If most newspapers are anything to go by it has become increasingly fashionable to look for the negative in every scenario. Okay, perhaps it does not need much digging to come up with an increasing list of woes on the macro-economic scene, but I find it reassuring to note that some great opportunities con-tinue to hide right under our noses.
The background to the establishment of our family office, Buckland Capital Partners – initially as a single-family office – in 2008 stemmed from the desire to protect the family’s main asset (for us a significant agri-cultural estate in the South of England) from UK Inher-itance Tax. Despite the 22 years I had previously spent working in the City, I had been unable to find what I regarded as adequate ‘off the shelf ’ low-risk solutions to assist my family in protecting its assets over gener-ational change, even from other family offices or the lawyers and tax advisers who look to serve this market. However, with our need still pressing this gave me the incentive to “look outside the box” and see if we could design our own solution. Having gone back to first principles, I have been surprised with the extra benefits we have been able to access and that I had completely overlooked previously. While many are rightly wary of “the tax tail wagging the dog,” the reality for us is that this is where we started.
Specifically, I was faced with the unwelcome com-bination of a potentially very significant death duties bill and very little time to carry out conventional IHT planning. I approached a number of advisers and spent a considerable amount of time (and money) reviewing their findings. All strategies were based on the need to reduce the chargeable value of the Estate for IHT. In practice, we all agreed that meant borrowing against it, as the other alternatives were not practical and investing the loan into something ‘safe’ – effec-tively something that would service the borrowing and retain its value to allow repayment in due course. However, it quickly became apparent this would not be easily achieved without taking far more investment risk than was acceptable to us – as some would say the inevitable “quid pro quo” in return for government sponsored tax reliefs.
The most appropriate investment strategies utilised Business Property Relief (BPR), which provides IHT relief after two years for investments made in quali-fying unlisted trading companies. There were a range of AIM-based IHT portfolios that did invest in qualifying UK small trading companies quoted on AIM. However, despite or indeed because of my years in the City, I was very sceptical about investing in small companies gen-erally, let alone un-listed companies, believing them to be inherently high risk. These concerns were confirmed on closer review as the majority of their track records were for the most part poor and at the very least, extremely volatile.
However, my perceptions were challenged by the managing director of a specialist smaller companies investment manager, David Horner of Chelverton Asset Management. After more than 25 years investing in UK small companies, he demonstrated to me that many of the traditional “small company risks” could be substan-tially reduced and if designed correctly, a portfolio of businesses could be purchased and then managed to deliver the required risk profile for us. The approach is based upon a number of principles:
• Always buy control of the company
This allows us not only to have seats on the board and to control dividends (vital to service our debt secured on the Estate) but to intervene if things are not going well.
• Buying a business sufficiently cheaply in itself reduces risk
We are typically acquiring businesses at roughly five times post-tax profits, perhaps half the price of the quoted alternatives.
• Ensure the management stay
We back established management and therefore we require them to stay for a minimum of typically five years. This ensures their interests are aligned with ours.
• Only invest in established, profitable companies you understand
We do not invest in start-ups or turn-around businesses. While we have broad diversification of sectors we steer clear of highly capital intensive and high-tech businesses.
• We avoid debt
As a generalisation we do not leverage our investments and look for businesses that do not gear either. It is much harder to go bust if you do not owe anyone money.
David and I combined our efforts and using his invest-ment philosophy, my family acquired a number of unquoted UK businesses that qualified for BPR (spe-cific pre-clearance was gained from HMRC). This solu-tion removed the impending IHT bill more rapidly than many traditional methods and importantly, enabled my family to retain control of the assets. In March this year, the last of the acquired businesses met the two-year qualifying period and the portfolio became clear of IHT and the impending liability has been extinguished.
Other benefits
Happily, a number of benefits other than IHT mitiga-tion have arisen. First, by gradually building up a new and additional pool of assets, funded using the main family asset as collateral, we are addressing another generational issue: how to be fair to the broader family whilst retaining the estate as a single entity owned by a single person. I hope this will allow me to treat all three of my children more equally.
Secondly, we have achieved not only some diversi-fication in our family investments, but importantly greater f lexibility in how we can utilise the returns. The agricultural estate has been owned by the family for nearly 500 years and while it has been a successful asset if judged by value, it does not produce a substan-tial annual operating surplus (like most estates). As a result it has been hard to achieve diversification exter-nally. The new portfolio should produce both additional income and potential capital gain and thus aid appro-priate diversification.
However, both of the above points gloss over the real excitement of the opportunity I had overlooked. So long as the risks can be monitored and controlled appropriately (which requires considerably more work than for a conventional portfolio), an investor can have access to a real proven driver of the UK economy, small and medium sized businesses. Investing through the current recession has been challenging and while it has required far more work than I initially envisaged, it has helped demonstrate that these businesses can and should produce very meaningful returns without relying on stock market valuation appreciation as with so many other portfolios.
I have learnt a lot along the way over the last four years and together with my team now have the exciting privilege of having other families join us. It is one of those very rare occasions when we genuinely want to use the tax incentives for what they were designed and are needed for: investing in proper UK small trading companies on a totally commercial basis.
