Tungsten, RedstoneConnect, Proactis, LoopUp, Mello and productivity

ITesterday there was an announcement by Tungsten Corporation (TUNG) that there was press speculation about a possible requisition of a general meeting to remove some of the directors, including the Chairman and CEO, and appoint others. This is likely to come from Odey Asset Management supported by other large investors the company understands. Their combined holdings could give them a good chance of winning any vote, or at least it would be a hard-fought proxy battle.

It would seem that the former CEO Edi Truell is involved in this initiative. It would be most unfortunate in my view if he returns to this business (and I did purchase a very few shares in the company after he departed which I still hold). Richard Hurwitz has done a good job in my view of turning this company from a financial basket case with very substantial annual losses into a sounder one. Revenue has been rising and costs have been cut although profits have been longer to appear than hoped. However the company does report that EBITDA was at breakeven for the first four months of the calendar year. It’s at least heading in the right direction now so I am unlikely to be voting for any such requisition.

I attended the Mello event at Hever yesterday and was hoping to get an update from Mark Braund on RedstoneConnect (REDS) where he was due to present. But his presentation was cancelled. Now we know why because an announcement this morning from the company said he was leaving. Perhaps he wants a new challenge. This was another basket case of a company where Mark turned it around in the two years he has been there. So some investors may not be pleased with his departure and the share price predictably dropped on the news. The new CEO will be Frank Beechinor who is currently the Chairman. He is also Chairman of DotDigital and clearly has experience of running IT companies so it’s probably a good choice. A new non-executive Chairman has been appointed (Guy van Zwanenberg).

The Mello event, organised by David Stredder of course, was held near Hever Castle in deepest Kent. I know some of the roads in the area as I live nearby but even so managed to get lost. Not the ideal location. But it was a useful event otherwise. I did an interview for Peter of Conkers Corner and sat on the panel covering the Beaufort case. Videos of both are likely to be available soon, and I will tweet links to them when they appear.

A company that did present at Mello was Proactis (PHD) with CEO Hamp Wall doing the talking. I was unsure of the potential future growth for the company as I thought the market for procurement software might be quite mature (i.e. most likely users had such a product/service). But not so it seems, particularly in the USA and their target vertical segments. Hamp spoke clearly and answered questions well. He is clearly an experienced IT sales/marketing manager. He said he was surprised though that the share price fell over 40% recently when they announced the loss of two of their largest customers. He thought it might fall 15%. I agreed with him that it seemed excessive. But the market does not like surprises.

Today I attended the AGM of LoopUp Group (LOOP) who sell conferencing software. They recently merged with a competitor named MeetingZone and it looks likely to double revenue and more than double profits if things go according to plan. The joint CEOs made positive noises about progress. The company is chaired by heavyweight Chairperson Lady Barbara Judge CBE which is somewhat unusual for this kind of company – at least heavyweight in terms of past appointments if not lightweight in person.

Tim Grattan was the only other ordinary shareholder present and may do a fuller report for ShareSoc. A disappointing turnout for a very informative meeting as both I and Tim asked lots of questions.

Tim advised me after I mentioned the Foresight 4 VCT fund raising that it was odd that no mention was made in the prospectus of the alleged illegal payment of a dividend. Is this not a “risk factor” that should have been declared he asked? That company and its manager seem to be turning a blind eye to that problem.

There was an interesting letter from Peter Ferguson in the Financial Times today. It covered the issue of a declining productivity growth in the UK and other countries aired in a previous article by Martin Wolf. This is certainly of concern to the Government and should be to all investors because only by increasing productivity can we get richer. Mr Ferguson suggested one cause was the negative impact of increasing regulation. He suggested it has three impacts: 1) more unproductive people appointed to monitor and enforce the regulations, 2) more compliance officers, and 3) less productivity as a result in companies due to sub-optimal practices. Perhaps fortuitously I am invested in a company that sells risk and compliance solutions. It’s certainly a growth area and there may be some truth in this argument. Has MIFID II reduced productivity in the financial sector with few benefits to show for it? I think it has.

