by Y Combinator and widely used by angels & VCs investing in startups. It’s designed specifically to work for investment campaigns accepting hundreds or even thousands of investors, and it’s now used by several industry players in various forms.

Investors using the Crowd SAFE get a financial stake in the company, but are not immediately holders of equity. Investments are converted to equity if certain “trigger events” occur, such as the company’s acquisition or IPO. Investors should view any SAFE as an interest-free that will only convert to equity if the company hits certain milestones and warrants a higher valuation. Many founders like this mechanism of SAFEs as they keep interests between VCs and entrepreneurs aligned.

Your return as an investor is a function of three variables: your investment amount, the company’s exit valuation (how much the company is worth if and when a trigger event happens), and the terms of the Crowd SAFE. Investors invest pre-money meaning that their stake is affected by future financings and events only.

Helpful calculators demonstrate how different offering terms and company outcomes produce a range of returns on investments.

Each company can customize its Crowd SAFE. Most companies include a valuation cap and a discount. If the Crowd SAFE includes both a valuation cap and a discount, the provision more favorable to the investor applies if there is ever a trigger event.

The valuation cap specifies the maximum valuation at which the investment converts into equity or shadow shares. This means that investors, when a trigger event occurs, receive equity shares at the valuation cap price — even if the valuation at which the company sells is higher. The higher the valuation of the company at the time of sale, the greater the investor’s return. Investors can also request their cash back if they believe this represents a better return on investment.

If a trigger event occurs, the discount provision gives investors equity shares at a reduced price relative to what others pay at IPO or acquisition. If the Crowd SAFE is converted during an equity financing, the discount will allow investors to receive shadow shares at a discounted price compared to what new investors paid.

Clay’s Thoughts

Personal thoughts and observations based on the findings…

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