In the City
More risk investment
Tony Rudd
People must take more risks; the country must invest in the future if it is to survive. These kinds of platitude are now the essential winding-up sentences in the speeches of important personages, from royalty through the lord mayors and on to trade union officials. The greater the vehemence, the less likelihood it is that the speaker himself has ever been exposed to much risk, at least of the commercial variety. Yet the blowing of this hot air is coinciding (it can't be causally linked) with definite signs that the propensity to invest in risk enterprises is indeed increasing in the UK. Bit by bit the atmosphere is changing and the rules are beginning to alter too.
The latest in this chain of events is a radical alteration in the rules governing the conduct of listed investments trusts. On Tuesday the Stock Exchange announced a change in its requirements regarding the conduct of authorised investment trusts Which could have a profound effect on that large segment of the securities industry, in the direction of more risk-taking.
To spell the details out for a moment: investment trusts, of which there are a large number holding assets aggregating several billions of pounds, operate under two sets of restrictions. The first are laid down by the Inland Revenue and govern the conduct of such trusts if they are to gain the benefit of the special tax treatment meted out to this category of financial animal. Thus Section 359 of the Income and Corporation Taxes Act (1970) requires that an investment trust should not have morethan 15 per cent of its gross assets in any single investment and that a minimum of 85 per cent of the income it receives from shares and securities is distributed in the way of dividends if it is to be eligible for favourable tax treatment which, since the 1980 Finance Act, amounts to paying no capital gains tax Whatsoever on realised profit. This is an extremely important and valuable concession and means that the management of any investment trust is going to take extreme care to keep within the 15 per cent rules. But this is only one of the sets of requirements. The other is laid down by the Stock Exchange and has been a tighter form of corset. The Stock Exchange has required that any authorised investment trust which is to be granted a listing should not have more than 10 per cent (rather than the 15 Per cent required by the Revenue) in any single investment and furthermore that the bulk of these individual investments should themselves consist of listed shares. It has only allowed trusts to invest a total of 15 per cent of their gross assets in unlisted ventures • and within that 15 per cent, no single investment should amount to more than 10 per cent of the trust's gross assets. This latter requirement, concerning the proportion of a trust's assets which can be put into unlisted situations, has been entirely additional to the requirements of the Revenue. The Revenue doesn't mind whether a trust is invested in quoted or unquoted situations; so far as the tax concessions are concerned this makes no difference.
I. The effect of the Stock Exchange requirement has been to prevent the widespread investment of trust assets in unlisted situations. And, as all start-up situations and most developing investments are by their very nature themselves unlisted, this has kept the trust movement at arm's length from venture capital as a whole. It is this restriction on the proportion of the trust assets which can be put into unlisted securities which has been altered; instead of trusts being restricted to 15 per cent, it is now going to be a restriction to 25 per cent. That means that a quarter of the assets of the investment trust movement can, theoretically, be put into risk ventures. But additionally (and equally important) the Stock Exchange will consider listing what they call 'investment companies', which can have their entire portfolio in unquoted situations with a maximum of 20 per cent in each. These can qualify under Section 359, moreover. In other words, we are to have a new category of 'risk enterprise' altogether. A radical move indeed.
Still, you can take a horse to water but making it drink is a very different matter. A number of investment trusts arc run by managements who are extremely conserva tive for shareholders who may be equally conservative. Contemplating the world from some beautiful Georgian room in Charlotte Square they may not immediately rush into the redeployment of their secure assets into insecure and risky ones. Understood. On the other hand there will be some managements who will now start to take advantage of this greater freedom. There are some extremely enterprising funds run in Scotland which have taken huge and very successful risks in North Sea oil and before that in American oil and technology. They are no strangers to the high flyer. But the change will also mean that it will be well worth while new sponsors and managers coming into the industry in order specifically to use and take advantage of the new freedom. For this latest dispensation means that the investment trust as such, with its remarkable tax attributes, has become a very attractive vehicle to the entrepreneur who wants to specialise in risk-taking and helping to groom new businesses to the point where they are sufficiently mature to be worthy of being introduced to the new unlisted share market or, a step further on, to a full listing on the market.
The next year or two will most likely see a spate of new vehicles being promoted along these lines. Some will do well, others less so. The requirement, which still remains, that trusts are well diversified will narrow the risks; some of the investments which these trusts will make will founder, but others will flourish, and by the nature of this kind of game the profits on a few successes can pay for a great number of losses. Furthermore the Stock Exchange will still require a fair proportion (probably half) of a trust's assets to be invested in mature listed situations. So not all the eggs can go into the bumpy basket. It should be a recipe for risk without tears. Meanwhile, this move by the Stock Exchange should be welcomed. The Council is certainly responding to the needs of our times.
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