How does it work?
A convertible loan is often entered into for a term between 2 and 5 years. The main goal of a convertible loan is a potential conversion of the outstanding amount of the loan (including any accrued interest) into shares or depositary receipts of a company. The borrower and the lender often agree upon a grace period and a certain discount compared to the price paid per share in case of an investment.
A grace period
In case a grace period is agreed, it means that the company does not have to pay back the loan in the first years. This is ideal for start-ups as they may have to deal with tight liquidity margins in the beginning, which makes repayment unfeasible or unpleasant.
In the event an investor comes forward during the term of the convertible loan, an issuance of shares will usually take place, as a result of which the convertible loan amount shall convert into shares or depositary receipts. By drafting a convertible loan agreement, certain terms and conditions can be made in advance, such as the percentage of the discount, the interest percentage, the term and when an investment 'qualifies' and triggers a conversion.
No investor?
Once the term of the convertible loan expires - and there has not been a (qualified) investment - there are multiple ways forward, like agreeing to convert the convertible amount despite the lack of an investor, into shares or depositary receipts using a fair market value. Usually the lender is given the option to extend the term of the convertible loan or to request repaymant of the loan. In such case the convertible loan - as well as accrued interest - must be repaid within a certain term and the convertible loan basically functions as an 'ordinary' loan.
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Are you wondering whether a convertible loan suits your situation or would you like support in drawing up a convertible loan agreement? Our legal experts will be happy to assist you. Feel free to contact us for more information.