Regardless of one's political or economic views, we can all agree that the Covid-19 pandemic has resulted in a global health and economic crisis on a scale unlike anything we have experienced in our lifetimes. Whilst the true impact of the pandemic on the global economy will not be known for some time (possibly years), early predictions make for grim reading: the World Bank predicted in June that the pandemic is expected to plunge most countries into recession in 2020, with per capita income contracting globally in the largest fraction of countries since 1870. Advanced economies are projected to shrink 7 percent with emerging market and developing economies forecast to contract by 2.5 percent.
Against this gloomy backdrop, we expect private equity firms and their investors to play a key role in long-term economic recovery. The sector is showing signs of optimism about its ability to transform the challenges created by the pandemic into opportunities. This optimism is fuelled, in part, by the huge amounts of dry powder that private equity firms are able to call upon following prolonged periods of successful fundraising prior to the pandemic. According to Bain & Company, private equity firms around the world had stockpiled approximately USD2.5 trillion in uncalled capital, with USD830 billion for buyouts alone, at the end of 2019. Market commentators have pointed to this staggering amount of available capital as a reason to be hopeful that private capital may provide highly sought-after cash to help fund transactions and provide market liquidity.
Notwithstanding the war chest of committed capital, certain clients and intermediaries within the industry are slightly more cautious about the challenges ahead. The priority for many fund managers in Q3 of 2020 and as we move into Q4 will be to quantify the pandemic's impact on asset valuations and stabilise the liquidity position across existing portfolios before embarking on further acquisitions.
A common observation from clients and intermediaries is that in the non-distressed space the competition for deals amongst different private equity firms is expected to be fierce, impacting pricing. Fund managers therefore need to resist the temptation to commit to investments simply for the sake of deploying capital. This is likely to result in fund managers looking to less conventional methods to deploy capital such as taking positions in public companies where the value of a private equity partnership has increased as a result of the pandemic. From here we can expect the number of going private transactions to rise sharply as public companies look to restore themselves to a more solid foundation, out of the glare of the public markets.
In the distressed space, due mainly to the devastating impact of lockdown world-wide, a number of businesses across many sectors are now desperate for capital which will present investment opportunities for some private equity firms willing to take some risk. We are beginning to see enquiries from private equity clients pursuing opportunistic acquisitions at perceived favourable pricing terms with a view to increasing market share for existing portfolios, bolting on complementary product lines or simply creating economies of scale.
Our global private equity team continues to be mandated on a broad range of private equity transactions across all of our jurisdictions for institutional sponsors and boutique firms alike. Below, our experts answer some of the common questions about private equity structures and trends across Bermuda, BVI, Cayman, Guernsey, Hong Kong, Isle of Man, Jersey and Mauritius. Please contact any of our contributing authors for more information.
What are the typical PE structures used in Bermuda and which sectors are most represented in the jurisdiction?
A Bermuda private equity fund will often be formed as an exempted limited partnership. There is no requirement for the general partner to be established in Bermuda. It is not uncommon for a Bermuda private equity fund to have a non-Bermuda investment manager.
Following recent changes to the funds regime in Bermuda, closed-ended funds (which would typically include private equity funds) are now within scope of the Investment Funds Act 2006 (IFA). The default classification would be a "professional closed fund" and, as a result, these entities must appoint either a local service provider who is licensed by the Bermuda Monetary Authority (BMA) or an officer, trustee or representative resident in Bermuda who, in each case, has authority to access the books and records of the fund. If a fund has no more than 20 investors, it may be structured as a "private fund", in which case a local service provider must be appointed that is authorised and regulated by the BMA.
Other structures are available, including companies limited by shares, limited liability companies and unit trusts. These are used to a lesser extent than limited partnerships, but offer clients the flexibility to meet their specific requirements.
Investments by private equity funds, whether established in Bermuda or otherwise, are not uncommon in the insurance space. With respect to the sectors targeted by private equity funds established in Bermuda, we see investments across a broad range of sectors employing a variety of strategies.
Are there any specific legislative provisions or regulatory regimes in Bermuda that you believe are attractive to and commonly used by PE clients?
As noted above, private equity funds in Bermuda will typically be established as either professional closed-ended funds or private funds. In either case, we consider that private equity clients benefit from being able to show their investors and counterparties that they are regulated (benefitting from the confidence this brings) whilst not being overregulated or having their business impacted. Bermuda has taken great care to ensure an appropriate level of regulation depending upon the nature of the fund and the characteristics of its investors.
Where private equity clients wish to take advantage of investments in digital assets, Bermuda has developed a comprehensive licensing and regulatory regime which has been attracting great interest.
Downstream investments into insurance companies licensed in Bermuda also benefit from robust regulation and a strong global reputation in which investors can take great comfort.
Are there any challenges posed by regulatory regimes in Bermuda and how have PE clients responded to them?
The offshore world has had to take steps to address questions of economic substance and Bermuda is no exception. A comprehensive framework has been put in place to address this area. Although the activity of being an investment fund is not within scope of this framework, changes have been made to the IFA in order to ensure that the BMA is able to have oversight of investment funds operating in or being promoted or managed from within Bermuda.
