Convertible Loans and Convertible Notes Under Turkish Law: A Legal Guide for Startups and Investors

Convertible financing has become one of the most widely used methods for funding early-stage startups around the world.

Instead of determining a precise company valuation and issuing shares immediately, an investor may provide financing to the startup today with the expectation that the investment will later convert into equity.

This type of structure can be particularly attractive for startups that:

• need capital quickly,
• are too early to establish a reliable valuation,
• expect a larger investment round in the near future,
• want to postpone detailed equity negotiations, or
• wish to reduce the complexity of an early financing round.

International startup transactions frequently use instruments such as:

• convertible loans,
• convertible notes,
• SAFE agreements,
• convertible bonds, and
• other equity-linked financing instruments.

However, founders establishing or operating a startup in Turkey should be cautious.

A convertible note developed for a Delaware corporation cannot simply be copied and assumed to work identically for a Turkish company.

The Turkish legal system has its own rules concerning:

• loans,
• share capital,
• capital increases,
• shareholder pre-emption rights,
• joint stock companies,
• limited liability companies,
• corporate approvals,
• foreign currency transactions,
• interest,
• taxation, and
• share issuance.

Therefore, the commercial concept of “convertible financing” must be translated into a legally workable Turkish structure.

This article explains how convertible loans and convertible notes may be structured for startups in Turkey, the principal terms used in these investments, the legal risks involved and what founders and investors should consider before entering into a convertible financing transaction.

What Is a Convertible Loan?

A convertible loan is financing that initially creates a debt relationship between the investor and the startup but may later convert into equity.

At the beginning:

• the investor provides money,
• the company becomes the debtor, and
• the investor becomes the creditor.

At a later stage, instead of requiring repayment entirely in cash, the investor may acquire shares under the conditions specified in the agreement.

The conversion may occur when:

• the startup raises its next equity financing round,
• a specified investment threshold is reached,
• the loan reaches maturity,
• the company is sold,
• the parties agree to convert, or
• another defined event occurs.

The structure therefore combines characteristics of:

• debt financing, and
• equity financing.

What Is a Convertible Note?

The term convertible note is commonly used in international startup financing.

Economically, a convertible note generally represents a debt instrument that converts into equity upon specified events.

Typical terms may include:

• principal amount,
• interest rate,
• maturity date,
• valuation cap,
• conversion discount,
• qualified financing threshold,
• conversion price,
• repayment rights,
• change-of-control provisions, and
• investor protections.

Although “convertible loan” and “convertible note” are sometimes used interchangeably in startup practice, the exact legal characterization of the instrument should be determined according to its actual terms.

For Turkish startups, the name of the document is less important than how the financing is legally structured.

Calling an agreement a “Convertible Note” does not automatically create the same legal instrument available under US law.

Why Do Startups Use Convertible Financing?

One of the most important reasons is valuation uncertainty.

Consider a startup that has:

• developed an MVP,
• signed its first customers,
• generated limited revenue,
• received strong investor interest, but
• has not yet established predictable growth.

The founders believe the startup is worth USD 8 million.

The investor believes it is worth USD 4 million.

If the parties insist on completing a priced equity round immediately, negotiations may become difficult.

Instead, the investor may provide USD 500,000 through a convertible loan.

The parties postpone the valuation question until the next professional financing round.

The early investor receives economic protection through mechanisms such as:

• a valuation cap,
• a conversion discount, or
• both.

Priced Equity Round vs. Convertible Financing

A priced equity investment generally determines immediately:

• company valuation,
• investor ownership percentage,
• share price,
• share class,
• investor rights, and
• post-closing cap table.

A convertible financing may postpone some of these issues.

Priced Round

Investor pays USD 1 million.

Pre-money valuation is USD 4 million.

Post-money valuation is USD 5 million.

Investor receives 20%.

Convertible Loan

Investor provides USD 1 million.

No immediate final valuation is established.

The loan converts during the next financing based on:

• valuation cap,
• discount, or
• another agreed formula.

The second structure can make early financing faster, but it also creates future dilution uncertainty.

Is Convertible Financing Possible for Turkish Startups?

Convertible financing can be structured for Turkish startups, but it must be designed carefully.

The central legal challenge is that debt does not automatically become share capital merely because a contract states that “the loan converts into shares.”

The conversion ultimately requires a legally valid method for the investor to acquire equity.

Depending on the structure, this may involve:

• capital increase,
• share subscription,
• transfer of existing shares,
• conditional capital mechanisms where legally available,
• shareholder undertakings,
• corporate resolutions, or
• a combination of these mechanisms.

The appropriate structure depends significantly on whether the startup is incorporated as:

• an Anonim Şirket (A.Ş.), or
• a Limited Şirket (Ltd. Şti.).

Why the Company Type Matters

Convertible financing is generally easier to conceptualize for a joint stock company because the A.Ş. structure provides greater flexibility concerning:

• share issuance,
• different share groups,
• capital increases,
• investment rounds,
• registered capital,
• conditional capital structures, and
• future institutional investment.

An Ltd. Şti. can still receive convertible-style financing, but the conversion process may be less flexible because limited liability company share transfers and capital changes are subject to specific formal requirements.

For startups expecting repeated venture capital investment, an A.Ş. is generally more suitable.

Basic Structure of a Convertible Loan

A simplified convertible loan transaction may operate as follows:

1. Investor provides financing to the startup.
2. Startup records the amount as debt.
3. The agreement defines a future conversion event.
4. A qualified equity financing occurs.
5. The conversion price is calculated.
6. The investor becomes entitled to acquire shares.
7. Required corporate approvals are obtained.
8. The relevant capital increase or share transaction is completed.
9. Investor becomes a shareholder.

