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Allen & OveryAlvarez & VicensAngel Capital AssociationBain CapitalDebevoise & PlimptonEmerging Capital PartnersEVCAFreshfields Bruckhaus DeringerGattai Minoli Agostinelli & PartnersUdo Udoma & Belo-OsagieWalder Wyss

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Private Equity and Venture Capital Guide

2015

SURVEY PARTICIPANTS

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DOMINICAN REPUBLIC GERMANY ITALY

GLOBAL

NIGERIA SWITZERLAND UNITED STATES

ANGEL CAPITAL ASSOCIATION BAIN CAPITAL

EMERGING CAPITAL PARTNERS EUROPEAN PRIVATE EQUITY AND VENTURE CAPITAL ASSOCIATION

INTRODUCTION

IFLR SURVEY | PRIVATE EQUITY AND VENTURE CAPITAL 2015 1

A strong end to the year for private equity lies ahead. Many funds have cash – and theyare looking to put it to work. Most are seeking opportunities to increase returns andare becoming more willing to try new approaches, strategies and partners to do so.

They are facing competition, however. A growing number of pension funds and otherinstitutional investors are adopting PE tactics to their own ends. The number of cross-bordertransactions is likely to increase too, as firms look to get away from some stagnating or falteringmarkets.

This will likely mean even more emerging market activity, where funds will have to facemore risk as well as the need to overcome potentially unfamiliar political and regulatory hurdles.

In 2014 the market saw an increase in partnerships between PE, pensions and sovereignwealth funds. As these increase and move forward, both sides must have an understanding ofhow to form these partnerships, share liabilities and craft exit routes.

Structural developments continue apace too. In Asia, increased regulation and limitedpartner needs has led to longer, and highly negotiated side letters. Meanwhile, in Europe,regulators are becoming more open to private equity investing in financial institutions. Butsuccessful investments require navigation of the complex regulatory landscape.

Because of this IFLR’s private equity guide examines recent trends and new developmentsin the sector. Articles and Q&As by industry leaders explore structural and regulatory changesthat will impact private equity over the coming year.

We hope this guide will give you a clear and in-depth look at major changes and offerexclusive analysis of market developments. It includes exclusive coverage from PE generalcounsel, industry associations and leading law firms.

Zoe Thomas Americas editor

Putting funds to work

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“A growing number of pension funds are adopting PE tactics to their own ends

CONTENTS

WWW.IFLR.COM IFLR REPORT | PRIVATE EQUITY AND VENTURE CAPITAL 2015 3

4

Angel Capital Association

A missedopportunity

8

Emerging Capital Partners

Opportunity Africa

10

12

EVCAA better union

In-house complianceDual-hatted woes

6

Bain Capital

A shifting landscape

Country reports

AFRICAAfrica’s dry powder 13Danielle Myles, IFLR editor

DOMINICAN REPUBLICRemoving the chains 15Francisco Vicens De León and Carolina Figuereo SimónAlvarez & Vicens

GERMANYWinds of change 20Markus Käpplinger and Roman KastenAllen & Overy

GLOBALA force for good in FIG? 22David Higgins, Sarah-Jane Mulryan and Emma RachmaninovFreshfields Bruckhaus Deringer

ITALYA bright new day 25Bruno Gattai and Cataldo G Piccarreta Gattai Minoli Agostinelli & Partners

NIGERIABlazing the trail 28Folake Elias-Adebowale, Christine Sijuwade and JosephEimunjezeUdo Udoma & Belo-Osagie

SWITZERLANDAttractive structures 32Luc Defferrard and David HadadWalder Wyss

UNITED STATESStaying a step ahead 35Jordan Murray and David O’NeilDebevoise & Plimpton

Market overviews

Contents

EXPERT ANALYSIS ANGEL CAPITAL ASSOCIATION

IFLR REPORT | PRIVATE EQUITY AND VENTURE CAPITAL 20154

I n 2013, the US Securities and Exchange Commission (SEC) issued rulesallowing entrepreneurs to publicly advertise private investment offerings.Lifting the ban on general solicitation has altered the landscape for start-

ups and investors, and has led to inconsistent legal advice. Lawyers repre-senting international issuers looking to raise capital in the US should ensurethat their clients are aware of the general solicitation rules; so that they un-derstand their pros and cons and decide whether or not to take advantage ofgeneral solicitation before they begin contacting angel investors.

General solicitation is one of five initiatives in the Jobs Act Congresspassed in 2012 to help startups access more capital for growth and job cre-ation. The new general solicitation rules, although not discussed as much asequity crowdfunding, have significantly impacted American angel investorsand entrepreneurs – and not in the way Congress intended.

Today, fewer startups are using general solicitation than predicted. Instead,many continue to seek investments privately. Why? The rules come with acatch. Startups that solicit investment publicly must take reasonable steps toverify that all purchasers are accredited investors. Before this rule, accreditedinvestors signed a self-certification form for any private investment. Now,most startups and investors assume that reasonable steps to verify requiresusing safe harbours such as tax returns, W-2s, and brokerage statements forreview by issuing entrepreneurs or a third party such as a lawyer, accountantor broker-dealer.

Naturally, most angel investors aren’t interested in sharing their personalbalance sheets in this way. Beyond privacy issues, it is time consuming, ex-pensive, and would have to be repeated too often (third party verificationsare only good for one calendar quarter).

The impact? Many lawyers not only advise entrepreneurs not to take ad-vantage of general solicitation, but they also advise angel investors not toinvest in generally solicited offerings. Entrepreneurs who fail to properlyverify that investors are accredited could face severe penalties, which in-creases the angels’ risk in an already risky asset class.

SEC clarifies general solicitation confusionFortunately, in the midst of this confusion, Keith Higgins, SEC director ofthe corporation finance division, brought some clarity to angels,entrepreneurs and lawywer when he spoke at the 2014 Angel CapitalAssociation (ACA) Summit. In regard to the reasonable steps section of therule, Higgins stated: “one could almost be under the impression that therule requires that an accredited investor produce his or her tax returns orbrokerage statements in all circumstances. Of course, this is not true… It isimportant to recognise there are actually two paths for complying with therule’s verification requirement”.

One path is the set of safe harbours, but Higgins explained the secondpath: “the principles-based verification method in which the issuer wouldlook at the particular facts and circumstances to determine the steps thatwould be reasonable to verify that someone is indeed an accredited investor”.He further explained that this principles-based methodology (PBM) meansthat less documentation is needed when the issuer knows that the investoris accredited with such membership in an established angel group.

Since Higgins’ speech, ACA developed a certification process for estab-lished angel groups (EAGs). In short, angel investors that are members ofcertified EAGs provide documentation of their membership in these groupsrather than documentation of their wealth or income to entrepreneurs or

A missed opportunityUS regulators have lifted the ban on general solicitation by funds, but market uncertainty has stalledits use. Marianne Hudson from the Angel Capital Association explains why

EXPERT ANALYSISANGEL CAPITAL ASSOCIATION

IFLR REPORT | PRIVATE EQUITY AND VENTURE CAPITAL 2015 5

third parties. The EAG concept is catching on. To date, 17 angel groupsrepresenting hundreds of angels have been certified.

William Carleton, a lawyer who chairs ACA’s public policy advisorycouncil elaborated further on Higgins intent: He mentioned the EAG as anexample of PBM. Providing this process helps entrepreneurs because it says`when you deal with someone who is a member of an EAG, you know manythings about that person that are pertinent – the group has a code of ethics,represents that members are accredited based on long relationships, and wasformed for long term investing, not as a one shot deal in the heat of thepressure of a particular opportunity’.

Carleton encourages more people to consider any type of PBM, notingthat the PBM was developed before the SEC issued the final rules with thesafe harbour provisions.

Where does this leave angels and entrepreneurs?Although some lawyers like Carleton have signed off on PBMs such as EAGsand advise client startups to apply such methods to satisfy the verificationburden of the new rules. Others advise entrepreneurs to only use the safeharbours to avoid possible penalties down the road or offer privateplacements that don’t require the financial verification process, defeatingthe purpose of general solicitation.

This is apparent with angel groups, which invest in almost no generallysolicited offerings, and through online accredited platforms such as Angel-List and CircleUp (which offer both generally solicited and private deals).Both platforms said last year that less than 20% of their deals were adver-tised. Issuers are selecting not to advertise in large part because of regulatoryconcerns, such as verification issues, although Carleton also points outlawyers are also concerned about proposed SEC rules that would requireconsiderable reporting by startups, and would carry heavy penalties for non-compliance.

Another complication hindering the widespread use of general solicita-tion is that its existing definition appears to include so-called demo days.These are university business plan competitions and venture forums by eco-nomic development agency accelerators that have been going on for 20 yearswithout issue. To address this complication, angels, accelerators and venturecapitalists are working with US Senator Chris Murphy (D-Conn) and a bi-partisan group of congressmen on the Halos (Helping Angles Lead OurStartup) Act which would stop demo days from being considered generalsolicitation.

The rules will become increasingly clear as the market adapts, and moredeals will be done through general solicitation. In the meantime, it is im-portant for angel investors and entrepreneurs to make their own decisionsabout whether or not they will invest in or use generally solicited offerings– and to get advice from their own lawyers. There are more questions to askof entrepreneurs about how they are navigating the new world of generalsolicitation and more reasons for all parties to protect themselves with goodlegal advice.

About the authorMarianne Hudson leads the Angel Capital Association (ACA), theworld’s leading professional and trade association focused on fuellingthe success of accredited angel investors and portfolio companies inhigh-growth, early-stage ventures. ACA provides professionaldevelopment, public policy advocacy and significant benefits andresources to its 12,000 individual accredited investors, including 220angel groups throughout North America.

Hudson led the angel initiative at the Kauffman Foundation thatresulted in the founding of ACA’s sister organisation, the AngelResource Institute and also oversaw many of the Foundation’sentrepreneurial education and mentoring programmes designed toensure that more entrepreneurs develop sustainable, innovativebusinesses. An angel investor herself, Hudson is a member of theWomen’s Capital Connection and Mid-America Angels in her homebase of Kansas City. She has worked in the entrepreneurial support fieldfor more than 25 years. She holds a BA in economics and politicalscience from the University of Kansas and an MA in public policy fromRutgers University.

Marianne HudsonExecutive director, Angel CapitalAssociation

T: 913-894-4700E: [email protected]

“The new general solicitationrules have significantly impacted American angel in-vestors and entrepreneurs –and not in the way Congressintended

EXPERT ANALYSIS BAIN CAPITAL


T he private equity environment is changing. Regulations and en-hanced scrutiny are forcing firms to rethink the way they raise funds,invest and interact with their investors. Sean Doherty, general coun-

sel of Bain Capital discusses the effects of these changes and the ways firmsare meeting the challenges.

What are the biggest challenges facing private equity investmentsright now?I think the biggest challenge is sourcing; finding the right deals, in the rightparts of the world, in the right industries and in the right economies. Some ofthe markets around the world are a little bit choppy. The US has been prettystrong, but it could be stronger and other economies are a lot less certain.Finding businesses that will thrive through these cycles is really the chiefchallenge.

We have to search for the right opportunities, so we are not necessarily put-ting the most money to work, but the right money to work for our investors.Then we need to work to build these businesses. Many companies may looklike a good investment, but the nature of the economies around the world nowa-

days is such that you have to work hard to build them. So sourcing a companyis really just the beginning of a very long journey. It’s really not that differentthan it has been for decade, but it is more acute now.

What are the legal challenges on the horizon for private equity? I think there are a few challenges that are front of mind for us. The first are thecontinuing regulatory developments in the US, as the Securities and ExchangeCommission (SEC) has increased its attention on this industry. It’s somethingthat requires a lot of time and attention. This is something that is true of regimesaround the world, particularly in Europe where they are moving into theAlternative Investment Fund Managers Directive (AIFMD) and those securitiesregulations. But we are seeing it in other countries as well, including all acrossAsia.

The second issue that I think will remain a focus around the world, and isindicative of a choppy macro economy, is taxation. Globalisation has led com-panies to operate across borders almost all of the time. Taxation regimes are al-most always country by country. Many of these sovereigns have real revenueneeds. When you put these two things together, it leads to great complexity andoften a lot of unpredictability.

Since the financial crisis have you seen a change in the structure ofinvestments or exits? What are the differences and how do they affectinvestment strategies?Structuring remains a huge focus, largely because of tax regimes all around theworld. We need to make sure that we are able to invest through this complicatedweb. Our business depends on our ability to receive capital from around theworld and deploy it in companies that almost never operate in only one country.And we need to make sure that we have a structure that will work for everyone.

A shifting landscape

Sean Doherty, general counsel at Bain Capital, discusses the biggest concerns for the private equity market

“We welcome transparency with investors and regulators,but those things are best done privately

EXPERT ANALYSISBAIN CAPITAL


With many small and mid-sized companies there is some trouble getting ac-cess to debt capital. Sankaty Advisors, Bain Capital’s credit affiliate, providescapital into mezzanine and smaller deals because there is often a lack of regularbank debt capital for these deals. This is a residual effect of the financial crisis.Good companies and companies with great potential are able to raise capital,but it just may take a little longer.

Bain has made some interesting investment choices that set it apartfrom other private equity firms, including its purchase of 50% of Toms.How do you protect the investment objectives of a fund, while stayingtrue to the goals and outlook of a company like this?What made Toms so attractive is part of what makes it so successful. Its approachto the market and its approach to philanthropy are extremely appealing to itstarget demographic. In the specific case of Toms, this already works together,which is what makes it so exciting to us as an investment.

We look into environmental, social and governance (ESG) issues with all ofour portfolio companies. Toms happens to have a philanthropic mission at thecore of its business mission. ESG is a factor in our normal investment processbecause that is a part of what we are buying for our investors. It is really a dili-gence inquiry more than a structuring process.

What are the most important aspects of a fund’s governancestructure? One change we have experienced since the financial crisis is more engagementby limited partners, and we welcome it. It is a much more robust and transparentengagement then it has ever been.

Our investors are asking how are we helping junior members of our teamdevelop and how are we giving them responsibility, how are we thinking aboutthe capital structures of the companies we buy, and how we are managing ourfund structures and fees. Right now, it is a very open dialogue and we have gov-ernance structures like advisory boards that give us a framework for that dia-logue. But this is something that continues to evolve on a weekly basis with ourinvestors.

Many of the things regulators are asking for are the same things investors arealready requesting, and that general partners (GPs) like us are happy to do. Theyare asking to have an open and transparent dialogue about the ways we do busi-ness, the way we earn money, the way investors earn money, how we choose ourcompanies and how we structure our investments. The regulatory interest inmore disclosure is aligned with our interest of having a dialogue with our in-vestors and with our investors’ interest in learning more about the asset class.

What has been the impact of excess dry powder in the market? Our approach is to only raise the amount of capital we can profitably employon our investors’ behalf over a given cycle. We raise funds of a size we can investwith good returns over a period of several years. These choices are based in parton the amount of dry powder in the market. The amount of available capitalhelps shape our view regarding the optimal investment pace around the world.

