Introduction
A convertible loan agreement (CLA) is formally a loan, but as a rule it is not meant to be repaid; it is meant to be converted into equity later. Its purpose is not borrowing but, typically, deferring the valuation question. Convertible loans are used in two situations: as bridge financing when a round is delayed, or as an injection of liquidity without a valuation (e.g. to accelerate growth). Depending on the situation, this results in a completely different negotiating position and different priorities for the founders.
Key Takeaways
- Unlike a classic round, a convertible loan defers the valuation question to the future.
- If a convertible loan replaces a normal financing round, the conversion price matters most. If it bridges a round, speed matters most.
- Spend your negotiating energy wisely: anyone who fights hard over the interest rate and lets the cap pass usually negotiates in the wrong place.
- Convertible loan financings also take time: with three months of runway, necessity dictates the terms, not the argument.
- The contract must fix the conversion price for every trigger event (especially at maturity). Form, subordination and balance sheet effects are typical stumbling blocks.
Building Blocks and Price of Convertible Loans
If a convertible loan is used instead of a round, capital flows before a valuation has been fixed – either because it cannot yet be sensibly negotiated or because it is deliberately avoided. Four elements matter in a convertible loan (figures depend on market environment and individual situation of the start-up):
- Loan terms: typically 12–24 months’ term, 0–8% interest p.a.
- Conversion mechanics at the trigger event: qualified round, exit or maturity
- Price: discount of 15–25% and/or cap
- Downside protection: subordination, information rights, repayment
Where Negotiating Pays Off for Founders – and Where It Doesn’t
Typically cheap give-aways for founders are the interest rate and amount, the most favoured nation clause (MFN) and information rights at market-standard scope – concessions here buy goodwill. Expensive for founders are the level of the cap, pre- or post-money basis, repayment mechanics and veto rights. Early-stage founders often negotiate hard on the interest rate because it is tangible, and let the cap pass – usually the reverse would be right. Three points are worth fighting for:
- Cap level and stacking – several convertible loans with different caps and a common trigger are the most common reason for cap table chaos before a Series A.
- Pre- or post-money – often irrelevant to investors, but several percentage points for founders: with post-money, the founders bear the dilution alone.
- Repayment without conversion – an extension option instead of a hard maturity costs investors little, but is existential for the company, because the convertible loan remains a loan.
The most important commercial point on price: the discount rewards early risk in relative terms, the cap in absolute terms. A cap can become very expensive for founders very quickly. An example shows what the cap costs: a convertible loan of €500,000 is converted after 18 months, including 5% interest p.a., at €537,500. In a round with an €8m pre-money valuation and 25,000 shares, that is 1,679 shares without a cap and without a discount (€320 per share), and 2,239 shares (€240 per share) with a cap of €6m, still without a discount – roughly two percentage points more for the investor.
When the Convertible Loan Is Used as a Bridge
Same document, but a different starting position: bargaining power lies with the lender, who knows exactly when the money is needed; a cap would effectively be the new valuation; and time is the scarcest factor – and the only one the company still controls. One particular feature: the existing investor usually sits on both sides of the table and negotiates a possible cap against their own future dilution. There is no external price, so a quiet down round can occur without anyone calling it that. A low cap can also weigh on the price of the next round – so beware when it comes to the cap!
Legal Pitfalls with Convertible Loans
Six topics determine conversion certainty, investor acceptance and founder protection:
- Conversion triggers – the contract must fix the price for every trigger: on a later financing round or exit, the round / sale price applies (less discount, subject to the cap, …). At maturity without a round there is no market price, and the contract must provide a mechanism (convert, extend, repay) as well as a valuation / price, e.g. the last post-money valuation.
- Conversion right vs. conversion obligation – new investors typically reject convertible loans under which fresh money could flow out to old lenders; mandatory conversion on a qualified financing round is therefore market standard.
- Warranties & information rights – lenders are not yet shareholders but need a shareholder-like information position (by analogy with Section 51a GmbHG), albeit without voting rights before conversion. Likewise, warranties should be kept to a minimum and liability limited to the loan amount.
- Form & notarisation – a formally defective convertible loan can be void: the bridge then becomes an immediately due debt, and the subordination falls away as well. Although many convertible loans in Germany are concluded without a notary, caution is advised here. In addition, accession to a shareholders’ agreement with a drag-along clause requires notarial certification (Section 15(3)/(4) GmbHG). Remedy: notarise for certainty, especially for non-shareholders.
- Subordination, insolvency & balance sheet – until conversion, the convertible loan is debt. A qualified subordination (Section 39(2) InsO) protects against over-indebtedness, but not against balance sheet effects such as a weaker equity ratio, which can jeopardise eligibility for public funding. An unsubordinated or void convertible loan can push the company into insolvency overnight when it falls due. Remedy: up-to-date, precise subordination clauses that survive termination, and check funding grant conditions before signing.
- CLA hygiene – avoiding complexity: several convertible loans, each with its own cap and discount, plus MFN clauses result together in cap table chaos; the matter should be handled in a very structured and strategic way, e.g. via a central register and a continuously maintained cap table.
Panel
Start-up Lounge Vol. 7 · Session held on 7 October 2026
boost4S: Dr. Ulrich Eisele & Terje Noevig · GLNS: Georg Lindner & Dr. Konrad Hildebrand
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