Relevant developments for the Dutch fund industry
We will take a look at the state of play in the Dutch fund industry at a domestic level and as an international fund structuring hub. Fund activity in the Dutch market has been abundant in the recent years. With so much available capital, many new managers have emerged whilst more established players have branched out in new asset classes as part of a multi-strategy play. Whereas the larger private equity (PE) houses dispose of substantial teams, resources and infrastructure and avail of AIFMD licences, new managers are often lean organisations and thinly staffed. This puts them in a tight spot when it comes to offering their funds to prospective investors, or doesn’t it? Well actually, the answer would be ‘no’.
In the past six months, we have seen a significant number of ‘sub-threshold managers’ in the venture capital (VC)/PE-space applying for the ‘EuVECA’ label for their funds. EuVECA (which stands for European Venture Capital Fund) was introduced in July 2013 through pan-European legislation to promote investments in innovative small- and medium-sized enterprises. The regime allows a manager to offer its fund throughout the EEA, subject to such fund and its manager meeting certain requirements. Although the EuVECA-regime may be qualified as ‘light touch’ regulation, the requirements were felt to be too stringent. Therefore it never really took off, until earlier this year that is.
On 1 March 2018, the EuVECA regulations were amended allowing EuVECA funds to invest in a much broader category of portfolio investments. The categories of qualifying investments for EuVECA funds are now so broad that not only VC funds, but generally also growth funds and smaller mid-market buyout funds may qualify for the EuVECA regime.
The most attractive feature of the EuVECA label is that it allows managers to market their EuVECA fund with a passport on a pan-EU basis not only to professional investors, like for AIFMD regulated managers, but also to any other company or person as long as such investor makes a minimal investment in the fund of EUR 100,000 and confirms, in a document separate from its subscription agreement that it is aware of the risks associated with the proposed investment (such category often referred to as ‘semi-professional investors’). This is the beauty of the EuVECA regime; on the one hand the regulatory burden and costs are significantly less than under AIFMD regulation, whilst on the other hand a manager is permitted to market its EuVECA fund with a passport throughout the EU to a very wide investor group.
So, what exactly has triggered this renewed interest in the EuVECA regime?
As mentioned, one of the key changes in the amendment that took effect in March this year is that the category of portfolio companies in which a EuVECA fund may invest has been significantly widened. In order to qualify as a EuVECA, the fund must ensure that at least 70% of the fund’s capital will be invested in ‘qualifying investments’ (and accordingly not more than 30% of the investment capital may be invested in non-qualifying investments).
Qualifying investments are -in short- equity or quasi-equity instruments in qualifying portfolio companies. It is furthermore provided that the EuVECA fund may grant ordinary (secured or unsecured) loans to such qualifying portfolio companies for up to 30% of the fund’s investable capital and that shares in such qualifying portfolio companies do not need to be newly issued but may be bought from other shareholders, thereby allowing secondary transactions.
As novelty of the amendment of the EuVECA regulation, is that the definition of qualifying portfolio company has now been changed to include any company that at the time of the first investment by the EuVECA fund in such company either: (i) is not listed and employs not more than 499 persons or (ii) had an average market capitalisation of less than EUR 200 million on the basis of end-year quotes for the previous three calendar years; and is listed on a ‘SME growth market’, being a specific type of multilateral trading facility introduced by MiFID II.
This amendment opened up a whole new investment universe for EuVECAs as the definition of qualifying portfolio company was previously narrowly described as non-listed SMEs with no more than 250 employees and a maximum turnover of EUR 50 million or a maximum EUR 43 million balance sheet. In addition, the clarification in the amendment that the portfolio company needs to meet these criteria at the time of first investment by the EuVECA is very helpful, as it allows funds to support their ‘winning’ portfolio companies also in a later stage.
You can well imagine that after this change, the EuVECA regime has become a suitable option for a broad range of sub-threshold managers and has gained interest from both domestic as well as international VC and PE managers that are seeking access to investors in the EU.
Although the EuVECA regime aims to allow greater access to capital for SMEs, it is not a requirement under the regime that a qualifying portfolio company is established or active in the EU. In case a portfolio company is not established in the EU, the only additional requirements are that: (i) the country in which such portfolio company is established is not blacklisted for money laundering purposes and (ii) has signed a tax cooperation and exchange of information agreement with the home Member State of the manager of the EuVECA fund and with each other Member State in which the EuVECA is marketed.
This means that investment managers with a geographical investment focus outside of the EU may also benefit from the EuVECA regime as long as the jurisdiction in which the portfolio companies are established is not blacklisted and has entered into a tax information exchange agreement with the (EU) jurisdictions where the fund is to be offered. Typically such managers will not have their primary base in the EU and will have to establish an EU subsidiary to act as their EuVECA manager (a ‘Manco’) as the EuVECA regime can only be applied for by a Manco established in the EU.
By way of example, the below chart provides a ‘red-flag’ overview of compliance with these requirements (i.e. not-blacklisted and the existence of such tax information exchange agreements) between certain EU jurisdictions and third countries. It should be noted that the ‘red jurisdictions’ are not strictly off-limit as a EuVECA fund may invest up to 30% of its capital in non-qualifying investments.
The regulatory requirements under the EuVECA regime are quite relaxed and in most respects address matters that a fund manager would in any event like to address (such as e.g. conflict of interest procedures and general investor information requirements). Therefore in our experience, third country managers have little difficulty in setting up a Manco to act as their EU based EuVECA manager. Furthermore, other than under AIFMD, the EuVECA regime does not require a manager to appoint a depositary for its EuVECA fund, which obviously saves time and money.
In this respect, it is also good to note that, the revision of the EuVECA regulation expressly stipulates that a competent regulatory authority has two months after submission to approve or decline an EuVECA registration. However, if the submission is not complete, the regulator may suspend this period, so in order to meet this timeline, proper preparation is key.
In view of a possible hard-Brexit, the EuVECA regime may also offer a good alternative for UK managers. Post-Brexit, the UK will be a ‘third country’ and managers in principle must comply with the national private placement regimes of the member states should they wish to offer their funds.
One of the requirements under the national placement regimes however is that there is a ‘cooperation agreement’ between the competent regulatory authority of the third country where the manager is established and that of the EEA member state where the fund is to be marketed. If the fund is established in a country different to that of its manager, also a cooperation agreement needs to be in place between that country and each country where the fund is to be marketed. At present, no such cooperation agreements between the UK competent regulatory authority (the FCA) and the competent regulatory authorities of the other EEA members states are in place, meaning that UK managers do, as of yet, not have access to the national private placement regimes. Although technically the entering into of such cooperation agreements should be a fairly straightforward process, with Brexit nothing really is straightforward as nothing may be agreed until everything is agreed.
In light of this uncertainty and in view of the tight timeline - particularly for UK managers - the EuVECA regime may offer a welcome gateway to the EU common market. Allowing such managers with a fairly light set up, both access to an EU passport and moreover the ability to offer their funds to both professional and semi-professional investors.
By Joep Ottervanger and Michiel Beudeker (partners in the Investment Management practice of Loyens & Loeff in the Netherlands, whereby Joep focuses on funds and Michiel focuses on tax.)