Here’s my personal experience using convertible notes/bridge loans to raise money. I’ve done it twice for over $1 million: I enjoyed your posting — here’s my personal experience raising over $1 Million through convertible notes/bridge loans:

http://www.purchase.com/blog/fundraising/how-to-raise-money-using-a-bridge-loan-or-convertible-note

Many people favor a convert for a quick inexpensive seed that delays the valuation question, but I have done that in the past and I would be very reluctant to go this route again for a variety of reasons:

1) No one knows what they own. If it ends up being longer than anyone expects until you close your Series A, the employees are gonna get mighty itchy. At least with a set valuation you can use options to motivate folks.

2) Draw a line in the sand for goodness sakes! Who is being wimpy – the investors (cmon – it is a tiny investment, just suck it up and recognize that you want management motivated) or the entrepreneur (don’t be chicken – put it out there – value your idea because no one else will if you don’t). Face it: The fact is investors in a Seed round are gambling and everyone knows it. This is not debt, this is equity. Reasonable people can disagree about the value of anything, you might as well establish early on who is unrealistic – better to find out now if someone is a stingy freak.

3) There are plenty of terms in the convert that establish valuation if certain financings don’t happen and what ifs are in there anyway, plus interest accruing – saying it doesn’t introduce complexity is not entirely correct.

4) You may actually find that employees and their friends will invest in your Seed – these people may not have invested in private companies before. If you price it (fairly or generously even), these people will learn about the challenges of equity valuation by being on both sides of the table and will be still more JUICED to see the equity zoom. The notion that every round is intrinsically adversarial is not required – why not give insiders a chance to buy or sell in every round?!

First, using an LLC as a parent company cuts off almost all traditional venture capital funding due to the flow through nature of the entity and unrelated business taxable income issues.

Second, investors investing in a local subsidiary will want some sort of exit. Therefore, the interest in the local subsidiary will need to be eventually converted in the parent entity, or the local subsidiary will need to have an independent exit or otherwise be an attractive investment on a stand alone basis. That being said, while I have seen structures that allow investments in a sub to be converted into parent interests (Canadian exchangeable share structures as a result of US parent companies buying Canadian companies in tax-deferred deals are very common), trying to create a custom document for an LLC seems unnecessarily complicated (means expensive legal fees to do it correctly).

Typical disclaimers apply to this comment.

For our delaware LLC, I may have US and non-US angels (who may not want to put money in a US entity).

Is it too complex to put together 2 separate convertible notes, one in the US and one for the local country?

We recently wrote an article on making your debt attractive to investors.

Regarding honoring existing debt agreements: I don’t see a difference between honoring an existing debt agreement or honoring an existing equity agreement. You can renegotiate either one. The burden is on the entrepreneur to honor his past agreements.

In response to dhouston’s question, I agree with you, obviously there are pros and cons for going each route but there are ways to make each work and make the best of each scenario.

If you raise money from several angels, it will tend to be easier since you don’t need a big check from any of them, the problem can be seen later on a subsequent round if you don’t take the necessary precautions. The problem of raising money from many different people is that you may need to track them down later on when documents need to be signed for a later round and as you can imagine this can become a HUGE headache. You can get around having to track down people for signatures if you require power of attorney when their investment is made. The problem with that is that some investors might hesitate on it and push back so you might need to come up with some creative thinking on how to get them to agree or simply make a small compromise and figure it out later.

If you raise money from a single angel, everything is easier from the negotiation side of it since you are only dealing with one person and it’s usually not that hard to track since they are most likely somewhat committed to your venture. The problem in this case is that it’s not that easy to raise all the money from one person and it can raise some flags in the event that they don’t want to participate in a later round for whatever reason.

In my opinion you should set a minimum say $25,000 if you are trying to raise $500,000 and try not to accept any investments for anything less than that (the minimum could change depending on the amount being raised but you get the idea). This will save you a lot of time in the future and allow you to concentrate in your business instead of dealing with inexperienced investors that want to know when their $100 will make $1,000,000.

Hope this helps
Abe

“great article and discussion. lots of yc companies have gone this way — we will probably as well. anyone have experience raising hundreds of k (in convertible debt) from multiple investors, or is it preferred to get that amount from only one or two?”

My response:

There are pros and cons of each approach but in general I don’t think the distinction is important.

Take whichever route is faster — and you’ll only be able to determine that once you’re on the road. I think the pros and cons of either approach are probably a wash.

On one hand, it is more work to close and manage more investors who are each putting in small amounts. But it is also tougher for multiple investors to send a single coherent signal that influences your next round of financing negatively.

On the other hand, it is harder to get big checks from a few investors. But once they are sold, getting a bigger check may be better because they will be more likely to help since they are more invested.