Fundr Facts: Startup Investing Instruments, Part 2
Fundr's Convertible Note
We created Fundr to simplify the process of finding, vetting, and funding high-performing startups for investors- and our standardized convertible note is an important part of that process. In our last blog post, we outlined several financial instruments that investors typically employ when funding startups. At Fundr, we believe the right tool for investors and early-stage startups alike is the convertible note, because the debt feature of the convertible note provides investors with more protection than non-debt based tools, like the SAFE note, while still allowing startups to receive funding without debating valuation. We standardize the term sheets not only to even the playing field and fairly represent both sides of the negotiation, but also because it allows us to automate the funding process- meaning, more startups get funded faster. Here’s how Fundr’s convertible note works:
Fundr’s convertible note is indeed a conventional convertible note. With Fundr, the principal amount of the convertible note is set by our algorithm for each startup company. After agreeing on the principal amount of funding the first provision set is the duration, or term of the loan. This is the amount of time between the issuance of the convertible note and its maturity date, which is 24 months for the Fundr convertible note.
During the term of the loan, interest accrues on the principal amount of the loan. Interest is an amount charged for the borrowed money and is usually represented as a percent of the principal amount. Accrued interest on convertible notes is typically calculated using the simple interest method: Principal x Interest Rate x Time. Fundr’s interest rate is 7% per year.
At maturity, the Fundr note provides investors with the option to be paid principal and interest in full or converts into equity upon the election of the majority of the shareholders. Convertible notes may also convert ahead of the maturity date when there is a qualified transaction. A qualified transaction for the Fundr note is an equity round of financing over $500,000. With the Fundr note, conversion by a qualified transaction occurs at the lesser of two pricing options: at a discounted 80% of the price per share in the following round (legal talk for a 20% discount) or by using a valuation cap, whichever one produces the lower price.
If there is no qualified transaction, the Fundr note can be paid off before the maturity date. This happens with a major influx of capital, normally when the company is acquired. In case of an early pay-off, Fundr note investors are offered a 2X liquidation preference, which equates to principal and interest owed plus 2X the principal. This must be paid out before other company owners receive funding from a liquidity event. The provisions above cover the fundamentals of Fundr’s convertible note and are well accepted within the industry.
In Part 3 of this series, we examine simple case studies reviewing convertible note interest calculation, pricing using a discount and a valuation cap, and a 2X liquidation preference payout.
At Fundr, we believe that the future of investing is in a refined focus on the tools employed to fund startups, combined with our proprietary algorithm that takes the guesswork out of startup viability. To learn more, or to take an angel investment workshop, please visit our website at www.fundr.ai.