But Rolls-Royce are going to improve the productivity in their business at a stroke. They just announced they are going to fire 4,600 staff. But are any of them risk and compliance staff?

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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RBS Sale and Blackrock Smaller Companies AGM

The Government is selling off another tranche of its holding in the Royal Bank of Scotland (RBS). By selling another 8% it will reduce its holding to 62% of the company. The Government (or “taxpayers” as some described them) will face a loss of about £2 billion on what it originally paid for the shares. There were howls of protest from some politicians. John McDonnell, shadow chancellor, said “There is no economic justification for this sell-off of RBS shares. There should be no sale of RBS shares full-stop. But particularly with such a large loss to the taxpayers who bailed out the bank”.

I think he is suffering from the problem of “loss aversion”, i.e. a reluctance to sell a losing investment rather than looking at the current value of the bank and its prospects. The market price is surely the best indicator of the value of the company – it’s what willing buyers will pay, and what sellers consider a fair price. One aspect to consider is that the value of the business may be depressed because nobody likes to buy shares in companies where there is one dominant controlling shareholder and particularly so if that shareholder is a government. The only way the UK Government can solve that problem is to reduce its holding in stages, as they are doing. Forget the prospective loss on the share sale. Better to accept the price offered and reinvest the proceeds in something else. The Government has lots of things where it needs more cash – the NHS, Education, Defence, Brexit plans, you name it.

Mr McDonnell may be particularly unhappy as he hopes to take power at the next General Election and RBS is one of the few remnants of the past Labour government’s major stakes in UK banks. After Gordon Brown nationalised Northern Rock and Bradford & Bingley, they took effective control of RBS, and to a large extent Lloyds. Only Barclays managed to escape by doing a quick deal with middle-east investors which has been the subject of legal action, only recently thrown out by the courts. For any socialist, particularly of the extreme left like Mr McDonnell, the ability to tell banks what to do is an undoubted objective. Banks tend to reduce lending when the economy worsens and their clients start to have difficulties but the claim is often that such reduction in lending compounds the economic woes.

Yesterday I attend the Annual General Meeting of Blackrock Smaller Companies Trust Plc (BRSC). What follows are some brief highlights. This company has a good track record – some 15 consecutive years of outperforming its benchmark by active management. So much for passive index investing. It has been managed by Mike Prentis for many years assisted by Roland Arnold more recently. The share price rose by 25% last year but the discount to NAV has narrowed recently to about 6% so some might say it is no longer a great bargain. The company does not have a fixed discount control mechanism and has traded at much higher discounts in the past.

It’s a stock-pickers portfolio of UK smaller companies, including 43% of AIM companies and 143 holdings in total. Many of the holdings are the same companies I have invested in directly, e.g. GB Group who issued their annual results on the same day with another great set of figures.

Mike Prentis gave his key points for investing in a company as: strong management, a unique business with strong pricing power, profitable track record, throwing off cash, profits convert into cash and a strong balance sheet. They generally go for small holdings initially, even when they invest in IPOs, i.e. they are cautious investors.

When it came to questions, one shareholder questioned the allocation of management fees as against income or capital (25% to 75% in this company). He suggested this was reducing the amount available for reinvestment. But he was advised otherwise. Such allocation is now merely an accounting convention, particularly as dividends can now be paid out of capital. But he could not be convinced otherwise.

Another investor congratulated the board on removing the performance fee. Shareholders were clearly happy, and nobody commented on the fact that the Chairman, Nicholas Fry had been on the board since 2005 and the SID, Robert Robertson, had also been there more than 9 years – both contrary to the UK Corporate Governance Code. The latter did collect 5% of votes against his re-election, but all resolutions were passed on a show of hands.