The goal isn’t to accumulate as many assets as we can. The goal is to workfor our investors, to get them the kind of returns we think they should be able

to get in an illiquid class like this.

How has banking regulation affected private equity investments in theUS? Are the days of massive leveraged buyouts over, and if so, whatmight take its place? I don’t think that banking regulation, per se, has affected Bain Capital’s business.The restraints on debt capital from the banks have had some effect on theindustry, but we have been able to find other sources of capital to help us investin deals.

As to larger leveraged buyouts, our funds are set up so we can selectively goafter small to medium-size deals, or large deals, through other mechanisms. Wehaven’t seen as many large deals over the last several years, but that doesn’t meanwe wouldn’t be interested in select, larger deals that fit our investment criteria.At the end of the day, the main thing we are focussed on is getting the rightamount of return, over a reasonable time for our investors.

How has additional disclosure scrutiny affected private equity firms?Are there steps that firms can take to offer more transparency whilestill protecting their proprietary strategies? I think the biggest impact of the increased scrutiny comes down to the amountof resources we have to devote to such efforts.

We devote a lot of time now – certainly more than we did 10, 15, or 20 yearsago – focussing on the development of communications material. We spend alot of time on compliance. Senior investment professionals make sure we arereaching out to investors and explaining things thoroughly.

All of this takes time and resources, but it’s money well spent. It’s part of thematuration of this business. Our investors are our sources of capital; they areour customers, they are our partners and we believe it’s an important evolution.

This is a balance between transparency and propriety strategy, from my pointof view. The transparency that we should have is with our investors and regula-tors. By law, we provide information to our regulators, and by relationship, weprovide it to our investors. This is an asset class that requires sophisticated in-vestors. This is not a retail strategy; it is something only sophisticated investorsinvest in. The money is illiquid for many years.

We welcome transparency with those investors and with our regulators, butthose things are best done privately. One of the benefits of owning companiesprivately is that you are not focused on weekly and quarterly results. Instead,you are focussed on the ways to optimise and transform companies, buildingthem for the long term.

About the authorSean Doherty joined Bain Capital in 2005 and is a managing directorand general counsel of the firm. In his role, Doherty is responsible forall of the firm’s legal, compliance, communications and communityengagement activities through Bain Capital Community Partnership.Earlier in his career, Doherty worked at Ropes & Gray and was a clerkfor a federal judge in Boston. Prior to law school, Doherty was aLieutenant in the US Navy, in which he served on a Middle East Forcefrigate from 1990 to 1994. Doherty received a JD, magna cum laude,from Harvard Law School and a BA magna cum laude from HarvardCollege. In addition to his work at Bain Capital, Doherty serves aspresident of the New England chapter of JDRF, a charity focussed onresearch and eradication of type 1 diabetes.

Sean DohertyManaging director and general counsel,Bain Capital

Boston, USW: www.baincapital.com

EXPERT ANALYSIS EMERGING CAPITAL PARTNERS


T he presence of private equity in Africa has been steadily growing forthe last decade as investors become more familiar with the land-scape. Some risks, including political stability and poor corporate

governance still persist. But a deeper understanding of the markets and moreestablished regional connections are helping firms overcome these miscon-ceptions. New laws are creating more opportunities to invest in the region,injecting greater liquidity and capital into the market. As the economies inAfrica expand, so will the opportunities. Carolyn Campbell, managing di-rector at Emerging Capital Partners (ECP) discusses some of the challengesof tapping this still developing market, and some of the greatest misconcep-tions of investing in the region.

What are the biggest misconceptions about private equityinvestment in Africa? A common misconception is the categorisation of Africa as a single uniformmarket. The continent consists of 54 countries, all of which offer their ownunique investment opportunities and challenges. Knowledge andunderstanding of the local business environment is important for successfulprivate equity investment.

Misconceptions also exist about the impact of political risk on privateequity investment. In the aftermath of the Arab Spring, for instance, in-creased concerns have arisen about political risk in North Africa and thepossible impact on GDP growth. More sophisticated investors, however,treat each country on its merits and seek to understand the political andeconomic developments in each country. Another misconception held bysome investors is that Africa has a weak exit environment.

What do you think has been the most important change in privateequity investment in emerging markets in the last five years? One recent development in the African private equity space that hasmomentous potential for the industry is the changing of regulationsgoverning the investment of pension funds in certain countries, includingKenya, Nigeria, Namibia and South Africa. Each of these countries hasrecently made changes to the asset allocation rules of its state pension fund,allowing for investment – of up to 15% in some cases – of pension assetsinto private companies.

As a result, we are seeing African investors increasingly investing inAfrican private equity. Moreover, as pension fund regulators and adminis-trators become more familiar with the benefits of private equity, this willpresent an opportunity to increase the level of capital available to the privatesector. This local support should also build the confidence of internationalinvestors to invest further in African private equity.

What sectors are you most focussed on at the moment? Do any ofthem present specific regulatory challenges? Rapid urbanisation, along with increased GDP per capita, is creating asizeable consumer class across Africa. This group has increasing disposableincome it wants to spend. This has made consumer retail attractive (such asfast moving consumer goods), as well as financial services banking andinsurance services, where penetration is still low. ICT and telecoms alsopresent opportunities, both from a retail perspective (such as ECP’sinvestment in pay-TV and broadband provider Wananchi) and from aninfrastructure perspective (such as our investment in IHS, the largest Africantowers company).

Opportunity Africa Africa is a market ripe with opportunity, but still riddled with challenges. Carolyn Campbell, managing director at Emerging Capital Partners, discusses how many of these can be overcome with a local insight

EXPERT ANALYSISEMERGING CAPITAL PARTNERS


Within some regions, regulatory obstacles impede investing in particularsectors. For example, foreign investors are banned from investing in telecomsand financial services sectors in Ethiopia. Therefore, a thorough understand-ing of the various commercial and legal landscapes is an essential first stepwhen investing in any sector in Africa.

How important are investment partnerships? What are your biggestconsiderations when entering into them? As the African growth story continues to attract attention, manyinstitutional investors are looking at co-investment as a route into themarket. Investment partnerships are particularly important among limitedpartners who are looking to tailor their investment portfolio, enhanceperformance and gain access to a new space with a trusted manager whohas a demonstrated track record, while employing international bestpractices.

The biggest consideration when entering into such a partnership is theestablishment of strong and trusted relationships, as they determine thelong-term success of the investment.

What types of investment structures are you seeing used mostoften and are there ones best suited to African investing? Have youseen any new structures developing? In addition to traditional, long-term fund structures, new fund managersor fund managers with little experience investing in Africa may seekinvestment through a co-investment structure on a particular investment,or may raise funds on a deal-by-deal basis. These structures are becomingmore common for first-time fund managers, as they reduce the relative riskfor investors compared to the traditional fund structure, and can often helpbuild the fund manager’s track record, investment reputation and investorrelationships.

How much of a role should environmental, social and governance(ESG) guidelines play in investing? What is the best way toincorporate them? It is increasingly clear that leaders in ESG performance deliver alpha forequity investors. Investing in companies that are not only high performing,but also adhere to high ESG standards mitigates risk and increases value.This increase in value also directly relates to the exit process, which issignificantly easier and shorter when selling a transparent company withhigh standards.

At ECP, ESG considerations are embedded into all steps of the invest-ment process from pre-screening to exit. We have adopted the IFC Perform-ance Standards as our ESG framework and continuously engage withstakeholders on best practices in risk management. In addition, we are sig-natories to the United Nations Principles of Responsible Investment(UNPRI).

What recent reforms or reform proposals are affecting yourinvestment strategy most? African governments, realising the increasing potential of private equityinvestment, continue to implement business friendly policies and reforms.I would reiterate the point about changes in local pension fund regulationsas one example to illustrate this.

Moreover, regional trade linkages continue to provide opportunities forportfolio company expansion. With regional communities such as the Eco-nomic Community Of West African States (ECOWAS), the SouthernAfrican Development Community (SADC) and the East African Commu-nity (EAC) ensuring an expanding marketplace, it is possible to seek outtarget companies with opportunities for regional expansion, which allowsfor years of top-line growth.

What form of exits are most suitable for emerging market? The majority of successful exits in the Africa region have been strategic salesto operators and company sponsors. However, plenty of other options existfor exits, including: international equity markets; African equity markets(while historically characterised as lacking depth, general partners areachieving such exits, for example the ECP listing of SAH on the TunisianStock Exchange in December 2013); and, structured exits.

How active a role can or should a private equity fund take inemerging market companies? What are the factors in determiningthis? Once invested in a company, we employ a proactive, hands-on approachthat seeks to add value to our investments in numerous ways beyond simplyproviding investment funds. Examples of these activities include, workingwith management teams to revamp company reporting using internationalstandards and creating management incentive programmes.

Each investment is unique in its opportunities and a range of factors as-sociated with the management, sector and location of the company will havean effect on how active a role ECP takes within the organisation.

About the authorCarolyn Campbell is a managing director and founding partner ofEmerging Capital Partners (ECP), where she serves on the executivecommittee and investment committees. ECP is one of the leadingprivate equity managers focused on Africa, with seven funds and over$2 billion under management. Campbell provides managementoversight of the firm’s operations and investments.

Prior to joining the ECP team in 2000, Campbell was a senior associateat White & Case in the firm’s Warsaw, London, and Washington, DCoffices. She was also an associate professor at George WashingtonUniversity National Law Center, lecturing on internationalnegotiations.

Campbell is a member of the Council on Foreign Relations. Shegraduated summa cum laude from the University of Connecticut with aBA in economics and French and an MA in economics. She receivedher JD from the University of Virginia Law School and a PhD fromOxford University in politics.

Carolyn Campbell Managing director and founding partnerEmerging Capital Partners (ECP)

EXPERT ANALYSIS EVCA


T he publication in February 2015 of Capital Markets Union (CMU)green paper is a clear signal that Europe’s policymakers want aregime that encourages investors to participate in funding the small

and medium-sized companies (SMEs) that are the continent’s lifeblood.

European Commission president Jean-Claude Juncker sees significantadditional investment in European businesses and infrastructure as vital totackling the twin problems of anaemic economic growth and high unem-ployment. Along with Jonathan Hill, the commissioner for financial stabilityat the Financial Services and Capital Markets Union, Juncker has launcheda plan that could bring billions of euros of equity and debt investment intocritical infrastructure, and provide funding to companies that have beenstruggling to raise money since the financial crisis.

The plan will take years to finalise and implement, and will require adapt-ing the regulatory regime to function. But it could unlock cheaper financingfor thousands of SMEs and enable them to create jobs and act as enginesfor Europe’s flagging economy.

New financing sources for Europe’s companiesFinancing for business has long been the preserve of Europe’s banks. Butthrough the CMU, policymakers want Europe to follow the example of theUS, where other forms of finance play a much larger role.

Securitisations – loans made by banks and packaged and sold to investors– as well as bonds, peer-to-peer lending, direct infrastructure finance, andprivate equity are all part of the Commission’s thinking. Many non-bankproviders of finance are already appropriately regulated and supervised andthis is certainly the case for European private equity, which operates to the

high standards required by Alternative Investment Fund Managers Directive(AIFMD). Nevertheless, it is inevitable if policymakers decide that moreEU rules are needed in some areas. The challenge will be to ensure that newregulation achieves that fine balance: to promote stability, without stiflingcreativity and tying up financial markets.

Proposals to use regulatory policy to boost institutional investor partici-pation in funding the European economy are complemented by a drive touse EU funding more creatively. The European Fund for Strategic Invest-ment unveiled just before the outline for the CMU earmarks €21 billion($23 billion) of European funds for deployment. The Commission hopesthat private investment will multiply this seed capital many times over tocreate a war chest of more than €300 billion.

The need for investment in Europe is huge. The Commission estimatesthat €1 trillion is required for critical infrastructure, such as transport, en-ergy and telecoms networks alone by 2020. Institutional investors have thecapital, but the need to navigate an inordinate number of constantly chang-ing regulatory and tax regimes is a serious disincentive. Stability and appro-priate harmonisation across the 28 member states is essential.

Private equity at the heart of Europe’s capital marketThe Commission’s consultation document on the CMU identifies privateequity, including venture capital and infrastructure funds, as an importantsource of direct financing. Indeed, between 2007 and 2014, Europeanprivate equity and venture capital invested almost €350 billion in 28,000companies, employing seven to eight million people. That means it is a vitalconnection between investors with capital and companies in need of finance.

A better union

Michael Collins of the EVCA explains how private equity and venture capital can play a key rolein Europe’s Capital Markets Union. But only if regulations support investment in long-term assets

EXPERT ANALYSISEVCA


Yet European and global private equity and venture capital firms fre-quently encounter regulatory and administrative obstacles when raising cap-ital in the EU. That means investors cannot always access the best fundmanagers, and companies can miss out on investment.

The EVCA identifies three areas for reform that would enable the indus-try to help deliver the ambition of the CMU. These are: (i) unlocking €12trillion of institutional investor capital with a regulatory regime that encour-ages investment in long-term assets; (ii) ensuring EU rules help fund man-agers to raise capital and access companies needing investment acrossnational borders; (iii) promoting a healthy initial public offering (IPO) mar-ket, which supports both investors and companies.

Delivering pension investor capital into Capital Markets UnionPension funds are the largest investor group in European private equity andventure capital. They accounted for 35% of capital flowing into the industrylast year, and have invested €73 billion over the last four years. Whileproposed amendments to the Institutions for Occupational RetirementProvision (IORP) Directive governing them do not place higher riskweightings on private equity, we need to be watchful. Any reform to theircapital requirements will affect private equity.

Similarly, we are monitoring the European Insurance and OccupationalPensions Authority’s (EIOPA) new risk-based framework for pension funds,dubbed the Holistic Balance Sheet. The EVCA has responded to EIOPA’srecent consultation, focusing on the suitability of a market-consistent ap-proach for private equity funds. If the value and risk are not measured ap-propriately, pension funds will be discouraged from investing in privateequity.

Ensuring fair access to funds and investmentsDespite the implementation of the Alternative Investment Fund ManagerDirective two years ago, some countries delayed their implementation;others are creating barriers for managers from other member states. We haveidentified at least a dozen member states where fees or other barriers to entryexist, like the requirement to appoint a local paying agent. We feel that suchpractices are contrary to the letter and spirit of the AIFMD and must beaddressed if we are to make the CMU a reality, given the disincentives theycreate to cross-border activity. The European Commission is investigatingthese allegations and we continue to press the case, providing furtherinformation as we get it.

The AIFMD also creates a challenge for European investors, who are in-creasingly finding that they do not have access to the best internationalprivate equity and venture capital funds because of the impediments the Di-rective imposes. Until full implementation of the third-country passport, itis vital that national regimes allow non-EU players to continue to raisemoney in Europe.

