The Future Fund: Swoop’s take on the government’s £500m co-investment fund for start-ups hit by the coronavirus pandemic

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    Updated: April 24, 2020 at 9:20 pm

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      There’s been no shortage of commentary about the government’s new Future Fund for venture capital-backed, early-stage businesses which are seeking to extend their cash runway because of the COVID-19 outbreak.

      The main complaint is that the new fund is not designed for seed and early Series A funding and so will leave a lot of start-ups out in the cold. For example, you’ll need to have raised more than £250,000 in equity investment in the past five years. Also, convertible loan notes are not eligible for tax breaks via EIS/SEIS, which means EIS, SEIS and even VCT investors cannot be sources of the required matching funds.

      On the other hand, the fund could be a lifeline for more mature, high-growth businesses with revenues that are interrupted, diminished and/or delayed by the economic environment. The levels of cash consumed by some of these businesses (particularly in the consumer sector) can be very high.

      If you’re one of the eligible companies considering a convertible state-backed loan via the Future Fund, you’ll no doubt have been reading what the government has published so far, to see whether these loans stack up for your company. We have also been examining the ‘headline terms’ and talking with our community of entrepreneurs, lawyers, funders and government contacts.

      Broadly speaking, these terms do sit within market standards but we’ve come up with six questions (below), from the entrepreneur’s perspective, which we’d like the government to clarify – to help you decide whether the scheme is a suitable option.

      If you’ve already discovered that your company is not eligible for the Future Fund because you haven’t, for example, raised £250,000 over the past five years, you might want to look at our table below to double check.  And you might agree with our suggestions to the Treasury to create a separate fund to target seed-stage companies.

      First a quick summary of the Future Fund:

      • This government scheme offers convertible state-backed loans (from £125,000 to £5m) to innovative, UK-based companies, as long as the cash is at least matched by private investors and institutions (e.g. venture capital backers). These loans, if not repaid, will automatically convert into equity stakes (valued at a minimum 20% discount to the most recent round at the point of conversion). To be eligible, you must be an unlisted UK-registered company that has raised at least £250,000 in equity investment in the past five years.
      • The scheme aims to help UK-based businesses that rely on equity investment and are unable to access the Coronavirus Business Interruption Loan Scheme (CBILS).
      • It will go live in May and stay open until September and will be delivered in partnership with the British Business Bank.
      • The government has yet to confirm the headline terms but as at 20 April 2020 it plans to inject a total of £250m (matched by investors hence the £500m co-investment fund), the maximum term of the loan is 36 months and the interest rate is 8% (minimum) per annum (non-compounding), payable to the government at maturity.

      Is the Future Fund enough?  Do we need a seed-stage fund as well?

      The Future Fund is a very welcome start and has the potential to be a lifeline for some of the more mature high-growth businesses in the UK life sciences and technology sectors. Sure, nobody believes that £250m (the total government injection into this fund) constitutes enough firepower, particularly given the nature of the companies that are being targeted – they will generally be seeking loans at the upper end of the allowed range. But, once again, the Chancellor needs to balance the demands of supporting the economy with the likely chorus of political complaint that these schemes just serve to privatise profits and socialise losses. And he did say on 20 April that the scale of the fund will be kept “under review”, suggesting that the government would commit more taxpayer money in future.

      For the many start-ups who aren’t eligible for the Future Fund, it’s still a case of trying to find SEIS/EIS angel investors – if you can. Meanwhile, Swoop is one of many voices calling for the Treasury to create another scheme targeting seed-stage and early Series A companies. 

      Below are some constructive suggestions we’ll be asking Treasury officials to consider when they’re designing any future seed-stage scheme. Assuming the government sticks to the match funding principle, we would like see three things:

      1. Any seed-stage scheme should ensure that whatever instrument is chosen will be EIS, SEIS and VCT compatible – in other words, EIS/SEIS and VCT investments should be considered as allowable matching funds. There has been a lot of comment about the restriction of the Future Fund to convertible loans. Many anticipated that the scheme might also include advance subscription agreements (ASAs), which are also often used to bridge companies to full-priced rounds. ASAs of course have the added benefit of being eligible for SEIS and EIS tax relief (convertible loans don’t share this benefit). We don’t expect the government to refine the terms of the Future Fund but we do hope for a new scheme that ensures these tax reliefs are available for private investors (see below).
      1. It should require a lower minimum for matched funding, e.g. minimum £50,000 government loan and minimum £50,000 from investors.
      1. It should remove entirely any requirement that a company should have raised investment in the past, as we see no reason why money shouldn’t be available to entrepreneurs who have bootstrapped their companies to date.

      Is my company eligible for the Future Fund?

