What does your convertible note turn into?

The valuation cap

The highest valuation at which the note will convert, whatever the round is priced at. It is the term that matters most, and the only one that can produce a very large discount. If you raise at ₹60 crore on a ₹20 crore cap, the note converts as though the company were worth ₹20 crore.

The discount

A percentage off the round price, typically to reward the earlier risk. It scales with the round rather than being fixed by it, so it produces a predictable result and rarely a shocking one.

Where a note has both, it converts at whichever gives the note holder the better price, which is the lower valuation of the two. That is standard and not a trap, but it does mean the two terms are not additive: in a strong round the cap decides everything and the discount is irrelevant.

Interest is the third input and the one founders forget. Indian compulsorily convertible debentures commonly carry a coupon, and it compounds the principal before conversion. A ₹2 crore note at 8% for eighteen months converts ₹2.24 crore, not ₹2 crore.

Illustrative figures. A ₹2 crore note with a ₹20 crore cap, a 20% discount and 8% interest, converting eighteen months later into a round priced at ₹60 crore pre-money with ₹15 crore of new money. Founders hold 80% before the round.

The discount line is worth pausing on. A 20% discount was negotiated and it never applied, because the cap was so much lower than the round that it won outright. Founders who spent the negotiation arguing about the discount were arguing about the wrong term.

And the note holder's 3.36x is not a criticism. They put money into a company with no price, eighteen months before anyone else would, and the cap is what they were paid for doing it. The point of running the numbers is to know the size of that payment while it is still a negotiation.

This is the part that surprises people, and it is the reason the last row of the calculator exists.

The note holder converts cheaply. The new investor pays the full round price. Those two facts together mean the extra shares the note holder receives are not funded by the incoming investor: they dilute everyone who was already on the cap table, which is mostly the founders.

In the example, the cap cost founders 3.41 points of ownership against a plain conversion, and cost the new investor nothing at all. The new investor knew the note was there, priced the round accordingly, and is indifferent to how the pre-money is divided between you and the note holder.

Some documents convert notes on a post-money basis instead, which shifts part of that dilution onto the incoming investor. It is less common in Indian rounds and it materially changes the answer, so it is worth establishing which method your papers use before relying on any calculation, this one included.

The arithmetic above applies to any convertible instrument. What differs in India is the legal wrapper, and the choice is usually driven by company law and tax rather than by economics.

• ·Compulsorily convertible debentures, or CCDs, are the common early-stage convertible in India. They are debt until they convert, which is why they usually carry interest.
• ·Compulsorily convertible preference shares, or CCPS, are the standard instrument for priced rounds, and they are where liquidation preference and anti-dilution terms live.
• ·A SAFE is an American instrument. It carries no interest and no maturity, and it does not map cleanly onto Indian company law, so Indian rounds generally use a CCD or CCPS structured to behave similarly.

Which wrapper you use, how it is documented, and what it means for tax are questions for a lawyer and your CA, and they are genuinely worth paying for once. This calculator deliberately stops at the economics: given the terms, here is what it converts into.

At the point a note is signed, the founder usually needs the money more than the investor needs the deal. That limits what is achievable, and it does not make the conversation pointless.

1. 01Model the cap at three plausible round valuations before you agree it, including one much higher than you expect. The cap only becomes expensive when things go well, which is exactly the case founders forget to check.
2. 02Argue about the cap rather than the discount. The cap decides the outcome in any strong round, and it is the term investors expect to discuss.
3. 03Consider whether you need both terms. A cap alone is simpler and, in a strong round, gives the note holder plenty.
4. 04Check whether interest accrues and at what rate, because on an eighteen month note it is real money and it is rarely the thing anyone focuses on.
5. 05Ask what happens if there is no next round: what the maturity date triggers, and whether conversion is automatic at some default valuation.
6. 06Keep the note simple. Caps, discounts, most-favoured-nation clauses and pro-rata rights stacked together produce an instrument nobody models until it converts.

The single most useful habit is to model the conversion at the time of signing and write the answer down next to the term sheet. It takes ten minutes and it converts a future surprise into a decision you already made.

• ·It is arithmetic, not advice. It does not tell you whether the terms are fair, whether the instrument is right for your company, or what any of it means for tax.
• ·It handles one note. Several notes on different caps convert at different prices, and the combined effect needs a cap table rather than a calculator. The cap table template on this site is built for that.
• ·It ignores an ESOP pool top-up at the round, which frequently accompanies one and is usually the second largest dilution event. The ESOP dilution calculator covers that separately.
• ·It uses simple interest, which is the common convention on Indian CCDs. Compounding terms would give a slightly higher accrued figure.
• ·It assumes the note converts at this round rather than at maturity, on a change of control, or under a most-favoured-nation clause, each of which can produce a different price.
• ·It says nothing about liquidation preference, which decides what everyone is actually paid at an exit. Ownership percentages and exit proceeds are different questions.

Read it as one input into a conversation with your lawyer rather than a substitute for one. What it is good for is arriving at that conversation already knowing which number you want to argue about.