Start-up companies face a number of hurdles when seeking to raise capital. Among them is the challenge of determining the price at which to sell shares to investors, as with a scant operating history and, typically, no profits, it is often difficult to assign a valuation to the company upon which to base a share purchase price. The Convertible Note addresses this valuation problem. Per the terms of a Convertible Note a lender advances an agreed to sum of money (the “Loan”) to an issuer (say $1,000,000). Per the Convertible Note terms an agreed to amount of interest will be paid or accrue on the $1,000,000 Loan, and at such time as the issuer is later able to (i) establish a value for itself, and (ii) sell equity based on that value, the Loan (and any interest due on the Loan) will convert into the equity then being sold (and sometimes the conversion may be based on a discounted valuation to compensate the lender making what was a risky loan). If the Convertible Loan does not convert by an agreed to date, the Loan, and interest thereon, become due and payable.
If you wish to learn more about Convertible Loans please contact Stephen Goldstein at Sgoldstein@sgoldlaw.com , or at (212) 586-5555.