Cap table & equity
Convertible note
Also: convertible debt, convertible promissory note. Debt that converts to equity at the next priced round.
Definition
A convertible note is short-term debt that converts to equity at the next priced equity round. It carries interest and a maturity date, plus a valuation cap and discount rate. Economically similar to a SAFE, but formally debt.Convertible notes vs. SAFEs
| Legal form | Debt (vs. SAFE: contractual right to future equity, not debt) |
|---|---|
| Interest | Yes, typically 2–8% (vs. SAFE: none) |
| Maturity date | Yes, typically 18–24 months (vs. SAFE: none) |
| Conversion mechanics | Valuation cap, discount, or both (similar to SAFE) |
The mechanics of conversion
A convertible note typically converts on a 'qualified financing,' defined as a priced equity round at or above a stated dollar threshold. At conversion:
- The principal plus accrued interest is calculated as of the conversion date.
- The note converts at the more favorable of the valuation cap or the discount rate. At a cap of $5M and a discount of 20%: if the priced round is at $10M pre-money, the cap is more favorable; if at $4M, the discount is more favorable.
- The conversion produces a number of shares of the same class issued in the priced round. In many cases, a separate sub-series ('Series A-1') is created to reflect the lower effective price for the note holders.
The trade-offs vs. SAFEs
For founders, the trade-offs between convertible notes and SAFEs are:
- Interest accrual. Notes accrue interest, which increases the converted share count. SAFEs do not.
- Maturity pressure. Notes have a hard maturity date that can become a negotiating lever for the holder if the corporation hasn't raised a priced round in time. SAFEs do not.
- Legal complexity. Notes are formally debt and trigger more legal and accounting work (debt covenants, interest accrual, balance sheet impact). SAFEs are simpler and increasingly preferred in early-stage US deals.
- International use. Notes are well-understood globally; SAFEs are still less common outside the US, Canada, and a handful of other jurisdictions.
What to track per note
Each outstanding convertible note on the cap table needs:
- Principal amount, interest rate, and issue date
- Maturity date and current accrued interest
- Valuation cap and discount rate (or other conversion mechanics)
- Definition of 'qualified financing' for conversion purposes
- Pro-rata rights, if granted
- Subordination terms relative to other debt
In Octelligence
Convertible notes as first-class objects, with conversion modelling built in.
Octelligence treats convertible notes as first-class instruments on the cap table. Interest accrues automatically, conversion at a priced round is modelled by scenario, and batch conversion executes all outstanding notes in a single operation.
See Cap Tables & FinancingNotes, modelled correctly
Convert notes at the priced round without spreadsheet errors.
Interest accrual, cap vs. discount, batch conversion, all on the cap table.