The debt holder continues to sell short and cover with converted stock, which, along with selling by other shareholders alarmed by the falling price, continually weakens the share price, making the shares unattractive to new investors and possibly severely limiting the company's ability to obtain new financing if necessary.
Otherwise, they would probably not be willing to lend the money because of the poor risk profiles of the companies interested in this type of financing.
There are some ways to limit the "spiral" situation, e.g. by prohibiting short selling so as to have a stronger incentive for the debt holder to see the stock price increase.
Companies willing to agree to financing on these terms often could not obtain funding through any other means due to their early development stage or credit risk profile.
The terms, though viewed by some as onerous, give the lender a potential way to recover their debt regardless of what happens to the shares of the company, and the company easy access to dilutive but relatively cheap funding in terms of cash cost.