Sophos Law Guides

Reference Material to Support Your Success.

What is a Convertible Note?

A convertible promissory note is a debt instrument that contains provisions where the debt may convert into equity. The following key terms of note are typically found in a convertible promissory note transaction:

As an example, a company could receive $25,000.00 (Principal) with an 8% interest rate compounded annually (Interest Rate) via a convertible promissory note. As a part of the deal, the company may agree to repay the debt after 18 months (Maturity Date) unless there is a later financing round of at least $1,500,000 (Next Equity Financing).

If the company closes a next equity financing financing before the maturity date, then the debt would converts into shares of stock sold at the next equity financing. The price at which the debt converts will be the lesser of (i) 80% of the issue price of the stock sold in the next equity financing (Discount), or (ii) a price per share equal to $4,500,000 (Valuation Cap) divided by the total number of shares outstanding immediately prior to the

The reason a discount and/or a valuation cap is included as part of the transaction is the company can incentives early stage investors to invest by providing a benefit for taking on early stage risk.

Have other questions? Check out our entire guides list or drop us a line.

Psst. Have you checked out Building Startups?

Our Building Startups publication brings you insights to help you start, finance, lead, and manage your startup like a seasoned entrepreneur.

Ready to get started?

Get in touch to schedule a time for us to get to know each other.