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Supporting you through this period of uncertainty and beyond

With business disruption from the pandemic lasting longer than many businesses anticipated, the UK Government’s Future Fund loans are providing welcome relief to eligible small and medium entities ("SMEs"). The British Business Bank ("BBB") has provided loans of between £125,000 and £5 million in the form of convertible loans, retaining the option to participate in the potential upside of the businesses should they be successful in future.

These loans are accounted for differently to normal bank loans, as the conversion feature may require ongoing valuations depending on the agreed terms. Movements in the fair value would impact the balance sheet and profit & loss, which could give rise to volatility of reportable earnings of participating SMEs. Investors will want to understand the current and future value implications.

Future-proof the impact of your Future Funds convertible loan

If you have participated in or are considering applying for the Future Fund investment scheme, it is imperative to consider the impact it may have on your capital structure, financial reporting and potential future plans to raise further funds. 

  • Understand the accounting implications e.g. there could be different recognition and measurement under IFRS and UK GAAP depending on the agreed terms.
  • Manage your earnings better by arming yourself with knowledge of how each accounting option will impact the balance sheet and profit & loss.
  • Report a robust value of the convertible loan liability with sufficient analytical support for your auditors’ reviews.
  • Know how your capital structure will change from period to period, and the potential impact on shareholder dilution, future business valuation and fundraising.
  • Be confident in your financial reporting and instil investor trust in your business.

KPMG’s approach

    

Accounting:

  • We provide in-depth technical accounting advice covering initial and subsequent recognition and measurement under both IFRS and UK GAAP, with due regard to reporting objectives, commercial reality and regulatory requirements.

Valuation:

  • The key valuation judgments will depend on the accounting treatment, and are likely to include the cost of borrowing and the market value of equity in the business.
  • For the host loan standard market approach is to value the loan using a discounted cash flow approach, applying a discount rate that reflects the business’s cost of borrowing.
  • For the derivative (conversion option) the Black-Scholes model is inappropriate in the case of Future Fund convertible loans – instead, a binomial lattice or Monte Carlo simulation approach should be used to capture the possibility of conversion prior to the 3-year maturity date.

KPMG has a team of specialists experienced in offering valuation and accounting advice.

If you have any queries regarding the accounting or valuation of convertible loans, please reach out to us.

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