Flash comments on Budget 2017 – likely impact on EIS investment and venture investment
Below are some initial thoughts and comments on Budget 2017 and its likely impact on the EIS investment and the Venture investment space more broadly.
Overall this appears to be a budget focused on helping entrepreneurial knowledge-intensive companies, recognizing the need for a post-Brexit UK to focus on true innovation, and – on the funding side – implementing a lot of the good analysis from the Patient Capital review. We think this bodes well for the future of the UK’s start-up / venture ecosystem and for the economy as a whole.
Key EIS reforms
- As expected, HM Treasury is starting a pushback against the use of EIS scheme for capital-preservation and asset-backed investment. Instead the focus is firmly on using the EIS scheme to support and encourage investment into knowledge-intensive innovating companies. We welcome this direction, providing that there is a pragmatic implementation. A very welcome development is that the limit on EIS investment has doubled, both in terms of the limits of how much investors can invest (from £1M to £2M p.a.), and in terms of company limits of how much EIS investment they can receive (from £5M to £10M p.a. combined EIS/VCT).
- This change looks like a direct response to the UK’s ‘scale-up’ challenge – the finding that there are simply not enough funds for Series A and B investments into knowledge-intensive companies going from first revenues to scale-up and growth.
- Indications are that HMRC will use a principles-based test, but the emphasis is to ensure EIS and related schemes are focused on promoting the funding of entrepreneurial companies looking to build long term growth. This may make things difficult for the capital-preservation schemes where tax relief provides the bulk of an investors anticipated return. From our perspective this is a welcome and pragmatic development that should help guide the EIS space back to its original mandate – backing entrepreneurs focused on knowledge-intensive companies with high growth potential that can fuel productivity growth and economic growth.
Potential Impact
- Last year there was approximately £2bn in EIS Funds invested. A very large proportion of that was within various types of capital preservation/asset-preservation schemes. Therefore, there is potentially a very large pot of investible money that may be looking for a new destination, which may be very positive for venture-focused EIS Funds.
- The changes may lead to increased use of EIS funding for Series A or early B funding for growth companies – which is much less risky than seed investment, but where the capital needs are greater. The changes may lead to the shifting of investor preferences from ‘capital preservation schemes’ towards venture investment. Of course, seed investment is very risky, so it may be that some of these fund re-allocations may move to post-revenue Series A and B rounds, where the risk levels are lower. If IFAs decide to allocate a greater proportion of EIS investment towards venture-focused EIS funds, then some aspects of their panel selection may need to change, to reflect the different investment team and thesis requirements in the venture space.
Key concerns around EIS reforms
- We still need to see the detail of what the changes mean – for example, how will the principles-based test work in practice? Will it be HMRC that implements it, or more role for accountants and lawyers?
- A key issue is around HMRC’s capacity to administer the EIS system and its growing complexity. In particular, a greater focus on knowledge-intensive companies may imply greater need for review by HMRC of applications. They are currently already short of capacity, so they really need the extra resources to ensure the new measures come into effect smoothly. While there appears to be a commitment to shorten the turnaround time for applications, it would be good to see a plan for how this will be implemented.
- Pending more clarity on the ‘principles-based test’, there is also some concern that the growing complexity of getting pre-approval may turn away otherwise eligible companies that do not have the right accountancy and legal support
Other non-EIS Budget 2017 changes that may benefit venture investment and knowledge/tech intensive-companies:
- A good signal in the continued R&D tax credits, as there was some speculation that it may be scrapped. R&D tax credits are a really important source of support for highly-innovative, IP intensive companies.
- It is very important to hear that the British Business Bank will get extra funding and that there’s explicit recognition of the need to fill in any gaps left by the EIB pulling back financing to the UK.
- Various sectoral announcements all provide massive opportunities for knowledge-intensive startups. Among others:
o £44bn in funding for new housing: provides opportunities for smart city tech – everything from VR for demo/planning, to improved building technologies and materials
o EV charging: £400m charging infrastructure, + £100m plugin grant, £40m in grants supporting R&D in the space
o £14m in charging EV R&D – important for both the UK auto industry, smart city startups, and many companies in the EV space
o Funds available for the roll-out of 5G infrastructure – key for IoT/Smart City/Connected Transport applications