I was positively impressed on the whole.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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Chancellor’s Statement, EIS Funds and EMIS Results

The Chancellor’s Spring Statement yesterday was generally positive but there are some aspects that it’s worth talking about. Mr Hammond was right to be cautious because although new Government borrowing is falling, the total debt is still rising. It’s only forecast to fall as a proportion of national income by 2020-21 because of rising GDP. There is “light at the end of the tunnel” as the Chancellor put it, but it’s still some distance away.

GDP is only rising slowly and it is forecast by the Office of Budget Responsibility (OBR) to be rising at near 1.5% in the next few years which is not exactly rapid. The OBR also forecast that we will have to pay £41 billion to the EU after Brexit as a settlement of our obligations, although it will also free up £3bn or more per year that can be spent on other things, i.e. they suggest in the long term we will save money but the impact of changes in migration and trade terms might be more significant.

The Labour party wants the Chancellor to free up the purse strings and increase expenditure on the NHS and other areas. The Government could only do that by borrowing more which would not only increase the cost of their debt but would seem unwise given the economic outlook and the uncertain impact of Brexit. Because of an ageing population, but a growing one, more money will need to be spent on local authorities and the NHS anyway but the growth in productivity remains poor which ultimately determines the wealth of the nation.

Will the estimated figures have an impact on likely future interest rates (which have a significant impact on stock market investment)? Interest rates might need to rise somewhat to make Government debt continue to be attractive but it is not obvious that the economy is overheating as yet – inflation seems to be driven more by rising import prices as the pound has fallen rather than wage rises. The Government will no doubt be keen not to increase the cost of its debt, even if it has only indirect influence on the rate. Interest rates lower than real inflation are a good way for the Government to reduce its debts however much it prejudices savers.

One interesting mention for investors was a mention of a consultation on EIS funds that includes several options for more tax reliefs to encourage investors to put money into early stage “knowledge-intensive businesses”. That might include tax free dividends (only available on VCTs at present), or capital gains exemptions. I may write some more on this topic after reading the full consultation document which is here: https://www.gov.uk/government/consultations/financing-growth-in-innovative-firms-enterprise-investment-scheme-knowledge-intensive-fund-consultation . Investors interested in this subject should of course respond to HM Treasury’s consultation.

Some Venture Capital Trusts (VCTs) have fallen in price today. Perhaps because they might be perceived as less attractive to investors if such new EIS funds were introduced. But they would surely be very different beasts even if they might provide more competition for new investor subscriptions.

Comment: having invested in both EIS funds and directly in EIS qualifying companies in the past, I have vowed only to do the latter in future. Finding an experienced fund manager in early stage companies who can pick out the good EIS businesses is not easy and the lemons they pick ripen quickly (a common VC adage) while the good investments can take years to mature. If there is very generous tax relief (at a level where investors ignore the merits of the underlying investee companies because the tax reliefs are so generous it looks like they can’t lose money), then this will encourage all kinds of dubious promoters to enter the field.

One company that is sensitive to Government spending on the NHS is EMIS Group (EMIS). They announced their Final Results this morning. They previously warned in January that they had breached their service level obligations to the NHS and the cost might be “in the order of upper single digits of millions of pounds”. I commented on the company then and still hold some shares in it. The actual damage is a provision of £11.2 million in these accounts for a “financial settlement and costs to remedy past issues”. The share price rose today perhaps in relief that the news was not worse.

Few more details of the contract breach are provided and when I talked to my GP who uses EMIS-Web and used to be active in their user group, he knew nothing about any service failures. All rather odd.

Even excluding that item which is being treated as an exceptional cost, the figures were disappointing though. Revenue was only up 1% and adjusted earnings were down 4%. The CEO commits to a “robust management of legacy matters” and a commitment to being “more performance-led with greater accountability, improved operational execution and an increased focus on our customers”.

Dividend has been increased though which suggests some confidence in the future, putting the shares on a yield of 3.5% and a possible forecast p/e of 16, but the company certainly needs to show better signs of growth if the share price is to get back to where it used to be a couple of years ago.

