The UK Government has announced a new scheme to issue convertible loans to innovative companies that are facing financing difficulties due to the COVID-19 outbreak. This scheme is to be called the Future Fund. It should be noted that this note refers to the limited information provided by the Government’s announcement on 20 April 2020.
The Government will aim to make available £250 million through the scheme, with this amount to be kept under review throughout the COVID-19 pandemic. The scheme is to be open until the end of September 2020, but this date is also to be kept under review.
The Future Fund scheme is to be delivered in partnership with the British Business Bank, a state-owned economic development bank established by the UK Government which aims to boost small and medium-sized businesses.
This note highlights the headline terms for these convertible loans as set out by the UK Government. They are, at this time, provisional and therefore do not represent any binding commitment of any nature from the Government to enter into a long-form agreement with any specific company, nor should not be taken as full and final details of the scheme which is to be published shortly.
To qualify for the Future Fund, a business must be an unlisted UK registered company which has raised £250,000 or more in aggregate from private third-party investors in previous funding rounds in the last five years. The company must have a substantive economic presence in the UK. If the company is a member of a corporate group, only the ultimate parent company, if registered in the UK, may be eligible to receive the loan. Any eligible company will necessarily be subject to customer fraud, money laundering, and KYC checks prior to any loan being made.
The Government shall make unsecured bridge funding available alongside other private third-party matched investor(s). The loan shall constitute no more than 50% of the bridge funding being provided to the company, with the remaining amount provided by matched investor(s).
The minimum loan the Government will provide to eligible businesses will be £125,000. The maximum amount will be £5,000,000. There shall be no cap on the amount that matched investor(s) may loan to the company and therefore no cap on the aggregate bridge funding provided.
USE OF PROCEEDS
Bridge funding is to be used solely for working capital purposes and shall not be used by the company to repay borrowings, make any dividends or bonus payments to staff, management, shareholders or consultants or, in respect of the Government loan, pay any advisory or placement fees or bonuses to external advisers.
Bridge funding shall automatically convert into equity on the company’s next qualifying funding round at a minimum conversation discount of 20% (the “Discount Rate”) to the price set by that funding round with a company repayment right in respect of the accrued interest. The Discount Rate will be higher if a higher rate is agreed between the company and the matched investors.
On a non-qualifying funding round, at the election of the holders of a majority of the principal amount held by the matched investors, the bridge funding shall convert into equity at the Discount Rate to the price set by that funding round.
Qualifying Funding Round
A “qualifying funding round” shall take place where the company raises an amount in equity capital (excluding any shares issued on conversion of the bridge funding or to employees/consultants on exercise of any options) equal to at least the aggregate amount of the bridge funding. A “non-qualifying funding round” shall take place where the company raises less in equity capital than the amount required for a “qualifying funding round.”
On a sale or IPO, the loan shall either convert into equity at the Discount Rate to the price set by the most recent non-qualifying funding round or it shall be repaid with a redemption premium (being a premium equal to 100% of the principal of the bridge funding), whichever will provide the higher amount for the lenders.
On maturity of the loan, the loan shall, at the option of the holders of a majority of the principal amount held by the matched investors (i) be repaid by the company with a redemption premium (being a premium equal to 100% of the principal of the bridge funding; or (ii) convert into equity at the Discount Rate to the price set by the most recent funding round provided that the Government’s loan shall convert unless it requests repayment in respect of its loan.
On a sale or an IPO or maturity of the loan, the Discount Rate shall apply to the most recent non-qualifying funding round where such round took place prior to the issuance of the bridge funding. In such circumstances, the conversion price shall not include a Discount Rate.
On conversion of the loan, only the principal under the bridge funding (and not any accrued interest) shall convert at the Discount Rate and any accrued interest not repaid by a company shall convert at the relevant price without the Discount Rate.
The Government shall not set a valuation cap on the price at which the loan converts into equity on the company’s next funding round. Where the matched investors have agreed on a valuation cap with the company, the Government shall be entitled to those same terms.
On a conversion event, the loan shall convert into the most senior class of shares in the company. If a further funding round is completed within six months of the relevant conversion event, the lenders shall be entitled to convert their shares into the senior class of shares of the company in issue post that round.
The Government shall receive a minimum of 8% per annum (non-compounding) interest to be paid on maturity of the loan. The interest rate shall be higher if a higher rate is agreed between the company and the matched investors
The loan shall mature after a maximum of 36 months.
The Government shall have limited corporate governance rights during the term of the loan and as a shareholder following the conversion of the loan.
The company shall provide limited warranties, including in respect of title and ownership, capacity, loan eligibility in accordance with the Government eligibility criteria, compliance with the law, the borrowing facilities of the company, litigation and insolvency events to the lenders on the closing of the loan.
The company shall provide limited covenants to the Government during the term of the loan and as a shareholder following the conversion of the loan, including an undertaking to treat the lenders and the holders of the conversion equity fairly and equally and to provide the Government with the same information rights as other investors in the company, and compliance with law obligations.
MOST FAVOURED NATION
In the event that the company issues further convertible loan instruments to investors (including any new or existing investors that are not matched investors) with more favourable terms, those terms shall apply to the bridge funding provided under the scheme.
The company shall not permit the creation of any indebtedness that is senior to the loan other than any bona fide senior indebtedness from a person that is not an existing shareholder or matched investor.
The Government shall be entitled to transfer the loan and following conversion of the loan, any of its shares without restriction to an institutional investor which is acquiring a portfolio of the Government’s interest in at least ten companies owned in respect of the Future Fund. In addition, the Government shall be entitled to transfer any of its shares without restriction within Government and to entities wholly owned by central government departments.
ENTERPRISE INVESTMENT SCHEME (EIS) CONSIDERATIONS
A number of companies who may be contemplating an application under the scheme may have applied for EIS relief in respect of certain of their shares and/or may be contemplating asking their current EIS investors for investment in order to meet the eligibility criteria under the scheme.
While the creation of a convertible debt instrument by a company should not, per se, invalidate existing EIS reliefs (although please note our previous commentary on EIS/state aid issues) the terms of the scheme are such that an EIS investor who makes bridge funding available may find their EIS reliefs at risk. Care should be taken and, where possible, investors consulted in order to discuss such issues.
EIS has a number of complex and technical rules, and EIS reliefs may be compromised by a future event arising from any convertible loan if not properly managed at the outset. It may be that the British Business Bank will permit the matched funding to be made available by way of equity (wherein the government would provide a convertible loan to an amount equal to the equity provided by third party investors) but the current terms that have been provided do not suggest this will be possible. Therefore, we await the forthcoming detailed guidance with anticipation.
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