Convertible Notes: How They Work, Examples, Terms & Calculator

A convertible note is a short-term debt instrument that converts into company equity at a future date, typically when the startup raises its next funding round. Instead of repaying the investor in cash, the company converts the loan into shares. It is one of the most common ways to raise pre-seed and seed funding without agreeing on a company valuation upfront.

According to Fenwick & West’s standard seed-stage term sheet, convertible notes typically mature in 12-24 months and carry interest rates between 2% and 8% annually.

This guide covers how convertible notes work, the key terms every founder must know, real math examples, and how to issue them on Eqvista.

Quick Answer: A convertible note is a short-term loan that startups use, which later turns into equity during a future financing round. The number of shares an investor gets depends on the loan amount, any interest that has built up, the valuation cap, the conversion discount, and the share price in the next funding round. Unlike a SAFE, a convertible note generally includes interest and a maturity date.

What is a Convertible Note?

A convertible note starts as a loan. The investor lends money to the startup, but instead of getting his money back, he receives equity in the company. This conversion takes place at some point in the future, when the company undergoes its equity funding round – the Qualified Financing Event.

The main advantage is the fact that there is no need to determine the valuation of the company at this point. Valuation of an early-stage startup is tough to determine and often is not very fair for either of the parties involved. Convertible note postpones the discussion to future rounds until actual information is available to base it on.

A convertible note belongs to a wider class of convertible securities, along with SAFEs (Simple Agreement for Future Equity) and KISS (Keep It Simple Security) notes.

Key Convertible Note Terms

Convertible notes are governed by core terms that determine how much equity the investor receives and when the debt converts. Understanding these terms helps founders model dilution, compare offers, and avoid surprises at the next funding round.

Term	What it means
Principal	The original amount of money the investor lends to the company. This is the base amount that will convert into equity (or be repaid if the note matures without conversion).
Interest	The annual rate (typically 2–8%) that accrues on the principal while the note is outstanding. Interest usually converts into equity along with the principal at the next qualified financing.
Maturity	The date by which the note must either convert into equity or be repaid. Typical maturity for seed-stage notes is 12–24 months from issuance.
Valuation cap	The maximum company valuation used to calculate the conversion price. A lower cap gives the investor more shares for the same principal.
Discount	A percentage reduction (e.g., 10–25%) applied to the price per share paid by new investors in the qualified financing. It rewards early investors with a lower conversion price.
Qualified financing	A future equity round (usually a preferred stock round) that triggers automatic conversion of the note. The term sheet defines the minimum raise amount that qualifies.
Conversion price	The effective price per share at which the note converts into equity. It is determined by applying the cap, discount, and any other terms to the price in the qualified financing.
Accrual frequency	How often interest is calculated and added to the outstanding balance (e.g., monthly, quarterly, or annually).
Change of control / Exit	What happens if the company is acquired before conversion. Common outcomes are conversion at the cap or a cash payout at a set multiple of principal plus accrued interest.
Pro rata rights (optional)	The investor’s right to participate in future rounds to maintain their ownership percentage. Not all notes include this.

How Convertible Notes Work: Real Math Examples

Convertible notes follow a simple sequence from funding to equity:

1. The investor provides capital: The startup receives funding as debt.
2. Interest accrues: If specified in the note, interest accumulates on the principal over time.
3. The company raises a priced round: Usually the qualifying financing event that triggers conversion.
4. The conversion price is calculated: Based on the valuation cap, discount, or other agreed terms.
5. The note converts into shares: Principal and applicable accrued interest become equity.
6. The cap table is updated: The investor becomes a shareholder and the ownership percentages are adjusted.

The examples below show how these steps play out in practice with real numbers.

Example 1: Discount and Cap (Most Common)

Best Inc raised $40,000 from investor Tony with a 20% discount and a $3M valuation cap. At Series A, the company is valued at $6M with a share price of $6.

