Tax breaks bring investors and growth

Companies refused bank loans can gain funding through a business expansion scheme, writes Ruth O'Callaghan

WHEN Jack Cleary died suddenly in 1995, his children threw themselves into running the family company, Glenisk, which makes organic dairy produce. Three years later, it was turning over Euro 2m and employed 15 people. The family decided it was time to expand. They had two choices: go to the bank or look for investors to fund the company. The bank was not keen to provide the money. Even though Glenisk was growing by 45% a year, it didn't have enough collateral for a loan.

The company's accountants suggested trying a business expansion scheme (BES).

Glenisk decided to go ahead, and hired a broker who managed the scheme and offered it to private investors.

Investor interest was immediate. Within three months of hearing about the scheme, Glenisk had a cheque for Euro 250,000, to invest in the company's growth for five years, after which it would be withdrawn by the investors, along with a percentage, venture capital-style.

"We weren't a nuts-and-bolts factory or a household brand, but investors could see us on supermarket shelves," says Vincent Cleary, joint managing director. Getting the cash injection has freed up Glenisk's internal funding and increased innovation. The product development section is working at increased pace.

"This money has had a domino effect on the growth of the company," Cleary says.

The BES was set up in 1984 as a tax break for individual investors. Anyone who put up to Euro 31,750 a year into a growing company through a BES got a 42% tax break on their investment. The last fund closes this year on December 31, but there are still opportunities for companies to seek investment.

Several large accountancy firms have set up BES funds. Since the scheme opened, Grant Thornton, an international accounting firm with offices in Dublin and Limerick, has invested in more than 50 companies from its Limerick office alone.

It favours projects that invest in property. Under the BES, investment is limited to certain manufacturing, services, tourism, research and development, plant cultivation, factory construction and leasing and some new music recording projects.

BES Management Ltd, a joint fund run by BDO Simpson Xavier and Davy Stockbrokers, has invested Euro 60m in schemes since 1995, supporting such companies as Boru vodka and Wrights of Howth, as well as Glenisk.

Using a broker means, apart from having someone else deal with the paperwork, the company gets ongoing financial advice. Grant Thornton doesn't appoint anyone to a company's board, but it usually becomes the company's auditor and handles the exit of investors after the five-year period.

It is "always conscious" of how a company is performing, says John Hinchey, BES adviser and director of taxation at Grant Thornton.

BES Management says it can visit a company up to 12 times a year, depending on how it is developing, sitting in on board meetings and suggesting strategies and alliances.

"Mostly, (visits are undertaken) three or four times a year," says Steven McGivern, BDO partner and director of BES Management.

The advantages of using a broker are obvious, but there are aspects that companies may find difficult. When the five years are up, brokers will take up to a 30% bonus for their investors. BES Management is "aggressive on exit caps" for its investors, McGivern says.

Faced with an investor representative on the board, smaller companies may find it hard to take their advice. Vincent Cleary of Glenisk says his BES investors take an interest in what the company does, but "as long as we are performing in a reasonable manner, they tend to leave us to ourselves".

This is just as well as, Cleary says, family-run businesses "don't take too much advice".

There is an alternative to hiring a broker. Some companies prefer to set up their own scheme, known as a private placing. This means canvassing family and friends to raise the money, doing the paperwork and, if necessary, hiring an accountant to deal with the final application to the Revenue Commissioners.

In 2000, Eamon O Doherty raised Euro 250,000 on a BES scheme for Ossidian, an e-learning software company. "There is a control issue," O Doherty says. A lot of companies will find it hard to give back the money invested as hard cash after five years, he says. To return a Euro 750,000 BES investment, a company would need to have at least Euro 800,000 available in cash. O Doherty's investors are all in for the long term, he says, and they get yearly tax relief. If the company is sold or floated on the stock exchange, they could reap benefits.

"It's not a savings scheme for investors. You're investing for the long haul, for shares, and to get tax relief," O Doherty says.

A broker will give persuasive reasons why a company should use its funds instead of setting up alone. The signature of a well-respected firm at the bottom of a company's documentation works wonders in comforting would-be shareholders.

Hinchey says: "It's reassuring for investors. It can be difficult to persuade them to invest if they don't see the backing of a financial institution. Investors will always want some level of comfort."

Also, brokers will reject any schemes that don't look like succeeding, so it's a sign of the strength of a company's proposal if it is taken up. "We have people coming to us with a proposal and we say we don't think it is viable. You're going to get an honest appraisal of your project," says Hinchey.

Companies should not misunderstand what a private placing means, according to O Doherty. Legally, a company that is deciding to raise its own BES finance can't just ask the public to invest, it must ask friends and family who are willing to leave the money in the company as long as it needs it. It is important, brokers say, that investment clients aim first to get their money back, with extra profits as a bonus.

BES Management's first fund started in 1995 and exited in 2000. Investors got a 100% return, as well as their 42% tax break. The 1996 fund, which exited last year, returned 95% to investors. The firm is working on the exit of its third fund and raised Euro 7.15m for this year's BES investments.

BDO's McGivern says the investment should be regarded in the main as tax relief as the performance of a company can fall as well as rise. "Tax relief is a big part of it. The first objective is to get the money out there and then get it back."

Investors in BES Management can spread their risk, McGivern says, because the fund usually mixes about 10 companies.

There is one final reason why using a broker can be preferable to finding your own backers, says Vincent Cleary. "If something goes wrong, it is easier to go to faceless investors and tell them, than going to friends."