Category Archives: funding

Crowdfunding for Startups – Using Convertible Z-coupon Convertible Notes

Abhishek Singh graciously submitted a guest blog to answer a question I had about ideal crowdfunding scenarios.  Please enjoy, study, and inquire via Twitter @gl_citizen and I would appreciate being copied @charlesjo .


Crowdfunding for Startups – Using Convertible Z-coupon Convertible Notes


It isn’t necessary to give away equity in a start-up when you’re raising your seed round. Often startups can raise a round of $1m+ off zero coupon convertible notes. Effectively, debt instruments like bonds, except issued by a start up company with no revenue.


In the case of Fortune 500 companies that issue bonds, those bonds are rated by S&P or Moody’s, based on the ability of the company to fund the interest rate or ‘coupon’ as its called, from its existing and forecast cash flows. So, for example, LVS is the ticker for Las Vegas Sands, and gambling tends to be a recession/downturn proof business. You can expect bonds issued by LVS to be rated relatively well due to their strong expected cash flow.


In a startup, when buying a zero coupon convertible, investors don’t buy the ability of a company to repay the note, they buy the right to convert their note to equity at a discount in the startup once its hit certain milestones (e.g. functioning site/app built). In other words, you’re getting a discount on the price of buying in to the equity upside in exchange for being one of first to buy in to the vision of the founders


For example, what does it mean if an angel investor invests $100k into a startup in exchange for a zero coupon convertible, with:

  • a 3 year term;
  • a revenue or Series A or buyout trigger; and
  • conversion at 20% discount to pre-money valuation


For our example, lets assume a Series A round values a company at $20m and value per share is $1 (there will be a new shares issued to get total issued to 20m and complete the round).


In the case of a Series A round, the angel investor has the right to convert their $100k note in to shares at a 20% discount to pre-money valuation i.e. $0.80 per share. In other words, the no of shares they get would be $100k/0.80=125,000 shares, instead of $100k/1=100,000 shares which the Series A investor gets paying $1 per share.


It would be the same process if the startup went revenue positive or hit a revenue milestone (depending on how the issuing contract is worded) and for a buyout.


In case of a Series A or buyout, the angel investor has the option of ‘selling in to the round’, i.e. converting and selling their shares to the series A investor or buyer (in buyout), getting a 20% return on their investment. They can of course choose to hold their newly converted common equity, and come along for the startup ride, in the hope that the upside will get bigger and they can sell in to subsequent rounds of financing.


If the startup does unfortunately close without raising a Series A or getting bought after the 3-year term of the note, the company would be on the hook for returning the principle. You can choose to make it a straight obligation to repay principle or add a low coupon.


In theory, this technique could be used for crowdfunding pursuant to the JOBS Act. Cooley LLP has a great summary here, but the simple is:

  • you can only crowdfund up to $1m in a year;
  • investors with a net worth (essentially assets minus liabilities) of less than $100k can only invest upto 10% of their annual income or net worth; and
  • you do have some heavy regulatory requirements to follow if you crowdfund from sub-$100k networth investors.


Some practical points:

  • With tightly worded documents, you can raise multiple rounds of seed funding using this technique, worth considering if you need an additional bridge between seed and Series A
  • Given regulatory burdens and annual limits, practical to consider limiting number of sub-$100k net worth investors. Though that’s locking out many of the folks who want to access small, high growth companies. This is an obvious point lawmakers should revisit, but for now it is what it is.
  • Be mindful that you’ll have to increase the number of shares in Series A to issue to the note holders who convert, and be transparent about that dilution with any potential Series A investors
  • You can give each zero coupon note holder a right to buy the others out. This is useful when your convert trigger is a revenue milestone, since it gives investors a possible exit post conversion in the absence of a Series A or buyout.


For the obvious reasons – the information above isn’t intended to & does not constitute legal advice. You should get customized advice for your specific situation. The views expressed are my own. That said, happy to take general questions and help where I can.



Abhishek Singh (@gl_citizen) is an entrepreneur and lawyer. He presently divides his time between managing the legal function for Southeast Asia for a US Fortune 50 company, and working with start-ups in Asia. Abhishek was previously a technology media and telecoms (TMT) lawyer, having advised a number of blue chips and start-ups in the TMT space in Asia on matters ranging from market entry to attempting, and defending against, hostile takeovers. Abhishek has also been an advisor to the Government of Afghanistan on TMT policy, and has authored chapters on present and suggested future directions for TMT policy in Asia in the UN supported publication Digital Review of Asia-Pacific. Abhishek graduated from the University of Sydney, Australia, with degrees in Economics/Econometrics and Law. He presently lives in Singapore.