The Government might spend more in the Autumn budget, but whether EMIS will see much benefit remains to be seen.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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Good Growth and Why the London Plan is Strategically Flawed

NHS in crisis (queues in A&E, operations postponed and delays getting to see your GP), road network suffering from worse congestion, overcrowded trains and underground in London, air pollution still a problem, not enough schools to accommodate growing numbers of children and simply not enough houses to meet the demand for homes. These are simply symptoms of too many people and not enough infrastructure.

For those concerned about the future of one of the major financial capitals of the world, namely, London, here’s an editorial I wrote for the Alliance of British Drivers on the subject of the “London Plan” – on which there is a recently launched public consultation:

The population of the UK has been growing rapidly and particularly in London and the South-East. The latest figures from TfL show that the number of trips by London residents grew by 1.3% in 2016, up by 19.7% from the year 2000. The population of London grew by 21.4% in that period.

Forecasts for the future are for it to grow from the level of 8.8 million people in 2016 to 10.8 million in 2041 according to the Mayor’s London Plan, i.e. another 22%.

More people means more housing demand, more businesses in which they can work, more shops (or more internet shopping deliveries) to supply them, more transport to move them around and more demand on local authorities to supply services to them.

In addition more people means more air pollution – it’s not just transport that generates air pollution and even if every vehicle in London was a zero emission one we would still have major emissions from office and domestic heating, from construction activities, and from many other sources.

The London Plan and Mayor Sadiq Khan talk about “good growth” but unfortunately the exact opposite is likely to be the case. It will be “bad” growth as the infrastructure fails to keep up with population growth even if we could afford to build it.

In London we have not kept up with the pace of population growth for many years and the future will surely be no different.

London residents have suffered from the problems of past policies which condoned if not actually promoted the growth of London’s population. Indeed Mayor Khan insists London should remain “open” which no doubt means in other language that he is opposed to halting immigration – for example he opposes Brexit and any restrictions on EU residents moving to London which has been one source of growth in the population in recent years.

There are of course several policies that wise politicians might adopt to tackle these problems. Restrictions on immigration and the promotion of birth control are two of them that would limit population growth. China is a great example of how a public policy to discourage children has resulted in dynamic economic growth whereas previously China suffered from population growth that outpaced the provision of resources to support them – result: abject poverty for much of the population; that is now receding into history.

The other answer is to redistribute the population to less crowded parts of the country. It is easier and cheaper to build new infrastructure and homes in less populous parts of the country than London. Back in the 1940s and 1950s there was a national policy to encourage businesses and people to move out of London into “New Towns” such as Bracknell, Basildon, Harlow, Stevenage, Milton Keynes and even further afield.

Government departments that were based in central London were moved to places such as Cardiff or the North of England. The population of London fell as a result.

One way to solve the problems of traffic congestion and demand for housing in London would be to encourage redistribution. This could be encouraged by suitable planning policies, but there is nothing in the proposed London Plan to support such measures. In the past, businesses and people were only too happy to move to a better environment. Businesses got low cost factories and offices. People got new, better quality homes and there were well planned schools and medical facilities.

Despite the attitude of many non-residents to the New Towns, most of those who actually live in them thought they were a massive improvement and continue to do so. It just requires political leadership and wise financial policies to encourage such change.

These are towns with few traffic congestion or air pollution problems even though some of them are now the size of cities – for example Milton Keynes now has a population of 230,000.

It is worth pointing out that past policies for New Towns and redistribution of London’s population were supported by both Labour and Conservative Governments. But we have more recently had left-wing Mayors in London (Ken Livingstone and Sadiq Khan) who adopted policies that seemed to encourage the growth in the population of London for their own political purposes, thus ignoring the results of their own policies on the living standards of Londoners. So we get lots of young people living in poor quality flats, unable to buy a home while social housing provision cannot cope with the demand.

