How does conversion of Secured Convertible Notes work?
A convertible note is a way for seed investors to invest in a startup that isn’t ready for valuation. They start as short-term debt and are converted into equity in the issuing company. Investors loan money to the startup and are repaid with equity in the company rather than principal and interest.
How does a convertible note conversion work?
A convertible note is a form of short-term debt that converts into equity, typically in conjunction with a future financing round; in effect, the investor would be loaning money to a startup and instead of a return in the form of principal plus interest, the investor would receive equity in the company.
What happens when convertible debt is converted?
Key Takeaways. A convertible bond pays fixed-income interest payments, but can be converted into a predetermined number of common stock shares. The conversion from the bond to stock happens at specific times during the bond’s life and is usually at the discretion of the bondholder.
How does a conversion NOTE work?
When a conversion note gets issued, it automatically converts into shares of preferred stock after the Series A funding round. The share prices are based on the terms of the note. The terms will outline the due date or maturity date, and they’ll also show the balance due along with interest.
What is a conversion discount on a convertible note?
What is a conversion discount? A conversion discount may be given to early investors to incentivize taking on the additional risk of investing in a company early. It is the discount given to investors when the convertible note converts from debt to equity.
Do convertible notes convert pre-money or post money?
Convertible Notes are a debt instrument that convert into equity at either a qualifying event or at the maturity date. They also accrue interest (compounded annually) which converts into equity as well. Their conversion is pre-money so they will be diluted by other notes and other funding pre-Series A.
How do you calculate SAFE note conversion?
When a SAFE converts, the conversion price is calculated by dividing the valuation cap by the company’s capitalization (the total number of shares and options). With a pre-money SAFE, the company capitalization consists of all its shares and options, not including shares issued when the SAFE converts.
How can a company force conversion of a convertible bond?
The transformation of convertible bonds into shares of stock is usually done at the discretion of the bondholder. When a company exercises a right to redeem or call a convertible bond, it can force the conversion of convertible bonds to stocks.
How do you calculate conversion cost?
The conversion price of the convertible security is the price of the bond divided by the conversion ratio. If the bonds par value is $1000, the conversion price is calculated by dividing $1000 by 5, or $200. If the conversion ratio is 10, the conversion price drops to $100.
Why would a company pay off convertible debt?
Companies issue convertible bonds to lower the coupon rate on debt and to delay dilution. A bond’s conversion ratio determines how many shares an investor will get for it. Companies can force conversion of the bonds if the stock price is higher than if the bond were to be redeemed.
What is the typical conversion discount on convertible debt?
between 20% and 40%
Depending on the circumstances, convertible note discounts typically range between 20% and 40%. Higher risk investments might call for a larger discount, and lower risk investors may command a lower discount. There are also conversion discounts that increase over periods of time, with a max discount cap.
Do convertible notes convert to common or preferred?
A convertible note is short-term debt that converts into equity. In the context of a seed financing, the debt typically automatically converts into shares of preferred stock upon the closing of a Series A round of financing.
What is a 20% convertible note?
For example, if the investors in a $500,000 convertible note seed financing were granted a discount of 20%, and the price per share of the Series A Preferred Stock were $1.00, the noteholders would convert the loan at an effective price (referred to as the “conversion price”) of $0.80 per share and thus receive 625,000 …
Do convertible notes dilute new investors?
The stocks that convertible bondholders get when they convert their bonds come in the form of newly issued securities, which can harm previous investors. In the absence of protections, convertible bonds almost always dilute the ownership percentage of current shareholders.
How do you calculate the valuation cap for a convertible note?
It is typically calculated by adding the amount of capital raised in a financing to the Pre-Money Valuation. It can also be calculated by multiplying the Post-Financing Fully Diluted Capitalization by the share price of the stock sold in the financing.
How is Captable calculated?
An important metric that must now be assessed in the cap table is the price of your company’s shares. To calculate the new price for this founding round, the pre-money valuation is divided by the number of shares (nominal value) prior to the investment. In our example, the pre-money valuation of 2.5 Mio.
How do cap tables work?
The capitalization table shows each investors’ equity capital stake in the business, which is calculated by multiplying the share price by the number of shares owned. In most cases, the names of the security owners will be listed on the Y-axis and the types of securities on the X-axis.
How is pre-money valuation calculated?
Pre-money valuations generally form the basis of what a VC’s share in the company is determined to be worth, based on how much they invest. If I invest $250k in a company that has a pre-money valuation of $1M, it means I own 20% of the company after the investment: $250k / 1.25M = 20%.
What goes into a cap table?
A capitalization table (or “cap table”) is a document, like a spreadsheet or table, that details who has ownership in a company. It lists all the securities or shares in a company including stock, convertible notes, warrants, and equity grants.
Is a cap table legally binding?
Each new round of investments and share ownership has an effect on the existing share ownership – it changes the valuation and dilution. With each round, and each new investor, the share ownership starts becoming more and more complex – not to mention, legally binding. If you don’t have a cap table, you can’t do this.
What is a waterfall cap table?
Waterfall analysis indicates the amount every shareholder on the cap table would receive based on the amount available to equity in a liquidity scenario. Liquidity events are usually uncertain, and the shareholders cannot foresee how and when they will occur.