Clients of existing private funds have had to consider the terms of their existing offerings to consider whether are now within scope of the IFA and must now register or if they constitute one of the arrangements which is specifically excluded. We have worked with clients to register in-scope vehicles and continue to work with the BMA in a collaborative manner as questions have arisen.
Are there any anticipated legislative or regulatory changes in Bermuda that are likely to impact Bermuda's appeal to PE clients?
As the global offshore landscape continues to evolve, we would not be surprised to see further refinements to the economic substance requirements and regulations applying to funds, including private equity vehicles.
Many of the potential changes that have been discussed appear to be those that would need to be met across the offshore world, not just in Bermuda. Where such changes are required, we would expect the island's co-operative and business-minded approach will be brought to bear so that Bermuda remains in compliance with the highest international standards. We expect that any regulatory enhancements will be undertaken in a sensible and pragmatic way.
British Virgin Islands
What are the typical PE structures used in BVI and which sectors are most represented in the jurisdiction?
In the British Virgin Islands (BVI) private equity funds, now termed private investment funds (PIFs), are typically closed-ended and ordinarily structured either as BVI limited partnerships under the Limited Partnership Act, 2017 (LP Act) or as companies with limited liability under the BVI Business Companies Act 2004 (BCA). Alternatively, a PIF may be structured as a segregated portfolio company (SPC) under the Segregated Portfolio Companies (BVI Business Company) Regulations, 2018 or as a unit trust created under a deed of trust.
The LP Act limited partnership vehicle (LP) is a relatively new form of BVI vehicle which came about in January 2018. It has proven to be an attractive option. The LP offers PE fund managers commercial, flexible and innovative provisions and structuring options, including the ability to be formed with or without separate legal personality, making it suitable for both funds and carried distribution vehicles. The limited partnership agreement (LPA) will ordinarily specify investment amounts and capital contributions due by each limited partner and may deal with any leveraging parameters. As in most LP funds, investors join as limited partners with their liability limited to the amount of their contribution and/or any unpaid commitment to the LP.
The LP must have at least one general partner, often controlled by the PE fund manager, who is responsible for managing the LP. The general partner is liable for the unpaid debts and liabilities of the LP incurred whilst it is the general partner. There may be multiple general partners of a PIF and each is jointly and severally liable. Subject to any contrary provisions in the LPA, the general partner is only liable for the obligations of the LP to the extent that the LP is unable to meet those obligations. For these reasons, the general partner of a BVI LP PIF is typically a limited liability company acting as a 'liability blocker' to prevent liability from flowing higher up the chain of ownership. There is no requirement that the general partner company be incorporated or otherwise established in the BVI.
There are now approximately 373,000 active BVI limited liability companies. This presents another attractive structuring option both for the fund vehicle itself and certainly for asset holding vehicles held by the PIF. A BVI company can elect its classification for US Federal tax purposes. BVI corporate law has done away with the share capital concept and shares can be issued with or without par value.
The SPC structure will appeal to fund managers looking to establish a number of sub-funds that share many similar features, but may serve to fund separate projects with differing risk classifications. Each segregated portfolio can have a different investment objective, invest in different asset classes, or be hedged against different currencies. The statutory basis for the segregation between portfolios provides comfort to investors that each portfolio is properly ring-fenced.
The sectors targeted by, and the geographical focus of, BVI PE funds are myriad and include venture capital investments into technology and digital assets, resources/mining, real estate, pharmaceutical and healthcare and financial services in most jurisdictions including emerging markets and LatAm, subject to sanctions and other risk considerations.
Are there any specific legislative provisions or regulatory regimes in BVI that you believe are attractive to and commonly used by PE clients?
The regulatory landscape in the BVI provides numerous options for PE fund managers. The Securities and Investment Business Act, 2010 (SIBA) is the primary legislation and requires any person who carries on 'investment business' of any kind in or from within the BVI to obtain a licence from the Financial Services Commission (FSC). The regime has a broad application due to the wide definition of 'investment business' and because a BVI LP or company is deemed to be carrying on investment business in the BVI even if all or a substantial part of that business is conducted outside the BVI.
Where fund managers, investment advisers or fund administrators are established outside the BVI, they and their directors and officers will not normally need to be registered or licensed in the BVI, provided that they have no physical presence in the BVI and that the PE fund has no presence in the BVI, apart from having its registered agent, registered office and authorised representative in the BVI.
In circumstances where a manager, adviser or administrator is established in the BVI and carries out services for clients other than members of its group, those functionaries will ordinarily be required to be licensed by the FSC under SIBA as carrying on 'investment business'.
An alternative option to registration under SIBA is to register as an 'approved manager' under the BVI's Investment Business (Approved Managers) Regulations. This provides a lighter touch regulatory regime than that available under SIBA, (e.g. no requirement to appoint an auditor). The approved manager regime is available for BVI entities that act as investment managers or advisers to closed-ended funds which meet the characteristics of a public or private open-ended fund (excluding redemption rights and other aspects) and, in each case, whose aggregate assets under management do not exceed USD1 billion or its equivalent in another currency.
