Quick Facts about Zero-Coupon CCDs
When raising bridge financing, Compulsory Convertible Debentures (CCDs) help startups defer valuation while minimizing dilution. Zero-coupon CCDs issued at 0.001% interest instead of 8-15% eliminate cash outflows entirely, making them attractive for cash-strapped early-stage companies.
Quick Answer: Zero-Coupon CCDs preserve cash by eliminating interest payments, compensating investors with 15-25% more shares at conversion instead.
Benefits: Zero cash burden, faster closing, deferred dilution.
Drawbacks: Higher dilution at conversion, accounting complexity, limited investor appetite. Best for ₹50 lakh-₹3 crore bridge rounds 6-12 months before Series A.
However, like all Complex Securities, zero-coupon CCDs involve significant trade-offs. This guide breaks down the benefits and drawbacks to help you make an informed decision.
Key Benefits of Zero-Coupon CCDs for Startups
1. Cash Flow Preservation
The most compelling advantage is eliminating interest payment obligations during the critical early-growth phase.
Financial Impact: A startup raising ₹2 crores via traditional CCDs at 12% interest faces ₹24 lakhs annual cash outflow—often unaffordable for pre-revenue or low-margin businesses. Zero-coupon CCDs reduce this to negligible amounts (₹2,000-10,000 annually), freeing capital for:
- Product development and engineering talent
- Customer acquisition and marketing spend
- Working capital and operational expenses
- Extending runway by 3-6 months
2. Deferred Dilution with Predictable Terms
Zero-coupon CCDs don't appear on your cap table until conversion, keeping ownership structure clean for:
- ESOP pool calculations and grants to early employees
- Board discussions and founder decision-making
- Future investor due diligence on ownership percentages
The conversion discount is predetermined (unlike fluctuating valuations), providing clarity on how much dilution will occur when conversion happens.
3. Faster Fundraising and Simpler Documentation
Because zero-coupon CCDs avoid complex interest accrual calculations, yield curves, and payment schedules, they're faster to structure and execute:
- Standardized term sheets with fewer negotiation points
- Simpler accounting treatment (no periodic interest accrual entries)
- Quicker closing timelines (2-3 weeks vs. 4-6 weeks for complex instruments)
- Lower legal costs (₹50,000-75,000 vs. ₹1-1.5 lakhs for CCPS)
4. Founder-Friendly Bridge Financing
For founders navigating between funding rounds, zero-coupon CCDs offer:
- Valuation Flexibility: No need to agree on current valuation when it's uncertain
- Minimal Governance: No immediate board seats or protective provisions (unlike CCPS)
- Existing Investor Participation: Easy for current investors to bridge you without complex terms
- Conversion Timing Control: You can negotiate conversion triggers tied to specific milestones
5. Tax Efficiency for Companies
Under the Income Tax Act, 1961:
- Interest on traditional CCDs is tax-deductible under Section 36(1)(iii), but startups with losses derive no immediate benefit
- Zero-coupon CCDs eliminate this complexity entirely—no interest expense to account for
- No TDS deduction requirements on interest payments under Section 194A
This simplifies tax compliance during early stages when accounting resources are limited.
Drawbacks and Risks of Zero-Coupon CCDs
1. Higher Dilution at Conversion
The trade-off for zero interest is greater equity dilution. Investors receive 15-25% more shares than they would at the next round's price, which compounds across multiple tranches:
Dilution Math: If you issue ₹5 crores in zero-coupon CCDs at 20% discount and later raise ₹10 crores Series A at ₹100 crore valuation:
- Series A investors get 10% equity
- Zero-coupon CCD holders get 6.25% (₹5 crores ÷ ₹80 per share)
- Founders dilute an additional 1.25% compared to regular CCDs
Across multiple bridge rounds, this extra dilution can become significant potentially 3-5% higher founder dilution by Series B.
