6 May 2008
Private equity in recent years has been a success story for both investment managers and investors alike, with investments producing impressive returns and even more impressive carried interest. However, the sector has not been without its own woes, even pre-credit crunch.
Increasingly high-profile fundraisings and acquisitions by, and investment of public institutional money with, private equity houses have put the sector firmly in the public eye. This, together with at times negative media coverage, has led to rapid but significant changes within the industry, with it having to open itself up to higher levels of scrutiny and regulation.
Shifting landscapeAs the credit crunch takes hold, private equity firms have begun to turn to the Middle East and Asia to underwrite large transactions in Europe and the US.
As a snapshot, private equity in the Middle East and North Africa (Mena) region, albeit in its relative infancy, is enjoying tremendous growth and forecasts predict this trend is set to continue. Recent figures suggest the value of funds in the region will top $9tr (£4.52tr) within the next decade.
The growth of private equity in the Mena region is due to a number of factors, including the seemingly limitless liquidity bolstered by increasing oil prices, together with the fact that the availability of debt in the region does not appear thus far to have been affected by the crunch.
The shift in the private equity landscape, from the historical origins of business visionaries attracting investors with the promise of delivering maximum returns on the basis of a 'trust me, I know what I'm doing' approach, to a need and desire for transparency of its activities has been precipitated by changes in the types of investors, the large amounts being invested, the types of assets being purchased and the costs of assets, as well as a dabbling in the listing arena.
The magic of private equity is clearly in the financing, selection and management of assets, but of equal importance is the structure within which the 'magic' is performed.
Defining 'offshore'The chosen structure must, as far as possible, prevent leakage of value, as well as offer solutions to the changeable challenges facing the industry. This is where the selection of jurisdiction plays a significant role and where the offshore world continues to offer significant benefits.
The term 'offshore' has evolved significantly over the years. Gone are the days where it referred to some exotic, far-flung location little-known to anyone. These days offshore can be anywhere that offers an advantage to a fund promoter, the investor base or the particular type of investment itself.
Broadly speaking, offshore jurisdictions can be divided into two groups: the 'traditional' jurisdictions (Guernsey, Jersey, the Cayman Islands), and the 'new offshore world' (Antigua, Seychelles).
The expanding offshore world has resulted in jurisdictions developing differing strategies and legislative frameworks to encourage the location of fund structures. Some offer regimes that 'accessorise' an existing infrastructure to create short-term attraction, while others have developed core product structures designed specifically for the long-term needs of both the promoters and proposed investors.
While both undoubtedly have their place, the benefits of a jurisdiction that has taken the latter approach are to maximise financial efficiency (to prevent leakage of value); regulate and provide a framework that competes internationally with regulators that are diligent, yet pragmatic; and offer a flexible framework that develops infrastructure to accommodate ever-changing needs.
The future of private equityMuch of private equity's ability to deliver returns turns on the fine balance between the use of equity and debt in the purchase of assets, and the credit crunch will certainly have some negative effect on the sector in the short term, with some recovery as lending returns to a modified form of normality.
The focus for private equity will be a change to more transparency and disclosure (particularly relating to the public reporting of financial performance), enhanced corporate governance driven by the requirements of lenders and possible re-emergence of listing of private equity funds, and the creation of proper security packages for debt.
Structuring in a first-class jurisdiction will assist greatly in dealing with these issues. Guernsey has garnered the reputation as such a jurisdiction.
Guernsey's fund industry has gone from strength to strength in recent years, with an estimated £178bn currently under management and administration.
The jurisdiction offers significant advantages. It has a pragmatic approach to regulation and creates a flexible yet secure environment to conduct business. There is a range of vehicles available and the island boasts a high calibre of experienced advisers and service providers. Perhaps even more importantly, the local authorities show continued flexibility in response to global trends, manifested by their willingness to undertake continual review of the legislative infrastructure to ensure the jurisdiction remains wholly competitive within the international financial marketplace.
The island has definitely got the formula right: a solid basic foundation, together with a flexible and responsive attitude to global trends, has led to a highly successful funds industry. nAndrew Boyce is a corporate partner at Carey Olsen in Guernsey