Sectors: Creative, Media & Technology

Clearly the cost of the pandemic has been enormous and at some point it will have to be paid for. The most likely source of funds will be higher taxes and, whilst the current UK government is very reluctant to hit people directly in their pockets, the Chancellor, Rishi Sunak, has been making noises that taxes will have to go up in the upcoming budget on March 3^rd. Last autumn there were many rumours around increases in UK Capital Gains Tax (CGT) which, although related to property as well as share investment, would largely impact people selling their businesses. This is also seen to be a relatively ‘soft’ area as it plays more to the general public sentiment. In November 2020 the Office of Tax Simplification prepared a report for Sunak in terms of areas that needed looking at, and many recommendations of such reports have historically found themselves appearing in the budget. The report said £14bn could be raised from aligning CGT to Income Tax if there was no change in behaviour (which there undoubtedly would be).  Whilst £14bn compared to the £300bn or so that has been spent dealing with COVID-19 is effectively a couple of beers down the pub (once they reopen), it would certainly be a symbolic move. However, last weekend (9^th January), on the back of the latest lockdown, it was mooted in The Times that the March 3^rd budget is now less likely to include significant tax changes. Whether or not this means CGT will remain unchanged we cannot be sure. In any event for business owners who are not already in a sale process, it’s highly unlikely they would be able to go to market and close a deal before the budget without it being a fire sale at a substantial discount (which may mean getting the same amount ‘net’ as they would have done under any new tax regime anyway). So, what could CGT increases look like? Put bluntly, and in the worse-case scenario, aligning CGT to Income Tax rates would mean the amount of tax being paid by the shareholders on the sale of a business increasing from 10% on the first £1m of gain under Business Asset Disposal Relief (BADR, formerly known as Entrepreneurs Relief) and 20% thereafter, to as much as 45% for those in the top rate tax band. To put it into perspective, a capital gain of £10m from selling your business under the current tax rates mean a top tier taxpayer would pay £1.9m in CGT – £1m of the gain at 10% and £9m at 20%. Assuming BADR remains for the first £1m, an alignment to Income Tax rates would instead mean a £10m gain being taxed at £4.15m, a massive increase in tax of £2.25m.  If BADR is taken away the bill would be £4.5m, an increase of £2.6m… That is the worse-case scenario. CGT on property is currently 18% or 28%, depending on an individual’s tax band, and business CGT could be aligned to these rates instead. Either way, it looks as though CGT will ultimately increase, it’s not a matter of “if” but “when”. We’d like to think, given this weekend’s press, that any tax increases in the budget may be delayed and hopefully until the next tax year starting 5 April 2022. This will give people time to make decisions regarding their assets and plan accordingly. The problem is, unless the Chancellor makes further announcements between now and the budget, massive uncertainty still remains. So, as many of our clients have asked, we thought it may be useful to set out what can be done in the short-term pre-budget to mitigate CGT risk. Given starting a sale process now and closing it by the budget is not really feasible, there are other measures that can be taken. Such options include Management Buy Outs (MBO’s), which often involve external funding from a PE house or bank, and Employee Ownership Trusts (EOT’s) which have become more popular in recent months. An MBO is often internal, so doesn’t involve the need to find an acquirer – normally it is between existing shareholder managers who are looking to retire or step away from the business and the ‘second tier’ of management who want to take on the reins.  It can be self-funded through existing cash in the business and future cash that the business generates, but will often involve bank financing (particularly if those exiting want more certainty over getting their money and getting it now) or private equity backing.  For a bank to back such things they have to do their due diligence on the business, as would a PE house, to establish whether they are happy to lend – not an easy conversation to make happen right now, given the strain the government backed lending has put on the banks and the revised working practices that the bank staff are having to grapple with.  And then there’s the question – “Who is our second tier?”.  If you aren’t already talking to your bank or a PE house, as well as that second tier, it will be very hard to make such things happen by budget day. An EOT is where shareholders sell a majority stake (it has to be at least 51%) to a Trust which is owned by the employees. There is currently no tax payable on the gain on such things as they’re looked on very favourably by the government given future value is being shifted to employees.  