Last week, in part one of this article, I set the scene showing why behavior and strategies of IFAs and Wealth Managers would necessarily change in response to the current investment environment. Now I will investigate the how – how their strategies and processes will evolve to fit the post-budget investment climate and take advantage of the opportunity it provides.
IFAs and Wealth Managers’ evolving strategies
If IFAs and Wealth Managers 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 growth/ventures space. Some specific changes may include:
- Diversification across multiple VCTs and EIS Fund providers: This is key to a balanced investment strategy by investors, and therefore investors and their advisors are likely to look for a wider portfolio of EIS Funds and VCT opportunities.
- Expanding panels’ size: To include a greater number of technology specialist EIS Funds.
- Re-evaluating exisisting panel members: To understand how they will re-skill to move from capital-preservation to growth-focused strategies. The skillset and relevance of experience of the EIS Fund managers in their areas of investment ought to be a key selection factor. Running a biotech, or robotics, or Internet of Things focused fund is very different and requires a different set of capabilities to, for instance, running a property-backed EIS fund.
- Deeper due dil in funds’ investment strategies: To understand how the different EIS funds fit investors’ needs and preferences. Identifying genuinely different investment strategies between different EIS Funds can provide real options to their clients.
- Greater use of online allocation platforms to identify specialist EIS Funds and monitor their performance: This ecosystem levels the playing field, enabling new and more diverse players to come to market and access a broader range of investors. It also makes it easier for IFAs to administer a broader funds panel, and to track performance over time.
- Increased research and transparency: As stock market listed entities, VCTs are quite transparent structures, with significant levels of information on management teams, investment strategies and performance. As EIS Funds are not listed on the stock market, they are not obliged to report regularly like VCTs. However, pressure by IFA and Wealth Managers for independent research into such opportunities have contributed to the emergence of independent 3rd party research organisations into EIS Funds’ performance and teams, providing investors and their advisors greater visibility as to how these Funds operate and differ.
- Deepening relationships with clients: As IFAs and Wealth Managers look to move away from commodity products, it is likely that we’ll see a more pro-active approach to engage with clients and identify investment opportunitieis, going beyond the purely technical aspects of EIS.
- Growing number of advised clients will get exposure to EIS and VCT opportunities: Currently, only a fraction of the potentially ’eligible’ high earners participate in this space. The alternatives to investors, in a close-to-zero interest rate environment, and tightening around other areas of investment, means that there has also been an increasing supply of capital by private investors in this space.There is therefore still a very, very large opportunity for IFAs and Wealth Managers to educate more high-net-worth clients about the EIS and VCT opportunities.
A deepening EIS Fund industry will take up the opportunity for growth
What about the EIS Fund industry – does it have the capacity to handle growth and greater investor scrutiny? There are reasons to be optimistic. A combination of factors has led to an increasingly developed ecosystem in the UK around EIS investment opportunities. There is a renaissance in UK entrepreneurship, with a notable uptick in EIS investment opportunities across a range of sectors including software, biotech, robotics, waste-to-energy, and even film and the creative industries.
This is no longer an industry dominated by 4-5 major players. It is a rapidly maturing and institutionalising industry, with a growing number of professional investment managers and advisors, as well as a strong ecosystem of tax advisors, regulatory consultants, custodians, and experienced law firms. The VCT and EIS space is now a core part of the UK’s innovation financing system, and the government recognizes that.
The shifts outlined above will lead to a transformation of the EIS industry landscape in the next 2-3 years – it will be both larger in size, more diverse and more linked to the mainstream VC industry market. This will take the form of:
- 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 allowing a doubling of the amount a company can raise from £5m to £10m means that companies now can do a sizeable Series A or even Series B round entirely from EIS sources. This potentially provides a ‘home’ to more risk averse investors, as post-revenue companies raising a Series A, Series B or growth rounds have much lower risk levels than pre-revenue investment opportunities.
- Greater diversity of products: There are many new EIS Fund entrants that are focused on high-tech innovation-types of opportunities, often with a strong sectoral focus. This increases the potential for diversification of IFA panels, who may seek a portfolio approach of allocating into many sectoral specialists, rather than working only with 3-4 generalist funds.
- Ease of EIS administration: The commitment to a 15-day turnaround in EIS advanced assurance letters will help UK EIS Funds remain competitive against other sources of investment, through a faster reaction time. In response to growing volumes of EIS investments, the Treasury is digitizing various parts of the workflow, which over time ought to make the administration of the EIS tax certification faster and easier.
Even before the new Budget’s announcement, changes in the investment landscape for entrepreneurial startups have been underway, with an increasing number of UK-grown mega-exit success stories in the knowledge-intensive space, such as AI companies Deepmind and Magic Pony (with $500m and $150m exits respectively), and many other smaller exits that may not have grabbed headlines but have provided solid investment returns.
This is noticed by high-net-worth clients of IFAs, many of whom are business owners or serial entrepreneurs, and who are also looking for early-stage growth opportunities as investment opportunities first and foremost, with the EIS tax credits a very welcome element. The government’s changes to EIS rules may prove the key ‘nudge’ factor; invigorating the EIS investment space as a mainstream growth investment option going forward.