what are convertible notes

Convertible notes are a type of hybrid security that combines features of both debt and equity. They are essentially short-term debt instruments that can convert into equity upon a predetermined event, such as a future fundraising round or a liquidation event. This allows the original investment to be made more quickly with lower legal fees, while ultimately giving the investors the economic exposure of an equity investment. Convertible notes are commonly used in early-stage venture financing, particularly for startups that are not yet ready for a valuation. They provide a way for seed investors to invest in a startup without the need to immediately determine the companys value. This type of investment vehicle is often used by startup companies as a form of debt that converts to equity in a future investing round, allowing them to focus on growing their business before having to start paying back debt. Convertible notes are structured as a single agreement called the note purchasing agreement, covering all the financing terms, and are issued to individual investors with the date and amount of their investment. Ultimately, convertible notes are a way for investors to participate in the potential growth of a startup, with the opportunity for the debt to convert into equity if the company is successful.