With this year’s venture capital trust fundraising season well under way, there are signs of another strong year for the sector. It would be no small feat if it matched last year, with the £728m raised last year being the highest figure for a decade.
However, this is the first full VCT fundraising season since the Patient Capital Review, and the various changes introduced as a result by HM Treasury. While those regulatory changes were not as onerous as had been expected, investors may wish to assess which investment approach and VCT managers offer the best chance to maximise their returns.
VCTs remain popular for a number of reasons. Largely it is down to performance – a report by the Association of Investment Companies last year found, across all managers, that VCTs returned 82 per cent by share value total return over the previous decade. The diminishing appeal of alternatives is alsoa factor.
Savers have seen a number of restrictions on how much they can put into pensions. At the same time, income investors are seeing their returns curbed by the new dividend tax, and potential property investors are being deterred by higher taxes on buy-to-let.
Of the £1.7bn raised by enterprise investment schemes in the last tax year, it has been estimated that only a small part of this was raised for strategies that would be permissible under the new rules. This potentially leaves substantial funds seeking a new home in this tax year.
Be mindful of the changing VCT landscape
Investors looking to invest in VCTs will be mindful that the VCT landscape has seen regular change over recent years.
Key Points
- This is the first full year fundraising since the Patient Capital Review
- The annual investment that knowledge-intensive companies can receive through VCTs was doubled to £10m
- It is important for investors to focus on managers with strong track records
In 2015, the government tightened the rules governing which companies could benefit from VCT investment in order to bring VCT investment into line with EU state aid regulations and ensure that VCTs ultimately made more risk capital investments in order to offer investors the benefit of 30 per cent upfront income tax relief.
The changes meant VCTs, EIS or other tax-efficient risk finance vehicles could only invest in scale-up companies that were raising their first investment and were doing so within seven years of making their first commercial sale, or 10 years for knowledge-intensive companies.
VCTs were also prohibited from supporting management buy-outs. In last year’s Budget, and in response to the Patient Capital Review, the government introduced its new principles-based test, which prevented tax-efficient schemes from investing in asset-backed companies and encouraged greater investment into businesses seeking growth capital.
The reforms also strengthened certain aspects of the focus on earlier stage and knowledge-intensive businesses. The annual investment that knowledge-intensive companies can receive through VCTs, for example, was actually doubled to £10m.
Fortunately these regulatory changes did not have the impact many wealth managers and VCTs had feared of inhibiting investment in VCTs, and allayed concerns.
Well-resourced VCT managers make sense
As a result of the various changes, established, generalist VCT managers have refocused on investing in young, fast-growing businesses and have been able to adapt their investment approach as they continue to seek a broad range of opportunities across a multitude of sectors.
Investors should therefore target experienced managers who are able to effectively spread risk through an investment approach that takes in a wide range of carefully researched private companies.
Well-resourced VCT managers with offices across the UK will also be able to identify SME investment opportunities across UK regions, with an on-the-ground presence, which offers a major advantage to investors in hunting out new deals in what has become a highly competitive environment.
An extended UK-wide contact network of advisers and entrepreneurs is particularly beneficial as it will offer expertise and contacts in growth sectors across the UK regions. Ultimately, this can help the VCT manager to source and analyse the best quality opportunities on behalf of investors.
The regulatory changes referred to above also mean that from April 2019, the percentage of funds VCTs must hold in qualifying investments will increase from 70 to 80 per cent.
While VCT managers will also have up to one year to reinvest gains, investors should target managers that have access to a strong pipeline of attractive growth businesses in need of investment, as that will mean they are able to put new or realised funds to work in order to maximise returns and protect tax benefits.
VCTs still have a strong role to play
VCTs still offer potential for high returns, but it is important for investors to focus on managers with strong track records given the requirement to invest in earlier stage businesses.
The consistent success of new share offers by the leading managers over the past few years illustrates how VCTs are increasingly recognised as a mainstream asset class in investment planning, particularly as other tax-efficient investment options have seen their appeal limited by government action.
VCTs give investors access to an asset class, growth company investing that would be difficult for them to access on a portfolio basis independently, and are a valued part of tax efficient and income-focused investment strategies, with the ability to deliver strong returns over the long-term.
Bill Nixon is managing partner of Maven Capital Partners
