The rise of the non-fund manager
December 2015 | SPECIAL REPORT: INVESTMENT FUNDS
Financier Worldwide Magazine
Increased regulation has made regulated fund structures less attractive to those who may once have become fund managers. Instead, some erstwhile fund managers are forming either private or public investment vehicles as an alternative to launching traditional funds. This article will comment on some of the alternative structures which a ‘non-fund manager’ may utilise.
Internalise management and become a conglomerate
“Why would anyone launch a private equity fund anymore?” This was a question which perplexed Jon Moulton when the European Union Alternative Investment Fund Managers Directive was first being discussed at one of the many conferences at which he spoke. Mr Moulton’s suggestion was that in place of being a private equity fund a company could be formed to buy a series of other businesses and consider itself a conglomerate along the lines of Hanson plc in the 1980s. While we haven’t seen the rise of diversified conglomerates we have seen a number of companies following the ‘Raven Russia’ precedent. If a company does not produce net asset valuations but issues financial reporting, has no investment objective but has a business plan and has no external investment manager but has management and staff, it effectively ceases to have the characteristics of an investment fund and is a trading company. The company in this instance is formed to acquire, develop, manage and sell real estate.
Other companies like MXC Capital, which is listed on AIM and describes itself as “a quoted merchant bank specialising in investing in technology companies”, may once have found it more attractive to be constituted as a venture capital fund. There are of course other companies which are not yet listed and those which have no intention of listing where the board of directors of the company does not wish to be captured by investment fund regulation unintentionally and therefore structure the company as a trading company.
Options with respect to listing include the London Stock Exchange (LSE), the Specialist Funds Market (SFM), AIM (formerly the Alternative Investment Market), the Channel Islands Securities Exchange (CISE) or the Cayman Islands Stock Exchange (CSX). Each of these markets has its own unique benefits and distinct cost profile with LSE listings typically providing the greatest liquidity with the offshore exchanges offering a cost effective technical listing with lighter touch disclosure requirements. There are challenges with a listing of trading company shares, the principal one being the requirement to have a trading history which is three years for CISE or two for CSX. This is not always an insurmountable problem and there are some potential strategies for proceeding with a listing of a newly formed trading company on an offshore exchange.
Acquire a single asset
A structure which holds a single asset is not regarded as a collective investment scheme in most jurisdictions as there is no spread of risk. Clearly, lots of special purpose vehicles are formed to hold single assets, often real estate holding structures. The attraction of this is normally to make buying and selling the asset easier and, in some instances, to provide confidentiality with respect to the beneficial ownership of assets.
Another popular structure is a protected cell company (PCC) where each cell has multiple investors but invests into just one asset. This structure may be considered not to be a collective investment scheme but a series of single asset holding structures. The benefits of using a PCC are that it is more cost effective because the PCC already has one legal adviser, a board of directors, auditors, a company secretary and administrator appointed, etc. It is also much faster to form one cell than a new company from scratch because the principal private placement memorandum is already drafted so that all that is required is a supplemental cell memorandum for the new cell. This works really well for private equity, venture capital and real estate transactions where investors want to be able to opt in or out of given opportunities rather than find themselves committed to a blind pool. Unit trusts and limited partnerships are also formed as well as limited companies to hold single assets on behalf of multiple investors.
Attracting multiple investors to acquire a single asset may seem to be logical where that asset is a large property or privately owned business but this can be used for the acquisition of a stake in a listed company too. For example, Sherborne Investors (Guernsey) B Limited is a Guernsey domiciled investment company which has been admitted to trading on the SFM (but is not a collective investment scheme) which has the objective of investing in one target company at a time, which is typically a listed company. It has recently built a stake in Electra Private Equity plc which is a LSE listed investment trust.
There are also several asset leasing companies which have been formed to acquire, lease and then sell aircraft or ships. These are not considered to be collective investment funds because they do not have a sufficient spread of risk. These include entities like Amedeo Air Four Plus Limited, Doric Nimrod Air 3 and Nimrod Sea Assets Limited.
Unlike the companies referred to above, the vast majority of single asset structures are not in the public domain and these public companies therefore only give a taste of some of the investment vehicles which exist, which are not collective investment schemes.
Form a single investor fund or joint venture arrangement
A key feature of an investment fund is the pooling of cash from multiple investors. In the case of retail funds, this can be thousands of individuals while private equity funds often launch with a dozen or so institutional investors.
However, not every investor wishes to pool his ownership of a single investment or portfolio of investments with others. Administration, accounting, financial reporting, management and legal documentation are clearly simpler and therefore less costly when there are fewer parties involved in the negotiation and regulation is also much lighter. This has given rise to the formation of what is described as a segregated managed account. These single investor structures are typically formed for ultra-high net worth private investors, family offices and institutions with bespoke mandates.
If there are maybe two or three investors who know each other and have decided to co-invest alongside with one another, that structure can be described as a joint venture arrangement or co-investment vehicle, and that too is not a collective investment scheme.
The PCC is also very popular as a vehicle for forming a series of segregated managed accounts where each single investor is given one cell and a distinct mandate is agreed with the asset manager over how the investor’s assets will be invested. This works well whether the assets are liquid securities or illiquid assets like private equity and real estate.
Or just form a fund in a flexible, well regulated jurisdiction
If an investment vehicle has multiple investors, multiple assets and external investment management, then clearly the structure will be considered to be a collective investment scheme of some type. Different jurisdictions have a range of terms to make their various offerings appear more attractive from very private funds, unregulated funds, expert funds, qualified investor funds, etc., to name but a few.
Perhaps the simplest and most flexible fund regime to understand is the Guernsey Registered Closed-Ended Fund. It is regulated and requires a regulated administrator, however there is no minimum investment level and no cap on the number of offers which can be made, or the number of investors who can invest. It can be listed on a large number of exchanges or offered via private placement to investors of all types and is not just limited to professional investors. The Guernsey Financial Services Commission will approve the registered fund application within three days of receipt and rely upon the locally based administrator to perform due diligence on the acceptability of the fund promoter.
Increased volumes of regulation have increased costs and created a barrier to entry for new fund managers coming to market. However, there are routes to market available for those potential asset managers who are looking to raise capital from one or more third parties, and to invest the capital raised into one or more assets. These include forming a conglomerate, managing a single asset or series of single assets, providing a managed account or single investor fund or if all else fails opting for a simple, and flexible fund regime with a fast track registration process.
Joe Truelove is the head of fund services at Carey Group. He can be contacted on +44 (0) 1481 737 248 or by email: email@example.com.
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