1. @TCNupdate
#tcnLIVE
Bob Bishop, Goodwin Procter LLP & Founders Workbench
@BostonBishop
Ben Littauer, Boston Harbor Angels & Walnut Venture Associates
@LittWeb
Olivia Dufour, NTT Data @Olivia_Dufour

2. Convertible Debt
Ben Littauer: viz.me/littauer
@TCNupdate
#tcnLIVE

3. Review
of
an
Equity
Deal
3
• Company
and
Investors
agree
on
a
“pre-­‐money
valua=on”
(PM)
which
leads
to
a
price
per
share
• Investors
put
in
$X
• Investors
then
own:
X
/
(X
+
PM)
of
the
company
Example:
PM
=
$1M
X
=
$0.5M
Investors
own
0.5/1.5
=
33%
Remember:
New
issuance
NOT
transfer
of
shares
@TCNupdate
#tcnLIVE

4. What
is
Conver=ble
Debt
4
• Many
seed-­‐stage
companies
use
an
instrument
called
Conver=ble
Debt.
• Conver=ble
debt
is
not
tradi=onal
bank
debt
• Converts
exist
for
several
reasons
– Investors
and
Entrepreneurs
find
it
hard
to
agree
on
a
PM
valua=on
– Some=mes
quicker
and
cheaper
to
document
than
equity
deals
– May
allow
for
“rolling
close”
accre=on
of
investment
@TCNupdate
#tcnLIVE

5. Basic
Structure
of
Conver=ble
Debt
5
• Investor
loans
$
to
Company
an#cipa#ng
another
round
of
funding,
usually
triggered
by
the
size
of
the
next
raise
• Investment
accrues
small
interest
(6-­‐8%
typical)
• Debt
is
usually
unsecured
and
inferior
to
most
other
debt
• When
the
funding
occurs,
investment
+
interest
convert
to
equity
on
same
terms
as
new
money,
usually
at
a
discount
(15-­‐25%
typical)
and
subject
to
a
maximum
valua=on
(cap)
@TCNupdate
#tcnLIVE

6. Structure
of
Conver=ble
Debt
Ex1
6
Example:
• Investors
loan
$200K
to
Company
• 20%
discount;
$2M
cap
• As
of
conversion,
interest
of
$10k
has
accrued
• Next
Round
PM
=
$2m;
1M
shares
before
financing
• New
Shares
offered
at
$2/each
At
Conversion,
Noteholders
receive
210K
/
1.60
shares
=
131,250
shares
@TCNupdate
#tcnLIVE

7. Structure
of
Conver=ble
Debt
Ex2
7
Example:
• Investors
loan
$200K
to
Company
• 20%
discount;
$2M
cap
• As
of
conversion,
interest
of
$10k
has
accrued
• Next
Round
PM
=
$4m;
1M
shares
before
financing
• New
Shares
offered
at
$4/each;
share
price
at
$2M
pre
would
have
been
$2/each
At
Conversion,
Noteholders
receive
210K
/
2
shares
=
105,000
shares
Without
cap
would
be
210K
/
3.2
=
65,625
shares
@TCNupdate
#tcnLIVE

8. Converts–
Complica=ons!
8
• What
if
only
a
lihle
money
comes
in?
• When
does
the
debt
convert?
• What
happens
if
PM
of
next
round
is
huge?
• Does
the
investor
have
any
say
in
things?
• What
if
there
is
an
equity
investment
that
doesn’t
trigger
conversion?
• What
happens
if
it
never
converts?
• What
happens
if
Company
gets
bought?
@TCNupdate
#tcnLIVE

9. Converts–
Solu=ons?
9
• Caps
and
Floors
• Default
conversion
price
and
security
at
maturity
• Open
round,
minimum
close
• Quick
sale
preferences
(ex.
2x)
• Governance
provisions
• Careful
ahen=on
to
conversion
condi=ons
Typical
legal
documents
are
a
Promissory
Note,
a
Note
Purchase
Agreement,
and
(for
exis=ng
shareholders),
a
Shareholder
Agreement
that
codifies
other
condi=ons
of
the
note
(e.g
crea=on
of
board).
@TCNupdate
#tcnLIVE

10. Converts:
When
Do
They
Work?
10
• “Bridge”
financing
in
an=cipa=on
of
an
“event”
– Another
financing
– A
big
sale
– Company
sale
• Seed
stage
investment
– Valua=on
not
understood
– Rolling
closes
(ooen
with
ratche=ng
caps)
– Proof
points
as
an
“event”
– When
the
investor
loves
the
company
(cf.
exuberant
equity
valua=ons)
@TCNupdate
#tcnLIVE

11. @TCNupdate
#tcnLIVE
Bob Bishop, Goodwin Procter LLP & Founders Workbench
@BostonBishop
Ben Littauer, Boston Harbor Angels & Walnut Venture Associates
@LittWeb
Olivia Dufour, NTT Data @Olivia_Dufour