HMRC published an interesting piece of research into EIS and VCTs in February. The use and impact of venture capital schemes details the results of research carried out by Ipsos MORI in August 2014.
Interviews were conducted with 628 investee companies, 546 investors and five VCT fund managers (there’s no explanation for why EIS managers weren’t interviewed by the way).
Problems with the Seven Year Age Limit
We think that the results indicate that the new seven year age limit on investee companies will have a detrimental economic impact (in line with what the angel and venture capital community have been saying since the new rule was introduced in the 2015 Budget).
Based on the research, over 60% of investee companies trading for eight years or more felt that they would not have secured funding without the tax-advantaged venture capital schemes. Surely this is the strongest indication yet that this new rule is unnecessarily restrictive?
The survey results also found that companies trading for over eight years were more likely to use EIS or VCT funds to facilitate working capital. The report states that “investments towards working capital or business expansion were associated with statistically significantly lower levels of deadweight.”
Deadweight is defined as the economic efficiency of investment via venture capital schemes. The higher the deadweight, the more likely a company could have met their investment requirements without the schemes, i.e. a lower level of deadweight means that the schemes are performing better.
The conclusion here may be that companies older than the new seven year age limit really need these schemes, and that the schemes are more important for this cohort of companies1.
Economic Growth
On a more positive note, the research found that the schemes have been successful in encouraging economic growth.
- Over half of investees (58% EIS and 51% VCT) said productivity had increased since receiving investment, good news in the week when low productivity has been blamed for the downgrade in growth forecasts.
- Three-quarters (76%) of investees said they had undertaken some form of innovation as a direct result of their EIS or VCT investment. Companies that receive venture capital funds often fit the bill of being a disruptive innovator and innovation is a major driver of economic growth.
- 71% of investees said they had created new jobs, and 90% of those firms attribute this to receiving investment via the schemes.
Investor Interviews
There were some interesting findings that came out of the investor interviews.
- Tax reliefs were rated as a more important reason to invest among syndicates than solo investors, which suggests that individual investors getting involved on a single company basis have philanthropic or social reasons to invest in addition to their financial objectives.
“I’m not against having a bit of a punt where there is another angle than just making money – the community or feel-good factor.” EIS investor
- The primary way in which tax reliefs influenced investors’ decisions was by reducing risk (the initial tax relief was viewed as a cushion that could absorb some losses) or by allowing them to invest more (there were able to afford to invest a higher amount due to the reliefs)
- Most investors indicated that they made more risky investments than they normally would do due to the tax relief (in line with the policy intent of the schemes)
- However, some investors didn’t view venture capital schemes as particularly high-risk given the comparable performance of the mainstream market since the 2008 crisis (primarily these investors were referring to VCTs which had continued to provide returns throughout the crash)
“There is this utter myth that VCTs are for wealthy people with huge assets who can afford to lose all their money if they invest in them – as if losing half your money in the financial crash in 2008 on the stock market wasn’t risky. My personal view is that most VCT shares are much more stable than most ordinary market investments.” VCT investor
Investee Interviews
The investee research was equally revealing.
- Just 11% of investees felt their proposed investment would definitely have gone ahead without the schemes, demonstrating the vital importance of these schemes to the economy.
- Investee companies overwhelmingly agreed that the VCT/EIS investment they received was important to the growth and development of the company.
- Small and young companies were more likely to seek growth funds, whereas older firms were likely to seek working capital.
- Whilst VCT investees generally sought finance from a wider range of sources than EIS investees, VCT funding was still more likely to make up half or more of the total investment (compared to EIS funding). In other words, VCT funding was typically a dominant part of any total investment.
- On the other hand, EIS funding was more complementary, tending to make up less than half the total value of a diverse funding package alongside other funding sources. This was especially the case for EIS investees requiring large total investment levels of £5 million or more.
Further Information
Anyone who wants further information should download our 2015/2016 Industry Reports free of charge:
Notes
- While the survey breaks down the results by the age of the investee companies, most of this information was put in a Technical Annex which has not been published yet