The Chancellor Philip Hammond’s announcement in the recent Budget that the government was consulting on a framework to enable defined contribution pension money to support patient capital opportunities came as a pleasant surprise.
The news came after a period of significant change following last year’s Patient Capital Review, narrowing and refocusing the role of early stage investors (such as venture capital trust managers) on innovative, high-growth companies.
While much of the detail of this latest initiative remains to be hammered out, the news is positive for the UK’s fast-growing scale-up businesses and, as a result, for both VCT and pension fund investors.
The move will enable growing businesses to access more funding beyond the early stages of their growth – where VCT managers are typically involved – to achieve scale at later stages when patient capital has been harder to obtain in the UK.
An erosion of pension lifetime and annual savings allowances has undoubtedly boosted VCT inflows in recent years as advisers look for alternative tax efficient investment options.
Arguably, VCTs have become part of a core approach to retirement planning.
But does the ability for investors to access patient capital through their defined contribution pensions tread on VCTs’ toes?
This seems unlikely given that VCTs provide investment exposure to unquoted growth companies at an earlier point in their evolution.
Pension schemes investing in patient capital will not compete with VCTs, but rather provide additional funding later in a business’s development, giving savers more opportunities to benefit throughout a company’s growth cycle.
Some commentators have cited concerns that patient capital assets are not appropriate for the majority of retirement savers. Backing smaller growth businesses is certainly higher risk and, in the case of VCTs, only relevant for sophisticated investors.
But patient capital can and should have a place as part of a diversified pension portfolio so long as allocations to this asset class are appropriate.
Pension allocations are likely to come from large defined contribution pension schemes rather than Sipps, for example.
Pension funds should not divert large chunks of their portfolios into patient capital but, given the billions of pension money invested in UK equities, channelling just a small percentage to younger growth businesses desperate for patient capital would make a big difference to entrepreneurs.
Meanwhile, the pension schemes gain exposure to attractive diversification and the potential for significant growth.
One hurdle which the government, regulators and the pensions industry will need to address is the pension charge cap.
Unquoted growth investing is inherently more expensive operationally for managers, who typically sit on company boards, provide strategic advice and must undertake significant due diligence in under-researched and unresearched areas. Providing a solution which accounts for this cost over and above the current 0.75 per cent limit will require careful thought.
Supply versus demand
The government’s latest plans, following a successful implementation of the Patient Capital Review changes, are a further sign of its support for investment in growth companies, including investment provided by the VCT sector.