A welcome development has been a clear determination by the FSC that the regulator does not expect family offices to apply for registration as a PIF. This is the case even if, on the surface, an entity within the structure ‘ticks the boxes' as a PIF (i.e. it (i) has pooled investor funds; (ii) holds diversified assets; and (iii) issues shares, which will entitle the BVI companies to an amount computed by reference to their share in the assets of the pooled vehicle). We recently put a family office structure to the FSC that carried all the characteristics of a PIF, but the definitive factor was that all investors/beneficiaries were from the same family; it was clearly intended to operate as a family office and not as a PE fund.
Are there any challenges posed by regulatory regimes in BVI and how have PE clients responded to them?
Following the actions of the European Union (EU) Code of Conduct Group and the Organization for Economic Co-operation and Development (OECD) under the OECD's global standard on Base Erosion and Profit Sharing (BEPS), the Economic Substance (Companies and Limited Partnerships) Act, 2018 (ESA) came into effect in the BVI on 1 January 2019 and the Rules on Economic Substance in the BVI (Rules) as published by the BVI International Tax Authority (ITA) in October 2019 (as amended on 10 February 2020). The ESA and the Rules are measures that require certain entities carrying on the business of one or more "relevant activities" as defined under the ESA to have adequate and appropriate economic substance in the BVI.
Collective investment scheme activities are not included in "relevant activities" for the purposes of the ESA and the Rules. However, fund management itself is a "relevant activity", with the result that if the PE fund manager is a BVI company or LP, it must perform the core-income generating activities of fund management in the BVI. These core-income generating activities are taking decisions on the holding and selling of investments; calculating risks and reserves, taking decisions on currency or interest fluctuations and hedging positions and preparing relevant regulatory or other reports for government authorities and investors.
As a further consequence of the EU's focus on BEPS, the Securities and Investment Business (Amendment) Act, 2019 came into effect on 31 December 2019, introducing the 'private investment fund' regulatory regime for private equity and other closed-ended funds discussed above. Prior to these amendments, private equity and closed-ended funds were unregulated. A PIF is required to make a filing with the FSC, and will receive "recognition" by the FSC, provided that it meets certain criteria, including that it is lawfully incorporated, registered, formed or organised under the laws of the BVI or of a country outside the BVI; the constitutional documents of the fund specify that the fund is not authorised to have more than 50 investors, or an invitation to subscribe for or purchase fund interests shall be made on a private basis only, or the fund interests shall be issued only to professional investors with a minimum initial investment (other than for exempted investors) as may be prescribed in the regulations (currently USD100,000).
A PIF will be obliged to operate in accordance with any restrictions on numbers or type of investors, or on the offering of interests, set out in its constitutional documents, and to maintain financial records.
Existing closed-ended funds had until 1 July 2020 to become compliant.
BVI closed-ended funds have historically been offered and operated subject to limits at least as restrictive as those now set out in the law, so it is very unlikely that many PE funds will have to change what they are doing. The filing requirement is broadly the same as the one already applying to many open-ended funds in the BVI and other international financial centres, so it is unlikely to prove too difficult or expensive for funds to comply with in the future.
Are there any anticipated legislative or regulatory changes in BVI that are likely to impact BVI's appeal to PE clients
Innovators involved in digital assets have strongly favoured BVI as a jurisdiction. In response to this growing appeal, the FSC launched the BVI regulatory sandbox on 31 August 2020, signalling the BVI's intention to become a leading international hub for innovation and emerging technologies.
The regulatory sandbox creates fertile ground for venture capital entrepreneurs and others interested in investing in these emerging technologies. Coupled with the growing appeal of the modern and innovative BVI LP structure and the already existent preference for BVI companies, we have high expectations for the regulatory sandbox.
What are the typical PE structures used in the Cayman Islands and which sectors are most represented in the jurisdiction?
The preferred Cayman Islands vehicle used for private equity is the exempted limited partnership, which affords limited liability status to its limited partner investors subject to them not taking part in the conduct of the business of the partnership. The Exempted Limited Partnership Law, though derived from English law, was intended to provide symmetry with the corresponding Delaware legislation, making it an attractive private equity vehicle for funds globally and allowing a Cayman fund to mirror its counterparts in other jurisdictions.
Alternative structures that can be used for private equity are exempted companies or segregated portfolio companies (SPCs). SPCs can be an attractive alternative because, under Cayman law, by separating assets and liabilities into distinct pools funds can avoid the expense of incorporating separate companies in order to obtain the same effect. We are also seeing an increase in the use of limited liability companies (LLCs). The LLC can offer an appealing alternative for manager, general partner, blocker, aggregator and holding vehicles.
With its numerous and flexible structuring options, the Cayman Islands remains a popular offshore jurisdiction in which to domicile private equity funds across a comprehensive range of sectors. Cayman continues to see robust private equity activity across all sectors, in particular in the financial, oil and gas, health care and industrial sectors.
Are there any specific legislative provisions or regulatory regimes in the Cayman Islands that you BELIEVE are attractive to and commonly used by PE clients?
The Cayman Islands maintains a robust yet proportionate legislative and regulatory framework and has long been committed to implementing and exceeding best international practices. In recent years, the Cayman Islands has adopted a number of notable regimes, including those pertaining to comprehensive automatic exchange of information, identification of beneficial owners, economic substance, enhanced anti-money laundering and terrorist financing regulation and data protection.