Each of these stages must be legally documented.

The conversion should not depend on vague assumptions.

What Is a Qualified Financing?

Convertible loan agreements commonly provide that conversion occurs upon a Qualified Financing.

This is usually a future equity financing exceeding a specified minimum amount.

For example:

A Qualified Financing means an equity financing in which the Company raises at least USD 2,000,000 from third-party investors.

Why use a threshold?

Because founders may not want a very small financing event to trigger conversion.

For example, the startup may raise only USD 50,000 from an angel investor.

It may not be commercially appropriate for every outstanding convertible loan to convert based on that small transaction.

The agreement should therefore define the threshold clearly.

Automatic Conversion

A convertible agreement may provide for automatic conversion upon a Qualified Financing.

For example:

Investor provides USD 500,000.

Startup later closes a USD 5 million Series A round.

The agreement states that the outstanding principal and accrued interest automatically become subject to conversion at the agreed conversion price.

However, “automatic conversion” should be understood commercially.

Actual acquisition of shares in a Turkish company may still require statutory corporate steps.

The contract should therefore require the founders and shareholders to take all necessary actions to implement the conversion.

Optional Conversion

Some structures allow the investor to decide whether to convert.

For example, at maturity the investor may choose between:

• repayment, or
• conversion into shares.

Optional conversion gives the investor additional flexibility.

However, founders should carefully consider whether allowing the investor unilateral conversion at any time could create unexpected cap table consequences.

The triggering circumstances should be clearly defined.

What Is a Valuation Cap?

A valuation cap is one of the most important terms in convertible startup financing.

It establishes a maximum valuation for purposes of calculating the convertible investor’s conversion price.

For example:

Convertible investment: USD 500,000

Valuation cap: USD 5 million

Next priced round valuation: USD 10 million

Without a valuation cap, the early investor might convert at the USD 10 million valuation.

With the USD 5 million cap, the investor may effectively convert as though the company were valued at USD 5 million, subject to the exact formula.

The investor therefore receives more shares.

Why Investors Request Valuation Caps

The early investor takes greater risk.

At the time of investment, the startup may:

• have fewer customers,
• have less revenue,
• be further from product-market fit, and
• have a greater risk of failure.

If the startup later becomes highly successful and raises at a much higher valuation, the early investor expects compensation for investing earlier.

The valuation cap provides that economic advantage.

Valuation Cap Example

Assume:

Convertible investor provides USD 1 million.

Valuation cap: USD 5 million.

Series A occurs at USD 10 million pre-money valuation.

Ignoring other complexities, the convertible investor may effectively receive approximately twice as much equity as an investor contributing the same amount at the Series A valuation.

This can create significant founder dilution.

Founders should therefore model the effect of the valuation cap before signing.

What Is a Conversion Discount?

Instead of or in addition to a valuation cap, the investor may receive a discount on the share price in the next financing round.

For example:

Series A investors pay USD 10 per share.

Convertible investor has a 20% discount.

Conversion price:

USD 8 per share.

The early investor therefore receives more shares for the same amount of capital.

The discount compensates the investor for earlier risk.

Valuation Cap vs. Discount

Convertible financing may contain both.

For example:

• valuation cap: USD 6 million,
• discount: 20%.

The agreement may provide that the investor converts at whichever method produces the lower conversion price.

Suppose the Series A valuation is USD 10 million.

The 20% discount produces an effective valuation of approximately USD 8 million.

The valuation cap is USD 6 million.

The cap therefore gives the investor the better price.

The investor may convert based on the cap.

Why Founders Must Model Both

Founders sometimes negotiate:

• cap,
• discount,
• interest

separately.

This can be dangerous.

The investor may receive the benefit of several mechanisms simultaneously depending on drafting.

The agreement should specify whether:

• the investor receives the cap or discount,
• the investor receives whichever is more favorable, or
• certain benefits apply cumulatively.

The cap table should then be modeled accordingly.

Interest on Convertible Loans

Because a convertible loan begins as debt, the agreement may provide for interest.

For example:

Principal: USD 500,000

Interest: 8% annually

Maturity: 24 months

If the loan converts after two years, the investor may be entitled to convert:

• principal, and
• accrued interest.

This creates additional dilution.

Founders should therefore calculate conversion using both amounts.

Does Interest Have to Convert?

Not necessarily.

The agreement may provide that:

• principal and interest both convert,
• only principal converts and interest is repaid,
• interest is waived upon conversion, or
• another arrangement applies.

The parties should specify this clearly.

Otherwise, disagreement may arise during the financing round.

Maturity Date

A convertible loan normally has a maturity date.

For example:

18 months.

24 months.

36 months.

If no Qualified Financing occurs before maturity, the agreement must specify what happens.

Possible outcomes include:

• repayment,
• automatic conversion,
• investor option to convert,
• extension by agreement,
• conversion at a predetermined valuation, or
• another restructuring.

Maturity is one of the most important provisions because a startup may not have enough cash to repay the loan.

The Maturity Problem

Suppose a startup receives USD 1 million through a convertible loan.

The maturity date arrives after two years.

No financing round occurred.

The startup has only USD 200,000 cash.

If the investor has an unconditional right to demand repayment of USD 1 million plus interest, the company may face insolvency risk.

Founders should therefore avoid treating maturity as a technical provision.

The maturity structure should reflect realistic startup cash flow.

Conversion at Maturity

One alternative is to provide that the investor can convert the outstanding debt if maturity occurs without a Qualified Financing.

