A new HM Treasury consultation and review ‘Financing Growth in Innovative Firms’ considers the demand for ‘patient capital’ and options for a domestic replacement to the European Investment Fund (EIF), if following Brexit, that fund is no longer an active investor in UK business.

What is ‘patient capital’? The UK defines it as, long-term investment in innovative firms led by ambitious entrepreneurs who want to build large-scale businesses.

According to this review, compared to counterparts in the US too much business investment is made on a short term basis, with the effect that many innovative start-ups never reach their full potential.

  • Investors rely on a business being sold, ideally within 5 years of making their investment in order to maximise their rewards, and given the risk of funding a start-up.
  • UK firms receive fewer rounds of private investment before an Initial Public Offering (IPO) or sale to a trade buyer than their equivalents in the US.
  • UK firms are on average less developed and have scaled up less on average when they come to major decision points about their ownership structure to support their future plans for growth.

The review also notes that ‘…while it is sometimes said that UK entrepreneurs are on average less ambitious than entrepreneurs in other countries, the differentiating factor between the US and the UK appears to be lower levels of ambition among the self-employed with no employees. In contrast, business owners in the UK who employ people are on average just as likely to be ambitious as their counterparts in the US…’

Currently, the European Investment Fund (EIF), is a major investor in UK venture capital, this may change following Brexit. Alternative investment channels could be developed:

  • A new patient capital ISA
  • A new national investment fund could attract government and crowd funding in a public-private partnership.
  • A new government fund could be created as a new subsidiary of the British Business Bank, and [editorial note: somewhat ironically, given the problem already identified with short term funding] all or part could be sold to private investors once it has an established track-record.
  • Increased government investment could be made via existing channels: acknowledging that this may in the longer term reduce vibrancy within the market and not be fiscally sustainable.

The lack of appetite for patient capital funding is also affected by the regulatory environment govening many funds, including pensions. The review also seeks to identify potential measures for both Defined Benefit (DB) and Defined Contribution (DC) pension investors.

Business tax reliefs such as Entrepreneurs’ Relief, Seed Enterprise Investment Scheme, Enterprise Investment Scheme and IHT Business Property Relief all support a short terms investment current business model for many new business.

  • The consultation does not appear to propose that these should be amended, although this may remain an option for any chancellor.

The consultation asks whether specific tax proposals would be effective to help both new and existing investors to increase their investment in patient capital. The consultation does not recommend the introduction of a new tax incentive to support greater retail investment in listed patient capital funds although it does consider:

  • Potential tax incentives to support new University Investment Funds (university linked or independent funds that specialise in spinout investment) to set up and existing ones to raise new funding, thereby supporting the commercialisation of intellectual property from UK universities.
  • Expanding Business Investment Relief (BIR).
  • Removal of stamp taxes from the purchase of shares in closed ended funds which have a minimum level of investment in unquoted equities.

 The consultation, Financing Growth in Innovative Firms, closes on 22 September 2017.

The full list of questions asked in this consultation are as follows:

1 Do a material number of firms in the UK lack the long-term finance that they need to scale up successfully?

2 Where is the gap most acute by type of firm, stage of firm development and amount invested?

3 Have we correctly identified the UK’s current strengths in patient capital?

4 In what order would you prioritise the UK’s weaknesses in patient capital?

5 What are the main root causes holding back effective deployment of and demand for patient capital?

6 What are the main barriers holding back effective supply of patient capital by major investors?

7 Which programmes (investment programmes, tax reliefs and tax-incentivized investment schemes) have most effectively supported the investment of patient capital to date?

8 Are there areas where the cost effectiveness of current tax reliefs could be improved, for example reducing lower risk ‘capital preservation’ investments in the venture capital schemes?

9 Are there other ways the venture capital schemes could support investment in patient capital, in the context of State aid restrictions and evidence on cost effectiveness?

10 When is it more appropriate for government to support patient capital through investment rather than through a tax relief?

11 Is there an optimum minimum length of time of investment for entrepreneurs and investors to focus on the long-term growth of their company and, if so, what is it?

12 What other steps could government take to make current tax reliefs more efficient and effective, to provide the best support in line with their policy objectives?

13 What scale of new investment should the government seek to unlock and over what timeframe?

14 Should resources be focused on one intervention (e.g. a single fund of significant scale) or spread over a number of different programmes?

15 When considering how to replace EIF investment if the EIF were no longer an investor in the UK, to what extent should the government seek to replicate the EIF’s current activities in (a) venture capital and (b) private equity?

16 Beyond replicating existing EIF investment if required, what areas should government focus on to increase investment in patient capital?

17 When considering how to support increased investment, should the government consider supporting one or more of the setup of a public-private partnership, a new incubated fund in the BBB to be sold in part or full to private investors once it has established a successful track record and a series of private sector fund of funds to invest in patient capital?

18 If desirable, what steps should government take to encourage investors to form a new public-private partnership to increase investment in patient capital?

19 What steps should the government take to support greater retail investment in listed patient capital vehicles?

20 Will focusing resources on increasing investment provide better value for money than changes to the tax environment?

21 Beyond measures already being considered to support more effective asset allocation decisions by DB pension funds across their portfolio of investments, what further steps should be taken to support investment by DB pension funds in patient capital?

22 How can individual DC pension savers be best supported to invest in illiquid assets such as patient capital?

23 Are there barriers to investment in patient capital for other investors that the government should look to remove?

24 What steps should government take to support the next generation of high potential fund managers to develop their knowledge and skills and to raise their first or next fund?

25 What further steps, if any, should government take to increase investment into university spin-outs specifically?

26 What further steps should be taken to increase investor capability in the public markets to invest effectively in firms requiring patient capital to grow to scale?

Our useful guides fo Entrepreneurs and investors:

Which investment relief? IR v. ER v. SEIS v. EIS

Which CGT relief: disposal of a business or its assets

Business Investment Relief for non-domiciled individuals