Repairing Europe’s damaged IPO marketDespite some recent large IPOs – many of them private equity-backedbusinesses – Europe has been following the international trend of decliningIPO activity. In the 10 years from 2001 to 2011, the average number ofIPOs was 670 in OECD countries, compared with an average of 1,170 ayear between 1993 and 2000. This matters because IPOs not only helpcompanies raise finance but also drive job creation – 92% of theemployment growth in a company comes after listing. By lowering the costsof listing and increasing the benefits for businesses that do so, we canincrease the numbers coming to public markets. Simultaneously, we needto ensure that there is healthy demand for IPOs from investors, whetherinstitutional or retail. EU policy has a role to play in all these issues. TheCMU recognises that financing should not be locked behind nationalborders. Now, European and national policymakers must ensure thatregulation encourages capital to flow to where it is needed most, for thebenefit of companies and investors alike.

“Private equity and venture capital firms frequently encounter regulatory and administrative obstacles whenraising capital in the EU

About the authorMichael Collins is the deputy chief executive and public affairs directorat the European Private Equity and Venture Capital Association(EVCA). He represents the private equity industry at the highest levelsof government. Based in Brussels, Collins covers both regulatory issuesand wider EU political developments in the industry.

Collins moved to EVCA in 2013 from Citigroup, where he wasmanaging director for European government affairs.

Prior to Citigroup, Collins spent four years with the UK Foreign andCommonwealth Office in Brussels, as financial counsellor at the UKPermanent Representation to the EU.

Collins has 15 years’ experience in the UK civil service, working inEdinburgh, London and Brussels, including five years at HM Treasury.

Michael CollinsDeputy chief executive and public affairsdirectorEuropean Private Equity and VentureCapital Association

W: www.evca.eu

IN-HOUSE COMPLIANCE


Dual-hatted woesCombining the general counsel and chief compliance officer roles canstreamline a firm’s legal concerns. But as IFLR Americas editor Zoe Thomasexplains, a push by US regulators to keep the roles separate could leave theCCO out of the loop

I n January this year a small, Indiana-based private equity (PE) firm wasissued a cease-and-desist order by the Securities and Exchange Com-mission (SEC) for failure to effectively disclose compensation agree-

ments and the conflicts of interest that arose from them.

The firm, Shelton Financial Group, along with its president and one timechief compliance officer (CCO) Jeffery Shelton were charged with havinginadequate compliance policies that led to the disclosure failure.

The period under investigation included the time when Shelton servedin both roles and investigators found the new CCO, who was also the chiefoperating officer, had also failed to improve the compliance programs at thefirm.

Following the administrative proceeding, the regulators ordered that for aperiod of five years the person serving at Shelton Financial’s CCO could nothold any other role. Additionally, they required the CCO to undergo 30 hoursof compliance training and that the firm to appoint an external complianceauditor, approved by the SEC to monitor its programme.

The size and relative lack of prestige of this fund meant that the tale of Shel-ton Financial registered only a blip on the radar of most industry participants.But the SEC’s remedy could provide an important signal about the regulator’sthinking towards dual hatted CCO and general counsels (GC).

The roles of the GC and CCO are ones that can easily overlap. The decisionto combine them is personal to the firms and often depends on the size andneeds of the funds. Several large scale firms employ multiple CCO to managethe compliance needs of different funds with varied investors and strategies.

New regulations targeting funds generally, which have caught PE in its net,are also increasing the amount of work for both positions. “With this expansionof the regulatory landscape applicable to private equity, the already essentialroles of a firm’s GC and CCO have become even more important,” says JasonMulvihill, GC for the Private Equity Growth Capital Counsel.

For smaller firms though, combining the roles can help to streamline thecreation and management of compliance programs. It can also be an econom-ical choice for firms with smaller staffs and fewer investor demands.

Having two people performing the similar tasks can risk creating miscom-munication that can lead to inefficiencies. Worse still, CCOs can sometime beleft out of important conversations all together. A GC may be brought intodiscuss legal question about limited partnerships agreements or acquisitiondocuments, while the CCO is excluded. This can leave the CCO leaving un-aware of compliance matters around fees or other disclosures.

“The decision to have a GC also serve as a CCO should be left for eachfirm to decide given the unique facts and circumstances of that firm’s structure,”says Mulvihill.

The SEC has made no explicit policy on the division of these roles, but de-cisions like the one in Shelton Financial and statements by staff members havemade their preference clear. In a speech to the Private Equity InternationalConference in May, Marc Wyatt, acting director of the SEC’s office of com-pliance inspections and examinations, told the crowd the separation of theCCO into its own role by many firms was seen as a positive step.

“We are seeing greater resources being devoted to compliance, includingthe splitting of the CCO function into its own separate role from a combinedrole with the CFO [chief financial officer] or general counsel,” says Wyatt.Sighting this and the growing integration of CCOs into PE firms’ businessmodels he added, “We believe this often leads to more effective policies andprocedures.”

The regulators preference doesn’t necessarily turn into enforcement actionor hard rules. According to one GC at a PE fund familiar with the pitfalls ofthe dual hatted role: “The SEC picks low hanging fruit and hopes the peoplein the area see this as an example and make their own changes accordingly.”

Since 2012, the SEC has taken a greater focus on compliance issues, partic-ularly around fees and perceived transparency gaps. According to the GC thisis exactly why appointing a person to be the dual hat of CCO and GC or CFOis a good strategy.

“Because of the reality of the SEC’s focus it makes sense to have a dual-hatted CCO/GC or CFO they will have access to information by virtual oftheir positions,” says the GC. Regardless of the route a firm takes, the regulatorsare likely to be satisfied if it is clear the compliance programme was robust andwhoever was preforming the CCO role had enough support.

AFRICA


T here are concerns that African businesses are not ready to absorb thegrowing volume of private equity (PE) funds dedicated to the con-tinent.

A recent study revealed that fund managers targeting Africa have raised$3.4 billion over the first three months of 2015, up from $1.4 billion overthe course of last year.

General and limited partners (GPs and LPs) are adapting their strategiesto local market needs, including by investing via quasi-debt instrumentsand committing to longer-term fund cycles.

But while the corporate governance and management improvements syn-onymous with PE promise to further Africa’s growth story, it may be a caseof too much too soon.

“It’s a very important and exciting dynamic that is happening. But myconcern is that there has been a big push of private equity into Africa, andthe demand side hasn’t yet responded,” said Intellidex chairman StuartTheobald at the Loan Market Association’s Developing Markets Conferencein London.

While the continent’s public sector is struggling to attract funds to plugits infrastructure gap, the corporate sector is experiencing a very differentdynamic. Just last month Development Partners International closed anAfrica-focussed fund 45% above its target.

“There is a great deal of liquidity looking for opportunities in the privatesector – particularly tertiary in financial services, telecoms and retail – butthere is a real shortage of quality companies that are capable of absorbingthat type of capital,” said Theobald.

There is some speculation that the funds could be diverted into infra-structure. There are examples of PE capital being mobilised this way, mostnotably firms such as Actis investing in South Africa’s multi-billion dollarrenewable energy programme.

But these investments’ relatively low returns mean they won’t take up sig-nificant portions of any GP’s allocations.

Instead, it’s hoped that local entrepreneurs will rise to the challenge andembrace the influx of capital looking to help them grow.

Africa’s dry powder The boom of private equity funds focussed on Africa has created a battle for suitable assets themarket may not be able to cope with. IFLR editor, Danielle Myles takes a look at the risks the situation is creating

“There is a real shortage ofquality companies that are capable of absorbing that type of capital

AFRICA


Bridging the gapFor their part, GPs and LPs are being flexible. The usual 10-year PE fundlife cycle is not necessarily appropriate for early-stage portfolio companies.While this forces some funds to shy away from frontier markets, others areadjusting their tactics accordingly.

“I know at least one well-known fund whose investors are looking forlong-term hold and long-term returns, so there is no pre-determined exit,”said Sanjeev Dhuna, a partner with Allen & Overy in London. “So whatsome see as challenges are viewed by others as opportunities to revise theirstrategies.”

Investment structures have also adapted to address the misalignment ofinterests between traditional PE strategies and local owners.

Small companies are often reluctant to hand over management of theiroperations. “Family run businesses aren’t looking for a five-year flip,” saidAllen & Overy’s Phillip Bowden. “They want to retain control generationafter generation, so the investor often has to hold a minority stake,” headded.

GPs must be open to a partnership-style arrangement. They need to beon the ground developing relationships with the company and local businessenvironment.

Investment structures are also changing, although this could benefit allinvolved. Until 2008, PE investments in Africa were traditionally highlyleveraged with very little equity. Theobald said this is no longer the case.

“We now see private equity creating quasi-equity instruments as theirmain funding mechanisms – preference shares and other types of structures.In east Africa we have seen them investing via debt instruments,” he said.“That may seem a little odd, but it is one way of managing exposure is byhaving your domestic partner saddled with the equity risk, but you also get-ting some pretty good yields.”

This can maintain the owner’s equity stake, for the short-term at least,while also reducing the fund’s potential exposure.

The appeal of this model has increased in the wake of Edcon’s recent re-financing difficulties. The South African food retailer was the subject of apre-crisis highly leveraged buyout. Its owner, Bain Capital, is reportedly ne-gotiating with bondholders to restructure the notes, with creditors poten-tially facing losses.

“I think a lot of funders are now fairly nervous about seeing high leveragein these deals,” said Theobald. He believes this is why Africa is starting tosee hybrid instruments that do not feature in more mature markets.

BarriersThere are, however, other commercial and logistical barriers to matchingsupply and demand.

Lack of developed local capital markets mean initial public offerings(IPO) are not a feasible exit opportunity.

Allen & Overy partner Karan Dinamani said that as more PE investorsenter the market, we may start seeing more secondary buyouts. “That willbe interesting as it will have an immediate impact on market practice andcould have a dramatic effect on how the African M&A market works,” hesaid.

While this increases exit opportunities, it could also mean that funds be-come more specialist, focussing on secondary or tertiary targets, further min-imising their viable targets.

PE should be looking to diversify away from typical markets such asNigeria. Not only would this expand the number of potential portfolio com-panies, it also acts as a hedge against investments in resource-rich countries.

But implementing it is difficult in a nascent market.

“That sounds great on paper,” said Dhuna. “But given the majority ofdeals are $1 million to $10 million, and are very country or sector specific,how do you roll out a PE strategy that spans sectors and geographies, andhedges your resource exposure?”

“That is quite difficult given the deal sizes and where we are in the growthcycle of many of these companies,” he added.

East Africa is growing in popularity, especially as the market harmonisesto create a regional play. “Potential monetary union, political reform and atrading bloc is making investment there a lot easier,” said Sanjeev.

But diverging national interests is hampering integration, particularly inrelation to the regional stock market initiative.

“There has been a big push of private equity into Africa, and the demand side hasn’t yet responded

DOMINICAN REPUBLIC


P rivate equity as an investment strategy developed during the 1980sand the 1990s in more developed markets and economies of theregion, while local and foreign investors in the Dominican Repub-

lic dealt with an anachronistic companies law. The Commercial Code ofthe Dominican Republic, which was enacted on April 16 1884, had notbeen subject to adequate reform since its enactment, and did not providefor flexible vehicles or strategies to encourage the raising of capital in pre-existing businesses. Legal and tax consultants recommended offshore cor-porations and trusts due to favourable tax treatment, as well as flexible lawsthat facilitated diversity in investment strategies and in the composition ofthe shareholder structure of each vehicle. However, private equity invest-ments were isolated and not available to the general public.

During the first decade of the 21st century, capital markets were consid-erably underdeveloped. This was mainly because of the outdated corpora-tions law, but also because of the unavailability of reliable data concerning

local operations that were not subject to regulation (even though the CapitalMarkets Act of the Dominican Republic had been enacted in 2000). How-ever, in 2005, brokerage houses, a stock exchange, and a clearing and depositsecurities firm began operating with increasing participation from both theprivate and public sectors. In 2008, a new corporations law was enacted, fi-nally updating the corporate vehicles incorporated under Dominican law;and by 2010, the participation of the brokerage houses and stock exchangebegan to show signs of significant growth: the market then began to reflectrelevant operations.

Investment funds remained an unexplored mechanism during this pe-riod. Investment funds and investment fund managers were created underthe Capital Markets Act of 2000; however, the legal provisions under whichfund managers and investment funds could interact (and guarantee thatsuch investment funds would represent separate entities from the fund man-agers) did not exist. It was not until the enactment of the Mortgage Marketand Trust Law in 2011, which expressly stated that fund managers, corpo-rations regulated by the Capital Markets Act and the Superintendence ofSecurities had fiduciary duties towards the investment funds they manage,that an appropriate legal structure able to regulate the relation between in-vestment funds and fund managers came about. Indeed, due to the absenceof said regulation, the process of filing for a fund approval had not beenproperly set out until 2012.

Available regulations did not refer to private equity funds as a type offund, but allowed funds to make equity investments in private companiesissued according to the laws of the Dominican Republic. The main require-ment for these investments was that the fund had to implement mechanismsto be informed of the financial situation of the target.

Removing the chains

Francisco Vicens De León and Carolina Figuereo Simón of Alvarez & Vicens explain howthe Dominican Republic has shed the constraints of an anachronistic companies law

“During the first decade of the 21st century, capital markets were considerably underdeveloped

DOMINICAN REPUBLIC


However, in 2013 the National Council of Securities issued a new regu-lation to improve investment funds operations, which contained an entiresection dedicated to private equity funds (Regulation R-CNV-2013-33-MV). Such regulations were confirmed in 2014, when the National Councilof Securities modified the regulation related to managers and investmentfunds (Regulation R-CNV-2014-22-MV).

The necessity of new products for investors in the Dominican capitalmarket has encouraged managers to identify new options that allow for di-versification. Private equity investment is a great example of an innovativeproduct that allows investors to diversify risks. Nonetheless, RegulationCNV-2014-22-MV has established specific rules that do not always takeinto account the reality of Dominican markets. They take a very conservativeapproach to private equity funds, imposing restrictions and limits that willrepresent obstacles in the development of the industry. Notwithstanding,this regulation may serve as an opportunity to assist private entities to im-prove their corporate governance rules, operating structures, and supervisionmethods, to be able to access public funds via the securities market.

It is important to point out, however, that Regulation R-CNV-2014-22allows funds to invest in companies that are incorporated as corporationsor limited liability companies, and that are domiciled in the Dominican Re-public. A broad interpretation of this text may suggest that companies withthe characteristics of a corporation or a limited liability company incorpo-rated in other jurisdictions, and domiciled in the Dominican Republic canreceive investments from the public through private equity funds. Thiswould represent an opportunity for private equity funds to succeed locallyin obtaining lucrative investments and also to open the road for further in-vestment in such funds and increase the interest of local entities to improvetheir structures to obtain funds via private equity funds.

