A Tried and Tested Model
This article was first published in Preqin's 'Private Equity Spotlight', December 2014.
With the transitional phase for implementing the EU Alternative Investment Fund Managers Directive (AIFMD) having finally come to an end this summer, recent weeks have seen a marked rise in analysis, and some speculative comment, about how it is bedding down in different jurisdictions, how private equity managers are coping with the regulation most effectively and how private equity fund structuring is changing.
From a Jersey perspective, far from the AIFMD prompting a re-domiciliation towards onshore locations, which is a sentiment that has emanated from some corners of the European funds community, in the months since the AIFMD came into play, there has actually been an uptick in the value of private equity fund business being structured through the jurisdiction.
The latest figures, compiled by the Jersey Financial Services Commission (June 2014), show that the total value of funds being administered in Jersey has stayed consistently high in recent months, around the £200bn/$330bn mark, with private equity forming a substantial proportion of this. In fact, the specific value of private equity assets under administration in Jersey has risen steadily in recent times, almost doubling over the past five years.
Further reflecting the confidence there continues to be in Jersey as an alternative funds domicile, in the real estate funds sector, values under administration in Jersey have grown to their highest since pre-crisis levels.
Moreover, Europe's largest private equity fund raised in recent years enjoyed its final $10bn closing this year from a Jersey management platform, whilst the second largest real estate fund ever to be listed on the London Stock Exchange was structured through Jersey this year. These are just two of a number of recent high value Jersey alternative fund launches.
Far from European regulation, including AIFMD, causing a movement away from offshore centres, undoubtedly the trend evidenced across managers in Jersey is one of building significant future management substance. A number of major alternative fund houses have moved to or expanded their presence in Jersey recently.
Having opened an office in Jersey in June this year, for instance, Carne Group recently received authorisation for an independent AIFMD-compliant management company in Jersey, the first to be approved outside the European Union, allowing alternative fund managers including private equity managers, to comply with the AIFMD regime while maintaining a fund in an offshore, non-EU jurisdiction.
This isn’t a one-off, but reflects a general growth in interest from major alternative fund houses and managers in a Jersey structure of this nature, allowing them to access the European market and meet the requirements of the AIFMD but without the need for an EU domicile.
Thanks to its approach to regulation and specialist alternative fund expertise, Jersey is affirming its position as a leading domicile for European private equity business, including structuring and servicing, both in spite of and as a result of the AIFMD.
The initial response of managers to the AIFMD has been interesting, not least the idea that the much hallowed pan-European AIFMD ‘passport’ may not automatically be the most suitable choice. In contrast, the private placement option remains popular, providing managers and investors with real, practical benefits.
Increasingly, private equity managers are finding that the private placement option into Europe offered through Jersey can provide them with certainty of European market access, but with added flexibility and without the headache and costs of reporting under full AIFMD ‘passporting’ compliance.
Figures from the Jersey Financial Services Commission (JFSC), for example, indicate a strong take-up in Jersey's private placement route into Europe. Just months after AIFMD came into play and 176 Jersey funds and 49 Jersey fund managers are already actively marketing into the EU with JFSC authorisation under private placement regimes.
Additional data also shows that the UK remains a key market for Jersey managers and, in indicating which EEA Member States they intended to market into, most managers licensed to carry on fund services business in Jersey say they intend to market their funds into the UK. The fact that the UK remains such a key market is not surprising, given its strong links with Jersey. With the UK Treasury confirming its national private placement regime will be in place until 2018, Jersey will continue to benefit from certainty of access to the hugely important UK investor market.
Interestingly, though, the next most important intended markets for Jersey managers were Sweden, Belgium, the Netherlands, Ireland, Denmark, France, Germany and Luxembourg.
This considerable success reflects the broad appeal of Jersey within Europe. However this is perhaps not surprising given the mixed reception the passport has been given by managers.
In recent research by IFI Global (‘The Impact of AIFMD’, October 2014), for example, a significant number of managers said the AIFMD’s carrot, the passport, was of ‘little’ to ‘no interest’ to them.
Further, the cost of reporting and compliance under AIFMD through the passport, and the possibility of those costs eating into investor returns, remains a major concern. Research by BNY Mellon and FTI Consulting (July 2014) highlighted that managers expect regulatory, risk and compliance reporting to account for the majority of ongoing costs associated with AIFMD compliance, with the increased costs in some cases looking set to fall onto individual funds.