The agreement may specify a valuation.

For example:

At maturity, investor may convert at the lower of:

• USD 6 million valuation, or
• fair market value.

However, “fair market value” can create disputes.

The agreement should define:

• who determines it,
• how it is calculated, and
• what happens if the parties disagree.

Repayment Rights

Investors may insist on repayment rights because the instrument is legally structured as debt.

Founders should examine:

• repayment timing,
• interest,
• default interest,
• acceleration,
• security,
• events of default, and
• subordination.

A convertible loan that can become immediately repayable following minor breaches may create significant startup risk.

Events of Default

The agreement may define events of default such as:

• failure to pay amounts when due,
• insolvency,
• liquidation,
• material breach,
• unauthorized asset disposal,
• fraud,
• breach of investment restrictions, or
• incorrect representations.

Upon default, the investor may gain rights such as:

• accelerated repayment,
• default interest,
• enforcement rights, or
• conversion.

The default provisions should be proportionate.

Secured vs. Unsecured Convertible Loans

A convertible loan may be:

• secured, or
• unsecured.

Most early-stage startup convertible financing is commonly unsecured because startups may have limited assets.

However, an investor may request security over:

• bank accounts,
• receivables,
• equipment,
• shares, or
• intellectual property.

Granting security over core startup assets can create significant consequences for later investors.

A future VC investor may object if the startup’s technology has been pledged to an earlier lender.

Subordination

Future institutional investors may require existing debt to be subordinated.

For example, a bank or venture lender may want priority over earlier founder or investor loans.

Convertible agreements should therefore consider whether the debt can be subordinated in future financing.

Overly rigid creditor protections may complicate later investment.

Conversion Into Which Shares?

A critical issue is determining what type of shares the convertible investor receives.

The agreement may provide that the investor converts into:

• the same share class issued in the next financing,
• ordinary shares,
• a separate investor class, or
• another defined share type.

For example, if Series A investors receive preferred economic rights, the convertible investor may expect the same class.

However, the agreement may provide adjustments because the convertible investor already benefits from a discount.

The issue should be settled before conversion.

Same Shares as New Investors

A common international structure provides that convertible investors receive the same type of shares issued to the new financing investors.

For example:

Series A investor receives Series A Preferred.

Convertible investor converts into Series A-equivalent shares.

For a Turkish company, however, international preferred-share terminology must be translated into rights legally recognized under Turkish company law.

The parties should identify which privileges can actually be created.

Share Privileges in a Turkish A.Ş.

A Turkish joint stock company may establish different share groups and certain privileges within statutory limits.

Depending on the structure, privileges may concern issues such as:

• voting,
• dividends,
• board representation, or
• other rights permitted under Turkish law.

However, foreign venture capital terms cannot simply be copied into the articles of association.

The economic intention should be examined provision by provision.

Capital Increase at Conversion

Where conversion occurs through issuance of new shares, the startup may need to implement a capital increase.

This may require:

• corporate resolutions,
• amendment of the articles of association where necessary,
• subscription of shares,
• handling of pre-emption rights,
• payment or set-off mechanisms,
• registration, and
• updates to company records.

The convertible agreement should therefore bind the relevant parties to cooperate with the capital increase.

Can the Loan Receivable Be Used for Share Subscription?

One potential structure may involve using the investor’s receivable against the company as part of the economic mechanism for subscribing to shares, subject to applicable corporate rules and proper implementation.

This requires careful corporate and accounting analysis.

The parties should not assume that a loan can simply be “deleted” and replaced by shares through a private agreement alone.

The underlying capital increase must comply with applicable law.

Pre-Emption Rights of Existing Shareholders

Existing shareholders may have statutory rights concerning new share issuances.

This creates an important issue for convertible financing.

Suppose:

Founder A owns 60%.

Founder B owns 40%.

Convertible investor becomes entitled to receive 20% upon conversion.

If new shares are issued, existing shareholders’ pre-emption rights may need to be addressed.

The investment structure should therefore consider how these rights will be:

• exercised,
• waived,
• restricted, or
• otherwise managed in accordance with Turkish law.

Founder Undertakings

Because future corporate actions may depend on shareholder approval, convertible investors frequently require founders to undertake that they will:

• vote in favor of the necessary capital increase,
• waive relevant pre-emption rights where legally possible,
• amend the articles of association,
• approve the investor’s share class, and
• execute required documents.

Such obligations can help reduce the risk that founders later refuse to implement conversion.

However, contractual commitments must still be coordinated with mandatory corporate rules.

What Happens if Shareholders Refuse to Approve Conversion?

This is one of the major risks in poorly drafted convertible financing.

The investor may have a contract stating:

“The loan shall convert into 15% of the Company.”

But if the required corporate actions are never taken, the investor may not automatically become a shareholder.

The investor may instead have:

• contractual claims,
• damages claims,
• repayment rights, or
• other remedies.

The documentation should therefore include strong implementation obligations.

Conditional Capital in Joint Stock Companies

Turkish joint stock company law recognizes conditional capital increase mechanisms in certain circumstances.

These mechanisms can potentially be relevant for instruments involving rights to acquire new shares.

However, their use is subject to statutory requirements and cannot be assumed to apply automatically to every startup convertible loan.

Whether conditional capital provides an appropriate solution depends on:

• investor type,
• underlying instrument,
• articles of association,
• company structure, and
• statutory conditions.

Professional legal analysis is therefore required.

Registered Capital System

For qualifying joint stock companies, a registered capital structure may provide greater flexibility for future share issuance within an authorized ceiling.

