Growth opportunities for PE and VC funds in Luxembourg
By Jevgeniy Nesch and Virginie Leroy, AKD – Private equity and venture capital are amongst the key investment fund strategies showing the strongest growth in the last decades. Even if at the beginning of the Covid-19 pandemic, some PE and VC funds faced challenges such as a reduction in the activity of their portfolio companies, valuation difficulties, exchange rate volatility and liquidity, most of the fund managers were able to adapt and address those issues in an efficient, rational, cost-effective and prudent manner. In addition to the handling of the day-to-day challenges, PE and VC fund managers have also discovered new opportunities where they might help to navigate the businesses out of economic emergencies, while providing investors with attractive returns and necessary protection.
Luxembourg as the fulcrum for fund establishment, management, administration and distribution has a conducive environment in particular for PE and VC funds, offering a large range of flexible regulatory, corporate and tax structures together with the access to seasoned and experienced fund professionals. This advantageous and sustainable ecosystem in Luxembourg provides fertile ground for successful growth to all types of players in the PE and VC field.
Easy and fast market access
Luxembourg’s regulatory plug and play system allows PE and VC fund managers to build on their existing knowledge, expertise and capacities by providing multiple possibilities to enter the Luxembourg funds market.
Smaller PE and VC fund managers launching a Luxembourg fund often choose to benefit from the exemption under the Directive 2011/61/EU on alternative investment fund managers (AIFMD) allowing the management body of the fund, instead of appointing a fully authorised alternative investment fund manager (Authorised AIFM), to act as so-called sub-threshold alternative investment fund manager. Since the latter must be inter alia registered with the Luxembourg Commission de Surveillance du Secteur Financier (CSSF), those managers are also referred to as Registered AIFMs. In order to benefit from this exemption, Registered AIFMs’ assets under management, including any assets acquired through use of leverage, may not exceed a threshold of EUR100 million. Should the Registered AIFM manage only unleveraged funds that have no redemption rights exercisable during a period of five years from the initial investment in the fund, its assets under management may not exceed a threshold of EUR500 million.
EEA-based non-Luxembourg managers who do not benefit from the above mentioned AIFMD exemption or wish to opt-in under the AIFMD – e.g. to get access to the AIFMD marketing passport – must apply for authorisation as an Authorised AIFM in their home jurisdiction or in Luxembourg. An Authorised AIFM must comply with a number of legal, regulatory, substance, operational and infrastructure requirements as set forth in the respective national legislation implementing the AIFMD. In case the fund manager does not have yet the capacity for the full authorisation under AIFMD, the management body of the Luxembourg fund may delegate inter alia the portfolio and risk management function to a Luxembourg based third-party Authorised AIFM (Third-Party AIFMs). Subject to certain requirements, a Third-Party AIFM may further delegate portfolio management function to the manager/initiator of the fund. Instead of acting as delegated portfolio manager, the PE and VC fund manager may also act as investment advisor providing the Third-Party AIFM with investment advice based on its specific expertise and experience taking into account the investment strategy of the respective fund. Non-EEA based PE and VC fund managers (e.g. US, UK, etc.) acting as AIFMs also have good access to the Luxembourg funds market and, depending on their marketing plans in EEA, may fall out of scope of AIFMD for the time being.
Luxembourg PE and VC fund vehicles
Luxembourg limited partnership regime offers to the PE and VC fund managers, in particular since it was strengthened through addition of the special limited partnership (SCSp), the most flexible and widely used fund structure. The legal framework applicable to the Luxembourg common limited partnership (SCS) and SCSp allows the managers, to the greatest extent possible, to tailor the fund’s limited partnership agreement implementing their specific approach, including fund governance, operations as well as fee and distribution models. Specifically, the combination of the Luxembourg limited partnership regime used for the fund vehicle together with the role of the fund manager as Registered AIFM is often seen in the PE and VC funds sector.
Luxembourg PE and VC funds in the form of limited partnership (but also other corporate forms) can further opt-in to one of the well-known Luxembourg fund regimes, whether regulated and supervised by the CSSF (such as SIF or SICAR) or without being regulated and supervised (such as RAIF) and be henceforth subject to the relating fund product laws. These Luxembourg fund regimes, and in particular the SICAR together with the corresponding structure under the RAIF regime, were specifically designed and tailor-made for funds pursuing private equity and venture capital investment strategies.
Distribution of PE and VC funds
Luxembourg-based investment funds are successfully distributed in Europe and beyond its borders whether with the AIFMD marketing passport or through compliance with the national private placement rules applicable in the jurisdiction of targeted investors. As from 2 August 2021, certain new rules brought by the EU cross-border distribution of funds legislation (CBDF) apply to the distribution of funds. While the practicability of the new set of rules brought by this legislation may be assessed only at a later stage, CBDF seems to bring some clarity about certain distribution aspects. For instance, the EU-wide harmonised understanding of pre-marketing activity and the introduction of de-notification procedures should bring efficiency and hence growth opportunities for the fund managers distributing their Luxembourg PE and VC funds in accordance with the new CBDF rules.
PE and VC funds embracing ESG aspects
Funds pursuing PE or VC strategy worldwide increasingly implement ESG considerations. Since March 2021, fund managers must comply with EU Regulation 2019/2088 (SFDR) and inter alia ensure the provision of certain sustainability-related information to investors. In particular, PE and VC funds promoting environmental or social characteristics or having sustainable investments as their objective will benefit from respective qualifications under SFDR and the ESG related developments in the investment funds industry.