      ScenarioAm I eligible?
      I have raised less than £250,000 to date.  No. Your company needs to have raised more than £250,000 equity investment in the past five years.  
      I have just completed a funding round.No. The scheme is open only for new investments (this can be follow-on from previous investments).
      I havefound £300,000 in matched funding.  Yes. The scheme provides matched funding, which means once you have investors first, the government will match investment.  
      I have found £100,000 in matched funding.  No. The minimum you can use the scheme for is £250,000, so you’ll need to find more investment.
      I have SEIS/EIS angel investors ready to invest.No. The scheme is not SEIS/EIS compatible, so those investors are free to continue to invest on their own termsbut you/they can’t access the Future Fund.
      I have existing outstanding convertible notes, ASAs or SeedFASTs that I issued in the past year.  Maybe. There’s nothing in this scheme that restricts its application to companies which already have debt or convertible notes in issue. But the existing holders of those securities are likely to have to consent to the subordination of their securities to this new investment.
      My business is revenue generating, I’ve raised more than £250,000, I’m not offering SEIS/EIS, I don’t have outstanding convertible notes, I have new investors lined up, they’re happy to invest with a convertible note rather than a funding round, and they’re comfortable with the government’s deal terms.  Yes. You are the target zone! But you’ll need to lock in those investors quickly because there’s only money for 1,000 or so companies.

      You’re eligible for the Future Fund – what should you think about before you apply?

      If you’re one of the lucky companies eligible for the Future Fund, you’ll no doubt be asking yourself a number of questions. Perhaps most importantly, you’ll be asking if your existing arrangements allow you to apply for this funding. You’ll be checking your contracts with your existing lenders to see if they contain any relevant restrictions. Likewise, you’ll be checking if your investors have restrictions on investing in entities alongside government bodies. There are lots of internal conversations to have about things like your readiness to raise cash, dilution and governance.

      We’ve focused here on questions for the government, written from the point of view of an entrepreneur seeking clarification before the fund goes live in May. You might have your own questions and if so we’d love to hear from you.

      1. Would my company be able to redeem the loan at its own option if we find we have the cash to do so (for example from revenues from customers or from “bona fide senior indebtedness” referred to in the ‘headline terms’ document)? In other words, would I be allowed to pay back the government earlier than any agreed term, at the (minimum) 8% interest rate?

        Incidentally, while 8% is, of course, a generous rate in the context of venture capital, we’re told this is the minimum interest rate. Which begs the question: is there a maximum interest rate the government plans to charge, or will it leave this entirely in the hands of the matching investors, as the current terms appear to assume? We’d like more detail about how the government will decide on the rate and whether there’s any cap (e.g. if other private investors demand extremely high rates).

      2. What are the government’s “limited corporate governance rights during the term of the loan and as shareholder following conversion” (as outlined in its ‘headline terms’ published on 20 April 2020)? We’d want to be sure that these rights will not deter future investors. The government has yet to clarify what it means by ‘limited’. 

      3. Who will exercise these “limited corporate governance rights” and how fast will they be able to make relevant decisions? More specifically, companies funded by venture capital often need agreement from shareholders at great speed and over weekends and holidays. What if the term sheet stipulates that a company needs a signature from the government (or the British Business Bank) before it can complete a subsequent funding round? As an entrepreneur, the last thing you want is a signature that might be a long time coming.

      4. What is the extent of the information rights I will need to give to the Future Fund? Will any of the information I provide to the government in its role as shareholder be accessible by other companies? In other words, could the government be subject to a Freedom of Information (FOI) request about my company? I’d be concerned that the government’s information rights might include information that I don’t want my competitors to be able to access. If the government is to have the same information rights as shareholders (e.g. access to papers from board meetings, information about customer projects, relationships, potential sales or cash balances), I’d be worried that an FOI request could see this information reach my competitors. Another reason I wouldn’t want the Future Fund to require material information rights is that this would lead to an unprecedented aggregation of sensitive business information on private companies in the public sector. This would also be relevant for any potential sale of a Future Fund portfolio company to a private investor. 

        On a more prosaic level, we’d like the government to confirm whether it would be satisfied with receiving audited accounts and business plans on an annual basis, or whether it will want detailed monthly management accounts.

      5. Then there’s the question of transfer rights. In a standard VC deal, investors can usually transfer their investments within their group, but not beyond. The Future Fund headline terms (as at 20 April) state that the government could sell its ownership in your company to any institutional investor willing to acquire a portfolio of 10 interests or more. In theory, it could sell a stake in your business to a fund that has interests in one of your competitors, or to a fund that invests in an industry that you don’t like.

      6. What is the purpose of the distinction between “Qualifying Funding Rounds” and “Non-Qualifying Funding rounds”? It would be useful to understand the government’s intentions.

      Final thoughts

      It’s clear that some details of this scheme need to be clarified and/or refined but, in our view, the Future Fund is a positive step from a government that is demonstrating it understands the importance of innovative companies to the post-Brexit British economy. Next step: a fund for seed-stage companies that allows, among other things, tax breaks to investors via EIS/SEIS and VCTs.

      If you have any more questions about the Future Fund please call our COVID-19 hotline on 0203 868 0364.

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