HFMWeek (HFM): What factors have made Cayman such a popular domicile for private equity funds?
Piers Alexander (PA): As with other offshore financial centres, the Cayman Islands attracts a high level of non-resident financial services business. The globalisation of business, enhanced mobility of individuals and sophistication of the offshore world have all increased the attraction of offshore financial centres. Some of the onshore factors influencing the growth in demand of the Cayman Islands include high taxation, overly complex laws, significant regulation and political and/or economic uncertainty.
Growth of the Cayman Islands is driven in part by the onshore need to conduct business on a stable, sophisticated, tax-neutral platform. Some of the characteristics of the Cayman Islands that contribute to its success in attracting investment fund business include its political and economic stability, legislative and judicial soundness, favourable tax regime, quick set up and low maintenance, active banking sector and high quality professional and support services.
A fund structure might not be capable of being suitable for everyone but, in the context of a global offering, considerations generally favour a neutral location, acceptable to the widest range of potential investors. Fund sponsors will therefore typically look to the reputation of a jurisdiction in determining where to establish the fund.
HFM: What is the jurisdiction currently doing to strengthen the sector and maintain a global advantage?
PA: As well as embracing the new requirements imposed by international standards, the Cayman Islands was an early adopter of the Common Reporting Standard. Together with US Fatca, Cayman has ensured it is at the forefront of its international obligations regarding information exchange.
The Cayman Islands enacted legislation in 2016 to provide for the formation of limited liability companies (LLCs) in order to ensure it continued to provide suitable options applicable to the needs of users of offshore funds. A LLC combines many of the features of a company with the operational flexibility of a partnership. It is a body corporate with a separate legal personality and so can enter into contracts, sue and be sued in its own name. A LLC may be formed by a single member (unlike a Cayman Islands exempted limited partnership which must have a general partner and at least one limited partner). Members receive 'LLC Interests', so that each member has one LLC Interest, being the member's share of profits and losses, right to receive dividends and voting and other rights, benefits and obligations of the member. A LLC may be managed by its members or one or more managers appointed for that purpose. For investment funds, it is envisaged that the LLC will be managed both in terms of investment decisions and as to the day-to-day operations of the LLC by a manager. The members may, if they choose, retain decision-making powers in relation to specific aspects of the business of the LLC. Within the private equity context, such powers may relate to the circumstances of winding up the LLC, appointing managers, handling conflicts of interest and so on.
The Cayman Islands is poised to implement the regulatory regime for Cayman Islands funds managed or marketed in the EU, which will allow them to opt into additional regulations consistent with the relevant requirements of the Alternative Investment Fund Managers Directive (AIFMD). These 'EU connected funds' can be either open-ended or closed-ended. The AIFMD opt-in regime will come into effect once the Cayman Islands has been assigned to the European Securities and Markets Authority's approved list of 'third countries' suitable for the AIFMD passport. This will benefit Cayman private equity funds seeking to raise capital from EU investors, and who do not intend to rely upon compliance with the individual private placement regimes of the specific EU countries in which the marketing is taking place or upon "reverse-solicitation".
HFM: What new players have you recently seen entering Asia for private equity funds, and have you experienced any changes in the application of the vehicle structures available in the Cayman Islands?
PA: In Asia, the Chinese insurance companies and state-owned enterprises in particular have been increasingly involved in private equity investment. This has meant additional competition for traditional private equity funds in their search for quality deals. While the exempted limited partnership is the go-to vehicle for Cayman Islands private equity funds, some managers are seeing the advantages of Cayman Islands segregated portfolio companies as an alternative, where it is possible to segregate assets and liabilities into distinct pools without the expense of incorporating separate entities. The segregated portfolio companies have had limited application to date in the private equity context, but as this framework allows for different classes of investors and/or different pools of assets, they may prove attractive, as such structuring variables are difficult to achieve through a limited partnership.
It is not clear yet what practical effect China's "Belt and Road" initiative will have on private equity, but with infrastructure investment across Asia and Europe through the Silk Road Economic Belt, and to Africa, through the Maritime Silk Road expected to increase, it is anticipated there will be opportunities for private equity firms to expand their networks as these geographic and economic pathways open up.
HFM: How is the private equity fund space in Asia set to develop in the future?
PA: Price mismatch has been a major issue affecting the ability of private equity managers to invest.
This, together with the existing "dry powder" already available in the market and the newer entrants in the form of insurance companies and sovereign wealth funds, will likely mean a slowdown in capital raising for Asian-focused private equity. While China outbound investment grew in 2016, the Chinese government's policies, implemented in 2017, that restrict capital outflow have been affecting both the raising and deployment of capital.
Certain "mid-shore" jurisdictions, such as Hong Kong and Singapore, are developing corporate investment vehicles which are intended to provide an alternative to the offshore offering. While such mid-shore vehicles are aimed more at the hedge funds industry, the Singapore variable capital company can be structured as a closed-ended fund. However, the framework entity is just one aspect of a successful funds regime. Indeed, a factor that has made the Cayman Islands so attractive to private equity funds is the recognition that a comprehensive blend of elements must be available in order to create a favourable environment for the establishment of structures that balance the interests of investors, managers and the wider community.
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