• Discount calculation: 20% off $6 = $4.80 per share
• Cap calculation: ($3M ÷ $6M) × $6 = $3 per share

Tony gets the better deal, $3 per share. His $40,000 converts into approximately 13,333 shares.

Example 2: Discount Only

Demo Inc. raised $50,000 from Tom at a 20% discount, with no cap. At Series A, shares are priced at $10. Tom converts at $8 per share. His $50,000 buys 6,250 shares versus 5,000 shares without the discount.

Example 3: Cap Only

Best Services raised $60,000 from Zed with a $6M cap, no discount. At Series A, the company is valued at $12M at $12 per share.

Zed converts at ($6M ÷ $12M) × $12 = $6 per share. His $60,000 buys 10,000 shares versus 5,000 without the cap.

Example 4: Convertible Note With Accrued Interest

Sara invests $10,000 in a startup through a convertible note with a 10% annual interest rate. After one year, the company raises a Series A at $5 per share.

• Accrued interest: $10,000 × 10% = $1,000
• Total conversion: $10,000 + $1,000 = 11,000
• Shares received: $11,000 ÷ $5 = 2,200 shares

Without accrued interest, Sara would receive 2,000 shares. The additional $1,000 in accrued interest results in 200 additional shares.

The Real Cost of Each Note Structure

This table shows the equity cost to the company under five different note structures, based on a $100,000 note, a $2M company valuation, and a $1 per share price at the next round.

Structure	Interest Rate	Discount Rate	Valuation Cap	Cost of Funding
Interest Only	10%	None	None	$110,000
Discount Only	None	10%	None	$111,111
Interest and Cap	10%	None	$1,000,000	$220,000
Discount and Cap	None	10%	$1,000,000	$225,000
Interest, Discount, and Cap	10%	10%	$1,000,000	$245,000

Warning: Note Stacking Risk

If a startup takes on multiple convertible notes from different investors at different times, all of them convert simultaneously at the next qualifying round. Each converts using its own cap and discount. The combined dilution can be significantly higher than founders expect.

For example, three notes with caps of $1M, $2M, and $2M converting into a $3M Series A will each be calculated at different share prices, compounding dilution well beyond what a single note would cause. Always model the fully diluted cap table before issuing a second or third note.

Convertible Note vs SAFE: Key Differences

SAFEs were introduced by Y Combinator in 2013 as a simpler alternative to convertible notes. By Q1 2025, industry data shows SAFEs accounted for approximately 90% of pre-seed deals in the US.

Feature	Convertible Note	SAFE
Interest Rate	Yes (2-8% typical)	No
Maturity Date	Yes (18-24 months)	No
Legal Structure	Debt instrument	Future equity right
Investor Protection	Stronger	Weaker
Complexity	Higher	Lower
Best For	Seed/bridge rounds	Pre-seed

The main reason founders choose SAFEs over convertible notes is simplicity: no interest, no maturity deadline, and less legal paperwork. Convertible notes are more common at later stages or when investors want stronger legal protection.

Pros and Cons of Convertible Notes

Pros

• Deferred valuation. You do not need to agree on a company valuation today. That conversation happens at the next round when there is real data to support a number.
• Speed and low cost. A convertible note can close in days, not months. Legal fees are significantly lower than a priced equity round, especially for raises under $500,000.
• Founder control. Debt holders do not get voting rights. Your control over the company stays intact until the note converts.

Cons

• The cap can hurt you. If your valuation cap is set too low and the company grows fast, note holders convert at a steep discount. This creates dilution that can deter new investors at your Series A.
• Maturity date pressure. If no qualifying round closes before the maturity date, investors have the legal right to demand cash repayment. Most will not, but the risk is real.
• Note stacking dilution. Multiple notes converting at once create compounding dilution. This is one of the most common mistakes early founders make.

Convertible Note Calculator

There are times when the calculations of convertible notes into company shares can be highly confusing. And with many people not aware of the math involved, it becomes very stressful not to understand how to reach the final outcome (fully diluted cap table). That is where Eqvista comes in with its advanced online convertible note calculator to help companies see excatly how much ownership their convertible notes and shareholders offer. 

