An interesting article from Nic Brisbourne today on convertible debt. It leads to a few thoughts and comments:

An emerging business may raise convertible debt either:

1. As an initial investment, when putting a valuation number on the table is a tough ask

2. As an investment by an existing investor when the previous round was raised a while back and they are looking at new money to put a valuation number on the table

3. As an investment by an existing investor who doesn't  want their holding percentage to exceed a certain level for regulatory requirements, government incentives etc.

The conversion price in the first case may be a discount to the price of subsequent investments. The price in the second and third case could be the same as previous rounds or subsequent rounds.

Of course, convertible debt does have an interest component with it as well. In some cases, the interest may get adjusted as shares as well rather than a cash output.

It's also possible to have an interest component rather than a discount to the share price compared to the earlier or previous rounds.

 So, as an entrepreneur, when should one opt for convertible debt?

1. When there is sufficient confidence in the business opportunity but that belief is not reflected by the investor e.g. the term sheet on the table is talking about £1 million for a 50% holding in the firm, convertible debt may be the way to go.

2. When the entrepreneur is looking at a simplified process perhaps without advisors. The costs attached to raising convertible debt are generally lower and less complex than raising equity. There has been a lot of discussion around standardizing term sheets to make the process simpler for entrepreneurs. But I think there are too many stakeholders in this process to let such an initiative go through.