How much to discount a convertible angel note
This issue (how much of a discount should there be on an angel note that converts into the next round of financing?) seems to come up every day. And, there does not seem to be a good answer. So, consider this: a 20% discount is, in effect, a “guaranteed” 25% return on the investment. (Of course it is not really guaranteed since you don’t get liquid until some dim point in the future, if ever.) Perhaps one way to look at what is an appropriate discount is to ask what the return should be over what period of time. 25% in six months justifies a high degree of risk, but 25% over two years does not. So throw this in the hopper along with other typical thoughts such as how will the “next” investor react? How big is the angel investment? What precedent are you setting? And the like.
Comments (2)
Read through and enter the discussion by using the form at the endMichael Feinstein - August 12, 2009 1:14 PM
Generally angel investments are relatively small dollars. To the VC showing up next, the actual discount rate doesn't matter that much as the gross level of discount doesn't represent a big financial interest.
But, I have found that $1M of angel investment is about the limit where that is the case. Beyond that, it gets tough to justify the discount when it goes into the next round. If the angel investment is getting to that size or beyond, I'd recommend negotiating a price for the equity and just converting it into a round. I'd also suggest being very 'vanilla' on the terms of that round as they'll form a precedent of the terms of following rounds.
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