Brian Nichols is the co-founder of Angel Squad, a community where you’ll learn how to angel invest and get a chance to invest as little as $1k into Hustle Fund's top performing early-stage startups

Investment terms are designed to protect investors. But most angels don't understand them well enough to know when they're getting screwed.

The problem isn't that the terms are complicated. The problem is that nobody explains them in plain English until after you've signed bad deals and learned expensive lessons.

Let's fix that.

SAFEs vs. Convertible Notes vs. Equity: What's the Actual Difference?

People treat these like they're interchangeable. They're not.

A SAFE (Simple Agreement for Future Equity) is a placeholder for equity. You're buying a ticket that lets you claim a slice of the pizza later. It converts into actual shares when the company does a priced round, gets acquired, or IPOs.

A convertible note is technically debt. It's a loan that converts into equity, usually with interest. The key difference: if the note is written so it doesn't auto-convert, it could get paid back with interest at acquisition instead of converting into equity. Elizabeth Yin has seen this happen where one investor on a SAFE gets multiples while another on a note at the same valuation just gets their money back.

Equity is actual shares. You know exactly what you own, no conversion math required. VCs prefer equity for this reason. Angels use SAFEs because they're cheap and fast.

At Hustle Fund, most early investments are done on post-money SAFEs because they're standardized and everyone knows what they're getting. But the firm has also seen people try to modify SAFEs with custom terms that break the whole point of using a SAFE in the first place.

Valuation Caps and Discount Rates: You Get One, Not Both

This confuses everyone.

A SAFE typically has a valuation cap and a discount rate. Let's say you invest with a $20 million post-money cap and a 50% discount. When the company raises at a $50 million valuation, you convert at whichever is better for you: the $20 million cap OR 50% discount off $50 million ($25 million).

You pick the better one. Not both. This is an OR situation.

If the company raises at $50 million, you convert at the $20 million cap because it's better. If the company raises at $30 million, you convert at $15 million (50% discount on $30 million) because that's better.

The math matters because it determines how much equity you actually get. A $25,000 investment at a $2.5 million post-money cap buys you 1% of the company. At a $5 million cap, you only get 0.5%. That's a massive difference in potential returns.

Pre-Money vs. Post-Money: This One Destroys Angels

Most people don't realize there's a difference until they get diluted way more than expected.

Post-money valuations are clean. If you invest $25,000 at a $2.5 million post-money cap, you own 1% of the company. Simple math: $25K / $2.5M = 1%.

Pre-money valuations are messy. Your conversion depends on how much total money the company raises. If the company raises $500,000 total at a $2.5 million pre-money valuation, the post-money valuation is actually $3 million. Your $25,000 now buys you $25K / $3M = 0.83%.

And if the company raises $1 million at that same pre-money valuation? Your $25,000 only gets you 0.7%.

Elizabeth Yin has mentioned that with pre-money SAFEs, investors sometimes end up with half the equity they thought they'd get because the team raised way more money than anticipated. That's not necessarily bad (the company has more capital to grow), but most people don't realize this is happening.

This is why Hustle Fund strongly prefers post-money SAFEs. You know exactly what you're buying.

Pro Rata Rights: Your Option to Not Get Crushed by Dilution

This is the right to invest more money in future rounds to maintain your ownership percentage.

If you own 1% of a company after the seed round and it raises a Series A without you participating, your ownership gets diluted down. Maybe to 0.7%. Then comes Series B and you're at 0.5%. By the time the company exits, your stake is so small it barely matters.

Pro rata rights let you choose whether to invest more to maintain your 1% or let it dilute. VCs always get this. Angels rarely ask for it.

Hustle Fund includes pro rata rights in their side letters because it gives optionality. If a company is crushing it, you want the option to double down. If it's struggling, you can let your stake dilute and avoid throwing good money after bad.

Most angels don't negotiate this until they've been diluted on a winner and realized what they lost.

Liquidation Preferences: Why Exits Can Pay You Nothing

This determines who gets paid first when the company exits.

Standard liquidation preference is 1x. If an investor puts in $1 million, they get the first $1 million back before common shareholders (founders and employees) get anything.

Participating preferred adds a kicker: the investor gets their 1x back AND participates in the remaining proceeds with everyone else. This is investor-friendly and founder-hostile.

Multiple liquidation preferences (2x, 3x) are even worse for founders. A 2x preference means the investor gets $2 million back before anyone else sees a dollar.

Here's why this matters for angels: you're usually on the bottom of the preference stack. If the company raises multiple rounds with different liquidation preferences and then exits for $50 million, late-stage investors might take the entire exit amount. You get nothing.

Elizabeth Yin has talked about how angels lose money not just on companies that shut down but also on ones that have successful exits where later-stage investors hose early investors through preference stacks.

This is why angels need companies to exit for 100x, not 3x. The 3x exits don't deliver returns when you're at the bottom of the stack.

Most Favored Nation (MFN): Your Safety Net Against Getting Screwed

MFN rights mean that if a later investor negotiates better terms than you got, you can reset your terms to match theirs.

If you invest at a $10 million cap and the next investor three months later gets a $7 million cap, MFN lets you convert at $7 million instead. It protects you from the founder giving preferential terms to someone else.

Hustle Fund includes MFN in their side letters. It's standard practice for professional investors. Angels should ask for it too.

Employee Stock Option Pools: The Dilution Nobody Talks About

When you invest, the company is going to create an option pool for employees. Usually 10% of the company.

This dilutes everyone, including you.

If you're getting diluted 20% by the next funding round AND the company creates a 10% option pool in the same transaction, you're actually getting diluted 30%. Most founders don't think about this when they raise money. Most angels don't either until it happens.

Hustle Fund portfolio company Pulley exists specifically to help founders (and investors) understand cap table math so these surprises don't happen.

Why All This Matters

Bad investment terms can turn a 100x company into a 10x return for you personally.

You could pick perfectly, invest in the next Uber, and still make mediocre returns because you didn't understand valuation caps, got crushed by dilution, or sat at the bottom of a preference stack.

The angels who make life-changing money aren't just good at picking companies. They're good at structuring deals that protect their downside and maximize their upside.

Want to learn how to negotiate better terms and avoid the expensive mistakes most angels make? Angel Squad breaks down investment terms in plain English and helps you understand what actually matters in a deal. Because picking great companies is only half the battle.