Convertible debt financing for listed companies

Convertible debt financing is capital raised as debt that can be settled in shares instead of cash. For a listed issuer it is a different decision from the seed-stage convertible note or SAFE that dominates startup search results: those defer a valuation to a later round, while a listed issuer already has a quoted price to convert into and an exchange rule capping what it may issue.

Key takeaways

• You are selling the option, not the stock. A convertible prices the shares above today's trade, so the dilution lands only if the price performs. That is the whole case for the instrument.
• A convertible is still debt. It matures, it can default, it ranks ahead of shareholders. If the cash flow cannot carry the maturity, the option value is irrelevant.
• Capacity is checked before size. The shares underlying a convertible count towards the exchange's issuance limits, so the rulebook often decides the structure before the term sheet does.
• The accounting is not neutral. Diluted earnings per share uses the if-converted method, and a conversion feature that is not indexed to your own stock is separated and remeasured through earnings.

The decision: convertible debt or straight equity

Every listed issuer facing a funding gap has the same first question: sell shares now at the price the market will pay, or sell an instrument that converts later at a better one. Straight equity is certain and final. A convertible is a bet that the current price understates the business, financed by someone who is compensated for waiting.

The case for the convertible is strongest when three things are true at once: the shares trade below where you can defend a placement, the use of proceeds has a visible catalyst inside the tenor, and the balance sheet can carry the principal if the catalyst slips. Take away the third and you have not bought time; you have bought a deadline.

When it is the wrong instrument

Convertible debt is the wrong answer when the company has no plausible path to servicing or refinancing the principal, when existing covenants restrict new indebtedness, or when the free float is too thin for the conversion shares to clear without moving the price. It is also the wrong answer when you simply need equity: dressing an equity raise as debt to avoid announcing dilution postpones the announcement, not the dilution. In those cases a registered direct offering or a drawdown structure from the equity facilities family usually serves better.

What a convertible costs that equity does not

Three costs travel with the instrument. The first is covenants: restrictions on further indebtedness, on liens, and often on issuing other convertible securities while yours is outstanding. The second is ranking, which changes what a future lender or acquirer can do. The third is accounting. Under US GAAP, ASU 2020-06 removed the beneficial conversion feature and cash conversion separation models, so most convertible debt now sits as a single liability, but a conversion feature that is not considered indexed to the entity's own stock is still bifurcated and remeasured through earnings, and diluted earnings per share moves to the if-converted method.

Then there is capacity. On Nasdaq the shares underlying a convertible count towards the 20% test in Listing Rule 5635(d), and Section 713 of the NYSE American Company Guide applies a comparable test. Work out the maximum share count first; if it breaches the limit, the choice is a floor price, a smaller facility, or a shareholder vote before signing. The rule is set out on this site under the Nasdaq 20% rule.

How it sits against the alternatives

Most issuers are choosing between four structures rather than two.

If the answer is a convertible, the terms that decide whether it is workable are set out on convertible notes for listed issuers, and the resale position on Rule 144. If you want a view on a specific situation, tell us the exchange, the float and the amount.

Related reading

• All instruments compared
• At-the-market offerings
• S-3 shelf registration
• Who we fund

Primary sources

• FASB — ASU 2020-06, convertible instruments and contracts in an entity's own equity
• Nasdaq Listing Rules — 5635 and IM-5635-4
• NYSE American Company Guide — Section 713
• SEC — Form S-3 and its General Instructions

Convertible debt financing: frequently asked questions

Is convertible debt financing the same for a listed company as for a startup?

No. A startup convert defers a valuation until a future round. A listed issuer already has a price, so the conversion price is set against the traded market, the number of shares issuable is governed by the exchange rulebook, and the lender's return depends on selling into your own order book rather than on an exit.

When does convertible debt beat straight equity for a listed issuer?

When you believe the shares are worth more than the market will pay today and you can service the instrument until they are. A convert prices the shares above the last trade, so dilution only lands if the price performs. If the cash flow cannot carry a maturity, that logic breaks.

How is convertible debt accounted for?

Under US GAAP, ASU 2020-06 removed the beneficial conversion feature and cash conversion separation models, so most convertible debt is carried as one liability. Bifurcation still applies where the conversion feature is not indexed to the issuer's own stock, and diluted earnings per share uses the if-converted method. Confirm the treatment with your auditor.

Does convertible debt require shareholder approval?

It can, and the test comes from the listing venue. Nasdaq Listing Rule 5635(d) requires approval before a 20% Issuance priced below the Minimum Price, counting the shares underlying a convertible security, and NYSE American applies a comparable test under Section 713 of its Company Guide. Check capacity before agreeing size.

What happens at maturity if the shares are below the conversion price?

The instrument is debt, so it has to be repaid, refinanced or restructured. That is the risk convertible debt carries which ordinary equity does not, and it is the reason maturity, amortisation and any redemption right belong at the front of the negotiation rather than in the schedules.