On the other hand, although this broad interpretation may be acknowl-edged by our regulators, our experience to date is that the Superintendenceof Securities has a restrictive interpretation of Regulation R-CNV-2014-22.As a result, further efforts in obtaining a formal position from the regulatoron this matter would assist in defining the strategies for private equity fundsin the near future.

In addition, private equity fund managers must establish the investmentstrategy by deciding, in detail, which geographic area, economic sectors andtype of companies they will invest in. This task often proves to be difficult.Restricting the investment to a geographic area, or to a specific economicsector is likely to limit the ability of the fund to generate attractive returnsof investment, considering the size of Dominican market. As a developingcountry, the Dominican Republic has a limited range of new industries orindustries in growth. For example, the Dominican Republic’s main areas ofgrowth in recent years have been tourism, financial services, energy and con-struction, all areas which are linked directly in their respective industries,and which are represented by few important players, thereby reducing thepossibility of appropriately diversifying investment.

In this regard, Regulation R-CNV-2014-22 also contains requirementson diversification. A private equity fund cannot invest more than 20% ofits assets in equity of one company. Even though the Superintendence ofSecurities may extend that limit to 40%, this authority is discretionary andexceptional, and must be based on a detailed report made by the investmentcommittee of each fund. Companies with the potential to be profitable arefew. In those circumstances, the said limit represents a major obstacle in thedevelopment of private equity funds.

Regulation R-CNV-2014-22 establishes criteria to protect investors,which, in addition to transparency, is one of the objectives of the Superin-tendence of Securities. Nevertheless, it is important that a certain flexibilityin these restrictions is considered, to allow more institutional and sophisti-cated investors to participate in these funds. If investors with greater expert-ise and knowledge make riskier investments, more investors with lessexpertise and knowledge may also participate, and thereby assist in thegrowth and diversification of the capital and securities market.

It is important to point out that, despite the situation of some other na-tions in the region, the Dominican Republic continues to grow its economy,and is set to continue providing that economic, political and social stabilityremain. This plays greatly in assisting the growth and stability of the capitaland securities market. Until 2013, only three investment funds had beenapproved and only one was operating; within the last 12 months, seven havebeen approved and six are operating. This shows an improvement by theregulator in providing proper supervision, and by our investment fund man-agers in participating in the capital and securities market.

This improvement is accompanied by a process of discussion and analysisbetween the public and private sectors of a new Capital and Securities Law;six different versions of the new law have been reviewed. The new law looksto define certain tax incentives, address some operating hurdles which haveresulted naturally from a market that is still in its early stages, as well as torestructure the National Council of Securities, the Superintendence of Se-curities, and establish new requirements for the participants in the sector.The law seems to have the backing of the relevant parties (both public andprivate), is likely to be enacted within the next 12 to 24 months, and servesas both a threat and an opportunity, whereby certain aspects of the regulat-ing structure may be amended in an adverse manner. It may also serve toimprove and correct many aspects and clarify the application of incentives,which are limited under the existing legislation.

The challenge presented by the discussion of the new law and the con-tinuing growth of capital markets in the Dominican Republic represent animportant opportunity in incorporating private equity funds. It is also anopportunity to reduce the time between the enactment of legislation andits amendment, to enable the enactment of legislation which adapts to theneeds of the market and assists in its growth.

“Private equity investment is agreat example of an innovativeproduct that allows investorsto diversify risks

“The Dominican Republic has a limited range of new industriesor industries in growth

DOMINICAN REPUBLIC


About the authorFrancisco Vicens De León is a partner at Alvarez & Vicens. Heobtained his law degree from the Universidad Iberoamericana(UNIBE), and completed his Master’s degree at the Escuela de AltaDirección y Administración (EADA), Barcelona, Spain, with a specialismin tax law. He completed an additional post-graduate degree in strategicnegotiation at the Instituto de Educación Continua de la UniversitatPompeu Fabra, Barcelona, Spain.

De León has over 14 years’ experience in business law, and particularlyin corporate and financial law. He is a member of the board of directorsof the Pioneer Sociedad Administradora de Fondos de Inversión, and is alegal advisor to the Association of Fund Managers of the DominicanRepublic (ADOSAFI), as well as other leading fund managers andleading private investment groups in the Dominican Republic. De Leónadvised and structured the first public real estate investment fund of theDominican Republic and on the incorporation of other investmentfunds using the strategy of investing mainly in government debt. Hehas directed and participated in some of the leading businesstransactions in the country, including the restructuring and merger ofleading insurance and banking institutions, as well as complex financialtransactions involving leading members of the tourism, food andbeverage industries.

Francisco Vicens De LeónPartner, Alvarez & Vicens

Santo Domingo, Dominican RepublicT: 809 562 6534 F: 809 562 6540E: [email protected] W: www.av.com.do

About the authorCarolina Figuereo Simón is an associate at Alvarez & Vicens. Sheobtained her law degree (summa cum laude) from the PontificiaUniversidad Católica Madre y Maestra (PUCMM), Santo Domingo in2010 and completed her general LLM in Georgetown University,Washington DC, in 2013. She has focused her practice on business law,particularly on corporate, financial and securities law.

Simón advises leading fund managers and leading private investmentgroups in the Dominican Republic. She has also participated in thestructuring of complex financial transactions involving commercial realestate, tourism and food and beverage, representing lenders as well asdebtors.

Carolina Figuereo SimónAssociate, Alvarez & Vicens

Santo Domingo, Dominican RepublicT: 809 562 6534 F: 809 562 6540E: [email protected]: www.av.com.do

GERMANY


A wave of big ticket deals has been hitting Germany, as both privateequity (PE) and strategic buyers vie for the best. The amount ofdry powder in the local market and the strong dollar are also help-

ing to drive the seller’s market. As small, large, niche and diverse funds fightfor opportunities, at times cultural ideology remains a stumbling block forthe industry.

What have been the most significant developments in private equityin Germany during the last 24 months? The most significant development has been the return of big ticket deals,such as the sale of fire protection manufacturer Minimax by IK InvestmentPartners, the acquisition of Siemens Audiology Solutions by EQT or themost recent acquisition of Douglas Group by CVC from Advent, to namejust a few. As always, the small and midcap market remains active but verycompetitive. We also noticed that it has become increasingly difficult forPE houses to source proprietary deals outside auction procedures or to findtargets not already owned by another PE house. It is therefore no surprisethat secondary or tertiary buyout activity remains strong. The lack of pro-prietary deals will make it more challenging for PE houses to fulfill the re-turn expectation of their investors, as typically such deals play veryfavourably to the sweet spot of PE houses (creating value by improving therespective operational and financial performance of an under-performingcompany).

Strategic bidders represent a formidable force. At the same time, there isstill an abundance of so-called dry powder (committed but undrawn funds).PE houses therefore feel the pressure that their investors must invest. Thisleads, in an auction environment, to increased competition between PEhouses and strategic bidders and ultimately to an upward price spiral for as-

sets. Sellers like this of course, but PE houses as buyers find themselves losingout more and more against strategic bidders; they cannot match, againsttheir return expectations, the prices that a strategic bidder is able to pay,particularly when taking into account any synergy effects.

What about the debt market?Not surprisingly, the low interest rates in European markets have a huge in-fluence on both rising multiples and driven continuing activity. Bank debtis available again. In addition, debt funds are the new kid on the block asfinance providers for private equity deals. Therefore, there is increased com-petition among banks to get into pole position for a deal. As a result, bankstend to cut down their covenants catalogue (so-called covenant-lite financ-ing) and PE houses use their leverage to negotiate very attractive debt fi-nancing packages.

We have also seen various deals in which banks are willing to provide,on signing the deal, a full finance commitment by way of an interim financ-ing agreement until the senior facility agreement and respective securitypackage come into place. This represents, for me, a clear sign of increasedcompletion for a deal by the banks. On top of this, high-yield bonds withtheir higher returns are coming back and playing an important role in dealfinancing.

Let’s talk about the German Mittelstand. What makes it so special interms of deal-making?The Mittelstand is still at the heart of the German economy and has beena steady source of innovation. You will find many global niche players there,with very attractive margins and growth potential. The businesses are usuallyfamily-owned, with steady cash-flow and potential for operational improve-

Winds ofchange

Despite a wealth of opportunities, strategic buys and cultural mistrust could foil potentialGerman deals. Markus Käpplinger and Roman Kasten of Allen & Overy explain why

GERMANY


ments. This is why the German Mittelstand is still a very attractive targetfor PE funds. However, owners are usually reluctant to sell their businessesas they can comfortably rely on dividend payments. In addition, there arestill hidden cultural resentments against PE buyers. It is important to un-derstand such cultural gaps and to bridge them when negotiating a deal withthe owners of a Mittelstand business.

What are your impressions: who benefits from the current market? The market is clearly still a seller’s market, with high levels of competitionin auction procedures. It is, therefore, a viable strategy for PE funds tomainly focus on portfolio work and to pursue a buy and build strategy byfinding add-on targets. Such add-ons enable PE funds to generate synergieswith their portfolio companies and ultimately to compete with strategicbuyers.

Describe the role of co-investment. How has this affected fee anddeal structures? Co-investments are more and more common in German deals, such as EQTteaming up with a big German family office in connection with the acqui-sitions of the Siemens Hearing Aid division. Our experience is that PEhouses are in general fine with such development, as it limits the equity de-ployment of the funds and ultimately increases the return on the equity. Itis also attractive for a co-investor. It saves management fees that would oth-erwise have to be paid when investing through the fund. Sure, the complex-ity of a deal is increased, but this is a mere technical issue which can easilybe handled.

What are the typical structures used by private equity sponsors toacquire portfolio companies in your jurisdiction?Deal structures have not been changed during the last years. We still fre-quently see multi-tier LuxCo structures with German BidCo at the bottomof the structure.

Equity is usually funded by a mix of straight equity injections and share-holder loans or, in Luxembourg, preferred equity certificates (so-calledPECs). Management usually participates only indirectly as a limited partnervia a GmbH & Co KG, which is basically a limited partnership. The generalpartner of such partnership is controlled by the PE house so that ultimatelythe GmbH & Co KG is also controlled by it. From a tax point of view, onthe basis of recent case law, it has become increasingly challenging to struc-ture management equity participations in a tax efficient way for managers.

Looking ahead: what is the outlook for the German PE market in2016?Because of the strong dollar, I would not be surprised to see more and moreUS PE funds embarking on a shopping tour of Europe and Germany. Thecompetition among PE houses will further intensify with the abundance ofdry powder that needs to be invested. It will be crucial to see how interestrates develop in the context of the crisis in Greece. A rise in the interest rateswill undoubtedly have a negative impact on the buyout market. However,with its strong industrial base, and its political and financial stability, I expectGermany to continue to be a very attractive market for PE.

About the authorMarkus Käpplinger is a partner in the private equity department ofAllen & Overy. He is admitted as German Rechtsanwalt and asattorney-at-law (New York).

Recently, Käpplinger advised 3i on the acquisition of Weener PlasticGroup, ECM Equity Capital Management on the acquisition of theGerman tour operator Leitner as well on its sale of Kamps Group, fundsof Deutsche Beteiligungs on the acquisition of Cleanpart and WERU’smanagement on the sale of the company to HIG Capital.

Käpplinger is an author of a standard case book on German corporatelaw, editor in charge and author of a commentary on the German StockCorporation Act, and a lecturer at HfB Business School Frankfurt. Heearned an LLM degree from the University of Chicago and a doctoratedegree from Humboldt-University at Berlin.

Markus Käpplinger Partner, Allen & Overy

T: +49 69 2648 5681E: [email protected]: www.allenovery.com

About the authorRoman Kasten, a German Rechtsanwalt, is a senior associate at Allen &Overy. He joined the Frankfurt office in 2013 in the corporate andM&A practice. He specialises in cross-border and domestic M&Atransactions with a focus on private equity transactions and in corporatelaw.

Prior to joining Allen & Overy, Kasten worked with two otherinternational major law firms and as a secondee for an internationalinvestment bank in 2012. He regularly writes on corporate and capitalmarkets law and is a co-author of a commentary on the German StockCorporation Act.

Recently, Kasten advised ECM Equity Capital Management on theacquisition of the German tour operator Leitner as well on its sale ofKamps Group, 3i on the acquisition of Weener Plastic Group and DebGroup / Charterhouse on its acquisition of the Skin Care Business heldby Evonik Industries.

Roman KastenSenior associate, Allen & Overy

T: +49 69 2648 5507E:[email protected]: www.allenovery.com

GLOBAL


F inancial institutions groups (FIG) are proving fertile ground forproactive private equity firms. The sector is large and broad, cov-ering retail banking and consumer finance, to insurance and in-

vestment banking, and everything in between. This variety leads todifferences in business models, capital intensity, level of regulatory over-sight and conduct risk.

Value creation for investments in the sector therefore requires naviga-tion of a complex maze of ever-changing regulatory requirements andrigorous oversight.

Why give a FIG?Stringent regulation post-financial crisis, in particular regulatory capitalrequirements, has put pressure on banks to reduce their activities and dis-pose of non-core assets to release capital.

This pressure to divest, along with today’s low interest rate environ-ment, has presented private equity firms with an opportunity to makesustainable returns from targeted investments in the sector. The dearthof available capital in the sector post-crisis has been well documented,but the role private equity firms play in injecting much-needed, alterna-tive funding has not.

And perhaps it isn’t just private equity capital that is welcome in thesector. Value creation for private equity can go hand in hand with im-provements for FIG businesses seeking efficient operating models andbetter use of capital.

Fertile groundSeveral private equity firms have developed sophisticated and experiencedteams focusing on FIG. This strategy has enabled those firms – includingBlackstone, CVC, Cinven, Permira, Warburg Pincus, Advent and TPG– to make multiple investments in the sector or specific sub-sectors. Cin-ven’s deal activity in the insurance sector is a good example.

As well as this sector specialism, many financial services businesses,such as consumer finance and wealth management, lend themselves toso-called buy and build strategies that maximise opportunities for en-hanced returns through synergies achieved from bolt-on acquisitions.

Permira’s acquisition in 2014 of Bestinvest, followed by its acquisitionof Tilney, is an example of such a strategy. Through bolt-on acquisitions,such as Tilney onto Bestinvest, Permira expects to benefit from the ad-vantages of increased scale, and to capitalise on the opportunities emerg-ing from recent regulatory change. Another example is the acquisition of

A force for good in FIG?

Regulators are becoming more open to private equity investing in financial institutions. But it requires buyers to navigate the complex regulatory landscape

“Clarity on what is too great acost for regulatory approval,and the ability to withdrawfrom an acquisition, is essential for buyers

GLOBAL


Skandia by Cinven and Hannover Re as a bolt-onto the consortium’s acquisition of HeidelbergerLeben, the German life insurance provider, fromLloyds Banking Group.

Changing perceptionsBut how comfortable are regulators with privateequity buyers of FIG assets?

