Tracks
by Marc Meyer
Yokum who took part in drafting the Series Seed Financing Documents I’ve written about here has another couple of excellent posts about these and related efforts at his Startup Company Lawyer blog, as well as a fascinating writeup of a new instrument which has piqued my interest as well, the convertible with a price cap.
To quote him:
Recently, I have seen a lot of seed stage financings being structured as convertible debt with a price cap, which is an alternative to the equity financing contemplated by the Series Seed documents. Certain angel investors refuse to do convertible debt deals, but will be okay if there is a price cap. In fact, I have seen convertible debt used to raise up to $1.0 million, but it seems like the sweet spot is around $500K. Convertible debt documents are generally much more simpler to draft and read than equity financing documents, so I typically recommend convertible debt for companies raising below around $750K.
As he explains this mechanism allows mitigates the misalignment in purpose which is intrinsic to an unpriced round. An entrepreneur takes an investors money and uses it to build as valuable as possible a property for the next round of financing, thereby diluting the ownership percentage for that investor. The “price cap” sets up an explicit minimum percentage that the investment will translate to, and so does a better job of protecting the investor than the traditional warrants or discounts.
Series Seed 2
3/17/10
Convertibles with a Price Cap