Convertible loan notes are a loan made by an investor to the company which may be converted by the investor into shares in the company. They are often regarded as a flexible form of financing by both the company and the investor.
What are the advantages for the company?
Convertible loan notes should give the company a relatively cheaper interest rate. If the investor ‘converts’ the convertible loan notes into shares, the loan does not have to be repaid.
What are the advantages for the shareholders?
At the time of investment, existing shareholders do not have their holdings diluted since convertible loan notes are a loan. Existing shareholders are only diluted at a future date once the convertible loan notes are converted by the investor into shares in the company.
What are the advantages for the investor?
The investor regards convertible loan notes as safer investment than shares particularly in early stage investments. Convertible loan notes are initially debt, and accordingly upon any insolvency of the company, convertible loan notes are paid off before shares in the company.
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When do convertible loan notes become convertible into shares?
The investor can typically require conversion at any time of any part of the convertible loan notes into shares in the company at a price which is at a significant discount to the then share price. The share price is usually determined as the price at which a share is being sold, or the ‘fair price’ calculated by a valuer.
When do convertible loan notes become repayable?
The investor is able typically to require the company to immediately repay the loan after the third anniversary of funding, on sale of the company, and on default by the company of certain restrictions under the convertible loan agreement.
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