The actual value of the AIFMD is being questioned too. The BNY Mellon/FTI Consulting research also suggested that only 39% of managers believe that AIFMD will be either very beneficial or slightly beneficial to their organisation, and the same proportion of respondents believe end investors will benefit from AIFMD.
As far as the European fund structuring landscape is concerned, the IFI Global research also reveals that managers hold the general view that AIFMD will not require them to change the domiciliation of their funds. What the AIFMD will prompt, the research says, is for the European alternative fund industry to become even more institutionalised than it is today, with fewer independent alternative managers left in the EU with AUMs below $1 billion by 2020.
The indications are that boutique managers cannot see any real advantages to AIFMD, with a number of them indicating that they might move to centres outside Europe. In such circumstances, Jersey can offer a cost-effective base with European market access guarantees.
Overall, the value, benefits and ease of implementation of the AIFMD passport are far from clear, whilst the private placement option is proving an attractive, flexible and highly credible alternative.
The results of ESMA’s recent ‘Call to Evidence’ will certainly be an important next step in terms of AIFMD passporting being extended beyond EU AIFs managed by EU AIFMs. However, the work that has gone into future-proofing Jersey’s regime means that, if the untested AIFMD brand succeeds in the longer term, the availability of an AIFMD-compliant option in Jersey, when third country manager passporting commences in the EU, will only add to Jersey’s appeal across all manager and investor types, and locations.
For over 25 years Jersey has provided an efficient and familiar, appropriately regulated and tax neutral operational model for the structuring of private equity funds, which has helped deliver safe and stable returns for the industry and its international investors through all economic cycles.
As we now look to the longer-term, beyond AIFMD and with further regulation on the horizon, there is a real need for private equity managers to consider longer-term market developments, and Jersey remains well placed; being a non-EU jurisdiction, for example, Jersey is ring-fenced from the business risks and distractions of unprecedented levels of EU regulatory creep.
From a private equity servicing point of view, meanwhile, there is expected to be significant opportunity for Jersey service providers to support their onshore counterparts as regulatory pressures, including AIFMD, ramp up the volume and complexity of reporting requirements. Onshore managers are already looking to outsource their administration and governance requirements to dedicated specialists, and Jersey, with its sophisticated network of highly experienced administrators, is ready to meet that demand.
What is equally encouraging from Jersey’s perspective is that, whilst there has been a noticeable rise in alternative funds being structured through Jersey targeting UK and continental European assets, this has been accompanied by a growing number of promoters making use of Jersey for funds targeting assets and investors in non-European growth markets around the world.
For this reason, Jersey’s ability to offer a regime that is fully outside the scope of the AIFMD has been crucial, positioning it strongly to cater for a rise in the number of funds targeting growth markets across Russia, Africa and Asia.
A report commissioned by Jersey Finance and published by Capital Economics last month, for instance, highlighted that Africa has the opportunity to quadruple living standards by 2040, but to do so it will need to find $11.4 trillion in extra investment. Whilst the report estimates that only around 48% of that can be plugged by a combination of aid, domestic profits and local governments, the remainder, $6.1 trillion, will have to come from foreign direct investment.
By providing protection for investors, expertise and experience, efficient cross-border investment pooling, efficient and robust regulation and tax neutrality, Jersey is well placed to make an important contribution to the economic growth Africa needs. There are clear opportunities for private equity structuring through Jersey against this backdrop.
Thanks to its approach to regulation and alternative fund expertise, Jersey is not only affirming its position as a leading domicile for European funds business, but is also strengthening its appeal as a European time-zone centre for global private equity fund structuring and servicing.
Where Europe is concerned, now reluctantly accepted as the unavoidable future regulatory model onshore, the AIFMD brand has provided commentators with an opportunity to second-guess the Channel Islands' dominance in the alternative funds business. Before jumping aboard the passporting juggernaut, private equity managers need to consider carefully all the options available to them. All the statistics suggest the tried and tested offshore model will continue to support discerning and successful managers and investors for many years to come.
Further, as cross border finance grows, so too will the demand for tax neutral capital raising and pooling centres. With its flexible regulatory regime, structuring expertise, respect for the rule of law, use of a common business language, time zone convenience and protection of property rights, Jersey is extremely well placed to meet this demand, both within and outside of Europe.