In addition, private equity funds can avoid specific structuring issues in their transactions because of the Cayman Islands' tax-neutral status and the fact that there are no foreign investment restrictions, minimum capitalisation requirements or financial assistance restrictions.
Are there any challenges posed by regulatory regimes in the Cayman Islands and how have PE clients responded to them?
The Private Funds Law, 2020 requires private fund vehicles to register with the Cayman Islands Monetary Authority (CIMA) within 21 days of accepting capital commitments from investors but, in any event, prior to the fund accepting capital contributions from investors for the purposes of investments. More than 12,700 Cayman Islands private funds registered with CIMA between 16 May and 7 August 2020. The registration process has not been unduly burdensome or costly and private equity clients have subsequently benefitted by being able to give their investors and counterparties confidence that they are regulated in a jurisdiction with world class standards in transparency, best market practice and regulatory standards.
As the regulatory framework becomes more complex, an increasing number of fund managers will likely look to outsource compliance functions, such as AML/KYC verification and tax transparency reporting obligations, to third-party specialists, allowing management companies to dedicate more resources to their core investment-focused activities.
Are there any anticipated legislative or regulatory changes in the Cayman Islands that are likely to impact Cayman's appeal to PE clients?
In parallel to the evolving regulatory landscape, the Cayman Islands is well placed to maintain its position as the principal offshore jurisdiction for private equity and can cater to a diverse profile of funds, sponsors and investors who are operating in an increasingly complex, competitive and multi-jurisdictional context.
As the legislative and regulatory framework continues to evolve, we envisage further enhancements and pro-active legislative changes will be made to those that apply to funds, including private equity vehicles, but always with a view to maintaining the Cayman Islands' status as a high quality and popular offshore centre whilst always maintaining a pragmatic and commercial approach to business.
What are the typical PE structures used in Guernsey and whICH sectors are best represented in the jurisdiction?
Private equity funds are typically structured as closed-ended Guernsey limited partnerships under the Limited Partnerships (Guernsey) Law, 1995 (LP Law) with a Guernsey incorporated general partner, which may or may not delegate certain of its investment management duties to a regulated investment manager. Likewise, the investment advisory function is often delegated. The fund must appoint a locally licensed administrator.
Limited partnerships are the most common choice of vehicle as they provide considerable flexibility in the structuring and operation of the funds and, importantly, offer both tax transparency and limited liability for limited partners.
Other structures used to a lesser extent for private equity funds include Guernsey limited companies incorporated under the Companies (Guernsey) Law, 2008 (Companies Law), typically where a listing is required. Whilst corporate vehicles are used more frequently for hedge funds, the Companies Law allows for a number of different forms of company, including incorporated cell companies and protected cell companies. These are commonly used for funds wishing to establish a number of sub-funds that share many similar features. In this way, the cells can each have different investment objectives, invest in different asset classes, or be hedged against different currencies. The statutory basis for the segregation between cells provides comfort to investors that each cell is properly ring-fenced.
Unit trusts are also occasionally used as fund structures, but this is becoming increasingly rare.
The sectors targeted by Guernsey private equity funds are numerous and include resources/mining, real estate, pharmaceutical, travel, student accommodation and hospitality.
Private equity firms that use Guernsey have a wide range of investment strategies, including venture capital, buyout, mezzanine capital and distressed debt. The net value of private equity funds in Guernsey at 31 March 2020 stood at £188.4 billion.
Are there any specific legislative provisions or regulatory regimes in Guernsey that you BELIEVE are attractive to and commonly used by PE clients?
There is a wide range of regulatory options for funds from the light touch private investment fund (PIF) to the more comprehensive collective investment scheme established in accordance with the Protection of Investors (Bailiwick of Guernsey) Law 1987, as amended (POI Law).
Most Guernsey private equity funds will constitute closed-ended collective investment schemes for Guernsey purposes and therefore must be registered or authorised by the Guernsey Financial Services Commission (GFSC) under the POI Law.
For registered funds, one application is submitted to the GFSC. The application includes copies of final or near final fund documents and is processed by the GFSC within three business days.
For a closed-ended authorised fund, an application to the GFSC is necessary for consent under the Authorised Closed-Ended Investment Scheme Rules 2008. An authorised closed-ended fund is authorised by the GFSC following a three stage application process that usually takes four weeks. However, an authorised fund can elect to be a qualified investor fund (QIF). A QIF is approved by the GFSC within three business days following receipt of the application documents.
For a PIF, the GFSC will grant approval within one business day. A PIF need not have an offering document and need not submit its fund documents to the GFSC. The GFSC relies on certain declarations made by the manager of the PIF (which must be a Guernsey entity) about the investors' ability to suffer loss.
Guernsey limited partnerships are tax transparent for Guernsey tax purposes and are therefore not treated as taxable entities in Guernsey. Companies and unit trusts registered or authorised as collective investment schemes by the GFSC are eligible to apply for exempt tax status.
Are there any challenges posed by regulatory regimes in Guernsey and how have PE clients responded to them?
