Why seed stage founders should only use SAFEs
As a pre-seed investor, I’m often the first serious check into a company. I guess there are two ways of looking at the world — zero-sum and positive-sum. In zero sum thinking, getting the best deal for yourself and ‘taking’ terms away from a founder, maximizes returns. I have a positive-sum approach. I want the highest likelihood that a founder achieves product-market fit (PMF)even if it costs me ownership, because companies with PMF are worth 10x what non-PMF companies are worth.
I give a big hat tip to Y Combinator, who have worked really hard to make SAFEs the standard instrument for seed financing. They iterated a lot until they got to the current post-money SAFE with clear Series A conversion terms. I think SAFEs have now become the defacto standard. What I’m hoping for next is that I never have to argue against a priced seed round again. They are almost always perpetrated by later stage investors who only do priced rounds, and are dipping back in to seed as a way of getting optionality on their Series A. Many people have written about why that signal is very risky for founders, but since later investors will always love hot young companies, I’m not going to waste the time.
What I do want to do is start shaming those who try to apply priced rounds to those early companies. There are several terrible things that happen as a result.
First, the founder starts to believe they have achieved product market fit just by virtue of the logo they just added which has funded PMF companies in the past. This is not true! To be clear, the reason it bothers me so much is that it is incredibly common for companies to drive metrics like 15% month over month growth and 40% organic leads and be really happy about those. Investors likewise are totally fine with it. But I’m telling you, almost always with diligent experimentation and discovery, you can find the adjacency that has true PMF — 20% MoM growth with 60–80% organic leads. The difference between the former and the latter is night and day. In the latter case, you can make so many mistakes and the market just keeps coming back to you. That’s the kind of resilience startups need, because there will be so many ups and downs.
Second, even if the founder is savvy and continues looking for the big win, a priced round puts enormous pressure to avoid pivots, raise money from whoever shows up next week, and the myriad of other things that real seed startups do. That just doesn’t create the right culture for going after the absolute maxima, so most founders cave in, try to optimize what they were funded for, and soon are on the treadmill to the next priced round.
Third, in the likely scenario that things don’t work out as well as when the round was done, the investors are protected through anti-dilution provisions but the founder is likely to lose control of their company in a down round. We do a lot of celebrating of big up-rounds but don’t talk much about pivots and down rounds, because they aren’t sexy. But they happen all day long. Literally like half the time in pre-Series A companies. So if your thinking as a founder is that it will never happen to you, get serious.
If you are a founder who doesn’t have a ton of momentum and someone is willing to write you a check and insists on a priced round, go for it. You don’t have much to lose. But if you do have great momentum, it is not a victory lap to get yourself roped into a priced round by a brand name investor you like. You are about to devote several years of your life to build something great, and you want everyone aligned that it will take time and a lot of pivots and restarts to get to the product-market fit you need to build something epic.
