
The Truth About Convertible Debt and The Hidden Terms You Didn’t Understand - DanielRibeiro
http://www.bothsidesofthetable.com/2012/09/05/the-truth-about-convertible-debt-at-startups-and-the-hidden-terms-you-didnt-understand/?utm_source=feedburner&utm_medium=feed&utm_campaign=Feed%3A+BothSidesOfTheTable+%28Both+Sides+of+the+Table%29
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unobliged
If anyone is interested in some additional material on this topic, MIT OCW
covers entrepreneurial finance.

Relevant Lectures: [http://ocw.mit.edu/courses/sloan-school-of-
management/15-431...](http://ocw.mit.edu/courses/sloan-school-of-
management/15-431-entrepreneurial-finance-spring-2011/lecture-
notes/MIT15_431S11_lec08.pdf) [http://ocw.mit.edu/courses/sloan-school-of-
management/15-431...](http://ocw.mit.edu/courses/sloan-school-of-
management/15-431-entrepreneurial-finance-spring-2011/lecture-
notes/MIT15_431S11_lec10.pdf)

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simonbarker87
Wish I had read this before taking on a convertible - if only so I knew a bit
more about the nuances of it

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jpdoctor
There is a big point missing in the article: The dynamics of the folks
entering the next round with those in the current round.

For example: The purchasers of the next round would be idiots to let the first
investor execute the equivalent of a full ratchet, and all such provisions are
usually throw-aways in a negotiation.

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msuster
Not true. The full ratchet is implicit in the deal. If the deal said $8m cap
and next investor invests at $4m then the deal gets done as $4m and doesn't
impact the next investor. It comes out of founders' equity. It is the
"equivalent" of a full ratchet but disappears after the deal is done.

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jpdoctor
> It comes out of founders' equity

And how is the next investor incentivized to let that occur?

Edit: I should be more explicit. The next investor is anti-incentivized to let
it occur, which is why it gets negotiated away by sensible investors.

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robryan
Sounds like the convertible note would discourage a down round and end up
making investors less as more companies fold knowing their equity is about to
get mostly taken by investors.

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simonbarker87
That's a genuine possibility, I guess it is an upside for the founders. They
can see they equity is going to disappear and can take the out rather and
accept the huge equity loss - although convertible loan is higher up the debt
chain so the VCs will still get a chunk back

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001sky
_So to me the real advantages of convertible debt are:

1\. They often don’t have control provisions. With equity often investors want
“blocking rights on a sale or future finaning” that they often don’t get in a
convertible debt deal. If this is the reason you’re doing it, then perhaps
talk to investors about whether they’d be willing to give up that right in a
Series Seed equity deal.

2\. They often don’t have board seats attached to them. Again, this should be
negotiable with a Series Seed._

\--Summary of the argument.

The rest of the article is useful, too. It provides good background and
context for his conclusions.

