Simple Agreement for Future Equity or SAFE

Alain Friedrich
Alain Friedrich

To obtain initial financing, a Simple Agreement for Future Equity (SAFE) is quite popular in the US or Asia. A SAFE is a short standard contract under which an investor injects capital into a start-up company and receives shares in the company at a later date. The following article describes how a SAFE works and how it can be implemented in Swiss law.

What is a SAFE?

A SAFE is an agreement between a start-up company and an investor in which the investor undertakes to make an investment into the company and, in return, the start-up company promises to issue shares to the investor at the next financing round. A SAFE is usually open-ended.

A SAFE usually contains the following provisions

  • Triggering Events: A SAFE generally distinguishes between three triggering events: If a financing round is concluded after the SAFE, the investor is allotted a certain number of shares. The issue price of these shares corresponds to the issue price of the financing round (with or without a discount) and might be subject to a valuation cap. If the company is sold before the financing round (liquidity event), it is usually agreed that the investor will receive a certain share of the sale proceeds. Finally, it is agreed upon what will happen to the investment if the financing round is not carried out, in the event of bankruptcy or a company liquidation (dissolution event).
  • Investor Right: The SAFE also provides for the rights of the investor before and after the share issuance. Preferably, the investor is already included in the existing shareholder agreement or obliged to join a subsequent shareholder agreement.
  • Representations and Warranties: Despite its simplicity, the SAFE usually also contains basic representations by the start-up company and the investor.

For more information on the SAFE in US law, please refer to the website of Y Combinator.

How can a SAFE be implemented in Switzerland?

When implementing a SAFE under Swiss law, various civil and tax law issues arise. Just adopting the Anglo-American template is therefore not recommended.  

Under Swiss law, the SAFE can be structured relatively simple as a debt instrument. Accordingly, a convertible loan is established, accounted for by the company as debt and converted into equity capital at the next financing round according to the conditions in the SAFE. In this case, a declaration of subordination by the investor is strongly recommended, especially if the inflow of liquidity is used for expenses that cannot be accounted for as an asset. It should also be noted that under certain circumstances and if the relevant requirements are met, the collective procurement of debt via a SAFE qualifies as the issuance of a bond for withholding tax purposes and withholding taxes become due on the (possible) interest payments.

As an investor, it is important to ensure that all founders agree to the SAFE and the conversion right. This is because the company itself cannot guarantee the conversion of the debt capital since the respective decision power is generally in the competence of the general meeting of shareholders (except if the company already has authorised capital). Furthermore, it must be considered that the existing shareholders have a subscription right and must in principle waive it for the conversion. Finally, it is recommended to oblige the investor to join the existing shareholders' agreement when converting his investment into shares. By obliging the investor to join the shareholders’ agreement at the time of the signature of the SAFE, you can minimise discussions later.

Implementing a SAFE as an equity instrument, i.e. without accounting for an obligation in the balance sheet of the start-up company, is not recommended.  Since the initial investment does not come from an equity holder, it is in principle taxable income. Whether a provision for the costs of the project to be implemented (in analogy to the tax assessment of an equity token by the Federal Tax Authority) is permissible must be examined in each individual case. I believe that such a provision will not be accepted in most cases. Furthermore, the subsequent issuance of shares to the investor would have to be made from freely usable equity capital (because there is no claim to be offset and the investor does not want to inject additional funds). In most cases, start-up companies do not have free equity and the issuance of «free shares» is not possible. Even if the company has freely available equity, the issuance of «free shares» is uninteresting for tax reasons, as income taxes are usually due at the level of the investor and withholding taxes at the level of the company.

In summary, a SAFE should ideally be structured as a convertible loan under Swiss law.

 
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