VCs welcome Future Fund, but seek added clarity

On 20 April, HM Treasury announced a £1.25bn coronavirus package for firms 'driving innovation' in the UK. The package comes as many VCs struggle to make new investments and explore funding options for their portfolio companies, while many venture-backed companies have seen their revenue base evaporate due to the coronavirus crisis.

Haakon Overli, a Dawn Capital founder, says: "Some really great companies have seen their revenues drop by more than half. I don't think it's fair we expect them to be prepared for that. That's just not how venture works. You spend money, you make mistakes and you move on, but now these startups need help."

Since the crisis has accelerated, many VCs have been reluctant to make investments in companies whose management teams they have not previously met, and are more generally taking a wait-and-see attitude to new investments.

MMC Ventures partner Simon Menashy says: "The need for cash has increased a lot for many companies and much of the co-investment that would have been previously committed is falling away. Some VCs aren't investing, some LPs aren't letting VCs draw down capital and angels aren't finding the liquidity to invest. That's why this funding has come at a very important moment."

IQ Capital managing partner Kerry Baldwin agrees: "Normally we invest alongside other VCs and angels, but these investors aren't able to undergo due diligence because they can't meet the teams, so we're having trouble getting those investors to participate."

Call for backup
The government package includes a £250m investment fund for "high-growth" companies, which is to match or supplement funding provided by the private sector. The government has released a term sheet for the fund, though Daniel Turgel, a partner at White & Case, says: "Terms are still being clarified and adjusted, and the fund could potentially get expanded in the future."

One area of concern is what sort of investment will be recognised as matched funding and how strict the government will be on this. The package does not currently appear to benefit from S/EIS relief, but a recent White & Case post on this topic stated the package may be refined to ensure this relief is available in the future.

Future Fund tickets will be from £125,000-5m in convertible loan notes and will be distributed through the British Business Bank (BBB), according to the term sheet.

Convertible loan notes have been a common instrument in the UK VC ecosystem for several years now, and market participants have welcomed the use of them for these purposes. Menashy says: "Convertible loan notes work well in a lot of other situations, so it should work quite well."

Turgel agrees: "Convertible loan notes on customary terms are the best way, from a company's perspective, to make sure they don't have to take a potentially unnecessary and short-term write-down on their valuation now."

Valuing a business under the current circumstances would provide unnecessary delays at a time when companies' primary focus is obtaining emergency funding. Additionally, market participants have seen valuations for VC-backed companies drop by 25-35% in some cases, due to the current circumstances.

Turgel says: "Convertible loan notes are simple and can be negotiated fairly quickly and efficiently."

As for the involvement of the BBB, VCs have shown confidence in the institution's ability to manage these processes. "The BBB and BPC are efficient organisations and will be able to distribute this capital," says Overli.

The government is likely to take limited corporate governance rights and the same information rights as other investors in the company, though this may come under further review. Turgel says: "The government's information and governance rights are going to be important to get right. Companies may be nervous about giving away their secret sauce to the government and receiving timely consents from it in the future for business decisions."

Careful balance
Future Fund investments will be for companies that have raised at least £250,000 in aggregate from private third-party investors in previous funding rounds in the last five years.

"We think it caters to the right sector that needs support," says Menashy. "It's not for companies that haven't yet had a funding round and I think well-funded larger startups won't apply simply because it's too small for them."

Early-stage companies that do not yet have revenues are in an even more difficult situation then larger, more established startups that may have venture debt and a wider range of investors available to them. IQ Capital's Baldwin says: "Currently there are no other sources of funding for our portfolio companies, other than equity and this Future Fund. A lot of early-stage companies don't have overdrafts."

As part of the wider package to support companies driving innovation in the UK, HM Treasury will also provide £750m in funding for R&D-intensive, small and medium-sized companies through Innovate UK's existing grants and loans scheme. Innovate UK is a government-backed funding and business support agency.

Baldwin says: "It may be that the Future Fund is for slightly larger startups, but we're still waiting to hear more on the Innovate UK funding."

Innovate UK will accelerate up to £200m in grant and loan payments for its 2,500 existing Innovate UK-funded companies on an opt-in basis. An extra £550m will also be made available to existing customers and £175,000 of support will be offered to a further 1,200 companies.

• Tweet  
• Facebook  
• LinkedIn  
• Google plus  
• Send to  

• Topics
• Venture
• UK / Ireland
• Funds
• Venture
• United Kingdom
• MMC Ventures
• White & Case
• Dawn Capital
• coronavirus