What is a knowledge-intensive company?
Generally, as an initial point you will be able to describe your company as knowledge-intensive if, at the time of the share issue, your company is carrying out some kind of research, development or innovation activity.
A company will come under the umbrella of a “knowledge-intensive company” if it meets the operating costs condition and either the innovation condition or the skilled employee condition at the time of the share issue. Each of these terms are defined below.
Firstly, your company must meet the requirements for the EIS scheme, the main ones being that:
- it is established in the UK;
- it is an unquoted company (i.e. it is not trading on a recognised stock exchange when the shares are issued and does not plan to in the future);
- it does not control any other company apart from qualifying subsidiaries;
- it isn’t controlled by another company or have more than 50% of its shares owned by another company; and
- the company and any qualifying subsidiaries must not have gross assets that exceed £15 million in value before the share issue and not more than £16 million immediately after it.
Note of course that all of the other EIS requirements need to be complied with, together with the basic points mentioned above.
If a company wishes to obtain the additional EIS related benefits enjoyed by knowledge-intensive companies, then it must meet several further conditions, including that a company and any qualifying subsidiaries must have:
- less than 500 full-time equivalent employees at the point of share issue; and
- spent a total proportion of its overall operating costs on research and development or innovation that is at least either (this is the operating costs condition):
- 10% (of overall operating costs) in each of the 3 years before the investment; or
- 15% (of overall operating costs) in any one of the 3 years before the investment.
HMRC guidance can be found here relating to how the three relevant years preceding the investment are determined.
To meet the knowledge intensive qualifying criteria a company must then meet either of the next two conditions:
- The innovation condition – this means that a company must be carrying out work to create intellectual property and it must expect the majority of the company’s (or group’s) business to be generated from this within 10 years; or
- The skilled employee condition – this means that a company must have 20% of its employees carrying out/working on research and development when it initially receives the EIS investment and for 3 years after that point and also that these employees must have a relevant Master’s or higher degree.
So, provided a company meets the standard EIS requirements, as well as the additional requirements for knowledge-intensive companies, then it will be able to benefit from the added EIS benefits applicable to a knowledge intensive company.
What is the significance of being a knowledge-intensive company for the purposes of EIS?
Being a knowledge-intensive company for the purposes of EIS will give a company an array of additional benefits in terms of how much money it can raise pursuant to that scheme. This is particularly useful when a company envisages that it will need to raise a lot of investment and will likely raise over the usual EIS limit.
From the 6 April 2018, knowledge-intensive companies raising investment pursuant to EIS have been able to receive up to £10 million of EIS (or other HMRC venture capital scheme) funding per year. This means the yearly EIS limit for such companies has doubled – companies that are not knowledge-intensive can raise a maximum of £5 million per year.
A knowledge-intensive company is able to raise a maximum of £20 million pursuant to EIS (or other schemes) over the company’s lifetime, whereas for companies that are not knowledge-intensive and are applying via the usual EIS route, the maximum is £12 million.
Another perk of being a knowledge-intensive company is that investment can be raised under EIS over a longer time period – within 10 years of a company’s first commercial sale. Whereas companies that aren’t knowledge intensive can receive investment under EIS as long as it is within 7 years of the company’s first commercial sale. Note that changes that became effective since 6 April 2018 now mean that a knowledge-intensive company’s 10-year clock does not start to run until the company’s annual turnover is in excess of £200,000.
Finally, the annual limit for individuals investing in knowledge-intensive companies under the Enterprise Investment Scheme was increased to £2 million – this is provided that anything above £1 million is invested into knowledge-intensive companies. This change is applicable to EIS shares issued on or after 6 April 2018.
What is the rationale behind the favoured treatment of knowledge intensive companies?
The sum effect of the recent changes introduced by HMRC allow knowledge-intensive companies to have access to larger amounts of funding for longer periods of time. This is because the government recognises that these types of companies face the greatest difficulties in accessing investment to help them grow. The changes have been implemented so as to encourage investment (directly or indirectly) in small, high-growth potential trading companies that have traditionally found it difficult to access the funding they require to grow and develop.
The government also recognises that these types of companies can generate large amounts of jobs for local communities, can create high quality jobs for skilled workers and can potentially create large profits that the government can extract taxes from – adding to the overall wealth and prosperity of the UK economy.
Additionally, the government is aware that research, development and innovation are all things that require a lot of funding to undertake in the first place and can be very time-consuming. The introduction of these changes is ultimately therefore about encouraging investment into these types of companies by allowing investors to put more money into them and relaxing the regulations for companies of this sort that are looking to raise funds.
Ultimately, the changes give knowledge-intensive companies the ability to raise more funds over a longer period of time which in turn gives them a bigger window in which they can turn their company into a commercial success.