2. Investor Appetite Limitations
Not all investors are comfortable with zero-coupon structures:
Institutional VCs: Typically require current cash returns or participation rights; zero-coupon CCDs don't provide portfolio income Debt Funds: Mandate minimum interest rates (8-12%) for their fund economics; won't accept 0.001% Risk-Averse Angels: Some HNIs prefer periodic interest income for tax planning or cash flow needs
Zero-coupon CCDs work best with:
- Sophisticated angel investors comfortable with equity-only returns
- Existing investors bridging to the next round
- Strategic investors prioritizing equity upside over current income
3. Valuation Cap Complexity
While valuation caps protect investors, they can create founder challenges:
Scenario: You issue zero-coupon CCDs with ₹40 crore valuation cap, but your Series A values the company at ₹120 crores. CCD holders convert at ₹40 crore valuation, receiving 3x more shares than Series A investors per rupee invested. This:
- Creates significant dilution disparity
- May frustrate Series A investors seeing earlier investors get better terms
- Complicates cap table discussions in future rounds
Best Practice: Set valuation caps at realistic projections (1.5-2x current implied valuation), not aspirational multiples.
4. Accounting and Compliance Complexity
Despite simpler cash flow, zero-coupon CCDs create accounting challenges under Ind AS 109:
Financial Instrument Classification: CCDs are compound financial instruments with liability (debt) and equity (conversion option) components. Even with zero coupon, the conversion feature must be valued separately using Black-Scholes or binomial models, requiring:
- Fair value of debt component (present value of minimal interest payments)
- Fair value of conversion option (typically 40-70% of face value)
- Bifurcation entries in books of accounts
Audit Scrutiny: Zero-interest debentures attract attention from statutory auditors who may question whether the transaction is at arm's length, especially if issued to related parties.
5. Opportunity Cost for Investors
From the investor's perspective, zero-coupon CCDs carry risks:
No Downside Protection: If the startup fails before conversion, CCD holders are unsecured creditors recovering minimal amounts (debt face value only, no accrued interest)
Inflation Erosion: In a 5-7% inflation environment, ₹1 crore locked for 18 months loses ~10% purchasing power with zero returns
Alternative Investment Returns: Traditional CCDs at 12% or debt instruments at 8-10% provide guaranteed returns; zero-coupon structures are all-or-nothing bets on equity upside
About the Author
Parth Shah is the Founder and Team Leader of MyValuation, an IBBI Registered Valuer for Securities or Financial Assets under Section 247 of the Companies Act, 2013. He is a Licensed Certified Public Accountant (CPA) in the U.S., Fellow Chartered Accountant (FCA), and specializes in startup valuations, hybrid instruments (CCDs, CCPS, convertible notes), and regulatory compliance for fundraising transactions.
With extensive experience in valuing zero-coupon and structured convertible instruments across 300+ startup transactions, Parth provides strategic advisory on optimal instrument selection, fair market value certification for FEMA compliance, and Ind AS 109 accounting treatment guidance.
Conclusion: Is Zero-Coupon CCD Right for Your Startup?
Zero-coupon CCDs are powerful instruments for cash-constrained startups needing bridge financing without interest payment obligations. They work exceptionally well when:
- You're 6-12 months from a larger institutional round
- Your business is pre-revenue or low-margin with limited cash flow
- You're raising from sophisticated angels comfortable with equity-only returns
- Valuation is uncertain and you want flexibility
However, they're not suitable for every situation. The higher dilution at conversion, limited investor appetite, and accounting complexity require careful consideration.
The best approach: Model both scenarios traditional CCD with 10-12% interest vs. zero-coupon CCD with 20-25% conversion discount. Calculate the dilution impact and cash flow requirements to make an informed decision.
Need expert guidance on structuring your zero-coupon CCD round? Contact MyValuation for comprehensive valuation services, term sheet review, and regulatory compliance support. Our founder, Parth Shah, specializes in complex securities valuation and has helped hundreds of Indian start-ups structure optimal fundraising terms.
