Convertible Loans vs Traditional Financing Rounds
Convertible loans are a special financing instrument that companies use to raise capital. Unlike a traditional loan, they not only offer investors interest payments but also the right to convert them into company shares within a specified conversion period.
If the company’s share price rises, the conversion of the convertible loan can be an attractive option for stakeholders. Otherwise, they receive interest at the end of the term. Companies benefit by securing funds without immediately issuing a large number of shares, helping to maintain their balance sheet stability.
But how exactly does this work? The following sections will explain the key elements of convertible loans in detail.

What is a Convertible Loan?
A convertible loan agreement is therefore a type of debt financing that can be particularly useful for early-stage startups in certain situations. This financing instrument is also known as a convertible bond or convertible note.
With a convertible bond, an investor lends money to a startup, meaning the startup receives capital through a conventional loan. The loan is used to develop the business, while stakeholders have the right or obligation to participate in the Swiss stock corporation’s (AG) future growth.
However, instead of requiring the company to repay the loan in cash, the bond is typically converted into company shares once a specific event occurs. This allows startups to secure more capital for scaling their business without the complexities of immediately issuing a large number of shares or bonds.
The conversion terms, including the conversion price and other details, are defined in a convertible loan agreement between the financier and the issuing company. This contract specifies whether the transition results in the bond remaining as debt or being converted into equity.
Why Choose Convertible Loans Instead of a Traditional Financing Round?
A convertible loan is often a simpler and faster way for start-ups often to secure financing compared to equity financing rounds.
- No lengthy negotiations are required.
- No immediate base valuation of the company is needed.
- Funds are available more quickly than through issuing new shares in an equity round, providing quick access to capital.
When is a Convertible Loan a Good Option?
Convertible loans allow startups to raise funds efficiently without a full valuation process. Stakeholders want the right to convert their investment into company shares, letting them benefit from potential share price increases when the loan conversion happens.

The absence of an immediate company valuation allows for flexible conversion terms, and the startup can delay valuation discussions until a later, more favorable stage.
Shareholders receive a predefined interest rate while waiting for a potential conversion. This makes the investment attractive even before gaining an equity stake in the company.
Additionally, the number of shares an investor ultimately receives depends on the contractually agreed conversion discount. This flexibility makes convertible loans a win-win instrument for both startups and investors, aligning with the interests of startups and investors.
A convertible bond can be a great solution for a startup in the following situations:
- A full upcoming financing round is not feasible or desirable at the moment.
- Investor search, negotiations, and legal processes take time and money.
- The startup does not have a high capital demand but needs venture debt for quick financing.
What to Consider When Structuring a Convertible Loan?
When negotiating a convertible loan contract with investors, several key factors need to be carefully defined. Below, we focus on four crucial aspects:
1. Trigger Events (Conditions for Conversion)
The conversion terms determine when and how the loan is converted into equity. The conversion period also plays a significant role.
A common specific event that triggers conversion is the completion of the next funding round. In many cases, it is agreed that the loan will be converted into shares at this point, ensuring the company’s financial stability. When this happens, the conversion of the loan is settled by issuing new company shares to the investor.
To prevent overvaluation of shares in the market, a minimum valuation threshold is usually set. For example, conversion may only occur if the investment reaches at least CHF 250,000.
It is crucial to clearly define key elements of convertible loans, such as trigger events, to avoid potential conflicts between investors and the company.

2. Discount
When negotiating a convertible loan contract with investors, several key factors need to be carefully defined. Below, we focus on four crucial aspects:
To incentivize investors, convertible loans typically offer interest payments. Additionally, capitalists often receive a conversion discount on the share price when the loan is converted into equity. This discount serves as a bonus for early investors, compensating for the additional risk they take by investing in a startup at an early stage.
The discount is relative to the company’s valuation. The later a shareholder enters a (successful) startup, the lower the risk, which means lower repayment rates and discounts. The discount rate determines how much lower the share price will be for the convertible bond holder compared to equity valuation in the upcoming fundraising round.
Earlier investors usually receive better terms, but it’s essential to strike a balance between offering attractive conditions for stakeholders and not giving away too much equity at a discount.
Example: A startup raises a next financing round, with a valuation of CHF 100 per share. An investor holds a convertible bond with a conversion discount of 10%, meaning their conversion price per share is CHF 90 instead of CHF 100.
If the investor is entitled to convert CHF 100,000 worth of bonds, the number of shares received is calculated as follows:
👉 CHF 100,000 / CHF 90 per share = 1,111.11 shares (rounded to 1,111 shares).
Since the shareholder receives more shares at a lower price, their potential return increases. This mechanism encourages early investment while offering investors a financial advantage.
3. Maximum Valuation (Cap Valuation)
A minimum valuation and a cap valuation are typically set in a convertible loan agreement. This represents the maximum company valuation at which the loan can be converted into shares.
A lower valuation cap benefits the investor, as they receive more shares for their investment. However, it is less favorable for the founders, as they must give up a larger portion of their company. Thus, choosing a fair cap valuation is crucial to balancing the interests of startups and investors. A well-defined cap minimizes investor risk while still offering an attractive return.