The Mayor’s London Plan is an example of how not to respond wisely to the forecast growth in the population of London. His only solution to the inadequate road network and inadequate capacity on the London Underground or surface rail is to encourage people to walk, cycle or catch a bus. But usage of buses has been declining as they get delayed by traffic congestion and provide a very poor quality experience for the users.

The London Plan should tackle this issue of inappropriate population growth. The rapid population growth that is forecast is bound to be “Bad Growth”, not “Good Growth” as the London Plan suggests. Population growth and its control should underpin every policy that needs to be adopted in the spatial development strategy of London.

For more background on the London Plan, see: https://abdlondon.wordpress.com/2018/01/07/london-plan-abd-submits-comments/

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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A Christmas Parable and Productivity

No this is not an examination of how Santa Claus gets around the whole world in one night. But as my last post before Christmas, let me explain how I have automated the sending of Christmas cards over the last thirty years. I am by nature a lazy person, so handwriting and addressing the family’s Christmas cards was a task I chose to tackle with some automation many years ago. The first step was to put friends, family and business contacts into a contact management software product. This enabled me to reuse the same list every year, maintain it with changes easily, and once per year print self-adhesive mailing labels. More latterly I have used an email delivery service to distribute many of my Xmas “cards” electronically which included short newsletters in some years. Only a few cards now get posted to the favoured few or those not on email, thus saving postage costs.

So productivity before Christmas in terms of use of my time has improved enormously, and I can now send out hundreds of “cards” for less expense than the tens sent previously.

The Government is very concerned about the poor productivity of the economy in the UK. It has not been improving, and hence wages are unlikely to rise. The above parable shows it is necessary to do three key things to improve productivity: 1) Invest in new technology (in the above case, several software products); 2) adopt new ways of doing things (i.e. there needs to be cultural changes) and 3) invest time in learning how to use the new technology (education).

Obviously in business terms, such investment tends not to take place when labour is cheap or free (the equivalent of asking your spouse to hand address the cards). But even then there are still benefits from automation such as reducing postage costs, and reducing the environmentally damaging costs of transporting millions of cards around the country.

There was an interesting letter in the Financial Times recently from Andrew Smithers. He said “In the real world investment decisions are made in the interests of management [not of shareholders as in the classic economic model]. As a result of the change in the way managements are paid (that is the bonus culture) they are encouraged to prefer buy-backs to investment. This is the root cause of poor productivity.”

That is indeed one of the key problems. Typical bonus schemes such as LTIPs pay out based on earnings per share which are enhanced by share buy-backs. Just a few years ago for a company to buy its own shares was illegal. Perhaps we should revert to that situation? Alternatively outlaw such bonus schemes.

Another reason why productivity is not improving is that the incentives for the chief executives of public companies to invest for the long term is minimal. Their length of tenure before they retire or move to another company is so short that they would be mad to take risks in adopting new techniques or changing business processes. Indeed their pay is now so high that they don’t need to stick around for more than a few years before they have made enough money to feel secure in a comfortable retirement.

These are the issues the Government needs to tackle if UK productivity is to improve.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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Industrial Strategy – Is It More Than a PR Document?

Yesterday the Government published their “Industrial Strategy” – subtitled “Building a Britain fit for the future”. This is a “White Paper” that lays out how the Government plans to tackle the issues identified in a previous “Green Paper”. Does it have any relevance to investors views of the prospects for UK companies and the economy as a whole? I will try to answer that question later.

It certainly reads positively with glowing comments on the history of innovation in the UK, the great business environment, record levels of employment, vibrant culture, best universities in the world…….I could go on but you can read the whole 255 page document if you want more of the same.

But there are four “grand challenges” it focuses upon as key themes in improving our competitiveness and productivity:

  • Artificial intelligence and big data.
  • Clean growth.
  • The future of mobility.
  • Meeting the needs of an ageing population.