The tax point is the date on which the shares are sold, even though the Trust may not be able to pay for the shares at the time of sale but perhaps out of future profits. This makes it even more attractive. This route has historically tended to be used by firms which have found it hard to realise value from a typical sale process but is nonetheless a very tax efficient way of extracting value from a company. However, there are downsides, not least that it has to be an ‘all-employee’ trust and the shares can’t be skewed to specific individuals, and it may also make the company less attractive to future purchasers.  And if a bank needs to be brought in you are back to the challenges highlighted above. Other options include selling shares to a new holding company in a share-for-share transaction.  Although cash doesn’t change hands, there is a debt outstanding to the shareholders to be settled at some future time – perhaps when the business is sold further down the line.  This crystalises the value and locks in a gain at current rates.  However, this will likely trigger a ‘dry’ tax charge – you will have to pay the tax from selling the shares regardless of whether you have actually received any money for the shares. And the company may never be sold… In conclusion, there’s no question taxes will have to increase to recover the enormous cost of the pandemic. That said, the government has to balance any tax increases against the additional economic harm this may create. If people have less money to spend, this means they buy less goods and services, which ultimately leads to a shrinking economy and Income Tax increases are always unpopular. Thus, CGT is very likely to be targeted in some way, but whether it is a draconian alignment to Income Tax or something more palatable remains to be seen, as is the timing of any such increase.  Aside from the holding company route above, it’s probably too late to do much else to mitigate a CGT increase should it happen in the upcoming budget. However, if delayed increases are announced then it is critical business owners react swiftly to understand their options and take the relevant action. A lot of eyes are going to be on Mr Sunak come March in what could be the most significant budget of a generation.

Back in the summer, Q magazine closed. If you’re of a certain age, or have more than just a passing interest in music, you’ll remember Q in its pomp. It was launched in 1986, a product of the publisher EMAP’s can-do culture and devolved management style (of which more in just a second). Q’s decline was long and slow, but Q was revolutionary in its time; just as the CD was starting to take off, and record companies realised that they could make a great deal of money repackaging their back catalogues and heritage acts for the shiny new digital disc era, a couple of bright sparks at EMAP realised that this new musical normal needed its own magazine. Back in 1985, the music press was ruled by the “inkies” – weekly monochrome tabloid newspapers like Sounds, Melody Maker and NME, that were news-led, their content driven by release/touring schedules and the news cycle. There were colour mags, of course, but they were either aimed at teen poppers (Smash Hits) or had a lifestyle bent (The Face). Something different was required and Dave Hepworth and Mark Ellen came up with Q (as in “cue the music”) – a glossy, perfect bound, full-colour monthly mag that was perfect for the CD era. (and one you could bolt a CD mixtape to the front of to encourage take-up).  At once respectful and serious but also self-aware and slightly irreverent, Q featured artists like Paul McCartney, mocked (or ignored) by the inkies but who still had substantial fanbases; and – crucially for advertisers – these fans were slightly older, definitely more affluent and keen to replace battered old vinyl LPs with shiny compact discs. Q was massively successful and influential because it was the right product at the right time, executed in just the right way. But Q was only allowed to come into being because EMAP’s company culture permitted it. Beginning life as a regional publisher in the East Midlands just after WW2, the newly renamed East Midlands Allied Press started a magazine division, based – and this is a very EMAP thing – on a hunch; the company’s printing presses were often dormant, so why not make use of that capital? And so, Angling Times was born in 1953, followed by Motor Cycle News a couple of years later. EMAP’s leadership widely encouraged an entrepreneurial approach; different divisions were encouraged to come up with ideas, and to try them out. This led to hugely successful consumer and B2B titles such as Smash Hits, Q, Mojo, Heat, Car, Drapers Record, Red, Closer and dozens of computer and gaming magazines. EMAP’s swashbuckling approach and success even had an influence at its staid old rival, the “Ministry of Magazines”,  IPC: a young editor named James Brown was given carte blanche by the management and he developed Loaded – a mag that was as successful and influential in the 1990s as The Face and Q had been in the ‘80s. EMAP (“Every meeting a party”, said employees at envious rivals) expanded rapidly in the 1980s and 1990s, buying titles (including a small indie