Convertibles with a KISS

A lot of entrepreneurs have heard of convertible notes, which is a form of debt instrument, they have there problems. Mark Suster documented them here and James Geshwiler talked more recently about them here. So what is an early stage founder supposed to do? I would suggest using the open source documents produced by 500 startups, called KISS or “Keep it Simple Security” which they released in July of 2014 and were produced in collaboration with Gunderson Dettmer. The KISS documents are a later version and flavor of convertibles first produced by YC called SAFE documents ( I’ll post more on those later).

Convertible Notes have been the most popular way to finance seed stage deals over the last few years because they are generally simpler and more cost efficient than a formal priced round. If a convertible note round is done right they can be simple and easy to complete because they contain less negotiation points as they have limited rights but as 500 Startups notes convertible note financing have grown increasingly complex containing more complicated conversion scenarios and numerous additional features.

Convertible Debt Version

We at MELD like their convertible note document a lot. The documents are clear and simple, and have no surprising terms. We particularly like that the KISS convertible note agreement addresses the case of non-payment at maturity. The agreement gives the note holder the option to convert into a newly created series seed shares using model documentation or explore other options (for example, extension of maturity). This is not mandatory and is decided by the majority of note holders. All KISS investors receive an MFN treatment and major investors (those who invested more than $50,000) receive basic information and participation rights.

Convertible Equity Version

KISS Equity securities have no interest rate and no repayment which is more company friendly. Just like the KISS convertible notes, they automatically convert into equity at the next round of equity financing but only if the financing is for $1 million or more. Like with convertible debt, the convertible equity securities offer the same MFN protection and major investors receive additional information and participation rights. The convertible equity securities are treated on pari passu with other KISS securities and convertible debt securities, including in terms of repayment.

Summary

Below are the summary of terms of both the convertible equity and convertible debt versions of the KISS documents. If you would like to generate your own KISS documents Cooley has an excellent KISS document generator here.

Element	KISS Terms	500 Startups Commentary	500 Startups Position
Versions	Equity: no interest, no repayment Debt: accrues interest, repayable at maturity	The equity version is more favorable for the company, so we’ll accept that version. But other investors may prefer the debt version.	If debt: Interest = 5% Maturity = 18 months
Treatment @ Financing	Automatic conversion to preferred stock when you raise a qualifying priced round. Conversion price = lesser of cap or discount.	We don’t think investors deserve any extra liquidation preference when the KISS converts, so we built in an optional feature to keep the preference to 1x.	Qualifying = $1M of new money Cap / Discount = to be negotiated on a dealbydeal basis
Treatment @ Acquisition	Option to either (a) convert to common stock at the cap or (b) get paid a multiple on the original investment.	Early investors should get at least a minimum return if your company is acquired prior to a priced round. We see a lot of acquihires with rich founder comp packages while investors get pennies on the dollar. Don’t be that founder.	Multiple = 2x
Treatment @ Maturity	Option to convert to Series Seed Preferred Stock at the cap. If debt version, option for repayment.	We think the Series Seed docs are fair and efficient. No need to reinvent the wheel here. If no option is selected, the KISS will remain outstanding until further action.
MFN	If you issue better securities in the future, KISS investors can convert to those terms instead.	KISS investors are generally investing in your company at a very early stage when there is still a huge amount of risk. A “mostfavored nation” term provides downside protection in the event the company does a “down round” (or otherwise grants more favorable terms to other i nvestors) in the future.
Major Investor Rights	Major Investors get basic information and participation rights.	If we are bullish on your company and we think its fits well within our portfolio, we may want to invest again in future rounds of financing. But in order for us to make this assessment, we need access to your financial statements and cap table. We realize, however, that you may not want to provide such sensitive information to all investors, so we provided the means to set a threshold so only the larger investors get these special rights.	Major Investor = one that invests $50k+ Participation = 1x the original KISS investment amount

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Compliance

By Dan Eyman

Convertible Debt Version

Convertible Equity Version

Summary

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