How to invest in VCTs – plus some of the successes and failures

Venture capital trusts (VCTs) have strict rules on what types of businesses they can invest in – it means they tend to be small, early-stage companies.

As relatively younger companies, they can often be loss-making or not have even sold anything yet. This makes them significantly higher-risk and is why it’s important to choose a VCT where the management team has a strong track record, and the investment is well diversified.

The VCT rules are designed to encourage investment into high-growth innovative businesses. So, while there’s the possibility of impressive returns, managers might have to kiss a lot of frogs as some businesses could fail completely..

Here are some examples of the successes and failures. Please remember that past performance isn’t a guide to the future.

VCTs are high-risk, long-term investments that should only be considered for larger portfolios held by experienced investors who have already used their ISA and pension allowances and might be higher or additional-rate taxpayers. We think they should form a small part of a diversified portfolio. VCT investments, and any income from them, can rise and fall in value, so you could get back less than you put in. It’s difficult to access your money in the short term. VCT and tax rules can change, and their benefits depend on your circumstances.

This article isn’t personal advice. If you’re unsure if VCTs are right for you, consider taking advice.

Future fundraisings rounds

VCT fundraisings are sometimes just a stepping stone to further capital injections on a company’s journey to commercialisation. Further fundraises don’t always mean an opportunity to realise gains, but depending on the valuation, can allow the fund to mark up the value of its holding. And in some cases, it can also result in a full or partial exit.

One example is M-Files, an intelligent file management platform powered by generative artificial intelligence (AI) which received new investment this year, allowing one fund to realise a good return.

In September, Novatus Global which provides a cloud-based regulatory reporting tool to global financial institutions, attracted $40m of funding from a US-based private-equity investor. That included the partial disposal by a collection of VCTs.

Private sales

One well-trodden path for VCT exits is acquisitions, often by another company in the industry or by private equity groups.

Founded by the originator of the Clearblue pregnancy test, Mologic was formed to commercialise the same lateral-flow technology for other diagnostic purposes. Perhaps the best-known use case is the COVID-19 test.

It was eventually acquired by an impact investment fund backed by George Soros and Bill Gates to pursue investment in diagnostics for epidemics and neglected tropical diseases. Early-stage investors realised got a good return on their investment.

Callen-Lenz, a specialist developer of drones for both the military and civil aviation markets was acquired earlier this year by defence giant BAE Systems, seeing one VCT do well from the sale.

Initial public offerings (IPOs)

Another exit route for VCTs can be a listing on a recognised exchange.

The IPO market has faced an extremely challenging period recently, so these have been few and far between.

An IPO doesn’t always mean a full exit for early-stage investors. For both fund managers and corporate boards, being under the scrutiny of the open market is very different to the private world, so be prepared for some ups and downs if your VCT stays invested.

Here are some that have made it.

UK fintech Wise, formerly known as TransferWise, has been a true disruptor in financial services, helping customers make substantial savings on international money transfers and card transactions. It made its debut on the London Stock Exchange in 2021, at a value of £8bn, more than double the previous valuation.

That marked a record value at the time, and handsome returns for some of its early backers. With the share price now some way below the IPO level, those that didn’t head for the door might be wishing they did.

House hunting platform Zoopla is another example of a VCT-backed unicorn. After several private funding rounds, it joined the public market in 2014 at a valuation of £900m only to be taken private again four years later for £2.2bn.

They’re not all successful though – sometimes there are frogs

While we’ve explored some of the successes, there are also failures.

By their very nature VCTs often focus on high-risk, high-growth areas. One example is the booming AI sector.

British chip designer Graphcore’s attracted millions in early-stage funding in the UK and beyond. Hopes for future growth saw its valuation reach $2.8bn back in 2020, but it struggled to gain commercial traction and was acquired by SoftBank for a rumoured price of around $600m. This was a disappointing exit for VCTs who at one point had been sitting on gains at up to 6x their original investment.

Some companies have had their values written down in full, like Life insurer DeadHappy, ticket platform Festicket and Turnkey an environmental, social and governance software and analytics company.

Interested in VCTs?

To encourage investment in higher-risk, smaller companies, the government offers generous tax incentives. This includes up to 30% income tax relief on new issues of VCTs as long as they are held for at least five years, as well as no tax on dividends and no tax on capital gains tax on any VCT shares held.

HL has a new service where experienced investors can invest in new VCT issues.

Why invest in VCTs with HL?

Apply online in minutes and hold your shares in am HL Fund and Share Account. No messing about with paper forms, cheques or share certificates.

We give investors a discount on the initial charge. That way it’s cheaper than applying directly with the VCT provider.

Unlike other providers, HL doesn’t take any commission from the VCT provider. Pay one £50 dealing charge when you apply and when you sell. Any commission paid by the VCT manager will be given back to you, so your money could go further than investing elsewhere.

You can invest with HL from a £10,000 lump sum up to the full VCT allowance of £200,000.