Regulators are encountering private equity buy-ers (and other financial investors) more frequentlydue to the retreat of banking and insurance groupsfrom non-core markets, and the withdrawal ofmany traditional FIG asset acquirers due to the fi-nancial climate.

That is not to say that financial investors shouldbe considered investors of last resort. Rather, theyare proving to be not only reliable sources of fundsto the sector (see chart opposite), but also are in-creasingly able to demonstrate to regulators a trackrecord of expertise in the sector, and that they are‘fit and proper’ custodians of these businesses.

Traditionally, regulators have been wary of the fitbetween private equity’s strategies for value creation and the stability offinancial institutions. Yet their increased experience with private equitybuyers has in many jurisdictions led to an attitude change. Certainly, keyhurdles remain to regulatory approvals; the impact of leverage on the fi-nancial soundness of regulated firms, for example. But there are recentexamples of private equity deals in the European banking sector (typicallythe most highly regulated and protected EU FIG sector) that demonstratethis attitude change in the region. Indeed, some jurisdictions, such asSpain, have actively welcomed private equity into the sector.

While regulators should, and in many cases do, welcome the fresh cap-ital, investment expertise and competition that private equity brings tothe sector, there are important considerations on FIG deals that privateequity firms should be alive to.

Key considerationsHeightened regulatory scrutinyFinancial soundness is a key policy driver that shapes the FIG sector. Reg-ulatory concerns about the impact on financial institutions – particularlybanks and insurers, of what is perceived to be the traditional private eq-uity investment model – regularly leads to enhanced scrutiny of privateequity buyers’ business plans, investment time horizons, acquisition struc-tures (including leverage) and governance arrangements for the firms. Insome cases this can result in regulators requiring commitments from pri-vate equity buyers on, for example, the length of investment, leverageand holding structures before granting approvals.

The complexity of relationships between regulators in supervising fi-nancial institutions can make getting regulatory approvals more challeng-ing and time-consuming. Examples include the European Central Bank’sapproval requirement for acquisitions of banks in the eurozone, dual reg-ulation of banks and insurers in the UK, and global colleges of supervisorsof significant financial institutions.

Regulatory capitalRegulators’ concerns about firms’ financial soundness can play out in ac-quisitions in the sector. On occasion, regulators use change in controlprocesses to bolster regulatory capital in regulated firms, by requiringbuyers to either inject further capital or commit to maintaining specificlevels of capital in the regulated firm (or both).

As a result, regulatory conditions in sale and purchase agreements mustbe carefully negotiated to anticipate costs and any requirements regulatorsmay impose as part of obtaining approval. Clarity on what is too great acost for regulatory approval (and the ability to withdraw from an acqui-sition) is essential for buyers. In contrast, sellers will seek deal certaintyand will be nervous of mechanisms that allow buyers a wide regulatory‘out’.

Deal timingFIG transactions typically take longer to execute than many other sectorsdue to the need for regulatory approvals. Even where regulators havestatutory timetables in which to approve changes in control, there areoften formal and informal mechanisms they can use to delay or pause thetimetable to allow further questions or information requests. These mech-anisms are being used more frequently by regulators. It can be difficultto accelerate the process, and early engagement with regulators is crucialto identifying potential concerns about the acquisition. As a result,longstop dates are being pushed out.

Investor disclosureRegulators often require a lot of information about the entities and indi-viduals who will control regulated firms. In private equity, this can leadto information being required from both limited partners and generalpartners’ corporate groups. It is not uncommon for information to bedisclosed by senior individuals in private equity firms who are deemedto have control over the regulated entity through the role of the fund’sgeneral partner.

Recent trends for acquisitions by multiple financial investors (such asthat by Blackstone and GIC of a majority stake in Rothesay Life acquiredfrom Goldman Sachs), even when not acting as a consortium, furthercomplicate this. Separately held interests can in certain circumstances beaggregated for regulatory purposes, leading to disclosure being requiredfrom minority investors whose investment would not otherwise triggerthe need for change in control approval.

GovernanceGovernance is a hot topic in the FIG sector. Perceived governance failureshave led to increased personal accountability in the sector generally, andin the banking sector particularly. The new regime for senior managersto be introduced in the UK in March 2016 is one example.

30.7

500

May 1 2009 - Apr 31 2010

70.0

60.0

50.0

40.0

30.0

20.0

10.0

0.0

450

400

350

300

250

200

150

100

50

0

33.8 28.1 40.5 47.2 57.4

436

389361

343332

239

May 1 2010 - Apr 31 2011

May 1 2011 - Apr 31 2012

May 1 2012 - Apr 31 2013

May 1 2013 - Apr 31 2014

May 1 2014 - Apr 31 2015

Value ($bn) Count of deals*Values represented in the graph reflect total deal value where this has been disclosed ** Data sourced from Preqin

Global private equity investments in financial services

GLOBAL


Regulators are questioning the size, expertise and independence of theboards of those firms. This can affect the number of investor-appointeddirectors, but also raises the need for relevant sector experience of thesedirectors. Can they demonstrate they have sufficient knowledge of thesector to be appointed to the board?

In addition, regulators will also scrutinise the scope of veto rights forinvestors and the extent to which shareholders can direct the investeecompany.

Due diligenceDue diligence in the FIG sector is as much about looking forward to pro-posed regulatory changes that affect the business of the relevant firm, asto historic issues that firm may have with regulatory compliance.

Given the conduct risks that FIG businesses face (take payment pro-tection insurance, for example), in-depth regulatory diligence is vital toany investment decision in the sector. This is to make sure that isolatedissues with a target are not part of a wider systemic problem, as well asto assess the risk of regulatory fines and customer redress programmes.

IndemnitiesIn many FIG subsectors, wide-ranging indemnities for general industryissues, such as mis-selling, are the norm. These indemnities usually gohand in hand with complex conduct provisions.

Where indemnities relate to customer claims, there will be a significantfocus on conduct as a result of the tension between the buyer’s interestin the continuing relationship with the target customers, and the seller’sinterest in minimising pay-outs. Conduct in relation to customer claimsis further complicated by regulatory obligations and restrictions on claimshandling and management.

ValuationFixed price deals are less prevalent for FIG targets than for other sectors.Completion adjustments set by reference to net asset value, regulatorycapital triggers, assets under management or revenue run rate are fre-quently seen. This trend is influenced by extended pre-closing periodsand complex intra-group arrangements. However, completion accountscan be avoided on loan portfolio and asset management transactions oron clean carve-outs.

Deferred consideration or earn-out mechanisms are the norm for assetmanagement transactions and management spin-outs to bridge the valuegap. For example, on asset management deals, post-closing run rate rev-enues or assets under management are often used as the basis for calcu-lating deferred consideration. This often leads to a tension between thebuyer’s desire to integrate the target portfolio onto its existing portfolio,and the seller’s desire for the target portfolio to be held separately duringthe measurement period to facilitate calculation of the run rate revenuesor assets under management.

Which way to the exit?There are a growing number of examples of private equity exits from FIGassets. Examples include Bregal Capital’s sale of Canopius to SompoJapan Nipponkoa, Apax’s sale of the Travelex group, and a number ofhigh-profile sell downs through public offerings such as that of Saga, Part-nership Assurance and Just Retirement.

With an increasing number of private equity investments in FIG assetscoming to the end of their investment cycle, questions over the preferredexit route for financial investors should begin to be answered.

On entry into investments, private equity firms have often benefittedfrom substantial indemnity protections from trade sellers against knownindustry risks, such as mis-selling. However, granting these protectionson exit is against the clean exit principles private equity craves. Optionsoften deployed to bridge this risk allocation gap between buyer and seller(such as warranty and indemnity insurance) do not lend themselves toindemnities against known industry risks.

It remains to be seen if private equity firms will move away from theirhistoric reluctance to give warranties and indemnities on sale as the ac-cepted price of achieving the best return on exit, or whether initial publicofferings (IPO) will instead become the preferred route, providing acleaner exit.

The answer may lie in dual-track processes, the simultaneous launchof an IPO and sale process. Financial investors favour dual-track processesas their preferred exit option. By seeking to maximise exit proceeds andincrease transaction certainty, competitive tension is created between thetwo parts of the process, mitigating issues that might otherwise be causedby market conditions or bidder appetite.

Taking the example of known industry risks, bidders in an auctionthat is part of a dual-track process will need to focus on whether marketstandard indemnities will need to be sacrificed in their offer to success-fully compete with the alternative IPO option.

Moving forwardThe success of deals like the acquisition of Heidelberger Leben shows agreater openness on the part of regulators to consider financial investorsas reliable buyers.

Today’s environment demonstrates significant opportunities for sus-tainable returns and successful transactions. However, the challenge forprivate equity firms will be to make sure they can make these investmentswhile successfully navigating the complex regulatory landscape that thechanging financial environment generates.

By Freshfields partner David Higgins, senior associate Sarah-Jane Mulryan and associate Emma Rachmaninov in London

ITALY


E conomic uncertainty in Italy and across the Eurozone has made for atransformative private equity market. New players have taken advantageof the opportunities the downturn created, while traditional investors

flee to more stable shores. The financial crisis also spurred the creation of fi-nancing models that steered away from banks. Several years away from thedownturn these new structures have become the norm and the changes broughton by the crisis are creating a dynamic and more diverse market.

What have been the most significant developments in private equity inItaly over the last five years?The private equity industry in Italy has undergone dramatic changes in recentyears. On the one side, a number of international private equity firms closedtheir operations in Italy and started to cover the Italian market essentially fromLondon. On the other side, in the last two years international private equityfunds that almost never considered Italian assets in the past have begun to ac-tively pursue them, especially in the SME (small and medium enterprise) sector.Italian funds remained active, focusing on mid-market transactions.

These apparent contradictory trends are driven by a number of factors. The2008 crisis in Italy was the most severe since World War II. Since 2010, chronicinstability in the Italian political system together with the dramatic economiccrisis put Italy’s position in the European Union in danger. Too big to fail wasthe position of some. Others predicted that Italy was hopeless and doomed toexit from the European Union. The majority of international investors left Italy,where possible.

But 2014 was the year in which the general climate changed in Italy. Accord-ing to AIFI (Italian Private Equity and Venture Capital Association), in 201491 buy-outs were completed with a total investment of €2.1 billion. It is likely

that in 2015 more deals will be completed. On the one hand, the appointmentof the new Government in 2014, the significant number of reforms enacted(such as the Italian Jobs Act) together with the heavy reduction of the spreadbetween Italian BTP (Italian government bonds) and the German bund yieldindicated that the country was ready to react. On the other hand, the super-abundant level of money available on the market (especially after the EuropeanCentral Bank launched the €1.1 trillion quantitative easing programme) andthe relatively small pool of potential targets around the world, generated theneed for private equity funds to explore new markets, in terms of the geographyand type of assets. At that point, considering the insufficient number of largeassets, SMEs represented an interesting alternative for investors. And Italy is,undoubtedly, the SME capital of Europe.

According to a 2014 Cerved report, in Italy there are 143,542 incorporatedSMEs (società per azioni, società a responsabilità limitata and società in accomanditaper azioni), with a total turnover in 2012 of €851 billion. Of these SMEs,25,000 are medium-sized enterprises – potential targets for private equity (PE)funds.

Further, other factors worked together to bring international investors backto Italy.

First of all, the valuation of Italian assets remained generally cheaper com-pared to similar investments in other EU countries (in terms of multiple of val-uation). Secondly, even small assets (sometimes with an urgent need for agenerational change in terms of ownership) could represent the ideal target ofportfolio companies of PEs. Organic growth was hard to come by in a difficulteconomy and mergers and acquisitions of cheap assets was a good opportunityto grow.

A bright new dayThe financial crisis hit the Italian private equity market hard. But new players and creativefinancing structures are having a positive impact. Bruno Gattai and Cataldo Piccarretaof Gattai Minoli Agostinelli & Partners discuss the future

ITALY


The new political situation, the large presence of SMEs in Italy and interna-tional investors’ interest in mid-market assets, the lower prices of assets and avast pool of potential adds-on for portfolio companies created the perfect climatefor the return of international private equity investors in Italy.

What is the appetite of private equity funds for minority investments?In 2014, private equity funds generally made majority investments in Italy. Infact, it was extremely rare for private equity funds to consider acquisitions ofminority stakes, with the remarkable exception of the 20% acquisition of GianniVersace by Blackstone.

In the past, it was common to see PE funds acquiring minority stakes (gen-erally through capital increases), whilst majority stakes remained with thefounder or entrepreneur. The rationale behind this kind of deal were various,for example to provide companies with fresh capital to fulfill growth plans, toacquire outside expertise and international relationships in new regions, to haveon board investors with experience in taking businesses, often family owned, tothe capital markets through IPOs (initial public offerings), or to leverage thecredibility of independent shareholders. In fact, the IPO was the most naturalpossible exit for this kind of investment. Complex governance structures werenegotiated in order to prevent conflicts among shareholders, whereby privateequity funds could pay a lot of attention to veto rights on the financial side ofthe business and to extraordinary transactions, whilst day-to-day managementremained with the entrepreneur.

However, these deals were generally not very successful. The clash betweendifferent cultures, unsophisticated or first generation self-made entrepreneurson the one side and PE funds on the other, often led to failure. At times, PEfunds would not understand the motivations and intentions of majority ownersand founders. Quite often, the latter were averse to the control of minority share-holders.

Over the last years, PE funds have preferred to have full control over theirportfolio companies and entrepreneurs and founders are requested to maintainminority stakes to ensure continuity and commitment (in terms of support tomanagement) over the years until exit.

In addition, minority stakes of sellers sometimes represent a security (director indirect) for possible indemnities due where there is a breach of representa-tions and warranties given by the seller.

The reality is that there is value with founders of the target companies, espe-cially when the brand of the target and founder are perceived by the market asan indissoluble bond. Ensuring continuity in brand perception and management(especially in the fashion sector, where the style is distinctive) is perceived as animportant ingredient for the success of an investment. Recent examples of thisstrategy are the 90% stake acquisition of Roberto Cavalli by a consortium ofinvestors led by Clessidra and the 80% stake acquisition of Dainese by Invest-corp. 10% of Roberto Cavalli and 20% of Dainese remain owned by the re-spective founders, Roberto Cavalli and Lino Dainese.

A significant exception to this trend is represented by the investment strategyof Fondo Strategico Italiano (indirectly controlled by the Italian government andBank of Italy) that operates by acquiring mainly minority interests in companiesof significant national interest.

What about acquisition finance? How did the Italian market react to thecrisis?Before the quantitative easing measures by the ECB (European Central Bank),banks’ business lending was weak and Italian banks were very reluctant to pro-vide senior loans for acquisitions. Business shifted away from commercial banks.Therefore, over recent years, a number of structures were used to finance acqui-sitions. In particular, PE funds used more sophisticated structures in order to fi-nance deals in Italy, such as high yield (HY) bonds. For example, CVCcompleted the acquisition of Cerved with the first ever leveraged buy-out (LBO)in Italy financed by means of a HY bond.

