What is an advanced subscription agreement?
During the early stages of a company’s life cycle, start-up businesses will often need to raise finance. This is in order to begin trading to get the initial product or service off the ground. Similar to convertible loan notes where funding is converted into shares later on in the business’ life cycle, Advanced Subscription Agreements (ASA) provides funds promptly to seed-stage companies. As the name suggests, under advanced subscription agreements, the funders provide subscription money for shares upfront; however, the shares are not issued immediately. Instead, shares are issued to investors in the first formal funding round. So, ASA investors are able to benefit from a discounted subscription price when the company enters its first equity funding round. Additionally, companies may prefer utilizing ASAs because, unlike issuing convertible loan notes, they will not have to pay interest on the funds received.
However a potential disadvantage is that because shares are given to investors at such a discount, the company’s own remaining shares will be diluted. Additionally, perhaps the mere existence of advanced subscription agreements may deter investors from subscribing to shares in subsequent funding rounds. This puts the company at risk of giving out a higher percentage of equity for the funds advanced than new investors.
Who drafts an advanced subscription agreement?
Typically companies selling shares to investors and other funders draft Advanced subscription Agreements. When deciding specific terms of the agreement; for example, what amount constitutes the company’s target during its qualifying funding round, it is important to keep in mind maximizing value for both investors and founders. For instance, it is likely to be in the interest of founders to set a higher target value. This way the company raises more funds and has an overall higher valuation when its shares convert.
Who needs an advanced subscription agreement?
Advanced subscription agreements are ideal for start-up companies as they will be able to obtain finance quickly. It is also considerably less stressful for smaller companies in particular because advanced subscription to shares means the company will not need to be valued until the first funding round. As you may know, the valuation of start-ups can be notoriously difficult, so ASAs provide an efficient and hassle-free way of obtaining finance without giving up too much equity, too early on in a company’s life cycle.
What is included within an advanced subscription agreement?
Amount of the valuation cap – The terms of the advanced share agreement itself will vary between companies. However, most agreements will generally stipulate that the funding converts into shares when a qualifying funding round occurs, the company is sold, or a long-stop date is reached. A qualifying funding round provides that a certain target in terms of funding amount must be met before the shares can be issued.
Qualifying funding round – The definition of the aforementioned qualifying funding round must be considered and negotiated by the founders so that the company knows when funding will be converted into shares. This also ensures the investors receive an adequate percentage of shares issued.
Long-stop date – This is the date by which time the shares must be issued to investors. Typically, this date will be 12 months or less from the date of the advanced subscription.
Trigger events – These are the milestones or events that will lead to the advanced subscription agreements converting into shares.
Conclusion
Utilizing advanced subscription agreements as an equity instrument can be extremely advantageous for seed-stage companies or start-ups. It does not require an immediate valuation of the company and is a source of immediate funding. However, it is still essential that your founders negotiate the terms embedded within your agreement. That will determine how much each share is worth and when investors’ ASAs will be converted.
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