On 20 April the Government announced a new scheme to issue convertible loan notes to companies struggling due to coronavirus. The Future Fund, which will be delivered in partnership with the British Business Bank, will provide convertible loans to UK companies from £125,000 to £5 million, subject to matched funding from private investors. The Government has issued the headline terms setting out the main features of the loans, and the scheme is due to formally launch in May 2020. The latest information can be found here.

What is it?

The Government is making £250 million available for this scheme, which is yet to open and will initially run to September 2020. Under the scheme, the Government will issue loans convertible to equity from £125,000 up to £5 million, provide the funding is matched by investors.

At the moment, little information is available and it is summarised below. Further detail is required to enable clarity on how the scheme will work in practice.

Who is eligible?

Businesses will be able to apply for the Future Fund if they:

  • are an unlisted UK registered company
  • have raised at least £250,000 in aggregate from private third-party investors in previous funding rounds in the last five years
  • have a substantive economic presence in the UK

If a business is a member of a corporate group, only the ultimate parent (provided it is UK registered) will be eligible to receive a loan under the scheme.

What funding will be issued?

The Government will issue unsecured loans from at least £125,000 up to £5 million, in each case provided that the loans are matched by private third-party investors. The Government loan will represent no more than 50% of the bridge funding, but there will be no cap on the amount that matched investors can loan to the company (and therefore no cap on the aggregate bridge funding the company can receive).

Whilst it hasn't been explicitly stated yet that the matched funding will need to be in the form of convertible loan notes (i.e. the same form as the Future Fund), a number of the terms in the Government's term sheet indicate that it is expected that the matched funding will also be in the form of convertible loan notes.

What can the money be used for?

The money can only be used for working capital purposes, and not to repay any borrowings, pay dividends or bonuses to staff / management / shareholders / consultants, or pay advisory, placement or bonus fees to external advisors in respect of the Government loan.

How will the loan convert?

  • The loan will automatically convert to equity at a minimum 20% discount on the next fundraise, if the fundraise amount is at least equal to the bridge funding amount.
  • There will be an option to convert to equity at a minimum 20% discount on the next fundraise if the fundraise amount is less than the bridge funding amount.
  • On a sale or IPO or maturity, the loan will either convert at the discount to the price set by the most recent round, or be repaid at a 100% premium – if the latest round was before the bridge funding, there will be no discount.

The discount rate will be higher than 20% if a higher rate is agreed between the company and the matched investors.

On conversion, the loan will convert to the most senior class of shares in issue post-completion of that round.

It is worth noting that a 100% redemption premium is high compared to market standards for convertible loan notes. However, the term (36 months) is longer than usual, so the company has more time to enable conversion.

Is there a valuation cap?

A valuation cap sets the maximum valuation at which a convertible loan can convert to equity. The Government has not stipulated a cap on the price at which a Future Fund loan converts into equity on next funding round. However, where matched investors have agreed a cap, the Government will be entitled to those same terms.

Term and interest rate

The term of the loan is 36 months. The interest rate will be at least 8%, and higher if a higher rate is agreed with the matched investors. 

Other things to note

If the company issues further convertible loans with more favourable terms, those terms will apply to the bridge funding under the scheme.

The company will be prohibited from creating any debt which is senior to the loan, other than bona fide senior debt from a person which is not an existing shareholder or matched investors.

EIS

Convertible loans are not EIS eligible, so it will be interesting to see if the Government will be willing to match EIS compatible investments (i.e. via an advanced subscription agreement) as well as convertible loans.

How to apply and what documentation will be used?

At this stage, it still isn't clear how businesses will be able to apply or what documentation will be used. It could be that the Government issue standard documents, or that businesses will be free to draft their own instruments based on the Government's list of terms.

What next if you think the Future Fund might be right for your business?

Whilst we await further details regarding the Future Fund, we recommend engaging with third parties who may be willing to match Government funding under the scheme. You can also consider what corporate approvals you may need to obtain at board and shareholder level to approve the funding, and whether any consents from existing lenders may also be required.