To reduce the level of finance resources provided by banks, another very fre-quent way to finance acquisitions was vendor loans (sometimes subordinatedto certain internal rate of return – IRR – levels achieved by the PE funds at exit),that are now typical of acquisitions from individuals and non-financial sellers.The reason why this instrument was used is twofold: first, it gave the opportunityto raise unsubordinated debt with almost no covenants, increasing the possibilityfor the investors to reach higher IRR; second, it represented a solid and liquidcollateral for possible indemnities due in case of breach of the representationsand warranties given by the vendor.

Thanks to the quantitative easing measures, the situation seems to be chang-ing. Quantitative easing led to an increase in bank lending and interest rates of-fered by banks are competitive. Banks are now more open to consider traditionalfinancing structures (such as secured senior loans) and it is likely that we willnot see many HY acquisition bonds in the near future. Levels of leverage inLBOs remain, however, very far away from those seen during the pinnacle of2006 and 2007.

In addition, it is likely that portfolio companies (especially those acquiredduring the crisis, with high interests and heavy conditions of the LBO financing)will take advantage of the currently favourable debt markets, and negotiate betterconditions with banks so as to lower their cost of borrowing or lighten covenants.It is also likely that sponsors will negotiate further financing to pull equity outof assets (through leveraged recapitalisation) that may need more time to beready for the exit.

What is the trend in terms of price structure? In the presence of a still fragile economic recovery, PE funds showed a tendencyto protect their money from overestimated valuation, especially when sellerswere trying to leverage future growth or possible unexpressed synergies to obtainhigher prices. The typical way was to provide, as an important component ofthe purchase price, an earn-out in order to remunerate the actual Ebitda (earn-ings before interest, taxes, depreciation and amortisation) realised by the targetduring the year of the acquisition and in the following one or two years. Thisinstrument was perceived by PE funds as a valid incentive to ensure the com-mitment by the sellers who remained involved in the management of the com-pany (directly as managers or indirectly as shareholders).

Another important trend in the Italian market in recent years is the use oflocked-box clauses rather than proper purchase price adjustments based on netfinancial position at closing. The general perception of the market is that, espe-cially with SMEs, it is difficult to really monitor the working capital and toavoid, through interim management clauses, possible manoeuvres intended tomanipulate the net financial position at closing. The locked-box mechanismprovides clarity for the benefit of all the parties.

What are the main notifications to be made to Italian authorities incase of acquisitions? What is the average time required in order tocomplete acquisitions?In 2013, the legislator simplified the antitrust legislation in terms of approvalby the Italian Antitrust Authority of acquisitions. As a consequence, filing withthe Italian Antitrust Authority is now required when domestic turnover of thetarget exceeds €49 million and Italian turnover of the combined groups (pur-chaser and target) exceeds €492 million. Notification to the Italian AntitrustAuthority is required when both conditions are met. In the past, such conditionswere alternative and, therefore, purchasers being parts of big groups had to filealso in case of small acquisitions.

If no antitrust filing is required, the acquisition process usually takes three tofour months (including due diligence). Exceptions are made in specific sectorswhere consent must be obtained; generally speaking, no permits are required toput in place acquisitions.

Describe the role of co-investment.Recent developments in the Italian market included the return of limited part-ners, that are now more comfortable in investing alongside general partners inItaly. Family offices or similar entities are also looking at Italian investments.

ITALY


Considering the relatively small equity check of investments in Italy, co-in-vestments remain an instrument used only in specific situations such as: (i) (rare)big equity checks, in order to share the risk with other investors; (ii) re-invest-ment upon exit alongside with buyers, to ensure continuity and equity; (iii) eq-uity needs, usually for avoiding risk concentration on a single asset (fundmandates and regulation often cap a fund from investing more than a certainpercentage of the fund size in a single portfolio company) or a single country;and, (iv) the need of international PEs to have an Italian partner.

Usually co-investments provide that some co-investors are mere followers. Itis quite unusual to see complex corporate governance rules in such cases. How-ever, co-investors are typically vested with board representation, decision (or atleast consultation) rights in the hiring or firing of key managers and extraordi-nary corporate transactions and anti-dilution protections.

How did the crisis affect the holding periods?It is likely that PE funds will remain opportunistic in terms of holding period,depending on the time of the completion of the acquisition.

Acquisitions made during the crisis (with low valuation), could benefit fromthe current positive economic situation. Investors could be attracted by the op-portunity to sell their assets at significantly higher values compared to their ac-quisition or book value (so-called quick flips).

However, holding periods were extended for acquisitions completed duringthe boom years. High multiples paid for acquisitions and the long financial andeconomic crisis in Italy slowed down exit processes of assets acquired duringsuch period. They will require more time to yield acceptable returns.

Very quick IPOs will benefit from the positive turn of the market. For ex-ample, the IPO of Cerved, that was acquired by CVC from Bain Capital in2014, was completed just a year after the acquisition by CVC.

Which industries are receiving the most the private equity attention?In terms of sectors, it is likely that PE funds will consider Italian assets active inthe luxury goods or other high value-added products or services, with commer-cial exposure on non-euro denominated markets to benefit from the weaknessof the euro. Also expected is substantial M&A activity by foreign portfolio com-

panies aimed at the acquisition of Italian SMEs involved in niche areas of tech-nology or products.

In the fashion sector, important maisons that became famous during the1980’s thanks to their founders and creative directors are now facing the needsof a generational change. These companies are moving from a genius-basedmodel to a more structured model.

Financial institutions, in particular banks, will undoubtedly remain an im-portant source of interest for PE in the next few years. Italian governmental au-thorities are pressing for mergers of small banks. Notwithstanding the complexlegal environment and the difficulty of using traditional LBO structures for thiskind of acquisition (acquisition finance could affect supervisory capital), PEfunds seem to be very interested in Italian financial institution groups. Over re-cent years, two significant deals have been announced in this sector: the acqui-sition of Banca Farmafactoring by Centerbridge from Apax and the acquisitionof ICBPI by Advent, Bain Capital and Clessidra from some Italian banks. Likelyothers will come.

What do you expect in the near future?It is a great time to be a buyer. Italian banks are still reluctant to provide freshfinancing to Italian companies for ongoing operations and new investments.Therefore, PE investments are a good opportunity for companies to raise money,avoiding complex discussion with Italian banks. Italian SMEs that survived thecrisis represent good assets for hungry PE funds. It is likely that, if the politicalsituation in Italy and in the EU remains stable, the abundant global availabilityof capital will cause PE funds in 2015 to dig deeper into the pool of undiscoveredopportunities in Italy.

In addition, some exits are expected in 2015 and 2016, especially from thoseportfolio companies acquired during the boom years. Sponsor-to-sponsor trans-actions will likely remain dominant, but IPOs could still represent a valid option.In fact, in 2014 some IPOs were successfully completed (for example the men-tioned IPO of Cerved, the Italian leader in business information controlled byCVC or the IPO of Anima SGR). In addition, Italian PE funds remain very ac-tive and a significant number of deals have been announced. Private equity inItaly is still alive and kicking.

About the authorBruno Gattai is the founder and managing partner of Gattai MinoliAgostinelli & Partners, based in Milan. He specialises in corporate andM&A transactions, with a particular emphasis on private equity. Hisclients include private equity funds targeting large deals or mid andsmall cap companies, companies’ group, listed and non-listedcompanies and family businesses concentrating on their holdingcompanies. In 2014, Top Legal (a leading Italian law magazine) namedBruno Gattai as Lawyer of the Year.

Bruno GattaiFounder and managing partner, GattaiMinoli Agostinelli & Partners

Milan, ItalyT: +39 0230323232F: +39 0230323242E: [email protected]: www.gattai.it

About the authorCataldo G Piccarreta is a partner at Gattai Minoli Agostinelli &Partners, based in Milan. He advises clients on corporate law, with aparticular emphasis on M&A and private equity. He advises leadinginternational and domestic private equity funds and Italian andoverseas companies on acquisitions and sales of corporate interests.After having spent his entire career in US firms, in 2012 he co-foundedGattai Minoli Agostinelli & Partners.

Cataldo G PiccarretaPartner, Gattai Minoli Agostinelli &Partners

Milan, ItalyT: +39 0230323232F: +39 0230323242E: [email protected]: www.gattai.it

NIGERIA


Economic developments in Nigeria have helped boost the potentialfor private equity (PE) development in country. While challengeswith fund formation and taxation persist, the use of adaptive struc-

tures to facilitate investment is increasingly common. Folake Elias-Ade-bowale, Christine Sijuwade and Joseph Eimunjeze of the Nigerian law firmUdo Udoma & Belo-Osagie consider options for taking advantage of thebest local opportunities in this article.

What have been the major developments affecting private equity’sdevelopment in Nigeria over the past five years?Roughly 50% of an estimated $8.1 billion total PE investment in Africa in2014 was invested in Nigeria. Among the major developments that have pos-itively affected private equity over the last five years are economic reforms in-cluding the rebasing of its economy, which has led to Nigeria’s recognition asAfrica’s largest economy and strategic sectoral reforms and developments suchas in its telecommunications and financial services sectors.

Other key factors that have contributed to increased PE interest in Nige-ria are its population size and, in particular, the exponential growth of mid-dle-class consumerism and the growth and involvement of its private sector.All of these factors have contributed to economic growth and created uniqueopportunities, which have attracted increased PE and foreign direct invest-ment. The privatisation of some sectors previously controlled by the gov-ernment has also helped to open up potentially lucrative opportunities. Forinstance, the privatisation of the Nigerian power sector has attracted invest-ment into distribution companies and generating companies.

Other developments include the growth and prevalence of informationtechnology and the emergence of e-commerce platforms. One of the mostexciting developments in relation to exits is the establishment in July 2013by the National Association of Securities Dealers (NASD) of NASD plc asan alternative trading platform, an over-the-counter market for unlistedbonds and securities, with the objective of improving transparency and liq-uidity in the capital market. The resulting expansion of opportunities forexits and secondary investments has been welcomed by the Nigerian PE sec-tor, and is expected to further boost PE investment in Nigeria.

What are the biggest challenges to fund formation, including anyregulatory hurdles international investors may not be aware of? One of the biggest challenges for PE fund formation in Nigeria is the re-striction on fund formation in the rules made by the Nigerian Securities

Blazing the trail

The Nigerian market is promising for investors that can navigate the bumps. Plotting the routeto success will require a thorough understanding of the landscape. Folake Elias-Adebowale,Christine Sijuwade and Joseph Eimunjeze of Udo Udoma & Belo-Osagie explain how

“One of the biggest challengesfor PE fund formation in Nigeria is the restriction onfund formation

NIGERIA


and Exchange Commission (SEC). The rules issued by the SEC (SECRules), however, apply only to private equity funds with a commitment ofat least N1billion ($5 million) investor funds, and require that such privateequity funds must be registered with the SEC – irrespective of whether theyseek investments from the public or not.

Under the SEC rules, private equity funds are prohibited from solicitingfunds from the general public but are mandated to source funds from qual-ified institutional investors such as bank and pension funds. Another regu-latory challenge faced by SEC-registered PE funds is that after the fund hasbeen duly registered, only a maximum of 30% of the fund can be investedin a single investment.

A major concern for most PE fund managers is the fact that a fund man-ager must be licensed by the SEC before it can apply to register a fund. Tobe eligible for registration, the fund manager of the PE fund is required tohave a minimum paid-up capital determined periodically by the SEC, whichnow stands at N150 million. The registration process is fairly extensive andinvolves: detailed documentation (particularly in relation to the key em-ployees of the fund manager who will be registered as sponsored individuals);clearance reports issued by the Nigerian Police Force; interviews by the SEC;and, an inspection of the fund manager’s offices. PE fund managers are alsosubject to extensive reporting obligations under the SEC rules.

The National Pensions Commission regulations permit the investmentof up to five percent of pension funds in PE funds that are SEC-registeredand managed by SEC-licensed managers. This is, however, subject to strin-gent restrictions, such as that managers must also subscribe between oneand three percent (or higher) of the fund.

Another major concern for corporate international investors is that suchinvestors cannot be partners in a Nigerian fund that is structured as a part-nership. They can only invest in funds structured as companies. In order toinvest in funds structured as partnerships, a corporate international investorwould first have to incorporate a company in Nigeria and, then, use thatcompany to invest in the fund. This is because, under Nigerian law, foreigncompanies are prohibited from carrying on business in Nigeria unless theyincorporate a company in Nigeria. Although foreign companies can holdshares in Nigerian companies, partnerships have no separate legal personalityunder Nigerian law and, as a result, each partner is deemed to be carryingon business in its own individual capacity.

Another issue is in relation to taxation. There is lack of clarity on the tax-ation of the income of Nigerian funds structured as companies. This is be-cause any dividends payable by a Nigerian investee company to a fund (asa shareholder of that investee company) will be liable to withholding of taxat the rate of 10%. Where such dividends are received by the Nigerian fund,they should be regarded as franked investment income, and should not besubject to further tax as part of the income of the fund. Where the dividendsreceived by the fund are to be paid out as dividends to its shareholders (re-distributed), and where the fund would be required to account to the taxauthorities for the tax that it is required to withhold from such dividends,the fund may set-off any tax withheld by the company before it pays thedividends to the fund. It will then have no obligation to further withholdtax on the redistribution of the dividends to its shareholders. If the totalamount of dividends to be redistributed is, however, in excess of the fund’staxable profits, the tax authority may regard such dividends as the taxableprofits of the fund. As a result, the fund could be liable to pay tax on suchdividends (an ‘excess dividends tax) at the rate of 30%.

What are the most common structures for establishing a fund, andwhy are they more preferable than others?The common structures for establishing a fund in Nigeria are limited lia-bility companies (under the Companies and Allied Matters Act ChapterC20 Laws of the Federation of Nigeria 2004), general or limited partner-ships, or the newer limited liability partnerships under the provisions of thePartnership Law of Lagos State 2009 (as amended). Many PE funds have

traditionally been structured as limited partnerships in which the generalpartner is liable for all debts and obligations of the partnership and the lia-bility of limited partners is limited to the extent of their respective contri-butions to the fund. A fund structured as a limited liability partnership, onthe other hand, will be made up of at least two designated partners whomanage the fund, and other partners. Under the limited liability partnershipstructure, the liability of all of the partners in the fund is limited to the ex-tent of their respective contributions to the fund. The limited partnershipand the limited partnership structure are, however, only recognised in LagosState.

The liability of the investors in a fund that is structured as a limited lia-bility company (either private or public) is limited to the amount, if any,unpaid on their shares. The limited liability company structure may bepreferable to some investors because a company has perpetual successionand it is relatively easy to transfer the shares in a limited liability company.

