Meaning
Investment contracts specify the use of financial instruments that combine the features of both debt and equity. Investors use dual track security structures to gain the protection of a senior loan while retaining the option to participate in the upside of the company. These arrangements are common in growth stage financing and distressed debt scenarios.
Convertible Feature
Loans may be turned into common or preferred shares at a predetermined price. The dual track security structures allow the lender to wait and see if the company succeeds before committing to a permanent equity position. This flexibility is a valuable tool for managing the risks of early stage investing.
Liquidation Priority
Holders of these instruments sit at the top of the capital stack during a wind down or a sale. Because dual track security structures begin as debt, they must be repaid before any money is distributed to the founders or the common shareholders. This safety net is a primary reason why lenders choose this specific model.
The terms usually include a fixed interest rate and a maturity date for the principal.
Governance Right
Participation in the oversight of the company is often granted to the holders of these securities. The dual track security structures may include board observer seats or the right to veto major corporate actions. This control helps the investor protect their financial interest during the period before conversion.