This can be relevant for startups expecting:

• multiple investment rounds,
• employee equity,
• convertible instruments, and
• rapid capital increases.

However, the registered capital system does not eliminate all legal requirements.

Founders should structure it with future fundraising in mind.

Convertible Financing in an Ltd. Şti.

Convertible financing may be more cumbersome for an Ltd. Şti.

The investor can provide a loan to an Ltd. Şti., but eventual conversion into equity may require:

• capital increase,
• amendments to company documents,
• general assembly action, and
• compliance with the legal rules governing limited liability company interests.

If conversion instead involves transfer of existing shares, formal share transfer requirements must also be satisfied.

For this reason, startups planning institutional convertible financing should consider whether conversion into an A.Ş. is commercially preferable.

Debt-to-Equity Conversion vs. Share Transfer

Convertible financing can theoretically produce equity through different structures.

New Share Issuance

Investor receives newly issued equity.

Existing shareholders are diluted.

Existing Share Transfer

Founders or existing shareholders transfer part of their holdings to the investor.

The company may remain liable for the loan unless the debt is separately settled or restructured.

These structures have different legal and economic consequences.

The agreement should clearly identify the intended mechanism.

What Is a SAFE?

SAFE stands for Simple Agreement for Future Equity.

It was developed as an alternative to traditional convertible notes.

Unlike a classic convertible loan, a SAFE is generally designed not to function as conventional debt.

Typical SAFE structures may have:

• no interest,
• no maturity date, and
• conversion upon future equity financing.

The investor provides capital today for future equity rights.

However, a US-style SAFE is based on a corporate environment different from Turkey.

SAFE vs. Convertible Loan

A simplified comparison:

Convertible Loan

• debt-based,
• may carry interest,
• usually has maturity,
• may require repayment,
• converts under defined events.

SAFE

• generally intended as future equity right,
• typically no interest,
• typically no maturity in the classic model,
• conversion linked to future events.

For Turkish startups, the legal characterization of a SAFE-style agreement must be carefully considered.

Simply calling the document a SAFE does not determine how Turkish law will treat it.

Why Standard Y Combinator SAFE Documents Are Risky for Turkish Companies

A standard SAFE assumes specific corporate mechanisms for future share issuance.

A Turkish startup may face questions concerning:

• whether the future equity obligation is legally effective,
• how shares will be issued,
• which corporate approvals are required,
• shareholder pre-emption rights,
• capital increase formalities,
• investor remedies,
• accounting treatment,
• taxation, and
• what happens if no financing round occurs.

Therefore, a SAFE should be adapted rather than copied.

Convertible Loan vs. SAFE: Which Is Better in Turkey?

There is no universal answer.

A convertible loan may provide clearer creditor rights because the initial relationship is debt-based.

A SAFE-style structure may be commercially simpler but can create more difficult questions concerning legal characterization and future share issuance.

The appropriate structure depends on:

• company stage,
• company type,
• investor expectations,
• expected financing timetable,
• tax treatment,
• accounting treatment, and
• future equity mechanics.

Conversion During a Qualified Financing

Suppose:

Investor provides USD 500,000.

Valuation cap: USD 5 million.

Discount: 20%.

Qualified Financing threshold: USD 2 million.

Six months later, the startup raises USD 4 million at a USD 10 million pre-money valuation.

The investor converts.

The agreement determines whether conversion uses:

• USD 5 million cap, or
• 20% discount from USD 10 million.

The cap may be more favorable.

The early investor therefore receives equity calculated on better economic terms than the new investor.

Post-Money Cap vs. Pre-Money Cap

Modern convertible investment structures sometimes distinguish between:

• pre-money valuation cap, and
• post-money valuation cap.

The difference can significantly affect dilution.

A post-money cap may provide greater certainty regarding the percentage allocated to the convertible investor because it more directly incorporates the investor’s own financing into the valuation calculation.

A pre-money cap can create more uncertainty, particularly where multiple convertible instruments exist.

Founders should understand which model applies.

Multiple Convertible Loans

Suppose a startup raises:

Investor A: USD 250,000
Investor B: USD 500,000
Investor C: USD 750,000

All have:

• different valuation caps,
• different discounts,
• different investment dates.

At the next financing round, all may convert simultaneously.

The conversion calculation can become extremely complicated.

Founders may believe they own 100% immediately before Series A.

Economically, however, a significant portion of the company may already be promised to convertible investors.

Cap Table Overhang

Outstanding convertible instruments create what may be described as a cap table overhang.

The shares have not yet been formally issued, but the startup has contractual obligations that may result in future equity.

A Series A investor will want to know:

• how many instruments exist,
• how much principal is outstanding,
• what caps apply,
• what discounts apply,
• whether interest converts, and
• what percentage the instruments will receive.

Failing to model this can create severe founder dilution.

Convertible Financing Example With Multiple Investors

Assume founders currently own 100%.

Convertible Investor A:

USD 500,000
USD 4 million cap

Convertible Investor B:

USD 500,000
USD 6 million cap

Series A later occurs at:

USD 10 million valuation.

Investor A may convert at more favorable economics than Investor B.

Then the Series A investor also receives new shares.

Founder dilution therefore results from:

1. conversion of Investor A,
2. conversion of Investor B, and
3. Series A share issuance.

The final founder percentage may be substantially lower than expected.

Employee Option Pool Interaction

A future VC investor may also require an employee option pool.

The sequence may therefore be:

1. convert notes,
2. expand option pool,
3. issue Series A shares.

Or another negotiated order may apply.

The order matters.

