Convertible loan notes explained: Complete startup funding guide

Frequently Asked Questions

What exactly is a convertible loan note?

A convertible loan note is a short-term debt instrument that automatically converts into equity shares when specific trigger events occur, such as your next significant funding round. Think of it as a loan that transforms into ownership rather than requiring cash repayment, combining features of both debt and equity financing.

How much faster can I close a convertible note compared to an equity round?

Convertible notes typically close in 1-2 weeks compared to 4-8 weeks for equity deals. Legal fees are also significantly lower at €1,000-€3,000 versus €5,000-€15,000 for equity rounds, with fewer terms to negotiate overall.

What's the difference between a valuation cap and a discount rate?

A valuation cap sets the maximum company valuation used for conversion calculations (e.g., if your Series A values the company at €10 million but your note has a €4 million cap, note holders convert at €4 million). A discount rate gives note holders a percentage reduction on the share price paid by new investors (e.g., 20% discount means they pay €0.80 per share when Series A investors pay €1.00). Investors always receive whichever mechanism is more favorable to them.

Do I have to pay monthly interest on a convertible note like a regular loan?

No, convertible note interest doesn't require monthly payments. Instead, interest accrues and adds to the principal amount that eventually converts to equity—so if you raise €100,000 at 5% interest for 18 months, the converting amount becomes approximately €107,500 worth of shares.

What happens if my convertible note reaches its maturity date before I raise a qualifying round?

If maturity arrives without a qualifying financing, the most common outcome is extension by mutual agreement since forcing repayment could bankrupt the company. Other possibilities include automatic conversion at a pre-determined valuation or repayment of principal plus interest (rare), though in practice most notes convert well before maturity.

How much do I need to raise to trigger conversion of my convertible notes?

The most common trigger is raising a specified minimum amount in a priced equity round, typically ranging from €250,000 to €1 million depending on company stage and investor sophistication. Enterprise Ireland's PSSF program uses a €250,000 qualifying round threshold, which has become somewhat standard in Ireland.

When should I use a convertible note instead of doing a priced equity round?

Consider convertible notes when you're raising from friends-and-family, your company is too early to support a meaningful valuation discussion, you need quick capital to hit a milestone, or you're raising smaller amounts under €250,000 where legal efficiency matters. Skip convertible notes and do a priced equity round when you have revenue to support a meaningful valuation, lead investors demand equity, the round size exceeds €500,000, or you need to establish board governance.

What happens to my convertible notes if my company gets acquired before a qualified financing round?

If your startup gets acquired before a qualified financing occurs, notes typically convert based on the acquisition price less any liquidation preferences divided by fully-diluted shares outstanding. Some notes include "2x return" provisions in acquisition scenarios, guaranteeing note holders receive at least double their investment to protect early investors if you sell at a modest valuation.