A Future Proof Solution
Looking back over the past few years, it is clear that regulation, in various guises, has been a key pre-occupation for private equity and real estate fund managers. Amongst those with European interests, nowhere has this been more apparent than in relation to preparations for the EU Alternative Investment Fund Managers Directive (AIFMD).
With the AIFMD's transitional implementation phase coming to an end this summer, we are currently in an interesting period as far as fund structuring decision making is concerned. While EU countries have been bringing the AIFMD into national law at their different paces, many private equity and real estate fund managers and service providers are still trying to come to terms with exactly what the detail of the AIFMD means to them.
In numerous conversations we have had, there remains a real sense of uncertainty and, in some cases, a realisation and some serious concern that the decisions made in the next few months will have significant long-term implications for the operation of fund managers and the performance of their funds.
When it comes to marketing into Europe, managers want confidence that their funds are being effectively and appropriately serviced. Equally, managers want flexibility and a cost effective solution where they manage funds targeting investors in non-European growth markets.
For those International Finance Centres (IFCs) that are established specialist funds jurisdictions, getting this balance right has been crucial. Given its persistent strength in the alternative investment funds market this is very much the case in Jersey - over 70% of all of Jersey’s funds business is in alternative asset classes.
Based on an understanding that managers want both regulatory certainty and flexibility, Jersey has sought to adopt a ‘future proof’ model. This means that a Jersey manager is able to establish funds marketed in the EU through available national private placement regimes (with only the AIFMD's transparency and reporting burdens to contend with) and, as from 2015, through the option of an EU-wide passporting route (in full compliance with AIFMD). At the same time, Jersey funds can also target investors in the rest of the world, completely outside the scope of the AIFMD.
Although the UK remains our core market, an ever greater amount of non-UK and non-European real estate investment activity is currently being channelled through Jersey. The future looks to be improving in the US - particularly in residential and commercial real estate markets – while sophisticated investors in the Middle East and Far East are continuing to look seriously at global property and private equity investment.
As a result, managers are adopting global strategies and raising capital in growth markets around the world where wealth is being created and global investment opportunities are sought after.
For this reason, using a non-EU jurisdiction with the maximum EU accessibility that has the experience and expertise to handle global private equity and real estate business is highly attractive. As a non-EU jurisdiction, Jersey also offers a regime that is fully outside the scope of the AIFMD for managers who don’t require EU capital.
Using Jersey’s broad and familiar range of limited partnership, unit trust, or corporate (including cell) structures, this optionality offers clear benefits to managers and investors seeking lower operational costs, with the ability to avoid the depositary requirement, leverage restrictions, regulatory capital burdens and remuneration rules that are found within the AIFMD. If, however, investors require full AIFMD compliance, that option is available too.
The possibility of reduced regulatory compliance costs in appropriate cases means that a Jersey manager can offer enhanced return prospects to investors, and at the same time they can have confidence that it is being serviced by experts in a well-respected European time-zone jurisdiction.
The appeal of this approach to European and UK managers is reflected in the findings of Multifonds’ research published in June 2013, which found that 77% of EU managers may choose to set up an offshore structure as a result of AIFMD.
Meanwhile, where the EU marketing is concerned, 'offshore' is still very much alive, and Jersey managers can still access EU markets. Recent activity suggests that, for real estate funds targeting the buoyant UK commercial property market and the wider (though still relatively flat) European market, Jersey remains a popular choice.
Having signed 27 bilateral cooperation agreements with EEA countries in 2013, including the UK, Germany and France, Jersey’s regulator (the Jersey Financial Services Commission, ‘JFSC’) is now granting licenses for fund managers actively targeting European markets through private placement arrangements.
In addition, Jersey is the first ‘third-country’ to offer managers the option of a fully compliant AIFMD framework, thanks to regulations introduced in Jersey that mirror the Directive's requirements. This has created an ‘opt-in regime’ for managers wishing to comply fully with AIFMD requirements when marketing to European investors, providing regulatory equivalence compared to onshore EU locations and of particular interest to managers from July 2015, when fully compliant third country managers can seek the EU-wide marketing passport.
This essentially means that Jersey not only offers private placement regimes under the AIFMD, but has also already implemented, ahead of time, the necessary framework to achieve an EU-wide AIFMD marketing passport from 2015.
In particular, with HM Treasury confirming that its private placement regime will be in place until 2018, we expect Jersey to continue to prove an attractive and cost-effective location for UK-focused real estate funds, providing access to the major UK real estate and investor market, with which it already has strong connections and experience.
In addition, due to its straightforward structuring process and an administration network that understands core financing and accounting requirements, Jersey’s model is attractive for EU-focused real estate funds, particularly European single asset funds and an increasing number of sovereign wealth funds investing in real estate.
One of the key themes to emerge from the AIFMD is the requirement for managers to have greater substance, and the vexed issue of achieving a management entity's operational efficiency whilst demonstrating an appropriate degree of substance.
With Jersey’s regulator able to offer a fast-track licensing process that is the envy of many onshore locations, where there are instances of managers taking months to get an AIFMD licence, establishing a Jersey manager entity for private equity and real estate funds can be relatively simple and cost-effective.
Meanwhile, it will be of considerable comfort to managers that the familiar onshore EU adviser / offshore manager model still works in Jersey too, without risk of an EU onshore adviser being regulated as a manager onshore. The long-standing ability for Jersey to field local directors and officers of management entities with real risk and portfolio management skills and Jersey's ever-growing pool of skilled non-executive directors means there is little risk of properly-run Jersey management entities being discounted as mere ‘letterbox entities’.
Being able to draw on Jersey's deep experience in fund administration, asset servicing, tax advice, and accounting is vital for managers, as is having access to real governance expertise. Having precisely this sort of long-standing expertise has created a genuine offering of local substance in Jersey in the context of private equity and (in light of Jersey's network of qualified surveyors) commercial real estate activity, backed-up by the immediate availability, in the context of any managers opting for full AIFMD compliance, of a fully compliant depositary regime and a pool of local depositaries of all types.
As far as fund structuring is concerned, as we near the end of the crucial transitional period, we also expect to see parallel ‘offshore-onshore’ structures, with some managers choosing to run an onshore EU fund actively marketed in the EU, alongside a more cost-effective and flexible offshore option for other investors.
We also see an opportunity for UK fund promoters to use Jersey management entities as part of a ‘wait and see’ strategy, giving promoters the opportunity to continue their business as usual whilst stepping back and assessing the full impact of the AIFMD, without rushing in and committing immediately to the more costly and burdensome compliant option.
AIFMD has posed a significant regulatory challenge for Jersey, as it has for many jurisdictions, but, unlike most locations, Jersey has turned it into a real opportunity to offer the maximum flexibility to users of the jurisdiction. Promoters can establish all their management entities in Jersey and meet EU requirements while at the same time serving the rest of the world in a lower cost non-AIFMD compliant environment. Offering both options will not be possible in onshore EU locations, nor in all IFCs.
With a number of successful managers already putting their faith in Jersey by relocating in recent months, Jersey’s future as a specialist centre for real estate fund servicing and management looks very strong indeed.
This article was first published in Private Equity Real Estate magazine's feature on Regulation in February 2014.