What startups and key investors in Thailand need to know about alternative debt financing

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With improving digital technology and the pandemic recovery already underway, the Thai business world is experiencing a new wave of ambitious startups. In order to succeed in this highly competitive environment, startups need adequate funding from key investors, venture capitalists, and angel investors. In such a crowded environment, however, fundraising is no easy task. Attracting the attention of international investors can be difficult, while IPO financing takes considerable time and requires jumping through a number of legal hurdles. Fortunately, there are simpler options – and that’s where alternative debt financing comes in.

One method that is receiving renewed attention is called convertible debt financing. This type of arrangement starts out in the standard way: the startup borrows money from a lender. The innovative element of this financing model stems from the process of reimbursing the lender for its services. This refund can take one of the following two forms:

1. Over time, as the startup reaches certain agreed-upon milestones, the loan is automatically converted into equity – typically, shares of the business. The net result of this conversion is that the lender acquires an equity stake in the borrowing company, at a lower price than would be possible through traditional means, once the startup has achieved its initial growth goals.

2. If the startup is unable to achieve these goals by the time the loan matures, the loan must be repaid in full to the lender.

Viewed in these terms, the appeal of convertible debt financing is immediately apparent. Lenders can get significant equity for their investment, but if the business doesn’t meet its growth goals, their money is treated like a traditional loan and they’re repaid.

Startups also benefit from being able to offer such a low-risk, high-reward option, as such an arrangement can help them stand out even in a crowded field. Much depends on the success of startups in attracting investor attention, and tools like convertible debt financing can be a big help in that effort. Additionally, the convertible debt financing approach allows startups to receive funding even before they receive a valuation.

As we will see, however, this type of alternative debt financing also has its drawbacks – both legal and practical. Only by looking at the full picture can startups determine if these funding methods represent the right path for them.

Convertible debt financing and Thai law

Previously in Thailand, under the Thai Civil and Commercial Code, private companies were not allowed to issue convertible debentures to investors. However, the Securities and Exchange Commission, Thailand (“SECOND”) realized that Thailand needed to be made more competitive in the region, which meant boosting investment. Startups and SMEs can now offer convertible debentures via private placements under certain conditions. Although these conditions are strictthe door is now open to alternative debt financing.

To be eligible, SMEs must correspond to one of the boxes below:

It is also important to note that only certain types of key investors have been approved by the SEC to participate in convertible debt financing. Additionally, in some cases, there are limits on the number of investors allowed to do so and the total amount of investment allowed using this funding model. Details are in the infographic below:

Participating companies must also complete the paperwork associated with convertible debt financing in Thailand. This process includes registration for the Capital Market Fundraising Promotion Project for SMEs (PP-PME) with the Office for the Promotion of Small and Medium Enterprises (OSMEP). It also involves preparing an SME information sheet and submitting investment information to the Thai SEC within 15 days of the closing of the convertible loan financing offering.

Other regulatory requirements also apply – such as the need for startups to restrict funding offers to pre-screened investors, rather than announce them to the broader investment market – and startups must demonstrate caution to ensure compliance.

Advantages and disadvantages of alternative debt financing

Although “alternative” by some standards, convertible debt financing is widely used and accepted by investors around the world. Its benefits include lower transaction costs than other forms of investing, while also providing lenders with a significant discount (typically 20%) on business equity. An interest rate also remains in place, making this solution relatively easy to sell to investors.

Convertible debt financing also has its pitfalls, however, this type of loan tends to mature in one or two years, leaving little time for the SME to achieve the milestones it offers. In addition, this method of financing sometimes creates organizational complications, as it can be difficult to keep an accurate record of each convertible note in cases where a large number of investors participate. Finally, of course, it’s worth pointing out that a successful funding round will leave the lender with a percentage of the business. Depending on the SME’s future growth prospects, this outcome may or may not be ideal.

The aforementioned challenges, in addition to the legal requirements attached to this form of financing, mean that SMEs need to think (and prepare) carefully before choosing convertible debt financing as their fundraising approach.

Overall, convertible debt financing represents an important addition to Thai business law. This tool facilitates investment opportunities on favorable terms, which helps SMEs attract more attention from major investors. Eligible businesses that anticipate short-term growth will find this financing method very attractive to consider.

Legal and practical expertise for the future

Given the availability of other fundraising options, such as crowdfunding, IPOs, and equity financing, convertible loan financing has long been overlooked in the Thai startup world. The liberalization of alternative debt financing laws offers a very promising new path for eligible companies, if they adhere to the regulations and implement the right strategy.

As startups and investors in Thailand are beginning to notice convertible debt financing opportunities, now is the time to leverage this investment tool for greater competitive advantage.

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