Having passed the end of the tax year we have an opportunity to reflect on how investors reacted to the loss of renewables as an allowable asset for EIS. This was perceived as a potential cause of a capacity crunch.
HM Treasury changes to remove renewables were perceived as a significant risk for the industry. These investments were regarded as low-risk, meaning EIS investors in the new environment would be required to take on more risk in their portfolio – simply because of the remaining asset classes that are available.
It is interesting to look back and see how investors reacted to the loss of what was perceived to be an appealing low risk investment. Did they take the opportunity to shelter in storage, as might be expected given that it mirrors the low risk profile of renewables? Or alternatively were investors pushed into asset classes offering a risk profile more akin to the original spirit of the EIS legislation, the reason for Treasury’s changes to renewables as an asset class?
To get a better picture we have looked at data derived from the investments made on the Kuber platform, which show a discernible increase in “growth EIS” investing taking place across the course of the last two years, which, given the asset backed nature and underlying government guarantees of renewables, may seem surprising. In fact, new assets on the Platform were comprised of 22 percent asset backed EIS compared to 48 percent for growth (including SEIS).
This might be an indication that the Treasury’s objective for EIS to be utilised primarily as an investment vehicle for high growth companies is working. Likewise, it has become apparent that EIS investors are starting to regard the return profile of these asset classes as more appealing than the perceived security offered by asset backed investment.
If this is the case this is encouraging and clearly meets the Treasury’s requirements for EIS asset classes, the essence of which is about receiving a ‘risk premium’ (the tax breaks) in return for investing in young, innovative and high growth companies.
The point is that these companies have the potential to help drive the UK economy. Since the financial crisis, and subsequent increase in bank supervision, regulation and capital requirements that has hampered lending to SMEs, EIS has proved to be a valuable tool for encouraging investment in young firms.
Further analysis indicates that investors and advisers are becoming wiser in their due diligence and fund selection. To a certain extent this has come as a result of the removal of renewables, but also as a result of an increasingly ‘institutional’ approach to the asset class.
Take for instance media funds which, as readers will be well aware, have received a certain amount of arguably unfair scepticism, as well as negative publicity wrongly linking them to tax avoidance. In this context it is perhaps encouraging that figures show 30 percent of new investments on the Kuber platform are in Media related EIS. In our view, this is perhaps testament to the level of due diligence that is now undertaken and the reassurance provided by this that these are genuine investments with strong propositions.
We have also seen that advisers and their clients have been responding to the loss of low risk renewables by building more diverse portfolios. For instance, our data shows that the average number of EIS funds per investor is four and the average number of underlying investee companies is 14. By building a more diverse portfolio, EIS investors are able to flatten the distribution of investment outcomes in a way that maximises return for the risk taken – thereby making up for the loss of renewables.
We see this as a positive development, as it is the point of building an EIS investment portfolio in the new regime. From a broader perspective it’s important that investors understand where their mutual fund investment is going, and this is no different in the case of EIS investments. Advisers and clients can take some comfort in the fact that EIS qualifying companies will continue to undergo HMRC scrutiny to achieve advanced assurance. It is equally as important that advisers undertake their own due diligence and regard investing in EIS as a portfolio building exercise, reducing risk and increasing the possibility of a positive return.
The Patient Capital Review which is due to report in the Autumn could possibly refocus investment away from asset backed companies, although these in fact still need help raising capital. So following the EIS renewables boom, there are now signs that investors are shifting their behaviour in a manner that reinvigorates the true ethos of EIS. Tie this in with the Patient Capital Review and this may result in a short term focus on asset backed investments before full growth portfolios are the norm.