The hedge fund centre on the move - Incisive Media

THE BVI AND CHINA
is for investors,” de Vries says.
On the topic of private equity,
O’Connell points to one of his clients,
the Grail Co. which runs the
Chalice Fund, a hybrid private
equity <strong>fund</strong>-<strong>hedge</strong> <strong>fund</strong>, which, he
says, “uses a very complex structure,
with no side pockets, using
special purpose vehicle companies
to make its investments.”
Ogier partner Simon Schilder
says his law firm is also seeing
more private equity investments
by <strong>hedge</strong> <strong>fund</strong>s.
“More and more we’re seeing
<strong>fund</strong>s set up with side pockets in
existence at the time of launch for
use where the <strong>fund</strong> makes ‘designated’
– that is, private equity
– investments,” he says.
“A few years ago we were
drafting into the PPM the fact that
the <strong>fund</strong> might in due course use
side pockets, and then creating the
side pocket further down the road
when needed.
“Now for United States managers
the typical structure is for the
<strong>fund</strong> to have three classes of shares
— one class for investors eligible to
participate in new issues; one class
for investors not eligible to participate
in new issues; and one class
for side pocket investments.”
He says that the “mechanics”
were drafted into the <strong>hedge</strong> <strong>fund</strong>’s
PPM and constitutional documents
to allow for the conversion of <strong>hedge</strong>
<strong>fund</strong> shares into side pockets when
the <strong>fund</strong> makes investments that
needed to be put into side pockets.
“‘Convergence’ has become
some what of a buzzword,” says
Kieron O’Rourke, partner at law
firm Harneys.
“We’ve seen some <strong>hedge</strong> <strong>fund</strong>s
invest in more traditional private
equity type investments
and therefore require side pocket
advice,” O’Rourke says, although
he thinks it’s not as big a trend as
some people maintain.
SIDE ISSUES
Conyers Dill & Pearman’s Briant
also says that side letters written
into <strong>hedge</strong> <strong>fund</strong>s have become a
major issue.
Side letters are separate agreements
between <strong>hedge</strong> <strong>fund</strong>s and
their largest investors.
Briant says they started to
appear about 10–15 years ago
between <strong>fund</strong> managers and investors
and involved things such as a
manager reimbursing an investor
for part of his fees.
“<strong>The</strong> envelope has been pushed
further now,” Briant says, with
the grandfathering of investors
so that no adverse change that
affected the <strong>fund</strong> would affect par-
ticular investors. Side letters also
have been written for investors to
include redemption rights for particular
investors and notification
if key people employed in a <strong>hedge</strong>
<strong>fund</strong> firm depart.
<strong>The</strong> issue of side letters is also
slightly contentious, with debate
around whether key-man departure
clauses linked with performance
clauses in side letters could
see some investors redeemed early
as a top manager left, before performance
of the <strong>fund</strong> suffered as
a result. <strong>The</strong> debate then ranges
around whether those investors
left in the <strong>fund</strong> could chase those
early redeemers for having ‘inside
knowledge’, via their side letters.
REDEMPTION RIGHTS
According to Briant, redemption
rights is a key area the US Securities
& Exchange Commission and
the Financial Services Authority
in the United Kingdom have
started focusing on. In the United
Kingdom the Alternative Investment
Management Association
has recommended a disclosure
policy for <strong>hedge</strong> <strong>fund</strong>s and the
Financial Services Authority said
compliance would be beneficial.
Briant says, even with the “most
favored nation” and “grandfathering”
that has been given to
some investors, the grants in side
letters “are not nearly as aggressive
as they were two years ago.
<strong>The</strong>y’re not nearly as egregious as
they were.”
He says, there are “policy statements”
now, that the <strong>fund</strong>s have
made and “managers will be able
to obey them,” he continues.
<strong>The</strong>re are lots of “esoteric” vehicles
that <strong>hedge</strong> <strong>fund</strong>s are invested
in, according to Briant, including
real estate investments and
including a euro class and a yen
class of their <strong>fund</strong>s.
