Key points
- Convertible notes provide sellers flexibility to participate in upside if the business performs well, while also offering some downside protection.
- Convertible notes involve a seller providing a loan to the buyer, with the option to convert the remaining balance to equity at a future trigger point.
- The conversion trigger is typically a date or milestone, after which the seller can choose to convert the note to equity rather than receive the remaining cash payout.
- Convertible notes are commonly used in IT services M&A to allow sellers to "have a second bite at the apple" if the combined business grows significantly.
- Thorough due diligence on the buyer's financial stability and growth plans is critical for sellers considering a convertible note.
- Dilution from multiple acquisitions is generally not a major concern with convertible notes, as the structure can be designed to minimize impact.
- Key negotiable terms for convertible notes include interest rate, payment schedule, and conversion triggers/parameters.
- Sellers should seek legal and M&A advisory expertise when structuring convertible notes to ensure favorable terms.
- The main benefits of convertible notes for sellers are reduced upfront risk and the ability to participate in future upside.
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