These will be supported by investment via an “Industrial Strategy Challenge Fund” (Government funding but matched by commercial investment), plus increasing R&D tax credits and putting more money into R&D investment. Education in STEM subjects (Science, Technology, Engineering and Mathematics) will be enhanced with the establishment of a technical education system and a National Retraining Scheme. This is surely all sound (speaking as an engineer by education) because it is surely clear that poor productivity in the UK is the result of poor education and skills compounded by cultural biases against technology.

There is a big emphasis on improving productivity in this document which is definitely to be applauded. We cannot grow the economy by simply opening more cafés and gastro pubs.

As regards infrastructure there is money to support 5G and fibre optic networks, and support for electric vehicles. In addition the Government expects self-driving cars to be on our roads by 2021 – that’s only four years away. I am sceptical of what might happen when my top of the range SATNAV (not that inbuilt in the car which is hopeless) managed to get me lost in London only yesterday. As John Thornhill said in an interesting article in the FT today that “technology promises to free us from the human touch that caused millions of deaths [on the roads worldwide], but then quoted one tech executive as saying “the assumption that you can go from 1m road deaths to zero is very naive”.

There is also a commitment to “transform construction techniques” where old fashioned methods of house building, which are hopelessly labour intensive, remain in use. In another sector they will improve teaching of computer science and invest £20m in a new “Institute of Coding”, presumably to teach computer programming. I have to advise them as a former programmer that coding is an inefficient way of developing applications and teaching folks how to do it rather than implement systems in other ways is a retrograde step. This is surely a case of the Government fighting the new economic wars with old tactics.

Likewise a commitment to invest in AI, when it’s been around for many years but has yet to revolutionise the world, could be seen as unreal when it is unclear how that will have a big impact. AI is a myriad of technologies that might have impacts in many cumulative minor ways, but it’s the detail that matters.

In many ways this document is big on vision, but short on specifics (other than the few things I have mentioned above). It will take consistent follow through to make a concrete success of these policies – not something our existing political system is best designed to achieve.

So my conclusion is that it is a valiant attempt to guide the UK economy in the right future direction. Whether it will have a major impact or success remains to be seen. It may have little impact on the decisions by UK companies, who are always wary of Government hand-outs or policy changes.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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Budget Feedback, the Patient Capital Review and Productivity

My last post was on the Chancellors Budget which was written quickly but seems to have covered most of the important points. Perhaps one significant item missed was the additional liability of foreign investors for capital gains tax on property sales, although institutional investors may be exempt. This might have some impact but as the details are not yet clear, it remains to be seen what.

Otherwise the media feedback on the budget was generally positive although there was a big emphasis on the poor economic forecast for growth that the Chancellor announced. The OBR has substantially reduced growth forecasts which is one reason why debt will not be falling as quickly as previously indicated and future tax revenues will likewise be lower. Part of the problem is a failure to improve productivity. This also means that average wages in real terms may not grow as expected.

Why did I not comment on this? Because firstly economic forecasts (the OBR or anyone else’s) are notoriously unreliable, and secondly it makes little difference to most UK investors. It might suggest it would be wiser to invest more in overseas companies than UK ones, but in reality many UK companies have major revenues and profits from abroad. In any case, a lot of investors have already hedged their portfolios against the possible damage of a “hard Brexit” by adjusting their portfolios somewhat.

My experience is that investing based on country economic forecasts is very questionable. Good companies do well irrespective of the state of the general economy.

Patient Capital Review

On Budget day the Government (HM Treasury) also published their consultation response to the “Patient Capital Review” – or “Financing Growth in Innovative Firms” as it is officially called. You can find it on the internet. This review was aimed to review incentives to invest in early stage companies with a view to promoting more investment in such companies as part of the attempt to improve productivity in the UK economy. It potentially had significant impacts for investors – for example on the EIS and VCT tax reliefs. What follows is an attempt to bring out the key points:

The review considered not just the tax incentives, and whether they were effective, but whether more direct investment (supported directly or indirectly by the Government) should be undertaken. They got more than 200 written responses to the original consultation on this subject (see mine here: http://www.roliscon.com/Roliscon-Response-to-Financing-Growth-in-Innovative-Firms.pdf ), plus some on-line responses and they also used a panel of industry experts.