Example: An investment of CHF 100,000 at a valuation of CHF 1,000,000 gives the investor a 10% equity stake in the company.
The same CHF 100,000 investment at a CHF 10,000,000 valuation results in only a 1% stake.
If the nominal value of the maximum valuation is set at CHF 5,000,000, the investor is protected from excessive dilution if the startup’s valuation increases significantly. This makes the convertible loan engage more attractive by securing a reasonable share percentage for early investors.
However, a cap valuation can influence future investors. Experienced capitalists may not accept a large discrepancy between their investment terms and those of convertible loan contract investors. Careful planning of new share issuances is essential to maintaining a fair balance between existing and new financiers.
4. The "10/20 Rule"
Under Swiss law, a mandatory convertible loan is classified as a bond (obligation) if the following conditions are met:
- The company issues loan agreements with more than 10 non-bank or institutional investors under essentially the same conditions.
- OR it issues such agreements with more than 20 non-bank or institutional stakeholders, regardless of conditions.
- The total investment amount exceeds CHF 500,000.
If these conditions apply, the convertible loan is considered a bond, which can lead to significant legal and tax consequences. Specifically, a 35% withholding tax applies to individual convertible loans that qualify as bonds. How to avoid this? Startups should carefully structure their financing to stay below these thresholds. Alternatively, they can use new funds or other financial instruments to avoid tax disadvantages.
Example: Imagine a startup planning to issue more than 10 convertible loans to business angel investors. It must ensure that the total amount does not exceed CHF 500,000 and that the conditions are not “essentially the same.”
One strategy is to vary the interest rates on the convertible bonds. This prevents the convertible loans from being classified as bonds under Swiss law, helping the company avoid unnecessary tax liabilities. Additionally, the company must consider the differences and calculation of convertible loan structures to ensure compliance with financial regulations.
Risk and Return: What Investors Need to Consider
Investing in convertible loans comes with both opportunities and risks. One of the biggest advantages is that investors can convert their bonds into company shares, allowing them to benefit from rising stock prices. However, there is also a risk of price losses if the stock market or the company does not perform as expected. This highlights the pros and cons of investing in such financial instruments.
Another key factor is whether the bond will be redeemed in shares or cash at the end of its term. Some convertible bonds offer shareholders this choice, while others—known as mandatory convertible bonds—require automatic transition into shares. In the case of a mandatory convertible, financiers must accept full equity risk, making it essential to assess personal risk tolerance.
Today, investors can easily buy convertible bonds through online brokers. However, for beginners, the topic can be complex. A detailed analysis and comparison with other fixed interest rate securities is recommended before making an investment decision. Understanding the advantages and disadvantages of convertible instruments is crucial for those looking to diversify their portfolio.

Key Takeaways
✅ Convertible bonds function similarly to traditional bonds but offer the possibility of conversion into shares.
✅ Investors typically range between those who seek stable returns and those who prefer equity exposure.
✅ Shareholders usually pay interest during the bond’s term, generating regular income.
✅ If no conversion occurs, the bond is repaid at face value at the end of the term.
✅ Financiers should carefully assess the opportunities and risks before investing in bonds and stocks.
✅ Convertible bonds are publicly traded, offering an alternative to corporate bonds or ETFs.
✅ Price fluctuations can occur during the bond’s term, presenting both risks and opportunities.
By understanding these factors, stakeholders can determine whether convertible loans align with their investment strategy and risk tolerance. Consulting a guide for startups or financial experts can also provide deeper insights into convertible loan structures.
Convertible Loans vs. Financing Rounds: Which Option Is Better?
Choosing between a convertible loan and a funding round depends on multiple factors. Both methods have advantages and disadvantages of convertible financing, and the right choice depends on the startup’s current situation and long-term goals.
✅ Advantages of Convertible Loans
✔ Faster capital increase since no complex company valuation is required.
✔ Attractive conditions for investors, such as predefined conversion prices and possible discounts.
✔ Lower risk for the company since no immediate voting rights are given away.
✔ Flexible terms, as the loan duration can be individually negotiated with shareholders.
✔ Conversion into shares under favorable conditions, benefiting both the startup and early investors.
✔ If the loan is not converted into shares, financiers receive their debt into equity at the end of the term.
❌ Disadvantages of a Convertible Loan
⚠ Dilution risk for existing shareholders after transition.
⚠ If the company valuation increases significantly, investors may convert at a lower price, which can be unfavorable for founders.
⚠ Dependence on many investors, as they can decide whether to convert or demand repayment.
⚠ Lack of transparency for future shareholders, as the final ownership structure remains uncertain.
⚠ Requires clear contractual agreements to avoid potential disputes or financial losses, often outlined in a term sheet.
Convertible loans are a great suitable loan alternative to traditional funding rounds, especially when a startup needs quick capital and wants to bridge the time before a larger investment round. However, founders must carefully assess whether this financing method aligns with their long-term strategy and future capitalist expectations. Consulting resources like the German Startups Association can help entrepreneurs navigate these funding options effectively.
Conclusion: Are Convertible Loans the Right Choice?
Convertible loans offer startups a flexible and often faster alternative to financing rounds. They allow companies to raise capital without immediately giving up equity while offering investors attractive terms, such as a fixed conversion price and potential discounts. This makes them particularly appealing for early-stage companies looking to secure funding efficiently.
However, there are also challenges:
- The eventual transition can lead to equity dilution for founders.
- The contract structure can be complex and requires careful negotiation, especially regarding elements of a convertible loan such as interest rates, conversion conditions, and investor rights.
Ultimately, whether a convertible loan is the best option depends on the specific needs of the startup. If a company needs quick funding and wants to avoid a complex valuation process, this financing method can also be used as a short-term solution. However, founders should carefully consider whether the future share price development and investor influence align with the company’s long-term growth strategy. Consulting experts on the legal and tax implications can help avoid potential pitfalls.