First Response:
A number of good points here, but remember that convertible debt means that the “investors” (who are still just lenders at this point) won’t know what their interest in the company is until the first round establishes a pre-money valuation. They have taken investment risk and valuation risk.

One typical way to alleviate that is to provide for a discount off the valuation in that first equity round, when it takes place. Problem with this is that if the company has not performed as expected and is in need of the funding from third parties (not the convertible debt holders), the new money can require that the discount be wiped out, thereby taking any advantage away from the original risk-takers.

Sometimes, a better way to go is to have a proper first round with equity at a lower valuation (to make a next down round less probable), but add warrants to help juice the investors’ return prospects.

Second Response:
This is a tough issue. Another approach is to use warrants conveyed up front to convertible debt holders (perhaps with a strike price tied to the future valuation or some performance metric) rather than a discount clause. It could be tougher to require warrant holders to give up or modify their warrants than to have the discount waived, so the convertible note holders might be in a marginally better position.

Unfortunately, anything done can be undone, so the last money in can rewrite the rules to a large extent, particularly if the company is pretty desparate.