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Idea Cafe's CyberSchmooz
Financial Feasts

Financing message forum where you can get and give insights found nowhere else. Belly up to the table and request funding. Or tell your money tales. Any money talk is fair game except ads.

The Latest Hot Topics:

Show Me the Money!
Belly up to the Financial Feasts table and talk turkey about money... what to look for, where & how? All money talk is fair game. Go

 

Convertible Debt

1. What is a Convertible Debt?

2. Who is This Good For?

3. When is This the Best Choice for Me?

4. When is This Not Advised?

5. Tips for Getting Accepted.

6. Ingredients You'll Need on Hand.

7. Watch Out For...

1. What is a Convertible Debt?

Convertible Debt is a loan that can convert to equity under certain circumstances, usually when the lender says so.

Think of it like a reversible jacket: first your (hulk-like) funder comes in wearing a navy jacket with "LENDER" in big letters across the back. He watches your biz duke it out in the ring. You tie or lose, he stalks out in the same jacket. If you win, he stands up, waves his contract, and turns his jacket inside out, then leaves wearing the black jacket with big "INVESTOR" letters.

2. Who is This Good For?

The lender: Convertible debt creates a win-win situation: if your company takes off, they get to participate on the upside as an equity investor; if you just do OK, they still get their loan repaid. Pretty sweet!

The Entrepreneur (ie You): If you're having a hard time reeling in lenders, just remember the jacket (lenders love it) and add convertible debt as a sweetener.

3. When is This the Best Choice for Me?

  • When you have a trusted attorney who can help you understand how to use this and draft the agreement. (Otherwise forget it.)
  • When you can use convertible debt to get better terms, like lower interest rates since you're throwing in the equity option, as long as you can keep the debt from converting to equity sooner than you want it to.
  • When you can offer the "jacket" of convertible debt to convince a doubtful funder to just go ahead and make a commitment.

4. When is This Not Advised?

When you can do something simpler -- like a regular loan or normal investment -- this convertible thing can make your head swim, both now and later.

5. Idea Cafe Tips

Remember, this wasn't your idea. (But you'll accept or suggest if you have to.)

Maintain as much control as you can over what event triggers the conversion from debt to equity.

Don't try to do this at home. You need professional legal and accounting help -- it's a sophisticated instrument.

color business bar

6. Ingredients You'll Need on Hand

  • An attorney and CPA who have done these before and who understand the impact of IRS regulations vs. company valuation at the time of conversion.
  • A business plan.
  • Basic financial package.

7. Watch Out For...

Being too casual about the math involved, especially regarding company valuation at the time of conversion. Like there should be a big difference if it converts at today's valuation or a future valuation.

Not understanding this deal well enough before you accept it. (Let an attorney and CPA hold your hand on this one.)

Meddling lenders who start thinking of themselves as investors early in the game, and start hanging around more than you expected.

 

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