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Convertible Debt: risks and terms to be aware of
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Gianluca Valentini, co-founder of Equidam, explains why convertible debt is a complicated security that can have drastic implications at the moment of conversion. It is important that founders are very well aware of what will happen when they convert and of its terms.
Is convertible debt a good alternative to equity?
Convertible debt is very different from equity for two main reasons:
Debt-holders are senior to shareholders
They have more privileges than equity holders. E.g., in case of liquidation, they get the money back before shareholders do.
Debt- holders have special rights to convert to shareholders
This means that they are protected from the downsides but they join the upsides.
3 terms you should be aware of:
1- Interest rate
3- Cap (the maximum valuation they can convert to)
Convertible debt carries a risk of allowing debt holders to convert with a very favourable valuation, thus leaving original founders with little shares.
For these reasons, convertible debt is a risky security for founders and it carries several terms that are very favourable to investors.
Check out Equidam free convertible note calculator!
Did you find this video useful? What was your experience with convertible debt? Feel free to share in the comments your feedback, questions or suggestions for our next video!