What is the typical timing for an acquisition and what factors canstall or delay a transaction?From the time that a fund establishes an interest in acquiring the shares ofa company, the average timeline for the conclusion of the transaction is be-tween two and six months. Some acquisitions can be completed fairlyquickly if the transaction is not complex and no regulatory approvals are re-quired. Delays may, however, arise in the process of obtaining pre- and post-acquisition regulatory approvals from the SEC and other sector-specificregulators (such as the Central Bank of Nigeria, the National Pension Com-mission, the National Insurance Commission, the National Agency for Foodand Drug Administration and Control, the Department for Petroleum Re-sources, the Nigerian Communications Commission and the Nigerian StockExchange where the target is a listed company): this is not uncommon inthe Nigerian PE transaction landscape. Delays also arise in the process ofraising finance for investments and in conducting legal and technical duediligence, as investee companies sometimes provide inadequate informationor documents.

What is the most common exit strategy used in Nigeria? Do sellershave residual liability after a divestiture?In Nigeria, some of the common forms of divestment for private equityfunds is by private treaty and sales to strategic buyers including multina-tionals. Funds may engage in a private arrangement with a prospective pur-chaser for the sale of the investee company’s shares to another portfoliocompany. In addition, where the articles of association of the investee com-pany provide for pre-emptive rights or other constituting documents infavour of other shareholders, the fund may offer to sell its shares to the otherexisting shareholders. The manner in which sales are completed would de-pend on the type of company (i.e. whether or not the company is listed onthe stock exchange) and on the terms prescribed in the company’s articlesof association. Where the investment is in a public listed company, the fundwill sell its shares on the floor of the Nigerian Stock Exchange (NSE). It ispossible for the fund to negotiate and agree the terms of a block sale to anidentified investor but the sale would have to be effected on the floor of theNSE using an authorised broker.

In addition to stick market entries and exits, secondary buyouts havebeen emerging and are set to increase with the SEC-licensed, self-regulating

“There is potential to increasetransparency and liquidity inthe market - a welcome additional option for PE exits

NIGERIA


entity NASD plc as an alternative trading platform for unlisted bonds andsecurities. There is potential to increase transparency and liquidity in themarket for such securities, a welcome additional option for PE exits.

There are no laws or regulations that require sellers to have residual lia-bility after a divestiture. The liability of sellers after divestiture depends onthe terms of the contract of sale of the shares.

Describe the competition between international, regional anddomestic funds. While many funds investing in Nigeria are registered in other countries, andbusiness opportunities in Nigeria abound across various economic sectors,the recent prevalence of auctions and bids targeted at PE investors evidencesthe increasing competition between international, regional and domesticfunds in Nigeria.

Foreign funds of varying size, capacity and focus have either establishedor are considering a local presence while others seek co-investment withlocal partners. International, regional and domestic funds are all seeking toexploit the same or similar opportunities in what remains a relatively small– albeit evolving – market for quality opportunities.

There is, however, a discernible diversification in investment focus, withsectors such as agribusiness and healthcare beginning to attract PE invest-ment interest in Nigeria in addition to more traditional areas such as finan-cial services, extractives and fast moving consumer goods.

How have taxation issues affected investment and structuringdecisions? Dividends made by funds structured as limited liability companies, afterhaving been subjected to 10% withholding tax by the investee company,are deemed franked investment income and are not liable to further tax.The result is that the fund is not liable to pay income tax on such dividends,and has no obligation to withhold tax before re-distributing the dividendsto its own shareholders. The fund may, however, be exposed to excess divi-dend tax if the dividends that it distributes to its shareholders are higherthan its taxable profit, or if it has no taxable profit for that year. The excessdividend tax issue will not arise if the only source of income for the fund isdividends from investee companies, in which case, the tax withheld by aninvestee company will be regarded as the final tax on the income.

The tax liability of the partners in a fund structured as a partnership isassessed and distributed among the partners under the Personal Income TaxAct. Upon distribution, any partner that is a limited liability company is li-able to pay tax at an aggregate income tax rate of 32% on any profits madefrom the distributions. It must also, in re-distributing the profits made fromthe fund to its shareholders, withhold tax at the rate of 10%.

For instance, the apparent tax efficiency of a limited liability companymay be defeated if the tax authority deems that the excess dividends tax pro-vision of the tax statute applies to the profits of a company that redistributeddividends, irrespective of whether the profit only came from dividends frominvestee companies that are franked investment income. These are some ofthe tax issues that must be taken into consideration in structuring a fundfor registration in Nigeria.

Which industries are receiving the most attention from privateequity firms? Are there any sectors in which private equity can’tinvest, or in which they face significant regulatory hurdles?The sectors that have received the most attention from private equity fundsin Nigeria include financial services, telecommunications, extractives, realestate, fast moving consumer goods and manufacturing. Retail, infrastruc-ture, agribusiness and healthcare also appear to be attracting PE firms.

Investment in companies operating within certain sectors require regu-latory approval. For instance, in the banking sector, an investment that willresult in an investor holding five percent or more of the shares is requiredto be approved by the Central Bank of Nigeria. In the insurance sector, anacquisition involving 25% or more of the shareholding (whether directly orindirectly held) requires the approval of the National Insurance Commis-sion. Other regulated sectors include the telecommunications sector and thepetroleum sector.

Investments by local and foreign investors are, however, absolutely pro-hibited in: the production of arms and ammunition; the production of anddealing in narcotic drugs and psychotropic substances; and, the productionof military and paramilitary wear.

“The Nigerian market is full ofpromising prospects for private equity investors

NIGERIA


About the authorJoseph Eimunjeze is a senior associate with Udo Udoma & Belo-Osagieand a member of the firm’s banking and finance and tax teams. Hisspecialisations include taxation, corporate advisory, M&A and bankingregulatory compliance. Eimunjeze has extensive experience in a range ofcapital markets (including eurobonds issuance by Nigerian corporatesand the Federal Government), oil and gas, private equity and financingtransactions and taxation.

He advises clients on tax, including tax planning and structuring oftransactions, and devises tax-efficient transaction structures to achievecompliance with Nigerian law. His extensive knowledge of financial,commercial and tax laws, complemented by affiliations andrelationships with the various tax authorities and industry players.

Joseph EimunjezeSenior associate, Udo Udoma & Belo-Osagie

Lagos, NigeriaT: +234 1 4622307-10F: +234 1 4622311E: [email protected]: www.uubo.org

About the authorChristine Sijuwade is a senior associate at Udo Udoma & Belo-Osagie.She is a core member of the team that advises local and internationalprivate equity firms on their equity investments in various Nigeriancompanies, including companies in the telecommunications, food andbeverage and manufacturing sectors. Sijuwade has also advised oninternational lending transactions, including syndicated loans, and hasbeen involved in a diverse range of capital markets transactions includingprivate placements and, as part of her asset management and collectiveinvestment practice, the establishment of private equity funds. In hercorporate advisory practice, Sijuwade participates in due diligencereviews, in the course of which she evaluates regulatory compliancepractices and credit portfolios to assess the viability of targeted businessesfor merger, investment and financing transactions. She contributes to thecredit and security section of the World Bank’s annual Doing Business inNigeria surveys.

Christine SijuwadeSenior associate, Udo Udoma & Belo-Osagie

Lagos, NigeriaT: +234 1 4622307-10F: +234 1 4622311E: [email protected]: www.uubo.org

About the authorFolake Elias-Adebowale is a partner at Udo Udoma & Belo-Osagie andco-heads the firm’s corporate advisory, private equity, and energy andnatural resources teams. Her specialisations include foreign investment,equity and asset acquisitions, corporate restructuring, private equity,and project finance for energy and industrial projects. She has advisedon various private equity and foreign investments in the food, beverage,brewing, energy, and health sectors.

Elias-Adebowale has written and presented papers on private equity,foreign investment and the local content requirements affectingparticipants in the Nigerian petroleum sector, and is a regularcontributor to the International Law Office’s Energy and NaturalResources Newsletter. She also co-wrote an article entitled TheRegulation of Private Equity in West Africa – Emerging Trends withNorton Rose South Africa in the winter 2011/12 edition of the Legal &Regulatory Bulletin of Emerging Markets Private Equity Association(EMPEA). She represents the firm on EMPEA’s Legal and RegulatoryCouncil.

Folake Elias-AdebowalePartner, Udo Udoma & Belo-Osagie

Lagos, NigeriaT: +234 1 4622639

+234 1 4622307-10F: +234 1 4622311E: [email protected]: www.uubo.org

SWITZERLAND


S witzerland’s revised law on the distribution of funds has now be-come a well-known and documented matter. The new frameworkleaves the Swiss qualified investors’ market accessible to all types of

alternative investment funds and is therefore a natural fit for private equityfunds.

As these rules are relatively new and have been enacted with guidance ononly specific topics from the Swiss regulator, Finma, important questionsregarding the new fund distribution rules remain among Swiss representa-tives of private equity funds, foreign fund providers and their legal counsels.The principal issues relate to the timing and duration of appointments ofSwiss representatives and paying agents, appropriate supervision require-ments of foreign placement agents and fund document requirements.

New fund distribution rulesMost private equity fund managers are well aware of the new Swiss rules ondistribution of foreign funds to qualified investors. Since March 1 2015,the Swiss Federal Act on Collective Investment Schemes (Cisa) requires al-ternative investment funds that are distributed to Swiss qualified investorsto appoint a Swiss representative and a Swiss paying agent. In addition, anyplacement agent of a private equity fund active in Switzerland (or the fundmanager itself should no third party placement agent be appointed) mustbe subject to appropriate supervision in its country of domicile and shouldenter into a distribution agreement with the Swiss representative.

Private equity funds and their managers are only exempt from having tocomply with these new regulatory requirements in two situations. First, ifthey solely market funds’ units to certain exempt qualified investors inSwitzerland (regulated financial intermediaries such as banks, broker dealers,

fund managers and asset managers of investment funds, or regulated insur-ance companies); second, if they sell their funds’ units to investors that haveapproached the fund on their own initiative without prior solicitation ofthe fund manager (reverse solicitation).

Swiss representatives and paying agents The Cisa requires that, prior to marketing a private equity foreign fund inSwitzerland, the fund manager must appoint a Swiss representative and aSwiss paying agent. In practice, it is difficult to determine whether market-ing activities prior to the finalisation of the fund structure are alreadydeemed to be distribution of a fund, as the fund is not yet established. Thisleads to a conundrum for private equity funds, which are often marketedprior to launching the fund, on the basis of teaser documents and generallybefore the PPM (private placement memorandum) is finalised.

The Swiss Funds & Asset Management Association (SFAMA) is of theview that once the investment policy, the fee structure and the fund managerhave been determined, the tipping point will already have passed. Accordingto this interpretation, the sending of teaser documents or pathfinder PPMscould already constitute fund distribution and would trigger the require-ment to appoint a Swiss representative and a Swiss paying agent. On theother hand, abstract discussions with potential future investors not relatedto a specific product or specific funds’ units should not trigger this require-ment and in this sense, market testing appears to be possible without havingto make any appointment.

The process for appointing a Swiss representative and paying agent startswith choosing the private equity fund’s Swiss representative. The Swiss rep-resentative of foreign funds should be an entity licensed by Finma to exercise

Attractive structuresLuc Defferrard and David Hadad of Walder Wyss look at a pragmatic new framework for thedistribution of funds, which opens up the market to foreign fund providers

SWITZERLAND


such activities. There are a handful of providers that offer the Swiss repre-sentative services, with prices usually ranging between SFr10,000 ($10,600)to SFr15,900 per fund per year. The fund manager will then start on-board-ing procedures with the Swiss representative chosen and complete an on-boarding questionnaire. Once the on-boarding process has been completed,the private equity fund and the Swiss representative will negotiate the rep-resentation agreement under which the Swiss representative is appointed.In addition, the private equity fund, the placement agent of the fund andthe Swiss representative will negotiate the distribution agreement.

The appointment of the Swiss paying agent usually comes next. The pri-vate equity fund manager may choose between one of several banks whichusually already work with the Swiss representative of the fund chosen. Thefees of the Swiss paying agents range between SFr1,060 to SFr5,300 perfund per year. For the Swiss paying agent, a short on-boarding process mustbe completed, followed by negotiations on the paying agency agreement.

The process for appointment of both the Swiss representative and theSwiss paying agent usually takes around three weeks depending on the rep-resentative chosen and the fund manager’s appetite to negotiate the agree-ments. If time is of the essence, it is possible to complete the appointmentsin a shorter period.

Under the law, if applied literally, the Swiss representative and the Swisspaying agent must remain appointed for the whole marketing period. Oncethis period is over and any distribution activities in relation to the private eq-uity fund in Switzerland have definitely been stopped, the mandates of theSwiss representative and paying agent will, despite the text of the law, remainin force and may be terminated, for private equity funds (as a rule, closed-end funds) only in the following cases. First, where no subscription of unitsor interests in the private equity fund has been made by a qualified investordomiciled in Switzerland; or, second, where early redemption is not possible(which is normally the case for private equity funds) or only with a special feeor penalty applying, once the last qualified investor domiciled in Switzerlandhas transferred its interests or the private equity fund is liquidated.

The revised Cisa and its new marketing rules came into effect on March1 2013, but provided for a transitional period of two years until February29 2015 for the appointment of a Swiss representative and Swiss payingagent. As a result, private equity funds that were marketed in Switzerlandto qualified investors during this transitional period were exempt from hav-ing to appoint a Swiss representative and a Swiss paying agent.

On March 1 2015, this transitional period lapsed and all private equityfunds must now fully comply with the new law. This means that private eq-uity funds that have been marketed in Switzerland under these transitionalarrangements (but have been closed before March 1 2015) must appoint aSwiss representative and Swiss paying agent if qualified investors domiciledin Switzerland have subscribed units or interests in the private equity fund.If no subscription of units or interests in the private equity fund has beenmade by a qualified investor domiciled in Switzerland, no appointment hasto be made. Likewise, any private equity fund that has been closed prior tothe revised Cisa coming into effect on March 1 2013, is exempt from com-pliance with the new law.

Requirements on fund documentsOnce the appointment of a Swiss representative and paying agent has beenmade, the name and address of the Swiss representative and the Swiss payingagent, the fund’s country of domicile and the applicable jurisdiction betweenthe private equity fund and its investors has to be included in all relevant funddocuments, based on Swiss mandatory wording. For alternative investmentfunds, such as private equity funds, this term is generally understood to in-clude the PPM, the subscription agreement and the financial statements.

Many Swiss representatives still insist that the Swiss mandatory wordingalso mentions a reference to a place of jurisdiction at the registered seat ofthe Swiss representative and so creates a forum for Swiss investors in Switzer-

land. However, Cisa does not require the place of jurisdiction to be inSwitzerland and the fund manager is free to agree with Swiss investors onany other place of jurisdiction.

