Convertible Note
Also known as: Convertible Loan, Convertible Debt, Convertible Bond, Dönüştürülebilir Borç
Author Ali Gül
In short
An interest-bearing financing instrument with a maturity date, under which the investor lends money to the company and the debt converts into shares instead of being repaid when a specified event occurs.
A convertible note is a financing instrument under which the investor lends money to the company and the debt converts into shares instead of being repaid when a specified event occurs. Especially in seed and bridge rounds, it allows investment before agreeing on the company’s valuation.
Key Elements
- Principal and interest: Interest is usually not paid in cash but added to the principal on conversion.
- Maturity: The date on which the debt falls due if conversion does not occur.
- Conversion trigger: Usually a qualified funding round above a certain amount.
- Conversion price: Determined by the valuation cap and the conversion discount.
- Sale or exit: If the company is sold before conversion, the investor is offered a multiple of the principal or conversion into shares.
Difference from a SAFE
A SAFE is not debt; it has no interest or maturity. A convertible note is a debt relationship and appears as a liability on the company’s balance sheet. Because the investor can demand repayment at maturity, it puts more pressure on the founders.
Structuring under Turkish Law
In practice, a convertible note is a contractual structure built on the loan for consumption under the Turkish Code of Obligations (Art. 386 et seq.). Conversion takes place by adding the investor’s receivable to share capital in a capital increase. For this, the existence and value of the receivable are confirmed by an accountant’s report. The existing shareholders’ undertakings to vote for the capital increase at conversion and not to exercise their pre-emptive rights should also be included in the agreement.
Convertible bonds regulated by the Turkish Commercial Code (TCC Art. 504 et seq.) are a separate instrument specific to joint stock companies and subject to capital markets legislation; they are rarely used in venture investments. The tax consequences of interest payments and borrowing from shareholders should also be assessed separately.
Frequently Asked Questions
What happens if conversion has not occurred by maturity?
It depends on the agreement. The investor may demand repayment of the loan with interest, convert the receivable into shares at a pre-agreed valuation, or the maturity may be extended. Because repayment is often not realistic for early-stage companies, these options should be clearly regulated in advance.
Can a limited liability company use a convertible note?
A contractual convertible note can also be set up in a limited liability company; conversion is effected by adding the receivable to share capital. Convertible bonds under the Turkish Commercial Code, however, are a capital markets instrument available only to joint stock companies.
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