Investing in Venture Capital Trusts: Angel investing

Modwenna Rees-Mogg - Tue 26 Sep, 2006

...Investing in Venture Capital Trusts...Recently, interesting things have been emerging in the business angel world. Suddenly there is a new optimism in the market. Deals are being struck and stories of people doubling their money in a few months are back again. Today, Id like to show how you could get involved and point out the risks of investing in private equity like this...

 
 
Do you know the website at simplyswitch.com? It has just been sold to Daily Mail and General Trust for £22m. The sale made its venture capital backers, Bridges Ventures, around £7m on a total investment of £345,000. That gave them a 20-fold return and, reportedly, an internal rate of return of 165%.

Recently, interesting things have been emerging in the business angel world. Suddenly there is a new optimism in the market. Deals are being struck and stories of people doubling their money in a few months are back again. Today, I’d like to show how you could get involved – and point out the risks of investing in private equity like this.

Investing in Venture Capital Trusts: 5 reasons why venture capital is hot today

Part of the new excitement is because in the spring Budget, the Treasury doubled the upper limit for income tax relief on Enterprise Investment Schemes (EISs) from £200,000 to £400,000. Gordon Brown simultaneously tightened the restrictions on the investments that Venture Capital Trusts (VCTs) can make, and reduced the income tax reliefs available to investors in VCTs. So this boosted the relative appeal of EISs, through which business angel deals are often structured, over VCTs. It may have sparked interest by new investors, too.

Then there have been huge City bonuses in the last year, all looking to be sheltered from 40% income tax. Plus we’ve had the BBC’s Dragons’ Den show, which looks set to become as embedded in our TV culture as Gardeners’ World.

What I am seeing and hearing in boardrooms and investment banking circles now is that there has been an upsurge in new organisations people can approach to find potential investments. Angel investing is no longer the preserve of the super-rich. And those people broking the deals are also getting smarter. Deal quality is better, and the internet is making it ever easier to check them out.

Meanwhile, more corporations and consumers are doing business with small to medium-sized business. So sales and profits are rising, which is making it easier for early investors to find an exit quickly by floating their company or undergoing a trade sale.

Finally, prices for venture capital investment are more sensible too. "Turnover less than a million, then you are worth less than a million," is the new mantra for investors. "If you want more, you’ll have to argue me up."

Investing in Venture Capital Trusts: How you can get started as an "angel investor"

So what should you do and where should you go if you want to become a business angel investor? Start with the 10-Step Strategy at the end of this article. Then check out your personal networks. Maybe there is a syndicate at the golf club?

You should try the local investment network in your area, too. I particularly recommend these organisations:

London & the South-East
Endeavour Ventures www.endven.com
London Business Angels www.lbangels.co.uk
K@talyst Ventures www.katalystventures.co.uk

Plus there’s:
SWAIN www.swain.org.uk in the South West
Xenos www.xenos.co.uk in Wales
YABA www.yaba.org.uk in the North, and
Archangel Informal Investments www.archangelsonline.com if you are up in Scotland.

Investing in Venture Capital Trusts: How to buy another angel’s expertise

Of course, before you risk your money in venture capital – and it is a risk, as we’ll see in a moment – then you should make sure you get training. I recommend the Ready2Invest series of training events. They act as a good taster to the pitfalls and opportunities in angel investing, and they are now rolling out across the UK. Visit their website at www.r2i.co.uk.

New business angels might want to take a good look at the practiced professionals working the Close Ventures stable of Venture Capital Trusts, too. They consistently perform well compared with their peer group. Patrick Reeve, the Chief Executive of Close Ventures, runs a tight ship and makes positive returns for his investors.

Above and beyond some of the other VCT fund managers, Close are showing that they can make money in this game. You can find out more about them – and how you can invest alongside their expertise in picking strong opportunities – at www.closeventures.co.uk.

But take note – if you are driven by tax breaks in your investing, then it will have been a great disappointment that the Chancellor withdrew some of the most generous tax breaks seen in years from Venture Capital Trusts. Income tax relief was reduced to 30% of the amount invested with effect from 2006-07, from 40% in previous years. This has made it all the more important to consider which VCTs in the future will deliver real returns to their investors. Don’t rely on the becalming effects of government generosity when you fill in your tax return.

Investing in Venture Capital Trusts: VCT tax rules made simple

Almost as soon as you hear the phrases "venture capital" and "private investor" in the same paragraph, the phrase "tax break" will follow. Between the VCT and EIS reliefs from income tax, you can protect up to £600,000 per year from the tax man.

The tax breaks you will receive on VCTs are pretty safe. It is not in the interests of VCT fund managers to breach the complex rules and get reliefs pulled. That would preclude them from successfully raising new VCT funds in the future. But I must just give you a word of warning about your EIS investments.

The EIS tax scheme is a minefield and we are hearing stories that due to breaches of the rules – often inadvertently – by the companies who are eligible for the relief, private investors are having their tax reliefs revoked sometime down the line. Not only is the taxman clawing back the cash relief that was paid over in the past, but he is also charging interest on the amount being reclaimed! This can happen without the investor having any knowledge of or control over the situation.

So, if you are going to be a tax-driven business angel, please make sure – before you invest – that the management team are being sensibly advised. They cannot act in such a way that leaves you financially worse off than you might have been, without asking your permission first.

And finally, remember that business angel investing is fraught with danger to your capital. Young companies can go bust, management teams can fall out with their investors and – unless your angel investment can achieve that elusive trade sale or stock market flotation – you may never be able to turn your investment back into cash.

Those are the risks you face when you invest as a venture capitalist in search of 17 or even 20 times your money!

Investing in Venture Capital Trusts: The 10-Step Strategy for Angel Investors:

1.     Decide if this type of investing is for you
Do you get excited about new businesses and/or technologies?
Do you already invest in similar high risk investments such as AIM and PLUS Markets stocks and/or Venture Capital Trusts?

2.     How much can you afford to invest?
Have you got at least £25,000 per year cash to invest?
Can you afford to lose the entire amount without feeling the pinch?

3.     Make time to find and understand the best opportunities
Are your daytimes free to attend investor events?
Do you have time to look through the legal documents before you invest and perhaps perform your own "due diligence"?
Can you spare the time to monitor your portfolio after you have invested?

4.     Use your own expertise to spot great investments
Do you have particular expertise in an industry?
Can you rely on your gut instinct to tell you if something is going to be a blockbuster?

5.     Don’t get the wool pulled over your eyes
Are you readily accepting of a plausible explanation?
Can you spot a great entrepreneur amongst the also-rans?

6.     Find the right advisors to help you with
your investments
Are your current advisors competent to advise you on your investments?
Do your social and business networks include people who could help with good deals and/or expertise?

7.     Set your own level of involvement
Do you want to be active – and actually sit on the board or become involved in the management of your portfolio companies – or do you want to be passive – or something in-between?
Do you want to be a sector or stage specialist?
Do you want "prepared" deals or do you want to get your hands dirty?
Do you want to operate alone or in a club or syndicate?

8.     How secret do you want your investment activities to be?
Would you be happy to have calls from friends of friends asking for investment money?
How would you feel if your friends asked you to invest in their business?

9.    Set your time horizon
Are you trying to build a portfolio of say 25 investments or just two or three?

10. Do your research – and have patience
The best investors learn about this asset class before handing over a penny.

Sign up with AngelNews www.angelnews.co.uk and attend a few events on spec to learn more.


Regards,

Modwenna Rees-Mogg
for The Daily Reckoning
    

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