Patient Capital: its own timing and risks
Yes – ‘Patient Capital’ (PC) may be worth the lengthy wait; but it depends on one’s investment objectives and destination. The problems that Neil Woodford’s eponymous Patient Capital fund is suffering do not necessarily reflect this category’s general attributes. Yet PC has its own set of ‘pros & cons’.
‘Patient Capital’ is a form of long-term capital investment. For market participants, it may only be attractive to those investors willing to wait at least five years for a return, which may be below market alternatives and whose non-quantitative benefits (such as a social, political or community objective) and associated risks outweigh the financial gains. Patient Capital is sometimes described as having the discipline of Venture Capital with an IRR of less than 10%! It even has been called “Impact Capital”. However, PC is also a policy for governments (such as China) and Sovereign Wealth Funds to realise their social goals.
Patient Capital allows an investor to drive towards the supposed greater returns of: R&D projects (invariably hard science or university spin-outs, such as Harvard or Oxford); a cause (say micro-financing, or an investor’s pet project); a community initiative (eg, a hospital); or follow-on funding rounds for enterprises that are not able to access traditional forms of capital. As importantly, the Patient Investor can play a more direct, even stewardship, role in: supporting an entrepreneur; building the management team as well as; strengthening the governance of such entities. Essentially, PC represents the “core equity” of the enterprise. Patient Capital is a funding source that one can rely on as an entrepreneur to drive and build a viable business.
Patient Capital has become an emerging investment trend: a source of funding for particular types of businesses and projects as well as appealing to a certain type of investor. It is deployed across the lifecycle of enterprises, from: Seed, through Early-Stage/Ventures; to high growth small enterprises. By their nature, these assets/opportunities have limited absorption capacity for investment funds as well as an above average risk profile. Yet, the investment volumes remain small, as Beauhurst indicates.
As expected there are several main types of ‘Patient Investor’.
· Business Angels making many small investments (hundred thousand to a few million pounds sterling).
· Institutional investors making fewer, larger ticket investments (say in the tens of million) – in pursuit of their objectives. An example would be the Welcome Trust and Syncona Partners. In addition, the likes of listed, longer-term, investment funds (eg, Woodford Patient Capital Trust, or BlackRock Smaller Companies Trust, etc) which try to balance several investment arenas.
· Finally, Family/Private Offices are attracted to PC given the appeal of its potential holistic “impact” returns. As PC practitioners claim – it is hard to find a good company so when you do, stick with it!
Some observes claim the traditionally poor performance of UK VCs is forcing it to consider a great role in PC.
The holistic returns of Patient Capital can be compelling as the financial returns are matched to realising a social objective. ResearchGate papers by Raktas and Gate Capital Group suggest the IRR returns for PC investments could be 25%, which compares favourably with VC’s 15-20%. Findings supported by Insead research.
On an annual basis a PC-return could exceed a classic ‘buy&hold’ equity strategy (17% pa). The institutional funds focused on patient capital (such as Woodford and BlackRock) have lower and varied returns for their own structural reasons and vagaries of the public markets (-18 to 15% pa). In Woodford’s case the fund’s declining NAV is due to a number of direct factors: being caught by questionable valuations to meet redemptions, triggered in part by the performance of some of it underlying investments, market skittishness as well as management of a largely illiquid portfolio. (https://www.theguardian.com/business/2019/jun/04/neil-woodfords-most-disastrous-stock-choices-a-roundup). These factors and dynamics reveal the challenges of asset selection in the PC universe.
The PC model seems better than the VC one of 5-year investment horizons, 2/20 and IRR of 15%. The key parameters are risk, time and control. Patient Investors must assign probabilities to the hoped for 0-1-10-100X returns of original investment.
That being said there is a definite gap in the finance market for Patient Capital, especially in the UK; playing catch-up to the government initiatives of European markets and ‘super angel’ networks of the US. China and Asia are emerging markets.
In conclusion, PC is not for everyone. Yet, if an investor is: comfortable with the time-horizon and risk-profile of the asset/investment/activity; has an interest in building a ‘better society’ (however defined); as well as adding to one’s bank balance then…Patient Capital may well be worth the wait.
Justin Jenk is a Director at Gate Capital Group, a specialist investment firm based in London (justin@gatecapitalgroup.com).