He says there are also private
equity <strong>fund</strong>s, domiciled in the
British Virgin Islands, that invest
in real estate that give investors
limited redemption rights.
Hedge <strong>fund</strong>s are investing in
assets from Russia, China, Europe
and Asia, according to KPMG.
“<strong>The</strong> majority investors are
from the United States, from the
United Kingdom, Hong Kong and
China.
“<strong>The</strong> business acquired by the Special Purpose
Acquisition Company will be dependent on the
management team’s experience and contacts within
a given sector. If a SPAC wants to acquire a business
in China it should have a management team not
only experienced in conducting business in China
but also in the relevant sector of the target.”
Jose Santos, Maples & Calder
“More money is also coming
from Eastern Europe,” he says.
TRUST ME UP!
<strong>The</strong>re’s been an increase in unit
trust structures, according to Harney’s
O’Rourke.
“<strong>The</strong>y’re typically more likely
to be used for the Far East market.
Our clients are able to use unit
trust structures for targeting inves-
tors in Japan,” Harneys’ O’Rourke
says. Unit trusts are established
pursuant to a deed of trust.
A unit trust arrangement is not
a separate legal entity.
It is the trustee who has
legal capacity and who holds
the assets of the <strong>fund</strong> on the
terms of the deed of trust for
the investors in the unit trust
scheme. Under BVI law the
holders of units in a unit trust
scheme are the beneficial owners
of the trust assets.
If the trustee of a British Virgin
Islands unit trust is a company
incorporated in or operating out of
the BVI, then the trustee is likely
to require a trust license under the
BVI Banks and Trust Companies
Act, 1990.
It will also have to apply for recognition
of the unit trust as a <strong>fund</strong>
under the British Virgin Islands’
Mutual Funds Act.
VENTURING FORTH
<strong>The</strong>re are also a lot of venture
capital <strong>fund</strong> arrangements used
by BVI-domiciled companies,
O’Rourke says. Venture capital
<strong>fund</strong>s are not regulated and <strong>fund</strong>s
are increasingly using them.
A Special Purpose Acquisition
Company is another form of
private equity investment vehicle
which is attractive to investors.
Jose Santos, a senior associate in
Maples and Calder, says “they’ve
been growing in popularity over
the last couple of years.
“We’re seeing more and more
Special Purpose Acquisition Companies
(SPACs) being set up in the
offshore jurisdictions.”
A Special Purpose Acquisition
Company is a company that is a
“publicly listed shell company that
has no operating history”, says
Maples & Calder’s Santos.
It uses the proceeds of the
listing to acquire a yet-to-be identified
target business.
A BRIEF HISTORY OF SPACS
“<strong>The</strong> original SPACs were completed
in the mid-1990s by EarlyBirdCapital
as a means for
individual investors to access
acquisition opportunities typically
restricted to private equity <strong>fund</strong>s,”
says Integrated Corporate Relations
in a white paper on SPACs.
While the glut of initial public
offerings in the late 1990s saw
demand for SPACs shrink, after
2003, investors’ interest in them
grew again and as of 2006, 41 of
them had gone public, raising
$2.6bn in the process.
Examples of the successful use
of SPACs thus far, have included in
the merger of International Shipping
with Navios, Services Acquisition’s
merger with Jamba Juice
and Stone Arcade with Kapstone
Paper. Key SPAC players include
Citi, Deutsche Bank Securities and
Maxim Group LLC.
SPACs have a limited life – usually
12 to 24 months – “in which
the management team has to find
a suitable acquisition target,” says
Maples & Calder’s Santos.
One reason why many are now
being set up offshore is because of
the Sarbanes-Oxley law and Securities
& Exchange Commission’s
regulations, which place more
reporting requirements on United
S16 | BRITISH VIRGIN ISLANDS SUPPLEMENT HEDGE FUNDS REVIEW | October 2007 www.<strong>hedge</strong><strong>fund</strong>sreview.com