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The difference between a subordinated and a convertible loan lies in repayment and return: with a subordinated loan, the lender is repaid only after other creditors, whereas a convertible loan can be converted into shares at a later date. Both forms have their own advantages and disadvantages, depending on your growth plans and risk profile. Below, you can read how they work and how to choose.
What is a subordinated loan?
A subordinated loan is a loan in which the lender is repaid only after other creditors in the event of bankruptcy or dissolution — they are at the back of the line. As a result, they face a higher risk than regular creditors, while other creditors (such as the bank) are not disadvantaged. In compensation for this risk, the lender often receives a higher interest rate. For entrepreneurs, a subordinated loan is attractive because it improves the company's solvency.
What is a convertible loan?
A convertible loan is a loan that can later be converted into shares of the company. You determine the terms—such as the conversion rate and the timing of the conversion—in advance in the loan agreement. This allows the investor to benefit from a potential increase in the company's value.
The benefits:
- For the entrepreneur: deferred dilution of share capital, because the conversion takes place only later — attractive in cases of growth potential. Often also a lower interest rate, which benefits cash flow in the short term.
- For the investor: both interest income and the chance of the shares appreciating in value.
How do you choose between both loans?
The choice depends on your situation and needs:
- Subordinated loan: attractive for strengthening solvency and creating room for bank financing, at a higher interest rate.
- Convertible loan: suitable for growth companies that want to defer dilution and allow investors to benefit, at a lower interest rate.
There are many more forms of credit and financing available. Carefully weigh the pros and cons and seek advice if necessary.
Frequently Asked Questions
Why does a subordinated loan have a higher interest rate?
Because in the event of bankruptcy, the lender is repaid only after the other creditors and therefore runs a greater risk. The higher interest rate compensates for that risk.
When is a convertible loan converted into shares?
At the predetermined time and at the agreed conversion rate, as stipulated in the loan agreement (for example, at a subsequent financing round).
Does a subordinated loan improve my solvency?
Yes, because the loan is subordinated, it is weighted more favorably by other lenders, which strengthens solvency and thus your financing options.
Which loan suits a growth company?
Often a convertible loan, because it defers dilution and allows the investor to benefit from growth, usually at a lower interest rate. The right choice remains a tailored approach.
Need help choosing the right financing option?
The choice between financing options is complex and has significant consequences. We analyze your situation, identify the risks, and draft the necessary agreements, fully tailored to your business.
View our expertise in financial law or schedule a no-obligation intake consultation.