Different sequencing can shift dilution among:

• founders,
• convertible investors,
• existing shareholders, and
• new investors.

The investment documents should define the capitalization formula precisely.

Most Favored Nation Clauses

An early convertible investor may request a Most Favored Nation, or MFN, clause.

Suppose Investor A signs a convertible loan today.

Six months later, the startup gives Investor B:

• a lower valuation cap,
• higher discount, or
• better conversion rights.

An MFN clause may allow Investor A to adopt some or all of Investor B’s more favorable terms.

MFN provisions can protect early investors but may complicate future financing.

Pro Rata Rights After Conversion

Convertible investors may also negotiate rights to participate in the next financing round in addition to converting their existing investment.

For example, the investor may:

1. convert the loan, and
2. invest additional capital to maintain or increase ownership.

These rights should be considered when allocating the next financing round.

Too many pro rata rights may reduce the amount available to a new lead investor.

Information Rights Before Conversion

A convertible investor may not yet be a shareholder.

The investor may nevertheless request contractual rights to receive:

• financial statements,
• management reports,
• cap table updates,
• financing notices, and
• major corporate event notifications.

Founders should determine whether these reporting obligations are proportionate to the investment amount.

Investor Consent Rights Before Conversion

Some convertible investors request approval rights before becoming shareholders.

For example, the company may agree not to:

• incur major debt,
• sell core IP,
• issue senior securities,
• distribute assets, or
• complete a company sale

without investor approval.

Founders should be cautious.

A small convertible investor who does not yet own shares should not necessarily receive broad operational veto rights.

Negative Covenants

Instead of governance rights, the agreement may contain negative covenants.

The startup may promise not to take specified actions without notice or consent.

These might include:

• issuing more senior debt,
• pledging core IP,
• paying unusual founder distributions,
• selling substantially all assets, or
• entering related-party transactions.

The scope should be carefully negotiated.

Change of Control Before Conversion

What happens if the startup is sold before the convertible loan converts?

This must be addressed.

Possible structures include:

• repayment with a premium,
• conversion immediately before the sale,
• payment of a multiple of invested capital,
• participation based on the valuation cap, or
• investor choice between alternatives.

Without a clear provision, an early acquisition can create significant disagreement.

Exit Premium

For example, the agreement may provide:

If the company is sold before conversion, investor receives the higher of:

• 2x the outstanding investment, or
• the amount the investor would have received if converted immediately before the sale.

This protects the early investor in a quick exit.

However, founders should model low-value exit scenarios carefully.

Liquidation Before Conversion

The agreement should also specify what happens if the startup:

• becomes insolvent,
• enters liquidation, or
• ceases business

before conversion.

Because a convertible loan begins as debt, the investor may have creditor rights.

However, the ranking of the claim may depend on:

• security,
• subordination,
• insolvency law, and
• other creditors.

Investors should not assume they will necessarily recover the entire loan.

Conversion and Liquidation Preference

A convertible investor may convert into the same class as a future VC investor.

If that share class has liquidation preference, the convertible investor may also receive similar economic protection.

This can affect exit proceeds.

Founders should understand whether the conversion discount is the investor’s only reward or whether the investor also receives all later preferred rights.

Representations and Warranties

Convertible financing documents may contain representations from the company and founders concerning:

• valid incorporation,
• authority,
• share ownership,
• IP,
• litigation,
• compliance,
• capitalization, and
• existing debt.

Early-stage instruments are often shorter than priced-round documents.

However, founders should still avoid providing inaccurate or excessively broad warranties.

Founder Personal Liability

Founders should pay close attention to whether they are personally liable.

The borrower should normally be identified clearly.

If the loan is made to the company, founders should understand whether they are also providing:

• personal guarantees,
• indemnities,
• repayment undertakings, or
• security.

A founder should not accidentally transform company financing into personal debt.

Personal Guarantees

An investor may request founders to personally guarantee repayment.

This substantially changes the risk.

If the startup fails, the investor could potentially pursue the founders personally.

Personal guarantees are generally inconsistent with the risk profile founders expect from equity-style startup financing and should be considered very carefully.

Foreign Investors

Foreign investors may provide convertible financing to Turkish startups.

However, cross-border transactions may require consideration of:

• foreign currency rules,
• banking procedures,
• tax,
• withholding,
• documentation,
• beneficial ownership,
• transfer of funds,
• applicable double taxation treaties, and
• foreign corporate approvals.

The financing documents should be coordinated with financial and tax advisers.

Foreign Currency Convertible Loans

Startup investments are frequently negotiated in:

• USD,
• EUR, or
• GBP.

The agreement may specify the principal in foreign currency.

However, Turkish foreign exchange legislation and restrictions applicable to foreign-currency loans may be relevant depending on:

• lender,
• borrower,
• residency,
• transaction type, and
• circumstances.

Founders should not assume every domestic or cross-border foreign-currency loan structure is automatically permissible.

This issue should be reviewed before funds are transferred.

Interest and Taxation

Interest payments may have tax consequences.

Depending on the parties and transaction, issues may include:

• withholding,
• corporate taxation,
• banking and insurance transaction tax considerations,
• transfer pricing,
• thin capitalization,
• related-party financing, and
• double taxation treaties.

Convertible financing therefore requires both corporate and tax analysis.

The fact that the debt may eventually convert does not necessarily eliminate tax consequences arising during the debt period.

Related-Party Convertible Loans

A founder, existing shareholder or group company may provide a convertible loan.

Related-party financing may create additional concerns regarding:

• transfer pricing,
• arm’s-length interest,
• thin capitalization,
• corporate benefit, and
• taxation.