men’s grooming mag called For Him, relaunching it as FHM, which sold 850,000 copies a month in its prime) and launching others. It also saw the opportunities in commercial radio, picking up still-successful stations such as Kiss and Magic for a song. As it grew, it became more cautious – simply repeating successful and proven formulae, rather than trying new things – and centralising management. EMAP’s titles – especially generalist ones, or the publications tied into crazes, such as Zoo or FHM (“lads’ mags”)  – were badly affected by the structural disruption that wreaked circulation and ad revenue havoc in the industry in the noughties and 2010s; but increasing caution meant EMAP started to look increasingly flat-footed. In fact, for many an ambitious creative company – from publishing, music labels and A&R, through to TV and film production – encouraging a decentralised, entrepreneurial, gut feeling approach has served them well. And this of course is also true of advertising and marketing – it’s why ambitious creatives, suits and planners are willing to forgo the comforts of big agency life to take risks by joining a startup or a swashbuckling indie, and why investors are keen to pour cash into these feisty minnows. Ask anyone of a creative mindset – in any industry – what matters to them most, and they’ll talk about stuff like autonomy, freedom, unrestricted thinking, the chance to have one’s ideas taken seriously, being listened to, adventurousness, the embrace of risk and of the different, flat hierarchies, light-touch management and the ability to act quickly. Big pensions, a company car and a chance to climb the management ladder matter much less. Now I mention all this because, as we know, the marcomms industry has been going through a period of transition: first because of the evolving needs and demands of clients and of consumers; then because of the disruption wrought by digital; and now because of the Covid-19 pandemic. Interestingly, on a macro level, one of the features of the coronavirus outbreak here in the UK have been the calls for more autonomy. Central government’s responses have proved to be unpopular and largely ineffective, and the calls for policy decisions to be devolved to a more local level have become louder, not just in the UK’s four nations, but within England too. Just look at the scrap brewing between Manchester’s Andy Burnham and the Government regarding moving to Tier3 as I type. In fact, as the pandemic unfolds and develops, I believe that decentralisation generally will be an important feature of our world – not just because so many white-collar workers will be based at home rather than the office, but because new outbreaks or flare-ups will require rapid thinking, with solutions tailored to local conditions. We may also find ourselves more geographically confined than we have done for decades – look at the mothballing of out-of-town shopping malls and retail parks and the rise of local shops. And brands and their agencies will have to adapt too. A one-size-fits-all approach is probably no longer fit for purpose. So, a global brand will need to adapt its messages according to the territory – you can’t speak to a locked down infection hot-spot in the same way you would a Covid-free zone. Similarly, a message could become out-of-date, tasteless or downright offensive in a matter of days. This means that agencies will have more work to do. Instead of just taking a global ad dreamt up in Beijing, New York or London and adapting it for local language and culture, local shops will have a bigger, tactical role (maybe even strategic too). And they’ll have to make sure they can react and work quickly. Inevitably this will suit smaller agencies with flatter and more responsive management rather than big global agencies with layers of approval to work through. So, the big boys will have to learn to let go; management will have to learn to delegate and trust more. They say that advertising is all about changing behaviour and solving problems – and if there is a time when these two skillsets will be needed more than ever, it is now. It seems to me that the time for long-term thinking or grand strategy is, temporarily at least, over. While playing the long game (or at least having an eye on it) is always desirable, survival, speed of response and quickly seizing opportunities and taking risks are where it’s at in the time of coronavirus. This leaves big legacy agencies, and the holding companies – WPP, IPG, Omnicom, Publicis, and Dentsu that own them in a tricky spot. If they are to have any value (both socially and for shareholders) they are going to effectively have to become invisible. They are going to have to let go, devolve and massively slim down their central functions. This will require trusting in the creatives and suits on the ground, moving fast and encouraging risk and innovation. In this pandemic, we are increasingly learning that the old ways of doing things aren’t working. Thinking differently, trusting in the “crazy ones” (as the famous old Apple ad campaign of the late 1990s was wont to say), and having balls of steel is what’s needed now, in 2020 and beyond. Who’s up for the challenge?