I'm learning as much as possible about the funding mechanism of convertible notes. I understand that they are a loan until they convert to equity in the future once a more reasonable valuation is established. I realize they aren't given out to just everyone, and that companies who earn a convertible note are ones the investor believes will succeed based on team, product, etc. But some will still fail before their first round of funding. What happens to the convertible note?

Convertible notes are by no means "earned." They are often easier to raise for early-stage companies who don't want to or can't raise an equity round. Equity rounds almost always require a simultaneous close of either the whole round or a defined "first close" representing a significant share of the raised amount. Where there are many participants in the round comprised mostly of small seed funds and/or angel investors, shepherding everyone to a closing date can be very difficult.

If a company raises money on a note and the company fails, the investors are creditors, getting money back prior to any shareholder and any creditor that doesn't have security or statutory preference. In almost every case, convertible note holders in these situations would be lucky to get pennies back on the dollar. It would be highly unusual of / unheard of for a convertible note to come with personal guarantees.

Happy to talk to you about the particulars of your situation and explain more to you based on what you're wanting to know.

Answered 6 years ago

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