New private equity promoters must be approved as promoters by the GFSC before establishing a fund, and the GFSC has a policy of selectivity with respect to these promoters. Furthermore, directors appointed to an entity licensed under the POI Law must be pre-approved by the GFSC. This process is largely undertaken by directors and promoters completing personnel questionnaires through the GFSC's online portal.
Like other offshore jurisdictions, Guernsey has implemented an economic substance regime, contained in The Income Tax (Substance Requirements) (Implementation) Regulations 2018, as amended (Substance Regulations), which came into force on 1 January 2019. The Substance Regulations are designed to ensure that certain Guernsey tax resident companies are carrying on real economic activity in Guernsey in respect of their profits and income.
Certain exempt companies (e.g. entities beneficially owned by collective investment schemes, and entities established for the purpose of certain specified activities relating to a specific collective investment scheme) will be subject to substance requirements if they are an in-scope company, a pure equity holding company or an IP company. Regulated funds will continue to be out of scope of substance requirements, although subsidiaries of regulated funds can now be subject to the requirements even if they have exempt status.
Substance requirements depend on which of the categories apply to the resident company or exempt company. Given that the POI Law and the associated rules already require a high level of governance and substance from a regulatory perspective, it is generally expected that in-scope companies which conduct fund management will be able to readily comply with the substance rules in relation to fund management.
The following entities are not in scope of the substance requirements:
- collective investment schemes; and
- non-corporate entities such as limited partnerships, limited liability partnerships and trusts (although a partner in a partnership can be subject to substance requirements if the activities of the partnership are attributed to it).
Are there any anticipated legislative or regulatory changes in Guernsey that are likely to impact Guernsey's appeal to PE clients?
Following increased interest from limited partnerships (particularly funds) wishing to migrate to Guernsey from other jurisdictions, the Limited Partnerships (Guernsey) (Migrations) Regulations, 2020 came into force on 30 July 2020. This law creates a statutory mechanism to allow an unincorporated foreign limited partnership to continue into Guernsey as an unincorporated limited partnership governed by the LP Law.
Additionally, the GFSC has launched a fast track application regime for managers of overseas collective investment schemes to make it simpler for them to apply for a Guernsey licence. The intention of the regime is to combine (where appropriate) the consent to migrate the manager into Guernsey with the licensing process within a 10-day review period or, alternatively, the licencing of a newly incorporated Guernsey entity, also within 10 days.
More broadly, the POI Law is the subject to the ongoing "Revision of Laws" project which will amend Guernsey's existing regulatory laws across the banking, fiduciary, insurance and investment sectors. It is anticipated that the revised laws will come into legislative effect within the next two years.
What are the typical PE structures used in Hong Kong and whICH sectors are best represented in the jurisdiction?
For the Asian market, the Cayman Islands has been recognised as the leading jurisdiction for establishing private equity funds in light of its sophisticated legislative and regulatory framework, tax-neutral status and experienced professional service providers.
Asian-based fund sponsors often structure their private equity funds (e.g. real estate funds, infrastructure funds, technology funds and healthcare funds) as Cayman Islands exempted limited partnerships (ELPs) under the Exempted Limited Partnership Law (2020 Revision) (Law), usually with a Cayman Islands exempted limited company acting as the general partner. The choice of such fund structure is mainly due to the flexibility that a Cayman ELP can offer. The key terms of a private equity fund, including carried interest and distributions, preferred returns, default provisions and clawbacks, can be addressed in the ELP agreement. In addition, the Law provides that the liability of a limited partner is generally limited to its contributed capital and any outstanding capital commitment, making Cayman the ELP an investment vehicle of choice for investors in Asia, especially those in China and Singapore.
*Appleby is registered as a Foreign Law Firm in Hong Kong and does not practice Hong Kong Law.
Isle of Man
What are the typical PE structures used in Isle of Man?
Private equity vehicles are typically established in the Isle of Man as limited companies (which may be protected cell companies) or limited partnerships and may be structured to fit within or outside the Isle of Man funds regime. Providing services to a collective investment scheme, such as acting as its asset manager, is a regulated activity in the Isle of Man, however exemptions are available if certain conditions are met.
Closed-ended Investment Companies
A closed-ended investment company (CEIC) is a body corporate which does not issue redeemable shares and seeks to raise capital from participants for the primary purpose of investing that capital in accordance with a defined investment policy. Provided that a CEIC is not promoted to the public or any section of the public, it will not be a "collective investment scheme" under Isle of Man law.
CEICs do not need to register with the Isle of Man Financial Services Authority (IOMFSA) and do not need to be audited or appoint a money laundering reporting officer (MLRO). There is no restriction on how a CEIC manages its capital or the sectors in which it invests. Unless conducting some other form of relevant activity, which would not ordinarily include the types of investments commonly made by a private equity firm, a CEIC is not subject to the Isle of Man's Anti-Money Laundering and Countering the Financing of Terrorism Code 2019 (AML Code).
A CEIC may be incorporated under the Companies Acts 1931-2004 (1931 Act) or the Companies Act 2006 (2006 Act). The 2006 Act is a popular vehicle for private equity structures as if offers great flexibility: no requirement for an authorised share capital; no capital maintenance requirements; no prohibition against financial assistance; reduced compulsory filings (so less publicly available information); less prescriptive accountancy requirements; no distinction between public and private companies; simplified offering document requirements; the ability to have a single director and/or corporate director; and no requirement to hold an annual general meeting.
