EIS 2018 report (web)

35 34 “With the pressures of sourcing patient capital from abroad whilst the UK transitions from the EU, EIS and SEIS investments provide a much needed source of capital to the companies of the future.” — SARAH BARBER, JENSON FUNDING PARTNERS Simon Ruthers, director of business development at Oxford Capital, said: “Many now see EIS as an excellent means of replacing the tax reliefs they used to enjoy on pension contributions, while investing in UK SMEs.” He added that with many high earners having been disproportionately affected by pension tax changes, they want to manage their tax liabilities and are beginning to recognise that EIS offers “a well-regulated, non- contentious and legitimate means to shelter their long-term retirement savings from high levels of taxation”. 50 Another area in which EIS can be a useful mechanism is in CGT mitigation. With many UK homeowners’ residential properties having risen in value exponentially, the ability to manage CGT through EIS will be attractive for a sizable cohort that will include retail investors. Ruthers added that CGT can act as a roadblock for investors reorganising or reviewing their portfolios: “There are times when it is important to be able to access capital, to support family, plan retirement income, fund long-term care – or just to spend some money on the pleasures in life. “By investing the amount of the capital gain into EIS, investors can access their original capital, realise 30 per cent income tax relief and defer the payment of CGT, sometimes indefinitely.” 51 EIS also has the benefit of being an effective IHT shelter, as IHT can be mitigated after only two years of the investments being held, as opposed to seven years in the case of gifting. IHT receipts have been steadily rising since 2009 52 - so the potential for EIS structures to come into play is significant. ARE ALTERNATIVE INVESTMENT FUNDS EXCLUDING RETAIL INVESTORS? One industry trend that appears to be surfacing is the rising use of Alternative Investment Funds (AIFs). According to MICAP data, 40% of 2017 open offers were using AIFs. As AIFs cannot be marketed to the general public and have lower requirements for managers than discretionary portfolio services (merely requiring an appropriateness test), they tend to exclude retail investors. As the risk profile of EIS has been pushed up since the 2015 budget, the popularity of AIFs has increased and perhaps this is because more managers value the greater ease of using the AIF structure versus the dropping number of ordinary individuals they see as appropriate for EIS investments. The rise in AIFs has the potential to grow further in light of the greater restrictions implemented from the 2017 budget. INHERITANCE TAX RECEIPTS SOURCE: HMRC SME LANDSCAPE AND DEAL FLOW WHERE ARE THE OPPORTUNITIES? In the 2017/18 tax year, some EIS managers, particularly those running funds focused on the Capital Preservation and Growth strategy, have demonstrated high confidence in a very strong deal flow as well as investor interest. The average minimum fundraise for these offers has been almost five times higher than historically at close to £10m. Those managers appear to have been wringing the last benefits out of capital preservation structures, but what sort of deals will they be looking for when many of the standard risk mitigators used to preserve capital in EIS are no longer allowed? How quickly and robustly will they be able to source those new deals and how swiftly will they be able to deploy funds and get the EIS clock started? PIVOTING POTENTIAL The prospect of managers pivoting is not the most popular among investors, but we know that there is a high chance that many EIS managers will need to amend their offerings - some may need to move into entirely new sectors. We also know that the UK is a great centre for innovation, but can the sector provide sufficient investable opportunities to support demand from EIS investors? Well, 2017 was a record year in terms of the amount of cash being invested in the UK’s technology startups from Silicon Valley. The figure was well over $1bn - double the amount raised in both the two years prior. In fact, UK Sillicon Valley has contributed more venture capital cash than France, Germany and Ireland combined, according to figures from London and Partners, and Pitchbook. 53 This suggests a massive pool of potential investees, for the right investors, although it also indicates that there is already well-entrenched competition out there for these deals. But, research released at the end of 2017 showed that technology is by no means the only sector in the UK from which scaleup can be achieved. Over a third of the companies that make up the ScaleUp Index are business and professional services firms, followed by just under a third in industrials, 18% in the built environment and infrastructure, 12% in retail and just under 12% supply chain firms. Technology comes in at seventh place, with 10% of the companies listed. 54 ITS NOT ALL TECH In fact, aside from the huge boost directed at young tech firms in the budget, some are quick to point out that smaller, entrepreneurial companies are the wider focus of the changes, whether they qualify as KICs or not. When considering the broader field of start-ups, figures released at the end of 2017 showed that a record 660,000 companies were established in 2016, up from 608,000 in 2015 55 , so there is no shortage of ambition. Nevertheless, although SEIS might focus on young start-ups, EIS managers are more likely to look for slightly more mature opportunities within the regulatory confines of the scheme. And the greater challenge is likely to be digging down to find the businesses that can meet the risk requirements while also offering a real chance of high growth success. Under these circumstances, advisers will be entirely entitled to ask about deal sources, deployment timelines and about what the members of the team that identifies the best deals has been doing previously. If they are now looking at Technology in detail, does a previous history in asset-backed hospitality projects really give them the tools they need? 2001-02 05-06 12-13 02-03 09-10 06-07 13-14 03-04 10-11 07-08 14-15 04-05 11-12 08-09 15-16 2016-17 TOTAL RECEIPTS (£ MILLIONS) 6,000 5,000 4,000 3,000 2,000 1,000 0 OPEN OFFERS BY INVESTMENT TYPE SOURCE: MICAP 2016 (%) 2017 (%) 50% 40% 30% 20% 10% 0% ALTERNATIVE INVESTMENT FUND SINGLE COMPANY DISCRETIONARY PORTFOLIO SERVICE