Simple Agreements for Future Equity (SAFEs) have become a popular funding tool for early-stage startups across Latin America, offering an avenue to raise capital with minimal friction and legal costs. While SAFEs are designed to be simple, many institutional investors request additional protections through a Side Letter. With LatAm companies, investors often push for additional protections that can tilt the playing field. Understanding these nuances is key to avoiding unfavorable terms. Founders must be careful not to allow Side Letters to evolve into full-fledged National Venture Capital Association (NVCA) style agreements, driving up legal fees and signing some of the company’s freedom away. The rights provided to an investor in a Side Letter should be proportional to their check size—those committing more capital or a larger share of a SAFE round may warrant additional protections, but these should remain balanced. Here are a few common Side Letter provisions and some thoughts on how LatAm founders can approach them.
Common Side Letter provisions
Information and inspection rights – Investors may want financial updates and access to company records. While transparency is important, founders should ensure that reporting obligations are not excessive or disruptive to operations. Startups should avoid the expense of audited financials until they reach significant financial maturity, and confidentiality obligations should bind investors receiving company financial information.
Pro rata rights – Investors often seek the right to maintain their ownership percentage in future financing rounds. However, early investor pro rata rights can conflict with later-stage investors, who may want the next financing round occupied only by bigger checks. Founders should limit pro rata rights to investors they see as long-term partners and those who start off with a large-enough investment to guarantee the right to keep investing in the company.
Board observer/ future director rights – Some investors want to attend board meetings as non-voting participants or want the right to sit on the company’s board when it is established in the future. In LatAm, it is common for investors to request board rights earlier than in the U.S. Founders should be particularly cautious about giving board seats too early, as it can deter later investors. A reasonable compromise is conditioning a future director seat only upon an additional investment in a future round.
Future rights as a major investor – Some investors negotiate to be treated as “Major Investors” once the company completes a priced round. In the NVCA documents commonly used for a priced round, Major Investors usually receive information rights, pro rata rights, rights of first refusal, and tag-along rights with respect to future founder secondary sales, among others. Founders should only provide this future Major Investor treatment to their biggest SAFE investors and, even then, should consider limiting it to investors committing additional capital in the priced round.
Most Favored Nation (MFN) Clause – If a future investor negotiates more favorable terms in a SAFE or Side Letter, an existing investor with an MFN clause will be able to receive those more favorable terms. Y Combinator has a version of the SAFE that includes MFN language directly therein. Like the YC language, the MFN should only apply to subsequent convertible securities.
Less common (and more problematic) provisions to watch for
While many Side Letter requests are reasonable, some provisions can introduce risks and constraints that LatAm founders should be particularly cautious of:
Extensive representations and covenants – Some Side Letters attempt to include complex regulatory and other company representations, along with significant covenants that are more common in priced round documentation. If a Side Letter starts resembling a full investment agreement, it may be a red flag that the investor is overreaching. Founders should push back to prevent unnecessary complexity.
Investor approval rights – Giving investors veto power over key company actions can slow down decision-making and deter future investors. This is particularly dangerous in LatAm, where regulatory and operational uncertainties already create enough challenges.
Conditions to investment – Some Side Letters introduce conditions precedent to funding, such as obtaining third-party approvals or hitting revenue milestones before receiving capital. These conditions can create unnecessary delays and uncertainty in accessing funds.
Put options – A put option allows investors to sell their SAFE back to the company under certain conditions, potentially creating future financial strain. This is unusual for early-stage investments and should generally be avoided.
Termination
Regardless of what a Side Letter provides, one thing should remain true: it should not exist forever. To prevent Side Letters from creating long-term obligations, founders should ensure that all Side Letter provisions terminate under clear conditions, such as:
- An initial public offering of the company’s securities;
- A subsequent priced round, at which point investor rights should be formalized under standard agreements;
- A sale of the company, ensuring Side Letter rights do not interfere with M&A processes.
Final Thoughts
Side Letters are becoming more common in LatAm startup financings as institutional investors seek added protections. However, founders should remain vigilant. Many investors in the region push for terms that go beyond what is typical in the U.S., sometimes making capital unnecessarily expensive. While Side Letters can help align interests between founders and investors, excessive or overly complex provisions create unnecessary complications. Founders must remember that SAFEs are meant to be simple.
LatAm founders should approach Side Letters with a clear understanding of what’s standard, what’s negotiable, and what’s potentially harmful. Pushing back on unreasonable terms is not only possible but essential to maintaining long-term control of your company.
The information provided in this article is for general informational purposes only and does not constitute legal advice. No attorney-client relationship is formed by reading or relying on this content. You should consult a qualified attorney for advice tailored to your specific situation. The authors and publishers disclaim any liability for actions taken based on the information contained herein
