Recent attention on the private-company Business Relief market has helpfully re-opened a some long-standing questions: for illiquid holdings valued by the manager, what underpins confidence in the headline valuation? How do investors exit these companies? How diversified really is the market?
The value of unquoted assets may rest on judgement rather than observable market prices, and a manager’s carrying value can differ, sometimes materially, from the audited net asset value, and from the sum a client could realise. It is a timely reminder that concentration in a single style of exposure carries real risk of its own, and that genuine diversification deserves closer scrutiny than a provider label alone can offer.
Looking through to the underlying exposure
The business relief market has matured quickly, and adviser flows have tended to concentrate around a smaller number of established names, where size and longevity are read as reassuring. That is understandable, but diversifying across BR providers only reduces risk if the underlying exposures are genuinely different. Despite different names and different marketing, a fair number of established strategies converge on a narrow set of underlying assets: renewable energy generation, secured property development or SME lending. Spread a client’s allocation across three or four “different” providers built on these same foundations, and on closer inspection they may be holding much the same risk several times over. It is worth noting, too, that “asset-backed” is not the same as “valuation-transparent” – a loan secured against a solar farm or a plot of land still depends on someone’s judgement of what that underlying asset is worth. Genuine valuation certainty requires something more specific: income that is fixed by contract rather than assessed by anyone.
What genuine diversification looks like
Real diversification comes from exposure that behaves differently when conditions change. There are three things worth looking at –
Correlation with the rest of the allocation. Does the strategy sit in broadly the same territory as the client’s other BR holdings, or does it operate in an area less correlated with the sectors estate planning funds have traditionally favoured? The value of a genuinely different exposure is that it is unlikely to be affected by the same pressures, at the same time, as everything else in the bucket.
Liquidity and the shape of the underlying book. BR investments are illiquid by nature, and withdrawals are usually met through a matched-bargain service; matching investors leaving with new subscriptions coming in. That mechanism depends on continued inflows. A strategy, such as the Calculus ITS which sits in film and TV production finance, a genuinely different sector, is built on a rolling book of short- to medium-term loans has an additional, structural source of liquidity. As loans repay, capital returns to the fund on a continual basis, and that returning capital can be used to fund share buy-backs or a capital reduction. Liquidity is generated by the natural turnover of the book itself, rather than resting solely on finding a new investor to take an exiting one’s place.
Valuation and how closely it tracks reality. This is easily overlooked but matters a great deal. Where the assets are in private companies rather than on the public market, the manager will set the valuation and sometimes earn fees on that.
Where the underlying assets are loans, these do not need a subjective growth story to justify its value, it’s worth what’s owed, adjusted down only if there’s a real impairment concern, and it’s usually secured.
A loan book, such as the one beneath the Calculus ITS, is straightforward to value: the amounts owed, the interest due, and the repayment dates are contractual and known, so the manager’s carrying value of the underlying BR-qualifying company stays closely anchored to what that company is actually worth. Calculus’s structure narrows the self-valuation judgement call considerably, even though the underlying investment is still unquoted and still carries capital risk
A genuinely differentiated option
Taken together, these criteria point toward the kind of strategy that adds something real to a BR allocation: one operating in a sector less correlated with the areas estate planning funds have traditionally targeted, lending on a secured basis against contracted, receivable income, with a rolling short- to medium-term book that both returns capital as loans mature and keeps valuation closely tied to audited figures.