Although they have not published all the responses or broken them down in detail, one gets the impression that most respondents considered that the VCT/EIS regime was generally effective in stimulating investment in early stage companies and that there were few abuses. But the Treasury had expressed concern about some of the investments made in EIS/VCT companies which were often focussed more on “asset preservation” than in funding new growing businesses. So the rules are being tightened in that regard – see below.

A personal note: having invested in two EIS schemes that promoted country pubs the asset preservation capability might have made for a good sales pitch by the promoters but they subsequently turned out to be very poor investments even after the generous EIS tax reliefs. One is being wound up with the assets being sold for much less than purchased while the other one only made any money after it turned into a bailiff business subsequent to a shareholder revolt. The Government’s policy of ensuring a focus on “riskier” investments might actually be good for the investors as well as the economy! It will avoid inexperienced investors getting sucked into dubious investments by sharp promoters who can make even lemons sound attractive because of the generous tax reliefs.

On the support for new investment front, the Government is taking these steps:

  • Establishing a new £2.5 billion Investment Fund incubated in the British Business Bank with the intention to float or sell once it has established a sufficient track record. By co-investing with the private sector, a total of £7.5 billion of investment will be supported.
  • Significantly expanding the support that innovative knowledge-intensive companies can receive through the Enterprise Investment Scheme (EIS) and Venture Capital Trusts (VCTs) while introducing a test to reduce the scope for and redirect low-risk investment, together unlocking over £7 billion of new investment in high-growth firms through EIS and VCTs.
  • Investing in a series of private sector fund of funds of scale. The British Business Bank will seed the first wave of investment with up to £500m, unlocking double its investment in private capital. Up to three waves will be launched, attracting a total of up to a total of £4 billion of investment.
  • Backing first-time and emerging fund managers through the British Business Bank’s established Enterprise Capital Fund programme, supporting at least £1.5 billion of new investment.
  • Backing overseas investment in UK venture capital through the Department for International Trade, expected to drive £1 billion of investment.
  • Launching a National Security Strategic Investment Fund of up to £85m to invest in advanced technologies that contribute to our national security mission.

In addition the Pensions Regulator will clarify guidance on inclusion of venture capital, infrastructure and other illiquid assets in portfolios and HM Treasury will encourage defined contribution pension savers to invest in such assets.

Entrepreneur’s Relief rules will be changed to reduce the disincentive to accept more outside investment, and the Government will also look at a guarantee programme modelled on the US “Small Business Investment Company”.

They will also work with the Intellectual Property Office on overcoming the barriers to high growth in the creative and digital sector. What this implies is not clear. Does that mean they are suggesting introducing software patents perhaps?

Several gaps in the investment market for early stage or follow-on funding were identified but one telling comment from the expert panel was this: “…the UK venture capital market has historically delivered poor returns; this results in less capital being attracted to the asset class, which in turn results in less talent being attracted to the patient capital sector; this then depresses returns, completing the circle”. But they did suggest this could be fixed.

There apparently were many comments on the importance of the EIS/SEIS schemes for funding innovative businesses – for example: “EIS and SEIS incentives have been particularly effective at stimulating investment and are extremely valuable to bioscience investors”. But I suspect that has been of more benefit to companies raising capital than it has been in terms of achieving long-term positive returns for investors. It is a pity not more evidence was provided on that.

The Treasury response is to double the annual investment limit to £2 million for EIS investors, so long as any amount over £1 million is invested in knowledge-intensive companies. Also the annual investment limit for knowledge-intensive firms will be doubled from £5 million to £10 million for EIS and VCT companies, and a new fund structure for such firms will be consulted upon. There will also be more flexibility on how the “age limit” is applied for companies applying. Question: what is a knowledge-intensive company? The answer is not given in the Treasury’s response.

