Convertible Equity Loans and Equity agreements in Portugal
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Investment agreements are one of the most creative and unregulated fields in Portuguese Corporate Law. There are significant risks in agreements like this and not just financial ones.
Because there is so much leeway in drafting this type of agreement, including the clauses and conditions that the parties deem necessary, there are potentially greater risks to consider.
Lexidy LegalTech Boutique’s Corporate Lawyers have the necessary expertise to assist you in designing the legal document that best suits your case, whether in the form of an equity loan, convertible note, or Convertible Equity Loan Agreement.
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What is a Convertible Equity Loan Agreement?
A Convertible Equity Loan Agreement loan is a type of investment that combines the features of two similar financial products: convertible notes and equity loans.
These investment products all have one thing in common: they are non-traditional debt securities. This means they combine the rules of stock products and traditional debt products, such as loans and bonds, to form a new one. These are frequently referred to as hybrid securities.
What are the requirements?
A Convertible Equity Loan Agreement has no formal requirements for arranging and securing it.
The challenge is to persuade a financial institution of the viability of your venture and persuade them to partner with you. Typically, a company requires a well-written business plan with a high potential for success in order to compensate the investor. This balance is what distinguishes this loan as typical for seed-stage startups.
How can a Convertible Equity Loan Agreement help my startup?
Both the convertible note and the equity loan are excellent products for seed-stage startups in their own right. As a result, combining the two only increases their benefits, but how do they differ?
A classic convertible note is a type of bond issued by corporations that, under certain conditions, converts to company stock.
Most of the time, it functions like a regular note or bond, but the difference is only noticeable on the day of repayment. Unlike a standard note, the investor will have the option to be paid in stock rather than cash.
This feature makes them a good choice for seed-stage financing of startups, as it allows investors to fund a company while deferring the task of valuation until a later stage, when there are more elements to assess it.
Equity Loan Agreement
An equity loan allows the investor to receive a portion of the company’s profits for a set period of time without becoming a shareholder. This debt, however, has the lowest seniority and cannot be repaid early unless an equivalent share capital increase occurs.
A Convertible Equity Loan Agreement works is by establishing two different interests in the contract. First, there is a fixed interest that repays the loan debt. There’s also variable interest in the event that the company makes a profit, so the investor is rewarded in line with the company’s performance.
This is one of the best types of startup financing as it allows the payment of little interest if it is not successful, which is very common. It strengthens the company’s balance sheet and positions it to receive even more financing and a company with a Convertible Equity Loan Agreement projects an image of trust to other institutional investors.
What type of equity agreements are good for my startup in Portugal?
In Portugal, an attractive option is a Simple Agreement for Future Equity. This is a financing contract that may be used by a startup company to raise capital in its seed financing rounds. The instrument is viewed by some as a more founder-friendly alternative to convertible notes.
A Simple Agreement for Future Equity is an investment contract between a startup and an investor that gives the investor the right to receive equity of the company on certain triggering events, such as a:
- Future equity financing. This is known as a Next Equity Financing or Qualified Financing and usually led by an institutional venture capital fund.
- Sale of the company.
The price of the equity that the Simple Agreement for Future Equity holders receive on conversion is lower than the price of the securities issued to Ventre Capital investors in connection with a Next Equity Financing, based on both or either of the discount rate and the valuation cap.
Simple Agreement for Future Equity may have similar conversion features but lack the debt hallmarks of convertible notes. For example, a Simple Agreement for Future Equity doesn’t require a:
Maturity date – Until a conversion event occurs, the Simple Agreement for Future Equity remains outstanding indefinitely.
Accruing interest – Investors receive only a right to convert their Simple Agreement for Future Equity into equity at a lower price than the investors in the subsequent financing (based either on the discount or valuation cap in their SAFEs).
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