After a summer where big buyout houses have dominated the business headlines, it is easy to forget that there is more to the UK private equity industry than rows with politicians over carried interest, or protests from trade unions over swingeing job cuts.
Close Ventures is the UK’s biggest manager of venture capital trusts – a savings product created by the government to encourage investment in early stage companies. The firm now manages seven VCTs, with funds under management totalling £250 million, and is set to begin another round of fundraising before the year is out.
Managing director Patrick Reeve, the man who took Close into the VCT business in 1995, says the structure is designed “for people who want to take the tax break and then forget about it.” That is not to say that investors are not discerning. “Investors judge us on performance: they want to see stability of capital; a decent income stream, to show the portfolio is clearly alive; and the prospect of decent capital growth.”
Reeve divides the team’s portfolio into two parts. “There’s the ‘boring’ bit, which means mature, asset-backed businesses like cinemas and pubs that are low-risk and largely ungeared; and the more ‘exciting’ stuff – IT, medical technology, general healthcare, which have the advantage of being counter-cyclical to the leisure industry and can offer capital growth.”
This is not just about risk diversification. “The net result is that there’s a decent dividend stream to shareholders. When we sell a business at a decent profit, we tend to hold back the proceeds and pay it out bit by bit, so it’s tax-free.” This is why there is a strong secondary market in the shares, he says.
Bold Pubs Company, whose sale was announced yesterday, is a classic example of a ‘boring’ Close investment. Reeve’s team backed Ken Buckley and Phil Dearden, two managers with a strong track record in the industry, when they bought 10 freehold pubs in the north of England. In the subsequent three years Bold grew into a 29-pub chain, with a further site in development – backed by £6.5 million of development capital from Close. Yesterday’s sale means the investment has recorded an IRR of 20 percent for the firm, which also said it was backing the two founders in their new venture.
The deal illustrates Close’s favoured investment approach. “We’re looking for both really good management and a clear market opportunity,” says Reeve.
Oxensis, a company from the ‘more exciting’ part of the portfolio, is another good example of this. The Oxford-based business makes silicon wafers that are used as temperature sensors in super-harsh environments like power stations or jet engines, and has put together a management team drawn from engineering giants like BAe Systems, Bookham Technologies and Thales.
Since this part of Close’s portfolio often involves academic spin-outs, it is sometimes necessary to supplement the original management team – perhaps to add some serious marketing clout as the company expands its operations. But Reeve says that unless Close likes the look of the management, it won’t invest. “We’ve got to be convinced about a business from day one,” as he puts it.
But what of the recent rule changes that have seemingly made VCTs less attractive to investors? Last year the UK Chancellor (now prime minister) Gordon Brown cut the income tax relief on VCT contributions from 40 to 30 percent (a cut to 20 percent was even discussed at one point), while the minimum holding period for investors was extended to five years, and VCTs were forbidden from investing in any companies with a capitalisation greater than £7 million.
In 2007 even tighter restrictions were applied – under the new regime, which will affect any trusts raised since April this year, managers will be able to invest no more than £2 million in any one company in a single year, across all their VCTs, and the company must have no more than 50 employees.
The rules would seem to suggest that the prevailing mood in government is not favourable to the VCT industry – but Reeve begs to differ. “The government has been consistently supportive, and there’s still a lot of support there. They’ve just been slightly ambushed by Brussels.”
He insists that the changes – which would have affected around half of the investments in the current portfolio – will not be a significant barrier to the firm’s progress. In addition, he remains very optimistic about Close’s current portfolio. He cites the example of Helveta, the only company that can trace a piece of wood all the way from rainforest to furniture showroom – thus allowing buyers to authenticate that the wood has been correctly logged, and allowing exporters to tax logging more effectively. This kind of technology will continue to flourish, he believes.
Time will tell whether Close’s next round of fundraising meets with the same success as its previous rounds, given the new rule changes. But exits like yesterday’s sale of Bold Pubs –and the many before that – certainly will not hurt.