21st December 2024
Convertible Note Refom by IC Armenia is adopted by the Government
Corporate
Council Meetings
Debt and equity financing are the two traditional financing methods. However, currently, both in the world and in the Republic of Armenia, the need to develop mechanisms for making investments by combining elements of both methods has increased.
Convertible Note (C-note) agreements are an internationally widespread investment instrument through which start-up and early-stage companies or other companies are financed. Along with SAFE agreements, it is especially widely used for investments in technology companies, in the activities of venture funds, and other investors.
Discussions with foreign and local investment and venture funds, business angels, organizations representing the private sector (UATE, FinArm, Enterprise Incubator Foundation and SME Development Council members, in general, the interests of more than 800 businesses in the IT sector other organizations representing), that the investment of the mentioned institute is a priority issue for attracting investments in Armenian startups and other companies. As part of the survey conducted among the Armenian BANA, AICA, FORMULA angel investor networks, it was found that the number of their annual beneficiaries is 1200-1300 startups, 92% of which highlighted the lack of convertible debt/note regulations as an urgent issue for attracting investments.
Discussions with representatives of financial organizations and the positions expressed by representatives of the financial system also indicate the demand for the mentioned tool. The convertible debt mechanism allows investors and companies seeking investments to balance risks and reach more mutually beneficial agreements. In particular, when making such financial investments, investors often want to convert that investment into shares in the future, if the company's financial condition improves, rather than receive a return on the loan amount in the form of drams. At the same time, the company's participants/shareholders do not want to give up the opportunity to manage at the initial stage by providing the investor with a share/stock.
Such an approach is often also beneficial for the company, which can attract investments from current or potential future participants on relatively better terms (low interest, long term, etc.), promising to provide better economic indicators, in which case the debt will be converted into equity.
At the same time, making investments through convertible debt is also an accepted method for startups from the point of view of international experience. Such an opportunity is established in both developed and developing countries, for example, in the USA, Great Britain, the Russian Federation, Ireland, Singapore, Belarus, etc. Despite this, a number of provisions of the currently valid RA Civil Code, the RA Law "On Limited Liability Companies" and the RA Law "On Joint Stock Companies" impede the application of convertible debt mechanisms and/or do not establish the necessary structures for its application. Such problems, in turn, cause dissatisfaction among investors in the IT sector, reduce their desire to invest in RA companies, and negatively affect the RA on the investment attractiveness of companies.
The reform proposes to make additions to the Civil Code of the Republic of Armenia, the Laws "On Limited Liability Companies" and "On Joint-Stock Companies" by defining the concept of a convertible loan agreement and the main conditions of its application, based on the business practices already established in the world and in the Republic of Armenia. In particular, it is proposed to establish that the loan agreement, according to which the borrower is a joint-stock or limited liability company, may stipulate that instead of the obligation to pay back the loan amount or part of it and interest or part of them, in the cases, procedure and conditions defined by the loan agreement, the borrower is obliged to allocate to the lender the number, type and class of shares determined in accordance with the procedure defined by the contract, or provide shares (convertible loan agreement). It is also proposed to establish that the possibility of exchanging shares or shares in a convertible loan agreement should be defined at the time of signing the agreement. and the normative legal acts of the RA Central Bank. The draft also regulates the specifics of conversion in case of providing the convertible loan in foreign currency. In particular, it is proposed to establish that in the case of a convertible loan provided in foreign currency, monetary investments in the authorized capital of the borrowing company are considered to be made in AMD on the day the request for conversion (in the case of a limited liability company, the application) is received (or considered received) by the borrowing company as published by the Central Bank of the Republic of Armenia: at the average exchange rate formed in the currency markets. Moreover, the convertible loan agreement provided in foreign currency must stipulate that the demand for conversion (of the limited liability company on the day the application is received (or considered received) by the borrowing company, the loan is renewed and replaced by a dram loan, within the framework of which the loan amount is converted into Armenian drams at the average exchange rate published by the Central Bank of the Republic of Armenia for the same day and formed in the currency markets.
It is also regulates the procedure for making a decision on signing a convertible loan agreement by limited liability companies and joint-stock companies and issuing shares/participation based on it. Thus, in the case of limited liability companies, it is proposed to establish that the general meeting of the company's participants may adopt a decision on signing a convertible loan agreement. According to the new egulations, in order to fulfill the convertible loan agreement, in which the SP company is the borrower, the lender submits an application to the executive body of the company within the period specified by the agreement, in the case of the lender being a participant of the company, regarding the increase of the company's authorized capital, by making an additional deposit by the lender in the amount determined by the convertible loan. on the basis of the nominal value of his share, to make a decision on approving the results of deposit investment by increasing and converting the amount and approving changes to the company's charter, and a participant of the company in the case of a non-lender, to accept him as a company, to increase the company's statutory capital, and to issue a share based on the deposit amount determined by the lender (confirmation of the results of the deposit investment by means of conversion) and to approve changes to the company's charter. If provided by the convertible loan agreement that the conversion is conditioned by reaching the conditions set by the contract, then the application must contain the justification for reaching those conditions.
With regard to the conversion process by joint-stock companies according to the convertible loan agreement, the reform proposes to stipulate that the lender submits a written request for conversion to the executive body of the Company within the period specified by the agreement, and if the convertible loan agreement stipulates that the conversion is conditional on the issuance of additional shares and in favor of the lender having reached the conditions set for their placement, then the written request for conversion must contain the justification for reaching those conditions. Upon receipt of the said request by the executive body of the Company, and if the convertible loan agreement stipulates that the conversion is conditioned by reaching the conditions set for the issuance of additional shares and their allocation in favor of the lender, then within 60 days after reaching those conditions, the Company is obliged to the convertible loan agreement to issue and allocate shares in accordance with the specified type, class and quantity in favor of the lender.The draft also specified the tax consequences related to the conclusion of the convertible loan agreement and the fulfillment of the obligations assumed thereby, in particular it was established that the interest payable on the basis of the convertible loan agreement in case of conversion of a share or share, such interest is considered paid at the time of conversion.