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ACA Releases Model Convertible Promissory Note

Introduction: 

The Angel Capital Association formed a task force of established early-stage investors and attorneys who routinely represent both founders and investors in early stage financings. Its mandate was to create an enhanced model convertible promissory note that would combine common convertible promissory note provisions with “best practice” provisions often found in side-letters or note purchase agreements. The goal of the task force was to create a form document balancing the rights of founders and investors, and to include common alternative provisions for consideration.

While Convertible Promissory Notes offer investors more protection than SAFEs, they still fall well short of the protections and “best practice” governance provisions of priced equity rounds, which also have industry-wide templates available such as that of the National Venture Capital Association. Until they are converted, both SAFEs and Convertible Notes provide their holders with minimal control or fiduciary rights. More sophisticated investors have routinely “bulked up” their protection under Convertible Notes through the use of side letters and note purchase agreements that provided them with additional rights.

The Angel Capital Association formed a task force of established early-stage investors and attorneys who routinely represent both founders and investors in early stage financings. Its mandate was to create an enhanced model convertible promissory note that would combine common convertible promissory note provisions with “best practice” provisions often found in side-letters or note purchase agreements. The goal of the task force was to create a form document balancing the rights of founders and investors, and to include common alternative provisions for consideration. Drafts of a model term sheet and definitive documents were shared with several leading angel groups for feedback. To the extent possible, the task force looked to industry data, including from Carta and the Angel Capital Association database, to anaylze the market prevalence of various terms.
 
The task force anticipates that the model documents will be updated periodically to reflect changes in applicable law and market terms.
 

Key Additions:

The proposed Convertible Promissory Note has several key additions that reflect provisions often found in the note purchase agreements and side letters required by early-stage investors. Many of these provisions have explanations and alternative provisions provided in footnotes. Included are:

  1. Expanded Representations and Warranties – the goal is to focus on critical information that early stage investors want and that does not require significant time for the company/founder to compile. An effort was made to avoid representations that are more relevant to later stage companies.
  2. A Participation Right in Future Financings
  3. Select Information Rights
  4. A Most Favored Nations Provision as an option.
  5. A Board Observer Seat (optional, with an alternative for a full Board Seat noted)
  6. A provision for compliance with the Corporate Transparency Act
  7. Protective Provisions that require the approval of a majority of the noteholders with respect to select corporate acts while the notes are outstanding:

a. Substantial changes to the business of the venture
b. Sale, exclusive license or encumbrance of material assets
c. Stock redemptions
d. Related party transactions
e. Debt issuances over a defined minimum

The task force included Elizabeth D. Sigety, Esq., Fox Rothschild, Mark Friedman, RTP Capital, Dror Futter, Esq., Rimon Law, Sonu Mirchandani, College of Business and Technology, ETSU, Clay Rankin, North Coast Ventures, David Sikes, Esq., Goodwin Law, Joe Wallin, Esq., Carney Law and Ronald Weissman, Band of Angels and current ACA Board Chair who have collaborated to bring this new resource to ACA members & beyond.

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