Who benefits from Venture Capital Trusts?

Monday, 16th October 2017 07:51 - by Eric Chalker

Journalists’ interest in VCTs has recently been reawakened by the thought that VCT tax benefits might suffer in the government’s next budget, due in a month’s time.   This is on the back of several new fund raisings by VCT managers which may also have been stimulated by the same thought – or perhaps by the thought that this is a good time to persuade wealthy savers to part with more money.

My own experience of Venture Capital Trusts has been limited to two run by Octopus Investments.  The first, originally known as Eclipse, was merged with another and is now known as Apollo (charmingly coded OAP3).  The second, originally two VCTs launched back-to-back as Titan 1 and Titan 2, eventually became just Titan (OTV2), incorporating Titans 1 to 5.  I bought into both VCTs at their launch and have held for more than 5 years so I could now enjoy a tax-free capital gain – except that I can’t because there is no gain.

I enjoyed the flow of tax-free dividends and thought it was clever of me, a few years later, to buy some more Eclipse shares when the price seemed attractive.  What I should have done was give more thought to why the market price of this tax-free income was so low.  Now adding up what I have received from the market-purchase of Eclipse shares in March 2009, at 80p, adjusted for the conversion to Apollo shares in December 2016, my total return for 8½ years is 2.7 per cent.  That is not 2.7% per annum, but 2.7% for the whole period.  

A dawning realisation 

Noting that 75 per cent of my investment return had come from dividends whle the NAV sank, I began to wonder if this investment was doing any more than giving me my money back.  Even assuming that avoiding higher tax can be seen as a bonus (so adding it on), my net return is just 22.0 per cent for the entire 8½ year period, or 2.6 per cent per annum: abysmal.  Worse still, this is negative after inflation.

A significant benefit from a new VCT is offsetting 30 per cent of the investment against income tax.  Professional advice always says that tax considerations should be ignored when choosing an investment, so that’s what I’m doing in this article and, on reflection, that’s what I should have done at the time.  After all, there has always been an exemption allowance for capital gains tax and ISAs are completely tax-free, so choosing VCTs purely for the tax benefits is not a good strategy.

Wealth manager Citywire provides a comparison of VCTs on its website.  This shows that over the last three years the Octopus Apollo VCT, inheritor of the Eclipse VCT investments, compares poorly with others, with its NAV performance ranking 38th out of 52.  The total return since Eclipse was launched in August 2004 is 10.2 per cent, equivalent to an astonishing 0.78 per cent per annum.

Octopus Investments correctly states on its website, “Please remember, VCTs place your capital at risk, and you could get back less than you originally invested,” but it precedes this with the claim that, “Since 2000, we’ve earned the trust of 50,000 investors with products that do what we say they will. With more than £750 million invested on behalf of 26,000 investors, we’re the UK’s largest VCT manager.”  One would think this promised a better performance than Citywire reveals, especially with a mandate to invest long term in growing companies.

What about Titan VCT?

My other Octopus VCT, Titan, is doing better.  NAV performance over 3 years is 16th out of 52, although on share price it slips to 21st.  But the average annual total return (dividends plus change in the share price) over its 9½ years is less than 6.0 per cent – free of tax, but hardly good for an investment which by its nature is riskier than the average. Shareholders are currently being asked to approve the issue of additional shares and, with some inducements, to take them up, with those who don’t being subjected to 31 per cent dilution.  It may not be a coincidence that for the past year it has performed very poorly against the FTSE SmallCap index.

What has particularly bothered me over the years is the way that Octopus keeps changing its trusts.  Whether other providers do the same I don’t know, but I suspect they do.  Trusts are merged and new shares issued making it difficult to follow the changing scenario.  These require shareholder approval, which is invariably given, just as investors keep showing enthusiasm for this type of investment, but the main gainers are surely the venture capital trust providers through their fees.    

How do other VCT providers compare?

My thought when first investing in a VCT was that eventually I would make a major capital gain from fast growing companies, but expecting this from “the UK’s largest VCT manager” is certainly a forlorn hope.  Octopus concentrates only on annual performance in its latest promotion, with no suggestion of an end in sight.  It also gives me the feeling that the new issue of shares is necessary to sustain the annual payouts.

To make a comparison, I have looked at the Northern 2 VCT (NTV).  This is shown by Citywire as having the best NAV performance over the past 3 years which suggests that it has been a good investment.  But here’s a puzzle: Citywire (wealth manager) shows an NAV and share price graph with both sloping sharply upwards for the past 3 years, whereas London South East (with no axe to grind) shows the share price declining.  What seems beyond doubt is that whereas dividends paid over the last 5 years total 27.5p per share, earnings per share were only 7.9p, ROCE averaged a mere 2.26% per annum and the PER is a challenging 40.

My last VCT investment was in 2009.  Nothing I have experienced since, or seen, could encourage me to make another.  One-off income tax savings are nice to have and there may be great capital gains to be had, but it’s a murky world in which to hold one’s money for five years or more and being no longer seduced by the dividends I’d rather not.

Eric Chalker, UK Shareholders’ Association Policy Co-ordinator & Director, 2012-2016

The Writer's views are their own, not a representation of London South East's. No advice is inferred or given. If you require financial advice, please seek an Independent Financial Adviser.