For these reasons, private equity funds and co-investment vehicles are commonly incorporated as CEICs under the 2006 Act.
Protected Cell Companies
Both the 1931 Act and the 2006 Act allow companies to be incorporated as, or converted into, protected cell companies (PCCs). PCCs provide statutory segregation of assets and liabilities between cells, whilst the company remains a single legal person. In this way, the cells can each have different investment objectives, invest in different asset classes and/or be denominated in, and hedged against, different currencies. The statutory basis for the segregation between cells provides comfort to investors that each cell is properly ring-fenced.
A limited partnership (LP) is established under the Partnership Act 1909 and must be registered with the Isle of Man Companies Registry in order for the limited partners to have limited liability. LPs are tax transparent as a matter of Isle of Man law.
LPs also benefit from a flexible legal framework and may be established with or without legal personality. There is minimal statutory overlay in relation to the operation of an Isle of Man LP, so that private equity sponsors have broad flexibility to tailor a fund's LP agreement to their specific needs, as well as those of their investors. The legislation offers the flexibility to return capital prior to the winding up of the LP and, to provide comfort to investors, sets out a "white-list" of activities (including advising the general partner) that will not result in limited partners being regarded as involved in the management of the LP and thereby prejudicing their limited liability status.
LPs are typically regarded as collective investment schemes for the purposes of Isle of Man law, so should be structured as exempt schemes or another class of Isle of Man fund (discussed below).
Are there any specific legislative provisions or regulatory regimes in Isle of Man that you BELIEVE are attractive to and commonly used by PE clients?
As noted above, corporate funds can be structured so that they are not required to register with the IOMFSA or to appoint an MLRO. Corporate funds other than CEICs and LPs are subject to some degree of regulation. The nature of that regulation depends on the regulatory classification.
An exempt scheme is a collective investment scheme under the Collective Investment Schemes Act 2008 (CISA). An exempt scheme is not required to be registered with the IOMFSA and is subject to very few regulatory constraints. It must have fewer than 50 participants, and its constitutional documents must (a) prohibit the making of an invitation to the public to become or offer to become participants in the scheme and (b) not imply that the scheme is regulated. Exempt schemes may be established as LPs or companies with redeemable shares (including as PCCs).
Exempt schemes do not have to be audited or appoint a custodian or an MLRO, but they are subject to the AML Code. Isle of Man funds will typically delegate compliance with the AML Code to a local service provider that is licensed by the IOMFSA and subject to the AML Code.
Alternatively, the specialist fund and qualifying fund are also options for private equity houses wishing to establish a fund in the Isle of Man. The specialist fund and qualifying fund are not subject to any form of pre-approval or authorisation process, but must be registered with the IOMFSA within ten working days of launch. There are no regulatory restrictions on the types of investments that a specialist fund or qualifying fund can make.
A specialist fund must have a minimum initial investment requirement of at least USD100,000, and investors must certify that they are sufficiently experienced and fall into one of the categories of permitted investor which cover institutional investors, affiliates of the fund's promoters and managers and individuals with a net worth in excess of USD1m.
The qualifying fund is similar to a specialist fund, but without a prescribed minimum initial subscription level. It is subject to additional requirements in respect of its management and custody.
Are there any challenges posed by regulatory regimes in the Isle of Man and how have PE clients Responded to them?
Like other offshore jurisdictions, Isle of Man has implemented an economic substance regime, contained in Part 6A of the Income Tax Act 1970. Non-corporate entities such as LPs are outside the scope of the Isle of Man's substance regime, although corporate partners in an LP may be in scope if they are tax resident in the Isle of Man.
Fund management companies are within the scope of the economic substance requirements, but a fund itself will generally not be. If a fund management company is licensed by the IOMFSA, the licensing requirements are such that it is likely to satisfy the economic substance regime. Forthcoming changes to the legislation are expected to bring self-managed funds within scope.
What are the typical PE structures used in Jersey and which sectors are best represented?
Jersey has long been a jurisdiction of choice for private equity firms for both establishing funds to raise capital as well as the deployment of capital through Jersey acquisition and holding structures.
Private equity funds are commonly structured as Jersey limited partnerships under Limited Partnerships (Jersey) Law 1994 (often with a Jersey incorporated general partner) because they provide considerable flexibility in the structuring and operation of the funds and, importantly, offer both tax transparency and limited liability for limited partners. The sectors represented in Jersey are typical of private equity more generally and include real estate, pharmaceutical, travel and hospitality.
A myriad of private equity acquisition and holding structures involve Jersey companies incorporated under Companies (Jersey) Law 1991. A typical Jersey acquisition structure for private equity firms acquiring an asset or target company would consist of a three company vertical stack – 'Holdco', 'Midco' and 'Bidco'. Private equity firms typically hold preferred equity in the structure though they may also seek to hold loan notes in addition to or instead of preferred equity. Holding through preferred equity is advantageous in that it gives the holder of shares greater control over the affairs of the company. A key advantage of loan notes is that they rank above share capital in an insolvency situation.
