SAFE vs KISS Notes
There are two main kinds of convertible notes including KISS convertible notes and SAFE convertible instruments.
There are a lot of ways to raise financing for a company, but things are a bit tough when your company is still just a start-up and in its initial stages. Since the company doesn’t have a high value, taking up outside funding from an investor can become very tough. But do not fret, there is a way out – convertible securities!
What Are Convertible Securities?
Convertibles are securities, usually bonds or preferred shares, that can be converted into common stock. Convertible securities are most often associated with convertible bonds, which allow bondholders to convert their creditor position to that of an equity holder at an agreed-upon price. Convertible securities can include notes and preferred shares, which can possess many different traits. Convertible notes is one of the first forms of convertible securities introduced in the business world. After this came SAFE convertible instruments and KISS convertible notes.
Convertible notes were highly complicated, expensive and took a lot of time before the deal was finalized due to negotiations. To change this, the KISS and SAFE instruments were created. The creators wanted it to be easier for companies to make deals and get their funding faster. Although both of them were created to make things simple and convert into equity after the Series A funding round, both of them are not the same.
Y Combinator’s SAFE and 500 Startups KISS
KISS convertible notes and SAFE convertible instruments are a set of model legal documents that early-stage companies use to raise seed funding. The SAFE convertible instrument, or Simple Agreement for Future Equity, was developed by the startup accelerator Y Combinator. The KISS convertible notes, or Keep It Simple Security, was developed by startup accelerator 500 Startups. Both sets of model documents are freely downloadable on the internet. Y Combinator’s and 500 Startups’ collective purpose for publishing these documents is to simplify, standardize, and reduce the costs of obtaining seed financings.
SAFEs, and some KISSes, are increasingly popular alternatives to the two mechanisms traditionally used for raising seed capital. These two alternatives that we are talking about include the convertible promissory notes and priced equity. Both SAFE and KISS notes are convertible securities, meaning they function much like convertible promissory notes, where investors provide cash today with the intent to convert to equity upon the occurrence of some future event.
Convertible note terms
If you are about to issue a SAFE convertible instrument or KISS convertible notes, you need to know the basic terms that make the deal. These include:
The very first term of any convertible security is the discount placed on the conversion price versus the price paid by the new investors at the subsequent priced round. An example of this is that a convertible note has a discount of 20%, and there is a funding round after that where the company sells its Series A stock at $2.00 per share, the convertible instrument would convert at $1.60 per share.
#2 Valuation caps
The next term of the convertible security is the valuation cap. It represents a “ceiling” on the valuation for the convertible investor, during the next funding round that takes place in the company. Let us take an example to explain this better. If a convertible instrument has a valuation cap of $3M and the startup has a funding round where it sells the Series A stock at a price of $5M valuation, the convertible security will convert to the Series A stock at a $3M valuation. Where a convertible instrument has both a discount and valuation cap, the investor will usually convert at whatever produces the lower conversion price.
#3 Most favored nation provisions
A few convertible securities include a term that provides that if a company issues additional notes in the future with better terms, then the investor can elect to exchange their convertible security with the one that has better terms. For instance, let us assume that a startup issues convertible notes with a 20% discount and a year later, it issues one with a 30% discount. Here, the investor with the 20% discount can receive the 30% discount with this clause.
#4 Pro-rata rights
Pro-rata right, also called participation right, is a right that is at times included in the convertible securities, where the investor is allowed to invest additional funds during the next priced round. But this is normally allowed on at the price that is paid by the new investors and not as per the discounted conversion price.
Comparing SAFE Convertible Instrument and KISS Convertible Notes
It all started when the convertible notes were created, and after this came the KISS and SAFE notes, with much more simplified and better rules. Since then, these both have become highly popular among companies and investors. These methods of gaining funding are much faster than the traditional bank loan method.
If they are both designed to achieve the same result, how do you choose between them? Well, they are not that similar and they both were created by different organizations. And since they were created with their own preferences and aspirations, there are a lot of differences in both the documents.
That is what we are going to talk about in the table below:
|Valuation cap||Yes||Possibly, depending on the SAFE type.|
|Discount||Yes||Possibly, depending on the SAFE type.|
|Equity funding round|
|Sale of company|
|If the company fails prior to conversion?||The investor gets a cash payment that is equal to the SAFE purchase price.|
|Maturity||Converts to preferred shares @ valuation cap.||NA|
|Most Favoured Nation Clause (i.e. preferential rights for Investor)||Yes.||No, a standard SAFE note does not have this clause. (But one can be included)|
|Prepayment?||The debt version of the KISS note requires the investor’s approval.||NA|
|What other rights do Investors have?||Participation right after the next equity funding round.|
|What representations does the company give?||Basic set of representations and warranties, along with intellectual property and litigation ones.||Basic set of representations, along with intellectual property ones.|
|High-Resolution Financing (i.e. different terms for different investors)||No. KISS notes in each series has identical terms.||Yes. Each SAFE note can be tailored as per the deal made with the investor.|
|Can the Investor transfer the instrument?||Yes, the investors are allowed to transfer their KISS note to any person.||Yes, the investors are allowed to transfer the SAFE note to its affiliates.|
This table is not meant to show that one convertible note is better than another. Both of them have their own rules and run in their own way.
Which one is better for your company, SAFE or KISS?
As each company and corporate shareholder structure can be vastly different from each other, the benefits of each type of convertible note comes with their specific details and how they convert.
In general SAFEs offer more flexibility, so if you have many different types of investors, then it may be better for you. Also they are simpler to understand and not as debt heavy as they do not have any interest or a maturity date. This may be more beneficial for the company founders as it’s more straightforward and less of a burden on the company.
KISS notes have more clauses for investors and protect their rights in case the startup fails. Therefore KISSes are often considered more favorable for investors and their convertible note of choice when negotiating for funding a company. Though this may depend on your preference among the founders and type of investors you have.
Create and Issue SAFE & KISS Notes on Eqvista
Whatever you choose to offer to investors, it is important that you keep a record of it and add it to your cap table. Eqvista is a cap table application that allows you to track all the shares and convertible instruments in your company.
On Eqvista, you can easily add in the details for creating a SAFE note, as below:
Once you have clicked on “Submit”, this is how you will be able to view the note.
Eqvista also allows you to create the KISS note in the same way as shown below:
Once you click on “Submit”, you will have your note created and issued as shown below.
One of the best parts about using Eqvista is that it allows you to see how these two notes affect the cap table. This can be seen by using the round modeling tool on Eqvista. Remember to select the post-money option to see how the shares would convert when there is a financing round and how it would dilute the ownership of the other shareholders.
In short, it is very easy to use Eqvista and helps you understand how these different types of convertible notes would affect your cap table.
Get an in-depth understanding on how to create each kind of note:
- Here is how you can create a SAFE convertible instrument
- Here is how you can create a KISS convertible note