Explaining Advanced Subscription Agreements

‘Advanced Subscription Agreement’ (ASA) is a common term you’re likely to come across if you’re a company seeking investment or you’re an investor.

What is an Advanced Subscription Agreement?

As the name suggests, it is a particular agreement used by investors and companies seeking funding. The agreement allows an investor to pre-pay for shares in the company that will be allocated at a later date. Often this date coincides with the date of the next funding round (the next time the company seeks investment) but could also be at the point of sale of the company or at an agreed longstop date (more information on this below).

An ASA is a form of equity investment as opposed to debt investment. This means that money which has been paid for shares can only ever be repaid as equity in the company and not as cash (unless the company becomes insolvent before the qualifying funding round). Debt investments on the other hand are commonly offered by banks as loans which charge interest on the initial lending amount and are repaid in cash.

Why do companies use Advanced Subscription Agreements?

There are benefits to using an ASA for both investors and the company. For the company, it can be more convenient because in order to be able to issue shares, a company needs to be formally and professionally valued to determine the worth of the shares. This can be a lengthy process, which may delay the company from receiving the investment. By putting an agreement in place it’s possible to expedite the transfer of funds without the formal protocol, which is then completed at a later date.

What are the advantages of Advanced Subscription Agreements for Investors?

Investors can also find an ASA beneficial because it allows them to pre-pay for the shares. The intention is that, by investing early in a company, prior to formal valuations, the pre-paid amount will be less than what the shares will eventually be worth once valued and allocated.

ASAs may be the preferred method of investment for investors who are seeking tax relief through investing in Seed Enterprise Investment Schemes (SEIS) or Enterprise Investment Schemes (EIS) because this method of transferring funds is compatible with the requirements as opposed to other investment options such as Convertible Notes. Both SEIS and EIS stipulate that, for the investor to be eligible for tax relief, their money needs to be at genuine risk from the outset, and that they are unable to demand the return of their investment. As an ASA is pre-paid for without formal valuation, this means the money is at risk, and because it can only be repaid in shares this satisfies the condition that the money cannot be returned.

How do you create an Advanced Subscription Agreement?

We would advise that you seek out a legal professional when creating an ASA, however here are the key things to think about, which include:

• A funding target – An amount the company should aim to receive in investment during the next qualifying funding round that will automatically trigger shares being allocated to the investor. This amount should not be too low as it could mean the investor does not make enough profit from the investment, but should not be too high so that the investor receives a much smaller share in the company than intended.
• A valuation cap – Following from above, a valuation cap sets an absolute maximum that the company can be valued at for the future qualifying funding round. This protects the investor from losing out too much should the company be valued highly, but also provides existing shareholders of the company with certainty as to what will happen to their shares once the investor’s money has been converted.
• A discount – A discounted rate is offered to investors as an incentive to fund an early-stage company without formal valuation. This amount commonly ranges between 10% – 30% but is a key negotiating factor to consider.
• A longstop date and price – This is a fixed date that will trigger the allocation of shares regardless of whether the qualifying funding round is achieved or not. This is important as it ensures the investor receives equity in the company for the investment made and that the company is unable to delay the allocation of shares. The minimum number of shares that will be offered in the event of a longstop date trigger should also be stipulated in the ASA.

Updates from HMRC on Advanced Subscription Agreements

Previously HMRC had limited the longstop date to no longer than 12 months after the agreement of the ASA – if it were to be used for SEIS or EIS investment purposes. However, since then, new updates have been released from February 2020.

In order to comply with the requirements for EIS or SEIS, the Advanced Subscription Agreement must:

• Not permit the subscription of payment to be refunded under any circumstances
• Not be varied, cancelled or assigned
• Not carry any interest charge
• Have a longstop date that is no more than 6 months from the date of the agreement

Further guidance has also been given by HMRC regarding ASA and Advance Assurance (AA). For any companies who are opting to apply for AA, it is recommended that they do so before the ASA is entered into. The tax relief will only be available once the shares have been allocated and a compliance statement (form EIS1) should not be submitted until then.