The document provides an overview of a presentation on raising seed funding for startups through convertible notes and SAFEs (simple agreements for future equity). It discusses important caveats, the presenter's background, structural considerations for startups, financing options like convertible debt/equity and venture rounds, key terms for convertible securities, common valuation and dilution concepts, potential pitfalls, and answers questions. The presentation aims to help entrepreneurs understand how to structure early-stage financing and what to consider when negotiating convertible notes or SAFEs.

1. How to Raise Seed Funding for Your Startup:
Convertible Notes and SAFEs
Presented on November 24, 2020 by Jason Putnam Gordon
Email: jgordon@polsinelli.com

2. 2
• Today’s Discussion is General Information – Not Legal Advice
• We will be discussing rules and exceptions. Those rules, exceptions, and
exceptions to the exceptions may not be applicable to your situation.
• You need to retain competent legal counsel to review all facts and
circumstances before weighing in with advice.
• Off-the-cuff answers to your questions are not, and should not be taken as,
legal advice.
Important Caveats

3. 3
• My Background
• Structural Considerations
• Considerations When Pitching Investors
• Financing Options
• Key Terms and Considerations for Convertible Securities
• Overview of Valuation and Dilution
• Common Pitfalls
• Q&A
Overview

4. 4
• Venture Capital and Emerging Growth Company attorney- practicing law
since 2005.
• Polsinelli is an Am Law 100 firm with approximately 900 attorneys in over
twenty offices throughout the US.
• My office is in San Francisco, but I work with companies throughout the
US and the world.
• I love working with entrepreneurs on financings and as outside general
counsel.
My Background

5. 5
What is your Background?

6. 6
Structural Considerations
 Almost always a Delaware C-
Corp.
 Seed funding – Capital to put
together prototype and initial
team.

7. 7
• Compliance with securities laws.
• Investors with whom you have a preexisting substantial
relationship.
Considerations When Pitching Investors

8. 8
• Convertible Debt/Equity
 Also known as bridge notes
 Convertible debt is the parent of convertible equity, which
can also be known as a SAFE Instruments
• Venture Rounds (different presentation)
 Series Seed and Series A
Financing Options

9. 9
• Convert to future equity securities at a negotiated discount to a
future qualified equity financing
 This avoids valuing the company
 Far less expensive than Series Seed or Series A round
Convertible Securities

10. 10
• Maturity*
• Interest Rate*
• Conversion Terms
• Amendment Terms, e.g., majority in interest
• Remaining Terms
 It’s not that common to negotiate these
• (*For Convertible Notes, not SAFEs)
Convertible Securities (Cont.)

11. 11
• Generally up to 18-24 months
 Should be trying to time this with some cushion when you’ll
have a venture round.
• Pay attention to California Financing Law, which applies to persons
“engaged in the business of a finance lender or broker.”
Make sure the financing fits into an exemption.
Maturity*

12. 12
• Can be as low as AFR.
Otherwise, imputed interest issues.
• Can be as high as 10% in CA
Double check the usury laws.
Interest Rate*

13. 13
• Mandatory conversion at a discount of price paid in
Next Qualified Financing
Series Seed/A needs to meet the definition of a “Qualified
Financing”
Equity financing
Minimum size, e.g., “$2,000,000”
Discount has to be reasonable or later investors will not go for
it. 20-25% is typically reasonable.
Conversion Terms

14. 14
• Conversion Price Cap
• Conversion upon a change of control/sale
• Optional Conversion upon maturity or something less than a qualified
financing
Conversion Terms Cont.

15. 15
• Convertible Notes – Generally one or two documents (in addition to
corporate authorization and/or side letters)
Purchase Agreement and a Convertible Security
• SAFEs – Generally one agreement (in addition to corporate
authorization and/or side letters)
Structure

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 Non-Compliance with Securities Laws
 Thinking that there are “standard” terms
 Finders
 Side Letters
 Failure to obtain proper corporate authorization
Common Pitfalls

17. 17
• Convertible Securities
Upsides:
Most common; cheaper, simpler;
No valuation of the company, nearly impossible at this early stage,
and helps justify law FMV for stock options/restricted stock
Downsides (At least for Convertible Notes)
This is debt and may be required to be paid at some point
Extra liquidation preference above all other equity, unless otherwise
handled
Decisions Decisions

18. Foundational Basics – Valuation and
Dilution
 Pre-money valuation – the value of the company before the next round of
investment.
 Post-money valuation – the value of the company after the round of investment.

19. Foundational Basics – Valuation and
Dilution
 Very Simple Example (not factoring in the option pool or any other
equity):
 Pre-money $10,000,000
 10,000,000 shares split among three equal founders
 Founder A = 3,333,333 shares or 33%
 Investment $3,000,000 at $1.00/share ($10,000,000 pre-money/10,000,000
outstanding shares) (Post-money is $13,000,000)
 Founder A = 3,333,333 of ~25% with a paper value of $3,333,333
 (If there had been $500,000 convertible security with 25% discount only, holder would have
received 666,666 shadow shares.)
 (If there had been a $500,000 convertible security with $5MM cap only, holder would have
received 1,000,000 shares. $500,000/(5,000,000/10,000,000)

20. Foundational Basics - Example
Continued
 Subsequent Round:
 Pre-money is $30,000,0000
 Investment is $10,000,000 ($30,000,000/13,000,000 shares =
(~$2.31/share)
 ~4,329,000 shares to new investor (=$10,000,000/$2.31)
 Total outstanding shares post close is 17,329,000
 Founder A – has ~19.2% (3,333,333/17,329,000)
 Previously, the stake was worth $3,333,333
 Now it’s worth $7,699,999
 Decrease in percentage ownership from 33% to 25% to 19.2%
 Increase in value from ~$0 to $3,333,333 to $7,699,999

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• Subject to securities laws of US, states,
and potentially foreign jurisdictions.
• Potential Exemptions
Reg D
4(a)(2)
25102(f)
Reg S
Securities Laws and Potential Exemptions in CA

22. Polsinelli PC provides this material for informational purposes only. The material provided herein is general and is not intended to
be legal advice. Nothing herein should be relied upon or used without consulting a lawyer to consider your specific circumstances,
possible changes to applicable laws, rules and regulations and other legal issues. Receipt of this material does not establish an
attorney-client relationship.
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should not be based solely upon advertisements.
© 2020 Polsinelli® is a registered trademark of Polsinelli PC. Polsinelli LLP in California. Polsinelli PC (Inc.) in Florida.
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