CONVERTIBLE NOTE TERMS

Convertible debt financing process can start with a term sheet , rather than a full set of financing documents.

Term sheets is beneficial because it postpones a lawyer from cranking out a full set of docs until consensus is reached regarding the convertible debt offering’s material terms. It also makes any potential back-and-forth negotiation on such terms easier to manage.

But term sheets are not necessary or even prudent when if the debt/investment comes from family and friends, you can go straight to the Convertible Note Deal documents .

Typical Terms in Convertible Note deal documents:

  • Amount of the Offering: How much capital can the startup raise via the convertible debt offering
  • Closing: Is there a specific date that the convertible debt financing will close, or will there be an open round of seed investment?
  • Interest Rate: What is the rate of interest on the convertible debt? Is the interest payable upon maturity or monthly/quarterly/yearly
  • Term: When is the maturity date of the convertible notes
  • Prepayment: Can the startup prepay the convertible notes without the consent of the convertible note holders
  • Convertibility: What amount of equity financing is required to trigger automatic conversion of the convertible notes to equity (i.e., the determination of qualified financing); What is the discount received by the convertible note holders relative to the price paid by the qualified financing investors; Is there a convertible note discount price cap; Do the convertible notes convert to equity on the maturity date, and if so, at what pre-money valuation.
  • Liquidity Event Payment: How much (e.g., 2X/3X, etc.) do the convertible debt holders receive if the startup gets acquired before a qualified financing and the maturity date? What is the definition of “Liquidity Event”.
  • Warrant Coverage: Do the convertible debt holders receive warrants to purchase “Series A” shares, and if so, how much percent coverage
  • Security Interest: Will the convertible notes be secured by any or all assets of the startup.
  • Amendment: What is the manner how the convertible notes can be amended? Majority of the principal amount of the notes.
  • Legal Fees: Does each party pay for its own legal fees.

Source: startuplawyer.com

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