It is also common, in circumstances where a private equity firm acquires a business with employees in situ, for a separate Jersey company to be incorporated to act as a warehousing vehicle for management incentive programmes.
Are there any specific legislative provisions or regulatory regimes in Jersey that you BELIEVE are attractive to and commonly used by PE clients?
The wide range of regulatory options for funds from the relatively light touch Jersey private fund to the more comprehensive collective investment fund established in accordance with Collective Investment Funds (Jersey) Law 1988 continue to be very popular with private equity firms as vehicles for raising capital. As of December 2019, the net asset value of single class private equity funds under administration in Jersey stands at £136 billion.
A number of features of Companies (Jersey) Law 1991 are beneficial to private equity firms, facilitating the fluid flow of funds and capital through Jersey acquisition and holding structures whilst also imposing less stringent administrative requirements. Examples include:
- distributions (dividends) can be paid by a Jersey company so long as the directors are satisfied of the company's solvency on a 12-month forward-looking cash flow basis (i.e. there is no concept of distributable reserves);
- other than a nominal capital account or any capital redemption reserve, distributions can be funded out of any account of a Jersey company, including a share premium account; and
- private companies in Jersey are not required to file accounts.
The clear and simple tax-neutral system for Jersey tax resident structures remains a draw to private equity investors who appreciate the certainty that this regime can offer.
The International Stock Exchange is a very popular platform for private equity investors to list loan notes issued by both Jersey and non-Jersey issuers.
Are there any challenges posed by regulatory regimes in Jersey and how have PE clients responded to them?
The Taxation (Companies – Economic Substance) (Jersey) Law 2019 (ES Law) came into force on 1 January 2019, imposing new economic substance tests which require fund managers to demonstrate that (i) they are directed and managed in Jersey in relation to that activity; (ii) having regard to the level of relevant activity carried on in Jersey, they have adequate employees, expenditure and physical assets in Jersey proportionate to the activities carried on in Jersey; and (iii) all of the “core income-generating activities” they undertake are carried out in Jersey. The same regime applies to any Jersey tax resident company that is in scope of the ES Law.
While the ES Law has introduced a new area of compliance monitoring and reporting, it has played to Jersey's strength as a jurisdiction where governance and management have long been an essential and important part of the business environment. One response has been the migration or tax migration of non-Jersey companies into Jersey, to benefit from the strong governance infrastructure available in Jersey.
Are there any anticipated legislative or regulatory changes in Jersey that are likely to impact the appeal of Jersey to PE clients?
In response to increased interest from limited partnerships (particularly funds) wishing to migrate to Jersey from other jurisdictions, the Limited Partnerships (Continuance) (Jersey) Regulations 2020 came into force on 17 July 2020. The new regime creates a statutory mechanism allowing an unincorporated foreign limited partnership to continue into Jersey as an unincorporated limited partnership governed by the Limited Partnerships (Jersey) Law 1994.
When the Limited Liability Companies (Jersey) Law 2018 comes into force later this year, it will be possible to incorporate limited liability companies in Jersey. Limited liability companies are a very common business entity in the US and other jurisdictions where they have a broad application such as being used for general partners, management vehicles, carried interest vehicles, portfolio holding vehicles and other private equity vehicles. The introduction of limited liability companies in Jersey is expected to be popular with US private equity firms and their advisors due to their familiarity with such vehicles.
What are the typical PE structures used in Mauritius?
In an endeavour to further promote its international financial centre, the Mauritian Government made possible the setting up of private equity schemes through investment companies, also known as "global funds".
Under the Mauritian Companies Act 2001 (Companies Act), an investment company is a company "whose business consists of investing its funds principally in securities with the aim of spreading investment risks and giving members of the company the benefit of the results of the management of its funds". Under this broad definition sit two different types of funds: open ended funds (or collective investment schemes (CIS)) and closed-ended funds (commonly known as private equity funds).
Private equity funds in Mauritius are typically formed as limited partnerships or as limited liability companies and are structured as closed-ended investment vehicles. The structure can be tailored to specific needs, e.g. (i) a typical fund structure; (ii) an umbrella fund; (iii) a master-feeder structure; and (iv) a protected cell company.
The Mauritius regulatory structure provides a straightforward process for establishing a closed-ended fund. A company licensed by the Financial Services Commission (FSC) as a Global Business Licence company applies under the Securities (Collective Investment Schemes and Closed-End Funds) Regulations 2008 and under the Securities Act 2005 (Securities Act) for the approval, registration, recognition of a closed-ended fund.
The application for authorisation as a global scheme must be accompanied by an offering document, the constitutive documents of the scheme, the latest audited financial statements (as applicable), a personal questionnaire for each of the officers or proposed officers of the scheme, information on the scheme's anti-money laundering and counter terrorist-financing measures and the specified fee. Notably, a prospectus is not required for an offer or issue of securities that is a private placement or where the offer or issue of securities is made only to sophisticated investors.
A mandatory condition in respect of a closed-ended fund is that at all times it must have a CIS manager. However, where the fund is self-managed, its board of directors becomes subject to all provisions relating to a CIS manager.
