Paul Graham: Convertible notes have won... High Resolution Fundraising. September 2010 The reason startups have been using more convertible notes in angel rounds is that they make deals close faster.
By making it easier for startups to give different prices to different investors, they help them break the sort of deadlock that happens when investors all wait to see who else is going to invest. Has convertible debt won? And if it has, is that a good thing? Paul Graham, founder of Y-Combinator, sent out a tweet on Friday saying: “Convertible notes have won.
Every investment so far in this YC batch (and there have been a lot) has been done on a convertible note.” It’s an interesting data point on Y-Combinator companies, but is this truly a macro trend? Have convertible notes really won? And if so is that good for start-ups? Good for investors? Is Convertible Debt Preferable to Equity? Seth Levine of Foundry Group addresses this important topic this morning on his blog with a post, “Has Convertible Debt Won?”
Some Thoughts On Convertible Debt. Seth Levine has a long and thoughtful post on convertible debt vs equity.
If you are an entrepreneur or active in the angel/seed sector, you should read it. He wrote it in response to Paul Graham's tweet that said: Convertible notes have won. Every investment so far in this YC batch (and there have been a lot) has been done on a convertible note. I am sure that Paul was talking about angel/seed rounds and was not suggesting that convertible debt has "won" as the preferred financing structure in the venture capital business.
I have been doing venture capital for 25 years now and have also done many angel investments personally along with my wife. But I don't like convertible debt for a host of reasons. It used to be that convertible debt was a lot easier and cheaper to do legally. It still is true that negotiating valuation can be very tricky in an angel round and it may be better to defer that negotiation until the next round. And that is what I think Paul is actually seeing. Converts versus equity deals cdixon.org – chris dixon's blog. There has been a debate going on the past few days over whether seed deals should be funded using equity or convertible notes (converts).
Paul Graham kicked it off by noting that all the financings in the recent YC batch were converts. Prominent investors including Mark Suster and Seth Levine weighed in (I highly recommend reading their posts). While this debate might sound technical, at its core it is really about a difference in seed investing philosophy. I am a proponent of convertibles, but only with a cap (I’ve written about the problems of convertibles without caps before and never invest in them).
I believe that pretty much every other seed investor who advocates converts also assumes they have a cap. There are two kind of rights that investors get when they put money in company. To the extent that I know anything about seed investing, I learned it from Ron Conway. You can hire lawyers to try to cover every situation where founders or follow on investors try to screw you.
False dichotomies in convertible note vs equity seed rounds. Using convertible notes vs priced equity in seed rounds is a hot topic right now.
For background, see recent posts by Seth Levine, Chris Dixon, Fred Wilson, Paul Graham, Ben Yoskovitz, Bill Burnham, Mark Suster, William Carleton and Patrick McKenzie as well as older posts by Venture Hacks, Yokum Taku, Brad Feld, and Josh Kopelman. If I missed any good ones, please let me know and I'll add them to this list. In an attempt to usefully add to this discussion (instead of repeating things from the above), I want to highlight what I think are false dichotomies between convertible notes and priced equity rounds. FWIW, I've done four deals so far (including both types), and between each of those reviewed a ton more. Control vs no control You can do priced rounds with no control (just economic rights) and converts with some control (e.g. converts into preferred shares w/ control provisions on maturity, stipulations about early acquisitions and next financings, etc.). Raising Financing: Convertible Debt vs. Equity. Seth Levine from Foundry Group touched off a debate on which is the best way to raise startup financing: convertible debt or equity.
Paul Graham (intentionally or not) actually started things with a tweet, “Convertible notes have won. Every investment so far in this YC batch (and there have been a lot) has been done on a convertible note.” Fred Wilson joined the conversation, as did Mark Suster. All prominent and successful investors. And generally, they’re not fans of convertible debt.