Convertible & Equity-Linked Offerings

A convertible or equity-linked security is an instrument that starts as one thing and can become another, most often a note or bond that converts into shares, or a warrant that gives the holder the right to buy stock later. It sits between a company's equity and its debt, carrying the downside protection of a credit instrument with upside exposure to the equity. Convertible notes, exchangeable bonds, warrants, and SAFEs are all variations on that hybrid theme, and each carries its own conversion, dilution, and accounting consequences.

A convertible lets a company defer the valuation question and the dilution that comes with it. The note converts later, often at a discount or capped price tied to a future financing, so the company raises capital now without fixing a price today. For early-stage issuers a convertible note or SAFE is faster and cheaper to document than a priced round; for later-stage and listed issuers an exchangeable bond can lower the coupon a company pays by handing investors equity upside. The trade-off is future dilution and more complex terms, which is why the conversion mechanics deserve careful drafting from the start.

The conversion trigger and price drive everything: the discount, the valuation cap, the maturity date, the interest rate, and what happens if the company is sold or never raises again. Anti-dilution provisions, most-favored-nation clauses, and the treatment of the note in a change of control all shape what the holder ultimately receives. We model how the terms interact across plausible outcomes before they are signed, because a convertible that looks simple on a term sheet can produce surprising results on the cap table years later.

The arithmetic depends on which instrument was signed. A post-money SAFE fixes the holder's percentage at the purchase amount divided by the post-money cap: $500,000 on a $5 million cap is ten percent of the company immediately before the priced round, three such SAFEs are thirty percent, and all of that dilution falls on the founders, the option pool and any earlier priced holders rather than on the new investors, who are then diluted pro rata with everyone else. A pre-money cap note works differently, because each additional note raised shrinks every earlier holder's percentage, so the number nobody can state until the round closes is the founders' own. Interest converts too, and a discount of twenty percent buys twenty-five percent more shares. The pro-forma we build runs the whole stack at the cap, at the discount and at a down round, and shows the resulting table to the existing investors before the term sheet is signed.

Yes, and the exemption chosen at the seed round has consequences at the exit. Most notes and SAFEs are sold under Rule 506(b) of Regulation D to accredited investors, meaning individuals with $200,000 of income in each of the last two years, $300,000 with a spouse, or $1 million of net worth excluding the primary residence, with Form D filed within 15 days of the first sale and state notices after it. The conversion shares are issued under the same exemption, and under Rule 144 they take the note's purchase date as their holding period when nothing new is paid for them. A listed issuer sells convertible notes under Rule 144A instead and reports the sale on Form 8-K under Item 3.02 within four business days if the shares underlying the notes reach one percent of the class. Any of these paths fails if a general solicitation reaches the wrong investor, which is why the pitch deck is reviewed before the note is.

Before the first instrument is signed, because the first one sets the pattern every later one will be measured against. A $25,000 SAFE taken off a template still fixes a valuation cap, and a most-favored-nation clause in it will pull in any better terms given to the next investor, so a cap set low to close a friends-and-family round becomes the dilution the Series A investors price two years later. The second moment is before the qualified financing itself, when the conversion math, the shadow preferred and the treatment of accrued interest have to be agreed with the new lead, who will read every note in the stack. An afternoon on the first draft costs less than a week of renegotiation at the round.