SAFEs and Convertible Notes

Raising money via convertibles

Convertible notes and SAFEs don't give holders shares yet — just the right to purchase shares at a future date, at a price to be determined. They convert into equity when a priced equity round closes, usually at a different price than the new equity.

How to handle unconverted convertibles in a liquidity event: Unconverted Convertibles

Who bears the dilution

The key question in a conversion: who bears the dilution from issuing new shares to convertible holders?

• All shareholders, including new equity investors in the round
• Existing shareholders only
• Some mix of the two

Legal documents specify how share prices are calculated and how share classes are treated.

Calculating the price per share

The general formula:

Premoney valuation / (Fully-Diluted Shares prior to the round + dilutive shares included in the calculation)

Premoney is the agreed value of the company before the round.

Money raised via convertibles is not added to the premoney or round amount. That capital is already in the company's bank or already spent — and reflected in the premoney.

The share count used in the denominator is what matters, and it varies by instrument and by what the legal docs specify.

What's in the share count

Issuing new equity:

• Fully-diluted shares prior to the round
• If investor-friendly: shares issued through all premoney SAFEs and convertible notes
• If converting a postmoney SAFE: all shares issued to postmoney SAFEs
• If investor-friendly: new options issued through creating or expanding the pool
• If anti-dilution triggers: as-converted shares added to existing shareholders

Converting postmoney SAFEs:

• Fully-diluted shares prior to the round
• All shares issued through converting postmoney SAFEs and other convertibles

Converting premoney SAFEs and convertible notes:

• Fully-diluted shares prior to the round
• New options from pool expansion

Fully diluted = issued and outstanding + currently authorized options.

Dilution when the share count grows

When the company bears the dilution, you include those shares in the denominator. That reduces the effective valuation and lowers the share price for new equity.

Effective premoney = negotiated premoney minus the value of dilution borne by existing shareholders.

Conversion is a negotiation on dilution

Example: $3mm new investment at $17mm premoney with $2mm unconverted convertibles.

From the new investor's angle:

1. $3mm / ($3mm + $17mm) = 15% — postmoney conversion
2. $3mm / ($3mm + $17mm + $2mm) = 13.6% — premoney conversion

Adjusting the premoney to equalize:

Same situation, $15mm premoney:

1. $3mm / ($3mm + $15mm + $2mm) = 15% — premoney conversion

Postmoney SAFE conversion

Treat postmoney SAFEs as converting first, before the equity round, using the cap or discount.

Mental model: "convert the SAFEs, then issue the equity."

Dilution from SAFEs is borne entirely by existing shareholders (typically founders and management holding common).

Premoney SAFE and convertible note conversion

Treat these as converting at the same time as the equity issuance. Three methods:

1. Premoney method (postmoney conversion) — "founder-friendly"
2. Percentage Ownership / Postmoney method (premoney conversion) — "investor-friendly"
3. Dollars Invested method

The differences are about who bears the dilution and how much.

Premoney SAFEs and convertible notes use the same conversion math; they differ mostly in legal treatment. Two things to watch on notes:

• Payment or conversion without a qualified financing. At exit or at maturity, how's the note handled? SAFEs don't have maturity, so this is a note-specific issue. Notes typically pay out at a multiple of outstanding principal (plus accrued interest).
• Converting interest. Usually accrued and added to the balance at conversion.

Premoney method, "founder-friendly"

Price per share of the new equity is calculated using issued and outstanding, then the convertibles' share price is calculated.

Dilution from the convertibles spreads across existing and new investors — the new investor ends up with less than expected.

Example: invest $1mm at $10mm postmoney expecting 10%. After convertibles convert, you get < 10%.

Percentage Ownership method, "investor-friendly"

Price per share is premoney valuation divided by issued and outstanding + shares issued to convertibles.

Dilution falls entirely on existing investors. New investor gets what they expected.

Equivalent shortcut: calculate the full dilutive value of the convertibles and subtract from negotiated premoney to get the effective premoney.

Dollars Invested method

Price per share is premoney valuation divided by issued and outstanding + shares issued to convertibles from the conversion discount only.