These issues should be reviewed separately from third-party VC financing.

Convertible Financing and Financial Assistance

Investment structures should also be reviewed for compliance with mandatory company law restrictions.

Complex transactions involving:

• company financing of share acquisitions,
• guarantees,
• security,
• founder buyouts, or
• related-party arrangements

may create separate corporate law issues.

The commercial goal should not obscure statutory limitations.

Share Premium at Conversion

The investor may invest an amount far exceeding the nominal value of shares received.

For example:

Nominal share capital increase: TRY 100,000.

Economic investment converted: equivalent of USD 1 million.

The difference may need to be treated through share premium or another legally appropriate mechanism.

The final corporate documentation should reflect the economics accurately.

Can Conversion Guarantee a Fixed Percentage?

Some agreements state that the investor will receive a fixed percentage.

For example:

Upon Qualified Financing, Investor shall receive 10% of the Company.

This sounds simple but can create major questions.

Is 10% calculated:

• before the new financing?
• after the financing?
• before the option pool?
• after the option pool?
• before other convertibles?
• after other convertibles?
• on an issued basis?
• on a fully diluted basis?

The denominator must be defined.

Otherwise, a fixed-percentage clause may create significant disputes.

Percentage-Based Convertible Investments

Percentage-based structures can be even more complicated where several investors hold similar rights.

If three investors are each promised 10%, are they collectively receiving 30% before the next round?

Does each 10% calculation include the others?

Precise formulas are essential.

For this reason, institutional financing usually relies on detailed capitalization definitions.

Discount-Based Conversion Formula

A more precise structure may establish a conversion price.

For example:

Conversion Price = Price Per Share in Qualified Financing × 80%

This implements a 20% discount.

The agreement should also address:

• rounding,
• accrued interest,
• share class,
• option pool,
• fractional shares, and
• capital mechanics.

Cap-Based Conversion Formula

A valuation cap formula may determine a notional share price based on:

Valuation Cap / Fully Diluted Pre-Money Capitalization.

Again, “Fully Diluted Pre-Money Capitalization” must be defined.

Does it include:

• employee options?
• unallocated option pool?
• other convertibles?
• warrants?
• founder options?

Small drafting differences can significantly alter investor ownership.

Legal Due Diligence in Convertible Financing

Convertible rounds may be faster than priced rounds, but investors should still conduct sufficient legal review.

At minimum, an investor should generally verify:

• company existence,
• authority to borrow,
• current capitalization,
• previous convertible instruments,
• material IP ownership,
• litigation,
• regulatory issues, and
• founder authority.

Otherwise, the investor may enter a convertible instrument with a company that cannot later deliver the expected equity.

Existing Debt

A convertible investor should know whether the startup already owes substantial amounts to:

• founders,
• banks,
• other investors,
• group companies, or
• suppliers.

If the startup fails, the ranking of creditor claims may become important.

The agreement should also determine whether existing debt can convert or has priority.

Existing Convertible Instruments

Founders must disclose previous convertible financings.

Suppose Investor B believes it will convert based on a USD 6 million cap.

However, Investor A already holds a USD 3 million cap and significant pro rata rights.

Investor B’s ultimate ownership may be affected materially.

An accurate fully diluted cap table is therefore important even in an early convertible round.

Future Financing Restrictions

A convertible investor may request restrictions on the startup issuing future convertible instruments on better terms.

This can be implemented through:

• MFN rights,
• investor consent, or
• notice obligations.

Founders should avoid granting restrictions that prevent the company from responding flexibly to market conditions.

Amendment Provisions

Where multiple investors participate in the same convertible round, the documents may permit amendments with approval of a specified investor majority.

For example:

Holders of more than 66.67% of the outstanding principal may approve amendments binding all noteholders.

This can prevent one small investor from blocking a necessary restructuring.

However, certain fundamental rights may require individual consent.

Convertible Noteholder Majority

Investor-majority provisions may be useful where dozens of angel investors participate.

Otherwise, every amendment may require unanimous approval.

This can become extremely difficult during:

• Series A financing,
• company sale,
• extension of maturity, or
• debt restructuring.

The agreement should balance collective decision-making with minority investor protection.

Conversion Documents

At conversion, investors may be required to sign the same transaction documents as the new equity investors.

These may include:

• Shareholders’ Agreement,
• Share Subscription Agreement,
• accession documents,
• updated articles,
• investment representations, and
• other closing documents.

The convertible agreement should specify whether the investor is obligated to sign them.

Otherwise, the investor may refuse and delay the financing.

Investor Rights After Conversion

The agreement should clarify whether the convertible investor receives:

• board rights,
• information rights,
• pro rata rights,
• tag-along rights,
• liquidation preference,
• anti-dilution rights, or
• only the economic rights attached to the shares.

Not every small convertible investor should necessarily receive extensive governance rights.

The future Shareholders’ Agreement may establish thresholds.

Accession to the Shareholders’ Agreement

A common mechanism is requiring convertible investors to accede to the Shareholders’ Agreement at conversion.

For example:

As a condition to receiving Conversion Shares, Investor shall execute a deed of adherence to the Shareholders’ Agreement then in effect.

This ensures that all shareholders are subject to consistent rules concerning:

• share transfers,
• confidentiality,
• drag-along,
• tag-along, and
• governance.

Founder Control

Founders sometimes choose convertible financing because no voting shares are issued immediately.

This can preserve control temporarily.

However, founders should remember that future conversion may produce significant ownership and governance changes.

Convertible financing postpones dilution.

It does not eliminate dilution.

