The meaning of Convertible Note explained

A convertible note is a type of investment vehicle that is often used by startups to raise capital. It is a loan that can be converted into equity at a later date, usually when the company raises additional funding or goes public. Convertible notes have a maturity date, at which point they must be paid back to the investor. However, if the company is unable to pay back the loan, the investor has the option to convert the loan into equity in the company.

Convertible notes offer a number of benefits to startups and investors. For startups, they provide a way to raise capital without having to give up equity in the company immediately. This can be especially attractive if the startup is not yet ready to value its own equity or if it does not want to dilute the ownership stakes of existing shareholders. For investors, convertible notes provide an opportunity to invest in a company before it has a clear valuation, and the option to convert the loan into equity gives them the potential to earn a higher return on their investment if the company is successful.

There are several key terms that are typically associated with convertible notes, including the conversion discount, the conversion cap, and the interest rate. The conversion discount is the percentage by which the investor's conversion price is discounted compared to the price of the next round of funding. The conversion cap is the maximum price at which the convertible note can be converted into equity. The interest rate is the percentage of the loan amount that the company must pay back to the investor as interest.

It is important to note that convertible notes are a complex financial instrument and should be carefully considered before being used as a means of raising capital. It is advisable for both startups and investors to seek the advice of legal and financial professionals before entering into a convertible note agreement.