Swiss representatives are also of the opinion that foreign fund managersneed to comply with the Guidelines on Duties Regarding the Charging andUse of Fees and Costs (Transparency Guidelines) issued by SFAMA. TheTransparency Guidelines have been recognised by Finma as a minimumstandard. The Transparency Guidelines require funds to disclose all chargesand fees incurred directly or indirectly by the investors and their appropri-ation in the PPM in general or as part of the Swiss mandatory wording. Inaddition, SFAMA has in its Transparency Guidelines extended the applica-bility of these guidelines to foreign placement agents and foreign fund man-agers. In our view, the Transparency Guidelines are more extensive thanwhat is required by the law and as such, should not be viewed as mandatoryby foreign placement agents and foreign fund managers. In practice, Swissrepresentatives require a respective contractual undertaking in the distribu-tion agreement. In general, it is of course advisable to specify all applicablecharges and fees in one single document (the PPM) in order to avoid con-tradictions and different interpretations based on different governing laws.

Requirements on foreign placement agentsA foreign placement agent may only place foreign private equity funds toqualified investors in Switzerland if it is subject to appropriate supervisionand admitted for fund distribution in its country of domicile. In addition,the foreign placement agent must enter into a written distribution agree-ment with the Swiss representative of the fund manager. However, the re-quirements on appropriate supervision or admission for fund distributionare not specified in detail. Any fund manager subject to the AIFMD (Alter-native Investment Fund Managers Directive) would meet the requirements.We are also of the view that any SEC (Securities and Exchange Commission)registered investment adviser is deemed to be appropriately supervised, asthe Cisa does not request an explicit authorisation to distribute funds fromthe foreign placement agent’s home regulator; however, this has not yet beenconfirmed or specified by Finma.

The distributor must enter into a distribution agreement with the Swissrepresentative. The distribution agreement is usually a tripartite agreementbetween the private equity fund manager, the placement agent (distributor)and the Swiss representative. The fund manager acts as principal of the dis-tributor and the distributor is approved by the Swiss representative for pur-poses of distribution in Switzerland. We recommend that the Swissdistribution agreement is aligned with the global distribution agreement inplace between the fund manager and the placement agent or any other dis-tributor. In the event the private equity fund manager acts itself as distrib-utor for its own funds, the distribution agreement may be consolidated withthe representative agreement to avoid contradicting provisions. The distri-bution agreement has to be governed by Swiss law.

Duties of the Swiss representativeThe Swiss representative represents the private equity fund with regard toSwiss investors and therefore serves as a point of contact for enquiries andclaims by Swiss investors. In this sense, the Swiss representative must ensurethat qualified investors may obtain the fund documents they request. Giventhat these documents are confidential, the Swiss representative should makethem available to existing investors only or potential investors approved bythe private equity fund manager.

Some Swiss representatives also require extensive involvement in funddistribution activity. Swiss law, however, only requests the Swiss representa-tives to: (i) ensure that a written paying agent agreement is entered into; (ii)have any distributor for Switzerland sign a written distribution agreementcompliant with the Swiss distribution rules (including the Provisions forDistributors by SFAMA); (iii) ensure that the fund documents contain theSwiss mandatory disclosures; and (iv) make the fund documents availableto Swiss investors upon request. Where violations of the law become knownto the Swiss representative, it has also to take appropriate measures. In our

view, the Swiss representative has no further mandatory duties and in par-ticular, it is not required to attend any investment presentation or be in-volved in any communication between the private equity fund manager andthe Swiss investors.

The Cisa requires that the Swiss representative represents the private eq-uity fund before the Swiss regulator Finma and that such power of repre-sentation should not be restricted. In our view, despite unrestricted powerof representation, the Swiss representative’s contractual obligations demandthat it first consults with and obtains instructions from the private equityfund manager before making any legally relevant statements on the privateequity fund’s behalf. In addition, the fund must have the unrestricted rightto choose to be represented by an independent attorney in any proceedingswith Swiss authorities if it feels that its rights and interests cannot be suffi-ciently preserved by the Swiss representative.

Duties of the Swiss paying agentOnly banks under the Swiss banking act and supervised by the Swiss regu-lator Finma may act as Swiss paying agent. Swiss investors may request theissuance and redemption of the fund interests at the office of the payingagent. Therefore, the Swiss paying agent would theoretically have to executeall transactions involving Swiss investors. However, for the latter, using theSwiss paying agent is only an additional option, requiring extra transaction

fees. All transactions and transfers can also be, and are therefore most of thetime, processed by the foreign bank or the custodian of the private equityfund manager directly. In practice, Swiss paying agents are only rarely usedfor investments and disinvestments of private equity funds, since such fundsare most of the time closed-end funds and their units cannot be redeemed.Most paying agents do not even request that the private equity fund man-agers open an account with them.

One can therefore question the need to name a Swiss paying agent if aforeign fund is only distributed to qualified investors and is a closed-endfund without redemption rights. In our view, the appointment of a Swisspaying agent does not result in a practical protection or easement for Swissinvestors. Nevertheless, for the time being, such duty is mentioned in thelaw and will therefore be respected.

Representatives smooth the wayThe new regulatory framework created by Swiss lawmakers keeps the Swissqualified investors’ market accessible to private equity funds. This is achievedthrough the use of a Swiss representative who is tasked by Finma to overseeand enforce the Swiss marketing rules towards foreign fund providers. Com-pared to Switzerland’s EU neighbours, the new framework is pragmatic, easyto put in place, and avoids regulatory reporting or the need to establish alocal presence.

SWITZERLAND


About the authorLuc Defferrard, partner with Walder Wyss since 2001, has been activein the finance and legal industry for many years. He mainly advisesclients in domestic and cross-border financing and M&A transactions,as well as in real estate and capital markets. Defferrard particularlyfocuses on private equity (leveraged buy-outs) advising a variety ofprivate equity funds, managers or target companies in the structuringand implementation of their projects.

Born in 1965, Defferrard was educated at the Geneva University andwas registered as attorney-at-law with the Geneva Bar Registry in 1990.Prior to joining Walder Wyss, he worked for seven years with UBS inGeneva, Zurich and New York as client manager and project managerin corporate and structured finance where he developed the bank’ssyndicated loans offer to clients in the French part of Switzerland.Defferrard lectures regularly at universities in private equity and venturecapital legal matters.

Defferrard speaks French, German and English and is head of GroupeFrancophone of Walder Wyss. He is registered with the Zurich BarRegistry and admitted to practice in all Switzerland.

Luc DefferrardPartner, Walder Wyss

Zurich, SwitzerlandT: +41 58 658 55 47E: [email protected]: www.walderwyss.com

About the authorDavid Hadad is an associate in the banking and finance team at WalderWyss, having joined in 2010. Hadad advises clients on the increasinglycomplex regulatory requirements in the financial sector. He representsasset managers, fund managers and distributors in regulatory mattersbefore Swiss regulatory authorities.

Hadad focuses on private equity and venture capital, advising investorsand target companies during every step of the investment process,including providing assistance in developing investment vehicles,placing shares and selling equity stakes to other investors or industrialinvestors.

Before joining Walder Wyss, he worked as a project manager for CreditSuisse from 2001 to 2008. In 2011, Hadad was seconded to UBSInvestment Bank in Zurich, where he advised the bank on derivativetrading and other financial instruments.

David Hadad’s professional languages are German and English andHebrew. He is registered with the Zurich Bar Registry and admitted topractice in all Switzerland.

David HadadAssociate, Walder Wyss

Zurich, SwitzerlandT: +41 58 658 52 04E: [email protected]: www.walderwyss.com

UNITED STATES


W ith each passing day, the tools that cyber criminals use becomemore sophisticated and the damage they inflict more severe. Theregulatory landscape surrounding cybersecurity also continues

to grow more complicated as US states, the federal government as well asgovernments around the globe issue new, and sometimes conflicting, rulesdesigned to protect individual privacy and the integrity of network infra-structure.

Investment advisers, including private fund managers, must pay close at-tention to cybersecurity and data privacy. Responsible stewardship requiresfund managers to proactively address cybersecurity threats, by assessing vul-nerabilities and adopting best practices, anticipating and developing plansto respond to a cyberattack, and taking steps to prevent the economic lossand reputational harm that too often follow attacks. Increased attention tocybersecurity will allay the concerns of investors, many of whom demandprotection of their own confidential information. It can also help avoid un-wanted regulatory attention, and is a prudent step with respect to a fund’sportfolio companies.

Unfortunately, investment advisers are an attractive target for maliciouscyber actors because they possess a trove of confidential information. Thisincludes: material non-public information relating to a private fund’s port-folio companies and acquisition targets; potentially sensitive informationabout investors; personal information of executives, including informationabout their personal securities trading and employees; portfolio companycustomer lists and trade secrets, and; information regarding general businessstrategies.

A data breach of any confidential information is likely to give rise to sig-nificant economic loss. According to a recent study by the Ponemon Insti-tute, in 2013 the average data breach cost organisations $5.4 million, or$188 per record compromised. Just one year later, the average cost per com-promised record rose by seven percent to $201.

Advisers that took a strong security posture, however, saw a saving of$14.14 per record, and implementation of an incident response plan trans-lated into savings of $12.77 per record. The appointment of a chief infor-mation security officer saved $6.59 per record.

Investment advisers may also become an attractive target for regulators,which are looking for opportunities to seize turf in the bureaucratic scrum,and hammer the message that cybersecurity must be front-of-mind. The USInvestment Advisers Act of 1940 and Investment Company Act of 1940each require private investment firms to implement written policies andprocedures to ensure compliance with federal securities laws. The Depart-ment of Justice has suggested that state of the art cybersecurity should be atop priority of companies, and an April 2015 investment manager guidanceupdate issued by the Securities and Exchange Commission (SEC) indicatesthat failure to mitigate certain cyber threats could be construed as violationsof the SEC’s identity theft red flag rules.

There are, however, steps that investment advisers can take to mitigatethese risks. In general, a private equity adviser should implement a three-pronged approach to deal with the threat of cyberattacks: (i) assess its inter-nal systems; (ii) remediate any weak controls; and, (iii) implement newgovernance protocols. Advisers may wish to monitor their portfolio com-panies to ensure they are similarly proactive and prepared.

Staying a step aheadProtecting clients’ data requires internal policies that shift with the regulatory landscape. Jordan Murray and David O’Neil of Debevoise & Plimpton discuss best practices to stayahead of cybercrime

UNITED STATES


Assess internal systems Private equity advisers should assess their internal systems by mapping andtaking an inventory of digital assets, a process that involves asking whatassets the adviser has, identifying where such assets are kept, and determin-ing whether they are really needed. The adviser should also evaluate its in-ternal practices to protect data across platforms (for example mobileapplications versus desktop workstations).

Best practices include periodic internal audits, and conducting penetra-tion tests and other assessments of potential infrastructure vulnerabilities.Assessing internal systems should involve performance of a benchmarkanalysis against external standards, such as the framework for improvingcritical infrastructure cybersecurity promulgated by the Department ofCommerce’s National Institute of Standards and Technology (NIST Frame-work) and the critical security controls developed by the SANS Institute(SANS Controls). The NIST Framework offers, among other things, a setof tiers against which an organisation can evaluate its internal controls andpreparedness to thwart potential attacks. The SANS Controls focus on prod-ucts, processes and services that historically have been effective at mitigatingcyber threats. Threats may include insiders, for example disgruntled em-ployees, and outsiders such as hackers and other cyber criminals who mayobtain access to systems through third parties or loose security protocols.

In addition to considering in-house cybersecurity risks, an adviser mustconsider the information it makes available to third party vendors. An as-sessment of an adviser’s systems should include the monitoring of vendors’security credentials and their access to the adviser’s systems. Vendor contractsshould specify or require the vendor to implement cybersecurity protocols,adopt a written information security plan and provide audit results or re-ports to the adviser on request. In certain cases, contracts may grant the ad-viser audit rights and appropriately indemnify it from losses stemming froma vendor’s breach of its cybersecurity commitments.

Remediate weak controls After conducting a thorough assessment of information technology systems,policies and procedures, an adviser should proceed to closing vulnerable ac-cess points and bolstering systems that may have been compromised. TheSEC has stressed the importance of controlling access to systems and datathrough active management of authentication methods and use of firewalls,data encryption techniques, and software that monitors systems for unau-thorised activity. Advisers should consider granting tiered access to criticalinformation and restricting the use of removable storage devices.

Implement governance protocols Advisers must implement effective governance policies and procedures tominimise cyber threats, including incident response plans and teams to an-ticipate and manage the fallout from any potential cyberattack. A typicalincident response plan lays out appropriate procedures to be followed afteran incident. It also incorporates processes to ensure that boards of directorsand senior management receive regular briefings on cybersecurity issues.Advisers should consider charging a committee with oversight of cyberse-curity risk management. Finally, and perhaps most importantly, advisersshould regularly train employees on how to assess and respond to cyberthreats, so as to create a framework for identifying potential breaches early,thus thwarting or containing the consequences of such threats as nimbly aspossible.

Although private equity advisers may not be able to anticipate or preventevery form of cyberattack, they should undertake the efforts to mitigate suchthreats and to be prepared if such an attack should occur. Failure to takethat responsibility seriously could result in substantial financial loss and rep-utational harm to both the adviser and its investors.

About the authorDavid O’Neil is a partner in the Washington DC office of Debevoise &Plimpton. O’Neil, a member of the firm’s white collar and regulatorydefence group, focusses on white collar criminal defence, internalinvestigations, privacy and cybersecurity, congressional investigations,and anti-money laundering/sanctions enforcement defence.

Prior to joining the firm, O’Neil served for eight years in theDepartment of Justice (DoJ). In 2014, the President and AttorneyGeneral designated him to lead the criminal division, where he wasresponsible for supervising over 600 attorneys investigating andprosecuting the full range of federal crimes, including corporatemalfeasance, cybercrime, fraud offences and money laundering.

O’Neil earned his JD, magna cum laude, from Harvard Law School in2000.

David O’NeilPartner, Debevoise & Plimpton

Washington DC, US T: +1 202 383 8040E: [email protected]: www.debevoise.com

About the authorJordan Murray is a New York based partner with Debevoise &Plimpton. He is a member of the firm’s private equity funds andinvestment management groups.

Murray focusses on advising sponsors of, and institutional investors inopen- and closed-ended private investment funds, co-investmentvehicles and separately managed accounts, covering numerous sectorsand strategies including buyout, real estate, debt, distressed and creditopportunities. He acts for both private investment firm owners andinstitutional buyers in connection with investments in privateinvestment firms, and has restructured private investment firms inpreparation for potential liquidity events for the firms’ owners.

He received his JD, cum laude, from the Fordham University School ofLaw in 1999.

Jordan MurrayPartner, Debevoise & Plimpton

New York, UST: +1 212 909 6924E: [email protected]: www.debevoise.com

Documents

Private Equity and Venture Capital Guide - IFLR. · PDF fileVenture Capital Guide 2015. SURVEY PARTICIPANTS ... List and CircleUp ... accelerators and venture capitalists are working