Guernsey's private equity industry has seen dramatic growth in the past decade to reach £80bn, with the island's bankers and lawyers quick to capitalise on the opportunities at their doorstep. Tom Carey reports

The private equity industry in Guernsey has grown dramatically over the past 10 years and today the value of private equity funds has reached £80bn. Despite the recent global economic and regulatory issues facing the industry, the future for private equity in Guernsey looks bright.

Guernsey continues to be the jurisdiction of choice for the private equity industry, despite the continuing economic and regulatory threats posed by the eurozone crisis and Alternative Investment Fund Management Directive (AIFMD). There is no doubt that fundraising has been difficult over the last 18 months, but a number of houses have successfully raised funds and have done so through vehicles established in Guernsey.

Setting up camp

Some houses that used English or Scottish vehicles have established their new funds in Guernsey and some have even decided to set up a permanent administration or management establishment on the island. This is, in some part, a response to the AIFMD, but it is also testament to the recognition of Guernsey as a centre of excellence for the industry.

All of this activity has had a significant impact on the legal sector in Guernsey. Firms that have chosen to specialise in private equity have seen steady inflows of work for their fund formation, financing and M&A teams.

In addition, they have been able to win business from their competitors as clients have been more willing to review their retainers with underperforming firms. As a result, those firms focused on private equity have been able to weather the economic storm and offset the drop in capital markets, corporate and financing work which, although still present, is not coming through in the same volumes as it did before 2008.

Private equity is the fastest-growing segment of the funds industry – as the new high of £80bn of net asset under management testifies. We have seen, and continue to see, successful fundraisers by locally-based funds despite the global downturn. However, the fundraising environment remains tough and, generally speaking, only those houses with strong track records are able to complete a first closing.

There is no one theme to the fundraising story, as investors seem more inclined to back successful managers rather than chase sector-specific opportunities. Better Capital, which invests in distressed and turn around opportunities, raised £169.9m for its Better Capital Fund II, with the deal also being notable as the first ever listing of a protected cell company with two cells on the London Stock Exchange.

In the buyout space this year, BC Partners raised more than €6bn (£4.9bn) for BC European Capital IX and two well-known PE firms had first closings in their latest funds of €4bn (£3.2bn) and €3.8bn (£3bn) respectively. Emerging markets funds have also proven popular, with Turkven and Baring Vostock both hitting their fundraising targets.

At the lower end of the scale, promoters have been raising funds investing in clean energy and renewables as well as opportunities in the Mittelstand in Germany.

Many of the successful fundraisers of the past 12 months have come from houses that already have funds in Guernsey.

But part of Guernsey's success story recently has been its ability to attract new funds of firms that had previously used UK or Scottish limited partnerships. This is a result of a combination of the AIFMD, proposed UK accounting regulations and the flexibility of Guernsey's limited partnership law.

It is hoped that the Government will soon approve a new limited partnership law which will permit the establishment of segregated cell partnerships, the migration into Guernsey of foreign partnerships and greater safe harbours for limited partners permitting them to get involved with certain aspects of partnership business without it impacting on their limited liability.

Financings

On the back of these successful fundraisers, we have also seen an increased use of capital call and bridging facilities to manage the drawdown and investment process. Banks are viewing this as a profitable and low risk business, and those that are behind the curve are creating teams that are dedicated to private equity clients. In particular, we have seen deals on some of the larger funds involving one or more of Barclays, Citibank, Lloyds, the Royal Bank of Scotland (RBS) and West LB.

Given that this is a growth area, competition is increasing among the banks to provide innovative financing solutions on reasonable terms. It is interesting to note that some banks are going as far as not requiring security over bank accounts or the general partner's call rights, but are instead prepared to take a credit risk on the limited partners. Contrary to what may be expected, the financing is not exclusively provided by City based institutions.

Guernsey-based banks have been quick to seize upon the opportunities presented to them on their doorstep and have been using their own balance sheets to provide capital call and bridging facilities to Guernsey based funds.

This, in turn, has given local lawyers the opportunity to take the lead role in drafting and negotiating the transaction, which means that they often find themselves opposite a magic circle firm. Most recently, RBS in Guernsey arranged capital call and bridge facilities for EQT and Mid Europa where the documentation was generated and negotiated by lawyers based in the island. That a firm was able to resource and negotiate such a transaction is testament to the quality of lawyers that choose to practise on the island and demonstrates that the work here is both challenging and high profile.

Apax, BC Partners, EQT, Mid Europa, Permira and Terra Firma are all well-known private equity firms that have created permanent establishments in Guernsey.

With the spectre of the AIFMD looming over the horizon, Guernsey has actually benefited from the uncertainty surrounding the implementation of the directive and has seen a number of firms establish their management functions in the island.

Interestingly, a number of these new firms hail from the continent rather than the UK and have expressed great satisfaction with the service that they get from the local lawyers and administrators. Of particular note for them is the pragmatic approach of the regulator and the fast-track nature by which funds are authorised.

Rapid influx

This influx of European firms seeking office space has had an obvious impact on the commercial property market, with rents for small office space comparing favourably (on a square footage basis) with rents on much larger commercial properties. In an otherwise stagnant local property market, this has provided some boost both to the lawyers and the agents.

As firms put in place permanent establishments, they have also seen the advantages of establishing their new funds in Guernsey and/or migrating their existing funds to the island. In addition, certain firms have found the standard of administration and fund accounting in Guernsey to be superior to that in the UK. This has led them to consider greater outsourcing arrangements with Guernsey service providers or to building up their local teams.

We anticipate seeing more private equity houses setting up permanent establishments in Guernsey, not least as many will see the tax savings available and the ability to mitigate against the AIFMD's most expensive rules for several years.

Investor preference is a factor here, but many larger funds have concluded that it makes more sense to move (or stay put) outside the European Union. The new limited liability partnership law will also be attractive to the industry as it establishes management entities. The law is an improvement on its UK cousin, which seeks to address some of the more serious issues that have arisen under that Act. Most importantly, it will not require firms to file a copy of the partnership agreement or their accounts, which should make it very attractive.

M&A activity

Private equity-related M&A activity continues to remain steady, with many of the Guernsey funds having been involved in some high-profile deals including Apax's acquisition of Kinetic Concept and Orange Switzerland, Permira's acquisition of Netafim and Terra Firma's acquisition of Four Seasons.

On the exit side, we await the sale by Permira of Igloo Foods, which makes products under the Captain Birdseye and Findus brands.

The work required of local lawyers in relation to M&A activity is in structuring Guernsey registered bidcos and/or providing legal opinions on equity commitment letters or fund structures. Unlike financing work, law firms in the island have yet to take the lead role on negotiating or documenting transactions of this nature.

Future for lawyers

The growth in the private equity industry in Guernsey has revealed the need for local law firms to specialise and to field teams with strength in depth that can deal with fund formation, financing and M&A. With the increase in the number of firms seeking a permanent establishment, expertise in regulatory, property and employment law are also crucial. Those firms that have got it right will continue to benefit as they see inflows of new business both directly and as a result of clients moving away from underperforming firms.

Tom Carey is a partner at Carey Olsen.