Failings of the Future Fund

rishi sunak

One month into the Government’s start-up life-raft, only £55.9m of convertible loans have been approved out of a £500m fund.  So why has the reception been so luke-warm? 

Launched last month to provide support for start-ups struggling during the pandemic, the government promised to invest £250m alongside private investors into high-growth companies, and also said it would make £750m worth of grants and loans available to research and development-heavy small businesses. 

Rishi Sunak had to move at pace and also balance off protecting the taxpayer too, so there were a number of terms which most scaling start-ups would balk at.  Unless raising funds is proving tricky, there are likely to be other options out there that are lower risk.  So, what are the issues?

Problems and Pitfalls 

VC Firm Focus 

The Future Fund has been criticised for focusing too much on the VC portion of the investment landscape, for failing to cater to the needs of founders and for being incompatible with EIS and SEIS.

Research from ProSapient and corporate financial advisor Adelpha, shows the breakdown of how funds are raised within the start-up community.  Over 50% of funds are raised from private investors and a further 12% comes from EIS and VCT funds.  Only those who are venture capital backed or funded by private equity will be eligible for the Future Fund, which is just 17% of the total start-up community.  That’s a huge number of start-ups that have been overlooked by the Future Fund.

“The government response seems to have been largely influenced by the VC community despite how small and narrow a part of the funding spectrum they are,” says Addie Pinkster, CEO of Adelpha.

The heavy focus on the VC funded start-ups points to the government protecting it’s own interests above the needs of companies and founders who genuinely need support through the pandemic.

Supporting start-ups is a high-risk business, as we all know.  The odds of losing your investment is significant.  The government has viewed investments by VC firms as a badge of credibility.  After all, most of these firms are loaded with smart people who only part with their funds if a company has a reasonable chance of succeeding and has some traction. 

My concern, and those of many others, is that the terms of the Future Fund means it is likely to contribute in perpetuating and worsening the existing inequalities in the start-up community, placing the majority of start-ups who are backed by SEIS and EIS at a significant disadvantage. 

Lack of Diversity

Companies applying to the Future Fund are required to have already raised £250,000. This puts diverse founders and founders from outside of the south-east at a significant disadvantage.

Discount on Conversion 

If you are granted funds from the Future Fund, the government will enjoy a discount of at least 20% on your next funding round.  This could make it more difficult to raise further rounds of funding, which could be game over if you should have to repay the loan (see below).

Cost of Redemption 

The loan term is for no longer than 36 months, so if you don’t do a funding round or exit in that time frame, then the bond will be redeemed at an eye watering 100% premium which would bankrupt most start-ups.  This premium seems relatively arbitrary and designed to push companies into raising and converting the loan into equity. 

Corporate Governance and Transfer Rights 

The government will have some limited rights such as quarterly management accounts and historical financial information.  They will also have rights to call a meeting prior to a conversion event to discuss rights that the Future Fund might have post conversion. 

The government is free to transfer the loan or any converted shares without restriction to institutional investors.  Although this is totally understandable as the government isn’t in the business of owning private companies under normal circumstances, it does throw up the possibility of your company being owned by an investor who has also invested in your competitors, which is something to be wary of.

Most Favoured Nation 

If anyone else invests in your company on better terms, then the government’s terms are upgraded to match.

Conclusion 

The super prudent approach taken by the government to protect it’s interests appears so onerous that very few would benefit from taking up the fund. As with any funding decision, weighing up the pros and cons and staying true to your objectives is key.

Being tied into unfavourable terms could dampen your enthusiasm, undermine your growth, and in the worst-case scenario, destroy your ambition. On the other hand, the right investor can help clarify your vision, scale your business, and enhance your brand’s reputation.

If you’re worried about raising funds for your start-up, we would recommend the following:

  1. Understand your cash burn and scenarios affecting it 
  2. Make sure you get your R&D claims in on time to get cash in through the door and consider financing future R&D claims to provide bridging finance if appropriate. 
  3. Speak with current investors well ahead of time and understand your funding options.

The Future Fund does seem to be a last port of call for start-ups who are finding it difficult to raise funds as a result of the pandemic and who may be making decisions fuelled by panic. Instead, carefully consider your other options.  Invest time in finding the right option for you.  

The majority of our clients are continuing to secure suitable investment from their own investor networks, and you could too. We’d be happy to chat to you or introduce you to our community to help you find the right partner.

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