Splits the dilution between existing and new investors. Accounts separately for dilution from the money invested in the convertibles (borne by all) and dilution from the discount (borne by existing).

Shortcut: calculate the dilutive value of the conversion discount and subtract from negotiated premoney.

Reference: Calculating Share Prices with Outstanding Convertible Notes or SAFEs.

What conversion produces on the cap table

A common mistake: treat the round as a single class of preferred (Series A) and lump all converted SAFEs and notes into it at the new equity price. That works for ownership math but breaks liquidation preferences in the waterfall.

When SAFEs and notes converted at different prices, each conversion gets its own preferred subseries on the post-round cap table.

• Series A-1 for the new equity at the round price
• Series A-2, A-3, A-4 for each batch of SAFEs and notes that converted at a different price (one cap, one discount, one note)

All subseries are pari passu within the round (equal seniority among each other) but their liquidation preferences are sized to the dollars actually invested by each holder, not to converted-share-count multiplied by the new round price. Otherwise a SAFE holder who invested $250k at a $5m cap would end up with a preference based on the $1mm-plus value of their converted shares, which is a windfall the legal docs do not grant.

The same logic applies to converting notes that include accrued interest: the preference attaches to principal plus interest, not to the share count post-conversion.

Practical implication: when modeling a round in the Cap Table and Exit Waterfall Tool, break the converting securities into rows by cap or discount, label each as A-1, A-2, A-3, and link each row's liquidation preference to the original purchase amount, not to share count times new equity price.

Founder-friendly vs investor-friendly

The premoney/postmoney language is confusing. Think of it as who bears the dilution — investor-friendly or founder-friendly.

Premoney conversion is the common default for premoney SAFEs, putting dilution on existing shareholders.

You won't see these method names in legal docs. You'll see definitions of what shares are included in the SAFE price calculation — that's what drives dilution. Always read the legal docs; templates are often modified.

Terms to look for in legal docs

• Purchase Amount — amount invested by the SAFE holder
• Standard Preferred Stock — stock issued to the new equity investor when the SAFE converts
• Safe Preferred Stock — stock issued to SAFE holders on conversion, typically with the same rights as Standard Preferred but different liquidation preferences
• Safe Price — with a valuation cap, the price paid for SAFE Preferred, typically Valuation Cap / Company Capitalization
• Discount Price — with a discount rate, price per share paid for SAFE Preferred
• Company Capitalization — how to count shares used in the share-price calculation
• Equity Financing Event — how the SAFE converts, usually the greater of (1) Purchase Amount / lowest Standard Preferred price, (2, if applicable) Purchase Amount / Safe Price, or (3, if applicable) Purchase Amount / Discount Price

Glossary

Term	Definition
Converting Investments	Convertibles convert to equity when a priced round is raised, at a different price
Percentage Ownership	Shares owned / fully-diluted shares
Effective Premoney Valuation	Premoney minus the value of dilution borne by existing shareholders
Convertible Note	Debt that converts to equity at a milestone. Has discount, cap, interest rate, and maturity
Premoney SAFE	Warrant-like, not debt. Simpler docs, standardized. Can have cap or discount. No interest, no maturity. Introduced by Y Combinator in 2013
Postmoney SAFE	Introduced by Y Combinator in 2018. Defines the exact conversion method, adding anti-dilution for investors. Removed prorata by default (side letter available)
Valuation Cap	Understanding the valuation cap
Discount Rate	Discount applied to the new equity price when pricing convertibles. Check whether docs express this as (1 - discount) or (discount) * price
Interest Rate	Convertible note interest rates
Investor Friendly	Dilution from convertibles borne entirely by existing shareholders
Founder Friendly	Dilution borne by all shareholders including new investors
Convert in the premoney	"Notes convert first, included in the pre-money valuation" — aka percentage-ownership method
Convert in the postmoney	"Incoming series goes first, then note holders convert" — sometimes called the pre-money method
Premoney Conversion Method	"Convert in the postmoney", "Founder Friendly"
Percentage Ownership Conversion Method	Premoney conversion, "Convert in the postmoney", "Investor Friendly" — Cooley
Dollars Ownership Conversion Method	See Cooley