Reinstating cash runway - raising finance in a COVID-19 world

The COVID-19 pandemic has hit many businesses hard, and despite some parts of the tech sector such as remote working platforms seeing a dramatic increase in demand, many have needed to dramatically downgrade their forecasts for the rest of 2020.

For those on a growth journey using equity finance, being the majority of IP-rich tech companies, this has resulted in a need to raise additional finance quickly, or at the very least curtailed their cash runway meaning a new equity raise needs to be sought earlier than anticipated.

In a world where valuations are yet to settle down to a “new normal”, how are tech companies approaching this challenge?

Convertible Loan Notes

We are seeing an increasing use by companies and investors of convertible loan notes (“convertibles”), being loans that have the right and obligation to convert into shares in the borrower upon the occurrence of certain future events. These events are typically an equity fundraising or an exit, with the loan being either repaid or converted at the maturity date for the loan.

The price of conversion is calculated by reference to the conversion event, and so the difficult question of valuation is essentially postponed to that time (and controlled by the third party investors or buyer). The investor in the convertible typically benefits from a discount to that price (e.g. 20%) in return for making finance available at that earlier stage, and occasionally an interest rate that accrues and rolls up as well. 

Convertibles generally have the advantage of being less complicated from a documentation perspective, and so can be agreed quicker than their straight equity counterparts, and have therefore often been used in a bridging finance situation for working capital ahead of a next round of equity finance.

In a market where many more companies are looking for bridge finance in short order, convertibles can provide an ideal solution, although companies need to bear in mind the following:

  • by setting the conversion rate by reference to the future “priced” round, entrepreneurs need to be confident that that future round can be raised on acceptable terms. Whilst the venture capital market is showing resilience at present, a future “down round” (where new money is raised at a lower company valuation than one that has been agreed for the purposes of raising capital in the past) will result in additional dilution for entrepreneurs and existing investors if a discount applies on conversion;
  • the convertible is, by definition, a loan and so will need to be repaid at maturity if a conversion event does not transpire. Entrepreneurs will therefore want to build in a prudent time buffer to ensure that they can make the progress needed in the business, to deliver the next fundraising round before that date;
  • as a downside protection mechanism, investors may insist that the loan is secured against the assets of the company. This is understandable given the economic conditions at present, but entrepreneurs should be vigilant as to the circumstances in which the loan may be enforced. The granting of security may also make other forms of finance (e.g. R&D tax credit loans) more difficult to obtain.

Advance Subscription Agreements

Investors should also note that, as the convertible is a loan, the shares which are acquired through the convertible will not qualify for Seed Enterprise Investment Scheme (SEIS) or Enterprise Investment Scheme (EIS) relief. It is however possible to structure the investment through an Advance Subscription Agreement (ASA), under which the investor commits capital on the basis that it will always be invested in equity (and not repaid), with the price at which that equity is acquired being calculated in a similar manner to the convertible option, that is by reference to a future event (e.g. an equity fundraising or exit) and sometimes including a discount. If structured correctly, the ASA can qualify for SEIS or EIS relief (and we are seeing companies launch parallel offers of convertibles and ASAs depending on whether the investors wish to claim such reliefs).

The ASA will need to have a default conversion price, which will apply at the agreed long stop date or on an insolvency. HMRC issued some guidance at the end of last year to the effect that the long stop date should be no more than 6 months – this was, however, in a more benign economic environment and many companies are asking HMRC to approve an extension on a case by case basis.


Despite the challenges posted by COVID-19, the UK’s growth companies and their investors continue to show resilience, and we have seen numerous completions in our national team in recent weeks. Instruments such as convertibles and ASAs also add valuable flexibility to deal with these unprecedented times, and we expect to see further growth in their use in the weeks ahead.

 This publication is intended for general guidance and represents our understanding of the relevant law and practice as at April 2020. Specific advice should be sought for specific cases. For more information see our terms & conditions.

Date published

03 April 2020



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