Is Convertible Financing Always Faster?

Not necessarily.

A simple early-stage loan with one investor may be relatively quick.

But complexity increases significantly where the transaction includes:

• multiple investors,
• valuation caps,
• discounts,
• security,
• foreign lenders,
• MFN rights,
• pro rata rights,
• governance covenants, and
• custom conversion formulas.

At some point, a priced equity round may actually provide greater clarity.

When Is a Convertible Loan Appropriate?

Convertible financing may be suitable where:

• the startup is early-stage,
• valuation is difficult,
• the next equity round is expected relatively soon,
• the investment amount is limited,
• the parties want faster execution, and
• the cap table remains simple.

It may be less appropriate where:

• the startup already has a clear institutional valuation,
• multiple complicated investor rights are required,
• repayment risk is significant,
• the next financing is uncertain, or
• conversion mechanics are difficult under the current company structure.

Bridge Financing

Convertible loans are frequently used as bridge financing.

Suppose a startup expects to raise Series A in nine months but needs USD 1 million immediately.

The startup may raise a convertible bridge loan.

The bridge investors receive:

• interest,
• discount,
• valuation cap, or
• another benefit.

When Series A closes, the bridge converts.

This can be efficient if the next round actually occurs.

Risks of Bridge Financing

A bridge loan can become dangerous if the expected financing fails.

The startup may then face:

• maturity,
• repayment,
• increasing interest,
• investor default rights, and
• insufficient cash.

Founders should therefore consider a downside scenario:

What happens if the next investment round never occurs?

The answer should be clear before taking the bridge financing.

Convertible Financing Before an Exit

A startup may also raise convertible financing shortly before a potential acquisition.

The agreement should address whether:

• the investor converts,
• receives a repayment premium,
• participates in the sale, or
• has a choice.

Otherwise, the financing may complicate the acquisition negotiations.

A buyer will want the convertible obligations resolved at closing.

Conversion and Founder Dilution Example

Before financing:

Founder A: 60%
Founder B: 40%

Convertible Investor invests USD 1 million at a USD 4 million valuation cap.

Later, Series A investor invests USD 3 million at a USD 9 million pre-money valuation.

Depending on the conversion formula, the convertible investor may receive a substantial percentage before or alongside the Series A investment.

The founders may then be diluted by:

• convertible conversion,
• new Series A shares, and
• potentially an employee option pool.

This is why founders should never evaluate a convertible investment only by looking at the amount borrowed.

Common Mistakes in Convertible Financing

Copying a US Convertible Note

The corporate conversion mechanics may not work for a Turkish company.

Assuming Conversion Is Automatic

Turkish corporate procedures may still be required.

No Defined Qualified Financing

A very small financing may unexpectedly trigger conversion.

No Maturity Solution

The company may face a repayment crisis.

Aggressive Valuation Cap

Future founder dilution may be much higher than expected.

Cap Plus Discount Without Clear Priority

The parties may disagree about which formula applies.

Ignoring Accrued Interest

Interest may significantly increase conversion shares.

No Fully Diluted Cap Table

Founders underestimate multiple convertible instruments.

Unclear Share Class

Investor and founders disagree at conversion.

Ignoring Pre-Emption Rights

Existing shareholder rights may obstruct implementation.

Giving Small Investors Veto Rights

Future fundraising becomes unnecessarily difficult.

No Change-of-Control Provision

An early acquisition creates uncertainty.

Personal Founder Guarantee

Equity-style startup risk becomes personal debt risk.

Security Over Core IP

Future investors may object.

No Tax Review

Interest and cross-border payments may create unexpected liabilities.

Foreign Currency Problems

The financing may conflict with applicable currency restrictions.

No Conversion Cooperation Undertaking

Shareholders may later refuse required corporate action.

Convertible Financing Checklist

Before signing, founders and investors should determine:

• lender,
• borrower,
• principal amount,
• currency,
• interest rate,
• default interest,
• maturity date,
• Qualified Financing threshold,
• automatic or optional conversion,
• valuation cap,
• pre-money or post-money cap,
• conversion discount,
• priority between cap and discount,
• treatment of interest,
• conversion price,
• fully diluted capitalization definition,
• share class,
• existing convertibles,
• option pool treatment,
• pre-emption rights,
• corporate approvals,
• capital increase mechanism,
• shareholder undertakings,
• maturity treatment,
• repayment rights,
• events of default,
• security,
• subordination,
• change-of-control treatment,
• liquidation treatment,
• MFN rights,
• pro rata rights,
• information rights,
• investor consent rights,
• future financing restrictions,
• amendment threshold,
• accession to future shareholder agreements,
• governing law,
• dispute resolution,
• tax treatment, and
• foreign exchange compliance.

These terms should be considered as one integrated structure.

Practical Example: Early Seed Convertible Loan

A Turkish software startup requires USD 500,000.

The parties agree:

Principal: USD 500,000

Maturity: 24 months

Interest: 6%

Qualified Financing: minimum USD 2 million equity round

Valuation cap: USD 5 million

Discount: 20%

Conversion: lower of cap-based or discounted price

Change of control: investor receives the higher of agreed repayment premium or conversion value

Security: none

Founder guarantee: none

Investor governance rights before conversion: limited information rights

At Series A, the outstanding principal and agreed accrued interest convert according to the defined formula.

The necessary Turkish corporate actions are then completed to issue the investor shares.

This provides the commercial flexibility of convertible financing while clearly defining the key mechanics.

Practical Example: Poorly Structured Convertible Loan

Consider an agreement stating only:

Investor lends USD 1 million to the Company. The amount will convert into 15% equity in the next round.

