- Indrek Kelder
A startupper? If you’re offered a convertible note, go for it! Here’s what you should know
If you are reading this, then you are probably a startup entrepreneur?! So here’s a quick abstract on why a convertible note-based investment is good for you.
Startups usually seek investments from investors rather than loans from banks. There are several reasons:
1. Lack of Collateral
2. Little evidence of a working business model, product-market-fit etc.
3. High Risk: Startups are considered high-risk investments since they are unproven and may not succeed. Banks are typically risk-averse and may hesitate to lend to startups that have not yet established a track record of success.
4. Long-Term Growth: Startups often require long-term growth capital, which is not typically available through bank loans. Investments from venture capital firms or angel investors can provide the long-term funding that startups need to grow and expand their businesses.
5. Strategic Support: Investors can provide more than just funding. They can provide strategic support, mentorship, and industry connections that can be valuable for startups in the early stages.
So, when you are going to ask for investment from an investor, you get money in exchange for shares. How many shares you give away for your money, depends on a company’s valuation. For example, 10% for 1 million means that the whole company is worth 10 million.
So far so good. You probably have heard that some company raised investment at, say 10 million valuation, and as you are sure that your company is better, then surely investors would be happy to put money into your company at a 20 million valuation? Not so fast.
You see, investors don’t invest just for the fun of it. They actually want to get their money back and then make some profit. And the only way to do that is if you start getting money from your customers. So company valuation is actually calculated from the existing and/or future revenues of the company. But when you are yet to earn your first euro, there is very little actual proof, only faith in the bright future. In this situation, coming to an agreement about valuation is less about calculations and more about difficult negotiations. But there is one way to avoid that – yes, it’s a convertible note.
A convertible note is a type of short-term debt that can convert into equity at a later date, usually when the company raises a subsequent round of funding or achieves a certain milestone. Hopefully, by that time, the company has reached meaningful revenue and there is more data to work with, so valuation can be set. Or sometimes startups raise two or three consecutive rounds with the convertible note too.
Convertible notes are popular with startup companies because they allow them to raise funds quickly without having to negotiate a valuation, which can be problematic in the early stages when the company's value is uncertain.
Also, a convertible note agreement is often simpler and quicker to negotiate than an equity investment agreement. This can be particularly appealing for startups that are just starting out and do not have the resources to devote to complex negotiations.
Source of photo: Napkin Finance
We in Beamline Accelerator use almost exclusively convertible notes, with rare exceptions.
The convertible note 60 000 € - 190 000 € investment & the new batch of Beamline Accelerator is waiting for you: check out our open call to Batch #4 here!
Beamline Accelerator is from the land of the unicorns, a topic-focused accelerator, where we offer a tailor-made approach to each startup, delivering services and networks to fuel organic growth.