Simply enter your company’s valuation, new investment amount, convertible notes, and equity grants, and the calculator instantly breaks down how much ownership each security type represents, and how your convertible notes factor into your company’s cap table. It’s free to use and built directly into the Eqvista platform, so the numbers stay connected to your actual cap table rather than living in a separate spreadsheet.

One of the tools that we use is round modeling. Let us understand this better with an example.

Let us say that you just started your company and have three different securities: common shares, preference shares, and options. Your company cap table looks as follows:

Security Name	Shares	Ownership
Common Shares	1,000,000	52.63%
Preference Shares	500,000	26.32%
Options	400,000	21.05%
Total	1,900,000	100%

Now, let us say that you have everything ready for your company, but you need an initial investment to take the first step and enter the market. You decide to take on $600,000 of funding through convertible securities.

The first investor gets a KISS note for offering you $100,000, with a valuation cap value of $1 million and a discount rate of 10%. The second investor agrees to offer you a SAFE of $200,000, with a valuation cap of $2 million and a discount rate of 20%. The third investor agrees to offer you a $300,000 SAFE with a valuation cap of $2 million and a discount of 20%.

Here is an overview of the convertible securities in the company:

Security name	Principal	Valuation Cap	Discount Rate
KISS 1	100,000	1,000,000	10%
SAFE 1	200,000	2,000,000	20%
SAFE 2	300,000	2,000,000	20%

Note: We have excluded the interest rates in these notes for simplicity.

With this in hand, all you need to do is fill in the details for each convertible note on the Eqvista application. Once you fill in the details, it will be recorded, and the calculations would be handled by the application on its own.

Round Modeling

Next comes the part where you can now see how these convertible notes affect your company when the next financing round takes place. Let us assume that the pre-money valuation of your company is set at $3 million before the next funding round. And setting aside a post-money option pool of 10% and a new investment round of $1,000,000, you will get the following results in the round modeling to help you see its effects in your company’s ownership and cap table.

This is how the overview of the financial modeling will look like on Eqvista:

From the above, you can see that the ownership amounts of the common shares, preferred shares, and options change. Initially, the ownership of the common shares, preferred shares, and options was at 52.63%, 26.32%, and 21.05%, respectively. But after the new funding round came in, they changed to 20.39%, 10.20%, and 8.16%, respectively, being diluted by the three convertible notes, new option pool, and new investment round.

You will also be able to see how much ownership has been offered to the investors with the KISS and SAFEs convertible notes, which will be converted now as another funding round is about to take place. It will also help you get an idea of the value that your company has and how much control you still have over it.

From this, you can easily add the values to the Eqvista app for each kind of shares or convertible notes offered, and the convertible note calculator in the application will take care of the rest. It will help you see the ownership % each of your convertible notes converts to for each series funding.

How to Issue Convertible Notes on Eqvista

Eqvista lets you issue and track convertible notes directly on your cap table alongside all other securities.

Step 1: Create your free account

Sign up at Eqvista; it takes under two minutes. Go to Securities → Convertible Instruments → Issue Convertibles.

Step 2: Enter the Following details

• Instrument Holder – The investor to whom the convertible note is issued. If you have not yet added the shareholder, check out the article here on how to add one.
• Convertible Note Name
• Issue Date
• Note Type
• Principal – The original amount that the company borrows.
• Interest Rate (if applicable) – Rate on the principal amount that is accrued
• Maturity Date – The date when the payment has to be made back to the convertible note holder.
• Accrual Frequency (if applicable) –The frequency of the interest amount.
• Converts to – The type of stock that the convertible note converts to.
• Conversion Trigger Amount – The minimum amount that will trigger the conversion rate.
• Valuation Cap – The maximum company valuation when converting the note to shares.
• Early Exit Multiple – The guaranteed multiple of the principal paid out.
• Conversion Discount – The discount that is applied to the purchase of shares.

