Out-Law News | 27 May 2020 | 11:33 am | 3 min. read
The Future Fund, developed by the government and delivered by the British Business Bank, received over £450 million worth of applications on its first day, according to Sky News. The UK government has committed an initial £250m to the scheme, but has said that it will consider extending this if required.
Charles Waddell of Pinsent Masons, the law firm behind Out-Law, said: "The scheme remains open for applications, which are being processed on a 'first come, first served' basis. Anyone considering applying should do so as soon as possible".
The scheme will provide eligible businesses with government funding in the form of convertible loans of between £125,000 and £5 million, provided that the investment is matched or exceeded by private sector investors. The scheme is open to unlisted, UK-incorporated limited companies which have raised at least £250,000 in equity from third party investors in previous funding rounds in the last five years. Companies that have received funding under one of the UK government’s other business support schemes are not excluded from applying.
Potential applicants need to consider whether their business plan will call for a large equity round in the short to medium term which will trigger conversion.
Applications, which must come from a private sector ‘lead investor’ in the company, will be processed on a ‘first come, first served’ basis, and the fund will apply a set of standardised eligibility criteria when allocating funding. Loans will convert to equity on the company’s next qualifying funding round at a minimum conversion discount of 20%, or at the end of the loan if they are not repaid.
Charles Waddell welcomed the scheme, although he urged firms to consider carefully whether the funding offered was appropriate to their circumstances.
“Companies which have already taken venture capital (VC) or private equity financing will be familiar with the prescribed form convertible loan agreement on offer, which follows an industry standard model,” he said. “Companies whose business model calls for a relatively modest amount of equity financing which can be sourced from willing private investors may well be scared off by the convertible loan terms, in the same way that they would have tried to avoid VC funding.”
“Applicants need to carefully consider whether convertible debt is appropriate for them. In our experience, high growth companies take convertible loan financing when they need additional cash to get them to a value inflection point which will allow them to raise additional equity at a higher valuation. All convertible loans will then be converted into equity. Potential applicants need to consider whether their business plan will call for a large equity round in the short to medium term which will trigger conversion. If there is no intervening equity funding round or trade sale, the Future Fund and its co-investors may elect for repayment of the principal together with a redemption premium of 100% of the principal amount and accrued interest. This would be an extremely expensive form of debt finance,” he said.
Waddell noted that very early stage companies were unlikely to meet the eligibility criteria. Companies must also demonstrate a significant connection to the UK, with at least half of their employees being based in the UK or at least half of their revenue coming from UK sales.
In addition, Waddell said that the loans were structured in such a way that the private sector co-investment cannot benefit from Enterprise Investment Scheme (EIS) or its seed funding equivalent (SEIS), meaning that individual private sector ‘angel’ investors were unlikely to benefit.
“An investment in a convertible loan is not eligible for EIS or SEIS reliefs,” said Waddell. “Shares and advance subscription agreements (ASAs) do not qualify as matched funding for the purposes of the Future Fund, nor do ASAs qualify as equity raised until they have converted into shares.”
“There has been criticism of the scheme from angel investors who would have liked to have made their co-investment as an equity investment under the EIS or SEIS schemes. Equity investments can be made alongside investment from the Future Fund, but they will not count as qualifying co-investments,” he said.
Government loans provided under the scheme will mature after a maximum of 36 months, and the government will receive interest of at least 8% a year to be paid on maturity. If the company is sold or listed, the loan will either convert into equity at the discount rate to the price set by the most recent non-qualifying funding round, or be repaid with a redemption premium equal to 100% of the principal of the bridge funding, whichever will provide the higher amount for the lenders.
Dr. Totis Kotsonis
Partner, Head of State aid and Public Procurement
Although the European Commission has aptly demonstrated its ability to clear Covid-19 related state aid virtually overnight in many cases, given stretched public finances, it clearly makes sense for the government to provide business support where possible in a way which avoids creating an additional burden on the public purse.
The government will be entitled to transfer the loan or, following conversion, any of its shares, to an institutional investor acquiring a portfolio of the government’s interest in at least 10 companies owned in respect of the Future Fund. It will also be able to transfer any shares within the government, or to entities wholly owned by central government departments.
Totis Kotsonis, also of Pinsent Masons, noted that, as anticipated, the UK government had set up the scheme in a way which is “consistent with market investor principles”, therefore avoiding the complications associated with the grant of state aid including the need to seek approval for the scheme from the European Commission.
“Although the European Commission has aptly demonstrated its ability to clear Covid-19 related state aid virtually overnight in many cases, given stretched public finances, it clearly makes sense for the government to provide business support where possible in a way which avoids creating an additional burden on the public purse,” he said.
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