Illinois Convertible Note Financing

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US-ENTREP-0042-1
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Description

"A senior convertible note is a debt security that contains an option in which thenotewill be converted into a predefined amount of the issuer's shares. A senior convertible note has priority over all otherdebt securitiesissued by the same organization.
Just like any other debt investment, senior convertible notes offer investors the ability to earn interest. Rather than cash payments, however, the interest payments typically will accrue and the amount the company owes the investor will increase over time.
Bothstartup companiesand well-established companies may opt to issue senior convertible notes to raise funds from investors. This type of company financing has the advantage of being fairly simple to execute. This means the process of issuing the notes is relatively inexpensive for companies and it allows them quicker access to investor funding."

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FAQ

Simply multiply the convertible note's interest rate by the number of years that have passed since the convertible note was issued. In this case, we would multiply 6% by 5 to get an accrued interest of 30%.

Convertible debt is a debt hybrid product with an embedded option that allows the holder to convert the debt into equity in the future. The ratio is calculated by dividing the convertible security's par value by the conversion price of equity.

Conversion to Equity - Accounting for Convertible Debt When the note converts, usually during a new funding round, the liability moves to the equity section of the balance sheet. At this stage, the convertible note is settled, and new equity instruments, typically preferred shares, are issued to the investor.

The conversion price of the convertible security is the price of the bond divided by the conversion ratio. If the bonds par value is $1000, the conversion price is calculated by dividing $1000 by 5, or $200.

In a convertible note, the loan will convert into equity when you raise what's known as a qualified financing. A qualified financing is equity financing (not a SAFE or Convertible Note round) above a certain threshold, usually $1 million.

A note holder invests $200k and in return will receive 20% off future share prices after the startup gets its Series A funding. Let's say the startup raises $10m in funding. If the preferred stock price is $1.00 and the investor receives a 20% discount, then the note will convert at $0.80 per share.

Even in the case of stated interest that is paid periodically, a holder of a convertible note may be taxed on interest that has accrued since the most recent interest payment date but has not yet been paid at the time of conversion.

Convertible loan notes can lead to dilution of existing shareholders' equity when the notes convert. This can be a disadvantage for start-ups that want to maintain control over their company.

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Illinois Convertible Note Financing