 For example, a 2x multiple on a $100,000 note pays the investor $200,000 at acquisition.

Step 3: Submit and model

When you click “Submit,” your note is made and issued to the investor. It will appear instantly in your cap table, along with all your other securities, such as shares, options, and SAFEs. This way, you always have an updated record of your equity position.

FAQs

Here are quick answers to the most common questions founders ask about convertible notes.

What is a convertible note in simple terms?

A convertible note is a short-term loan to a startup that converts into company shares instead of being repaid in cash. The conversion happens when the company raises its next equity round. It lets investors fund a startup before a formal valuation has been set.

What happens to a convertible note at maturity?

If no qualifying equity round has closed by the maturity date, the investor can convert the note at an agreed price, negotiate an extension, or demand repayment of the principal plus accrued interest. In practice, most investors choose to extend rather than force repayment.

What is a typical convertible note interest rate?

Convertible note interest rates commonly range from 2% to 8% annually, although the exact rate depends on the terms agreed between the company and investor. Interest accrues on the principal until the note converts or reaches maturity and typically converts into equity along with the principal at the next qualified financing. The note agreement should specify the interest rate, whether interest is simple or compounded, and how frequently it accrues.

What is the difference between a SAFE and a convertible note?

A SAFE has no interest rate and no maturity date, making it simpler and more founder-friendly. A convertible note is a legal debt instrument with both. Convertible notes give investors stronger legal protection.

What happens to a convertible note if the company is acquired?

Most convertible notes include a change-of-control clause. Common outcomes are conversion at the valuation cap before closing or a cash payout at a set multiple of the principal. If your note does not address acquisition, negotiate this clause before signing.

How does a valuation cap work on a convertible note?

It sets the maximum company valuation used to calculate the investor’s conversion price, regardless of how high the actual valuation climbs at the next round. This protects early investors from being diluted at a price that doesn’t reflect the risk they took on.

How does a discount work on a convertible note? 

A discount rate gives the note holder the right to convert at a lower price than what new investors pay in the next round, usually 10-20% off. It rewards early investors for taking on risk before the company had a formal valuation.

What happens when a convertible note has both a valuation cap and a discount? 

When a note includes both terms, the investor’s shares are calculated both ways, and they get whichever price is lower, since that produces more shares for the same principal. (In the article’s Example 1, a $3M cap works out to $3 per share while a 20% discount works out to $4.80 per share, so the cap wins and the investor converts at $3.) Combining both terms increases the company’s cost of capital, so founders should model both calculations before agreeing to a note.

Are convertible notes debt or equity? 

A convertible note starts out as debt. It sits on the company’s books as a loan, with a principal amount and often an interest rate, until it converts into equity at a future financing round or matures. Until conversion happens, the investor is technically a creditor, not a shareholder, which is part of why convertible notes carry stronger legal protections than SAFEs.

Does interest on a convertible note convert into shares? 

Yes. In most standard convertible notes, accrued interest is added to the principal, and the combined amount converts into shares at the agreed discount or cap. This means the investor ends up with more shares than the principal alone would buy, which adds to the total dilution founders should account for. SAFEs, by contrast, don’t accrue interest at all, since there’s no principal being lent.

Why Eqvista Is the Right Place to Manage Your Convertible Notes

Convertible notes are among the quickest and most economical ways to secure funding at an early stage without determining your valuation prior to being ready for such. Convertible notes are great options for pre-seed and seed funding stages. However, each additional feature, like interest, discount, or cap, increases the actual cost of your financing. It is essential to model your costs before signing any document.

Once your notes are ready to convert, having a clean, accurate cap table is critical for due diligence and your next round. Eqvista lets you issue, track, and model convertible notes, SAFEs, and equity all in one place so you always know exactly how your cap table looks before investors ask.

Get started for free and issue your first convertible note in minutes.