This creates numerous questions.

Does the 15% mean:

• immediately before the next investor enters?
• after the new investor enters?
• before or after the ESOP?
• before or after other convertibles?
• issued or fully diluted?
• which class of shares?
• does interest convert?
• what happens if no next round occurs?
• what happens if the company is sold first?
• who approves the capital increase?
• what if a founder refuses?
• what corporate procedure implements the conversion?

A short agreement is not necessarily a simple agreement.

Ambiguity can create significantly more cost later.

Practical Example: Multiple Convertible Investors

A startup raises:

Investor A: USD 250,000 at USD 3 million cap

Investor B: USD 500,000 at USD 5 million cap

Investor C: USD 750,000 at USD 7 million cap

A Series A round later occurs at USD 12 million valuation.

All three investors may convert at different effective prices.

The startup also creates a 10% employee pool.

The founders’ percentage can decline dramatically.

Before accepting each convertible investment, the company should therefore maintain a model showing how every outstanding instrument converts.

When Should Convertible Financing Be Avoided?

A priced equity round may be preferable where:

• valuation can already be agreed,
• the investment amount is substantial,
• institutional investors require full shareholder rights,
• many convertible instruments already exist,
• the startup needs long-term capital rather than bridge funding,
• the company cannot realistically repay at maturity, or
• conversion mechanics would require extensive restructuring.

Convertible financing should not be used merely because it appears simpler.

The instrument should fit the commercial circumstances.

Why Legal Structuring Matters

The essential difficulty in Turkish convertible financing is the gap between:

the contractual promise to provide future equity

and

the corporate steps required to legally create or transfer that equity.

A properly structured transaction must connect the two.

The documents should establish:

1. the investor’s contractual rights;
2. the economic conversion formula;
3. the corporate mechanism for issuing or transferring shares;
4. shareholder cooperation obligations;
5. treatment of pre-emption rights;
6. remedies if conversion cannot be implemented.

Without this coordination, the investor may believe it owns future equity while legally holding only a contractual claim.

Convertible Financing and Future Due Diligence

Series A investors will examine outstanding convertible instruments carefully.

They may request:

• copies of all notes,
• side letters,
• cap tables,
• conversion calculations,
• interest calculations,
• MFN rights,
• pro rata rights, and
• investor consent provisions.

Inconsistent terms may complicate the new round.

For example, ten angel investors may each have slightly different conversion rights.

The lead VC may require restructuring before closing.

Using standardized and carefully coordinated documentation can prevent this problem.

Side Letters

Investors sometimes negotiate separate side letters.

These may provide:

• information rights,
• pro rata rights,
• MFN protection,
• observer rights, or
• special consent rights.

Founders should maintain a complete register of side letters.

A future investor reviewing only the main convertible agreement may otherwise receive an inaccurate picture of outstanding obligations.

Conversion Before Series A Closing

A future institutional investor may require all convertible debt to convert before or simultaneously with Series A.

The closing sequence may therefore be:

1. existing convertibles calculate conversion;
2. shareholder approvals are adopted;
3. notes convert;
4. option pool is adjusted;
5. Series A capital increase occurs;
6. all investors sign the new Shareholders’ Agreement.

Closing mechanics should be coordinated carefully.

Convertible Investors and Negotiating Power

Convertible investors may have economic rights but limited governance before conversion.

At the next financing, however, their cooperation may become necessary.

For example, amendments to the convertible terms may require investor consent.

If a large number of noteholders exist, one investor could potentially delay a financing.

Majority amendment clauses can therefore be commercially important.

Conclusion

Convertible loans and convertible notes can provide an effective financing tool for startups in Turkey, particularly during early-stage or bridge financing.

They allow founders and investors to postpone a detailed valuation while providing immediate capital to the company.

Typical economic terms include:

• valuation cap,
• conversion discount,
• interest,
• maturity,
• Qualified Financing,
• automatic conversion,
• change-of-control treatment, and
• future investor rights.

However, convertible financing should not be treated as a simple foreign template exercise.

For a Turkish startup, the most important legal question is not merely:

When will the loan convert?

The critical question is:

How will the investor legally acquire shares under Turkish corporate law when the conversion event occurs?

The transaction may require coordination of:

• contract law,
• corporate law,
• capital increase procedures,
• pre-emption rights,
• articles of association,
• shareholder undertakings,
• foreign exchange rules,
• taxation, and
• accounting.

Founders should also model future dilution carefully.

Several small convertible investments can collectively result in substantial founder dilution when they convert.

Before accepting convertible financing, founders should understand:

• how much equity the investor may ultimately receive,
• which valuation applies,
• whether interest converts,
• what happens if no financing occurs,
• whether repayment can be demanded,
• what happens if the company is sold,
• whether personal guarantees exist,
• and how conversion will be implemented legally.

Convertible financing can be fast and flexible when structured properly.

Poorly drafted convertible financing can produce the opposite result: uncertain ownership, repayment pressure, investor disputes and difficulties during the next institutional investment round.

For Turkish startups intending to raise venture capital, the convertible instrument should therefore be designed not only for today’s bridge financing but also for tomorrow’s cap table, Series A investment and eventual exit.

Legal Disclaimer: This article is provided for general informational purposes only and does not constitute legal, tax, financial or investment advice. Convertible loans, convertible notes and future equity arrangements may have different legal consequences depending on the company’s legal form, investor identity, financing currency, corporate structure and transaction terms. Startups and investors should obtain professional Turkish legal and tax advice before entering into convertible financing arrangements.