Mauritius private equity funds are particularly active in Africa, with a focus on natural resources, clean technology, real estate and infrastructure development. Institutional investors are showing increasing confidence in Mauritius as a premier international financial centre.
Are there any specific legislative provisions or regulatory regimes in Mauritius that you BELIEVE are attractive to and commonly used by PE clients?
Mauritius has negotiated a number of double taxation avoidance agreements (DTAs) making it an attractive location for investment. A DTA will typically capture either a full or a partial tax-sparing clause which enables a company to offset tax which it has incurred in one of the two jurisdictions against the tax which is due in the other jurisdiction. Thus, where a Mauritian-sourced dividend is exempt from tax under the tax incentive provisions, a foreign investor is entitled to credit a notional amount of Mauritian tax against the tax payable in the investor's country. This is particularly attractive to an investor who thereby reduces his or her tax liability.
The benefits of DTAs can be summarised as follows: (i) they eliminate double taxation through a tax credit equivalent to Mauritian tax; (ii) they reduce withholding tax on dividend and royalty payments; (iii) they provide exemption from capital gains tax; and (iv) they offer possible exemption from interest payments on loans.
In order to avail itself of the benefits of a DTA, a Mauritian company must apply for a Tax Residence Certificate with the Mauritius Revenue Authority (MRA). This in itself implies that the Mauritian company must satisfy the MRA that it is resident for tax purposes in Mauritius and therefore demonstrate that its effective place of management and administration is situated in Mauritius.
Within the Mauritian international financial sector, only a company which is licensed by the FSC as a Global Business Company is treated under the Income Tax Act as resident in Mauritius for tax purposes. However, in order to maintain this status, such a company must at all times display the features identified by the FSC as elements which satisfy the test for effective management being in Mauritius. The most common features are having two directors who are resident in Mauritius and the central bank account being in Mauritius.
A Tax Residence Certificate is valid for one year only and therefore needs to be renewed.
Are there any anticipated legislative or regulatory changes in Mauritius that are likely to impact the appeal of Mauritius to PE clients?
Recent amendments to Mauritius' anti-money laundering and counter-terrorist financing regime have demonstrated its commitment to meeting the highest international standards. This appears to be drawing the interest of institutional investors, many of whom are looking for gateways to investment in Africa. We believe that Mauritius' efforts to meet international standards will be instrumental in further enhancing its attractiveness to PE firms.
Examples of recent PE mandates in our jurisdictions
BRITISH VIRGIN ISLANDS
In working recently with private equity investor clients investing into a BVI company PE fund, we have witnessed the growing attraction of sustainable investing, evidenced by the adoption of environmental, social and governance (ESG) considerations by PE fund managers and investors.In setting-up and operating BVI ESG funds, it is the fund's constitution which sets out the fund's ESG investment and operating principles and provides the mechanism of enforcing them.
This is achieved primarily by the inclusion of bespoke provisions in a BVI PE ESG fund's constitution (LPA for an LP or articles of association for a BVI company) dealing with environmental, social and/or health and safety objectives and schedules identifying prohibited activities which the fund will not invest in or finance, such as any activity, production, use, distribution, business or trade involving, amongst others:
Further, the ESG fund's constitution may restrict the countries in which the fund may invest in or finance; e.g. it may be limited to businesses operating in States listed in the Development Assistance Committee of the OECD.
The BVI has, to date, elected not to enact specific legislation incorporating ESG principles and to rely instead on the freedom and flexibility offered in its corporate, partnerships and trust structures and funds regime so as to provide the ESG fund manager with the maximum versatility in structuring the ESG fund. The BVI, as a jurisdiction, will no doubt continue to attract ESG funds as sustainable investing becomes an increasingly popular alternative to traditional investment products in the EU and globally.
Private equity-backed acquirers continue to be attracted to targets in the offshore fiduciary and fund administration space. Recent examples include Bank of N.T. Butterfield & Son Limited's acquisition of Deutsche Bank's Global Trust Solutions business and CVC Capital Partners' acquisition of the TMF Group from DH Private Equity Partners for a consideration of EUR 1.75bn.
Appleby Hong Kong recently acted for a major Chinese private equity and alternative investment firm on its establishment of a private equity fund in the form of a Cayman ELP, investing in the hydrogen energy and fuel cell vehicle sectors.
The Hong Kong Government has recently enacted the Limited Partnership Fund Ordinance (LPFO) which came into operation on 31 August 2020. The LPFO introduces a new limited partnership fund regime (LPF Regime) that follows the Cayman model. The LPF Regime is arguably designed to provide certain attractive benefits to Hong Kong-based sponsors, but we expect that the Cayman ELP structure will remain the popular choice of investment vehicle in Asia, China in particular, given its long-standing high reputation and the familiarity of such structures amongst Chinese fund sponsors and investors.
Appleby Jersey acted for a leading global private equity and alternative investment firm on its taking private of Atlantic Leaf Properties Limited, an income-focused UK REIT (targeting industrial and logistics property in strategic regions and sectors of the United Kingdom) which, prior to completion of the acquisition, maintained a dual listing on the Johannesburg Stock Exchange and Stock Exchange of Mauritius.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.