A “principles-based” test will be introduced for all tax-advantaged venture capital schemes. This will ensure that the schemes are focussed “towards investment in companies seeking investment for long-term growth and development”. Tax motivated investments where the tax relief provides most of the returns to investors will be ruled out in future. There must be “a risk to capital” for firms to qualify. Detailed guidance will be published on this and there are some examples given in the response document, although it is far from clear from those what the rules might be. Comment: as this is going to be “principle-based” rather than based on specific rules it looks like a case of the Treasury saying “we can’t say what is objectionable now but we will know when we see it”. This might create a lot of uncertainty among VCT and EIS fund managers and company advisors.

The rules for VCT investments will also be tightened up with the following changes:

  • from 6 April 2018 certain historic rules that provide more favourable conditions for some VCTs (“grandfathered” provisions) will be removed
  • from 6 April 2018, VCTs will be required to invest at least 30% of funds raised in qualifying holdings within 12 months after the end of the accounting period
  • from Royal Assent of the Finance Bill, a new-anti abuse rule will be introduced to prevent loans being used to preserve and return equity capital to investors. Loans will be have to be unsecured and will be assessed on a principled basis. Safe harbour rules will provide certainty to VCTs using debt investments that return no more than 10% on average over a five year period
  • with effect on or after 6 April 2019 the percentage of funds VCTs must hold in qualifying holdings will increase to 80% from 70%
  • with effect on or after 6 April 2019 the period VCTs have to reinvest gains will be doubled from 6 months to 12 months

Comment: these changes would not seem to cause great difficulties for VCT managers and should not affect the returns to investors. Some of the changes might be helpful. The feedback from VCT managers is awaited.

But the income and capital gains tax reliefs for investors are basically unchanged, as is Business Property Relief on “unlisted” companies such as AIM stocks which were both mooted as being under consideration. As I wrote in my previous blog post on the budget, at least the Chancellor and the Treasury seem to have minimised the changes which is always helpful for investors. Being unable to plan many years ahead because of taxation rules and levels continually changing has been a major problem for investors. So on that score alone, the budget is to be welcomed.

As regards Entrepreneurs’ Relief, the government is concerned that the qualifying rules of Entrepreneurs’ Relief should encourage long-term business growth. The rules will therefore be changed to ensure that entrepreneurs are not discouraged from seeking external investment through the dilution of their shareholding. This will take the form of allowing individuals to elect to be treated as disposing of and reacquiring their shares at the then market-value. The government will consult on the technical detail. Comment: this seems to be yet another complication to taxation rules which is unfortunate.

Productivity

These changes to the tax incentivised schemes, and the Government investment in funds, may assist to improve the productivity of the UK population by focussing on high growth technology businesses. One cannot improve productivity by employing more coffee bar baristas, and such jobs are always likely to remain low paid. The budget change to increase the National Living Wage (the Minimum Wage) from next April will also promote improvement in productivity as it will make employers consider investment in automation rather than simply employing more staff.

There is also investment in infrastructure committed to in the budget, which might assist. Is it not the case that productivity is reduced because of the distances and time wasted in commuting in the South-East of England? The transport network (road or rail) is truly abysmal in the UK and has been getting worse. This means that folks are tired before they even get into work. The encouragement of commuting by cycle also surely results in tired and unproductive staff. It might be fashionable, and good for their health in the long term, but is it good for the economy? Unfortunately the housing market has been made more inflexible in recent years in some respects so people cannot move nearer to their workplace. Stamp duty increases have deterred moving to reduce travel costs, and higher house prices in some areas have not helped. For example, this writer recently met someone who lives in Southampton when his employer was based in Oxford – he could not afford to move. The reduction in stamp duty for first-time buyers in the Budget is not going to make a big difference to these problems.

So overall the Budget changes are more “nudges” in the right direction to improve the economy, while not being revolutionary. The Government’s tax base is not undermined and investors tax planning not significantly affected, so Philip Hammond may find he is in the job longer than expected after all.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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