When am I ready to launch my EIS fund? Some practical advice on steps to take before engaging advisers.
12th July 2017
You want to launch an EIS fund? Over the coming weeks, we at Mainspring will be publishing a series of short articles to walk you through the process.
PART 2: THE DEVIL IN THE DETAILS
Last time we looked at a few aspects that someone looking to launch a fund should have in place with a high degree of conviction, prior to launch:
1. You have a clear understanding of the focus sector and focus geographies
2. You can pinpoint companies that qualify for EIS
3. You can source a pipeline of relevant, attractive companies
4. You have a viable target list of potential investors for the fund.
So, you know you want to invest in Wales-based digital technologies and you have a good view of this market and the promising start-ups operating therein. Perhaps you were prompted to look at the space because of your own background in the industry and maybe you were prompted to raise a fund following conversations you had with wealthy members of the investor community in Wales. What next?
Now you need to start looking at the details. If you still have unanswered questions about what EIS is and how the structure works from an investor’s perspective, the EIS Association is an excellent resource (https://www.eisa.org.uk/). There you can find detailed information on the tax incentives that will be a key driver for investors into EIS funds, as well as the “Advanced Assurance” process that gives comfort that intended investments will be eligible for the reliefs available.
It is also important to work out the details of your business plan for the fund. For example, how much working capital will you need to cover your costs? There are many different ways to structure fees. Some examples include set-up fees charged to the investor and an annual management charge. This annual management charge varies amongst funds, so it is important to survey similar funds in the market to see what is achievable. Naturally, it can be challenging for a new fund manager (without a track record of strong EIS returns) to achieve the highest rates.
As a significant proportion of your working capital requirements are likely to be fixed or within a definable range (salary of a small team, office costs, service provider fees) and the fees you charge will be directly proportionate to the size of the fund you raise, the amount you raise will be the key factor in your business plan. Complicating this, of course, is the question of cash flow. On day one, you are unlikely to have the full target raise amount at your disposal. Unless you are willing to wait a while to collect together the full fund, you will start with the amount of your first investment into the fund, which might be no more than the minimum raise from one investor. This means that you will need deep pockets to get going in the early days.
The fees charged by EIS funds do vary and are not as fixed around the 2% mark that is often quoted as the norm for private equity funds. The amount you charge as fees should reflect the actual costs that you incur to run the fund, and whilst individual investors are unlikely to ask to see the details of your business plan, you should be prepared to justify your fees to those that contribute a proportionately large investment.
Every set-up will be different and there may be specific costs and fees related to your chosen investment strategy that would not apply for others. However, the following is a good starting point for drawing up your business plan.
In addition to the costs you will incur for staff, premises and sourcing companies to invest in, you will need to engage legal advisers, a custodian and tax advisers. Transaction fees must also be paid for each investment, but these are often recouped, as discussed below. On top of that you will need to budget for the costs of setting up and running a regulated fund management company (including compliance advice) if you choose to go that route. Alternatively, you can use an outsourced fund manager.
On the other side of the ledger, there are a number of ways that you will receive income. Firstly, you may charge a set-up fee to your investors, in addition to the annual management fee that most funds charge. The costs that you incur during a transaction may be recouped from the target company or from your investors and, once invested, some funds charge board fees (also known as director fees or monitoring fees) to the company and, of course, once the fund’s stake in that company is sold, you will want to receive your share of any profits.
In summary, then, your next steps should be to:
1. Take a deeper dive into the EIS documentation.
2. Plan out your working capital requirements, ensuring you have included all of the likely costs and income to the fund.
3. Establish the amount of working capital you will need to raise from fees and where your liquidity is going to come from before they cover your costs.
4. Set the target fund size and management fees accordingly, making sure to benchmark against similar funds in the market.
Next time: WHO YA GONNA CALL? – The final steps before you can approach investors – regulatory cover; custodians; legal advisers.
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