Private equity and investment management

In a nutshell

Private equity and investment firms operate funds that pool the investments of anybody prepared to part with their money for a sustained period of time. Private equity firms use investors' cash (equity) in combination with money raised from banks (debt) to buy companies or other assets with the goal of selling them on at a profit. When the targeted company's assets are used as leverage and a significant amount of bank debt is employed, the transaction is known as a leveraged buyout (LBO).

Venture capital is a subset of private equity that sees investors put money into startup companies or small businesses in the hope they will be sold to a private equity firm or taken public. Although this typically entails high risk for the investor, it has the potential for above-average returns. This high risk is typically offset by investing smaller amounts over a shorter timespan.

Investment management is the professional management of various securities (shares, bonds etc.) and assets in order to meet specified investment goals. Investment management lawyers advise on the structuring, formation, taxation and regulation of all types of investment funds.

A hedge fund is a private, actively managed investment fund. It aims to provide returns to investors by investing in a diverse range of markets and financial products, regardless of whether markets are rising or falling. Using the derivatives market helps hedge funds achieve this.

A mutual fund is a collective investment vehicle that pools money from many investors to purchase securities. The term is most commonly applied to collective investments that are regulated and sold to the general public.

A real estate investment fund/trust is a publicly traded investment vehicle that uses investors' money to invest in properties and mortgages.

Both hedge funds and mutual funds generally operate as open funds. This means that investors may periodically make additions to, or withdrawals from, their stakes in the fund. An investor will generally purchase shares in the fund directly from the fund itself rather than from the existing shareholders. This contrasts with a closed fund, which typically issues all the shares it will issue at the outset, with such shares usually being tradable between investors thereafter.

Private Equity

What lawyers do

  • Advise private equity firms on how to structure new funds.
  • Help private equity firms negotiate the terms on which investors contribute their money.
  • Act for private funds when they buy and sell investments.
  • Assist clients throughout the fund-raising process. This includes the preparation of offer materials and partnership agreements, advising on and documenting management and compensation arrangements, and closing fund formation transactions.
  • Conduct diligence and negotiate contracts.
  • Draft the numerous organisational documents necessary to form an investment fund. The private placement memorandum is key – it's a prospectus detailing the terms of the investment, minimum investor requirements, risk factors, who the investment manager is, and the strategy to be employed by the fund. If the fund is a limited partnership, it will need a limited partnership agreement, and if it's a limited liability company, it will need an operating agreement, as well as an investor subscription agreement.
  • Inform and advise clients on the constantly changing regulatory and compliance issues arising under UK and international securities and tax law.
  • Provide day-to-day advice with respect to issues such as performance and advertising and brokerage and portfolio trading practices.

Realities of the job

  • Small teams mean that trainees can get high levels of responsibility and client exposure rather than being stuck doing more mundane tasks. You can expect to be involved in drafting key documents and reviewing transfer agreements and to play a part in large-scale negotiations that could involve hundreds of parties at the same time.
  • Structuring funds requires an intimate familiarity with the relevant securities and investment company rules. Understanding and being able to apply knowledge of key financial legislation is a vital skill.
  • Setting up funds also requires a significant amount of tax and general finance industry knowledge. Funds lawyers often work in close collaboration with their tax and finance colleagues.
  • Good people skills and a tough attitude are a must. Private equity lawyers work closely with clients to offer advice on a wide range of areas and need to be able to explain the constantly evolving private fund markets to them as well as understanding the time-sensitive nature of fund organisation. Fortunately, clients are entrepreneurial and tend to have a good understanding of the world of business, meaning they can pick up on issues quickly.

Current issues

October 2020

  • Following the economic fallout from the Covid-19 pandemic, private equity houses will need to make provisions. PwC noted that they and the companies they back will need to understand available sources of liquidity, and whether a sponsor can be the provider of liquidity. Commentators suggest that funding is likely to be directed towards infrastructure and technology companies.
  • The 2020 lockdown slowed down transactional markets of all kinds, and private equity was no exception. City AM recorded investments in the UK falling by 17% in the first half of 2020, with a 27% decline compared to the same period in 2019. As in prior periods of uncertainty, investors primarily dedicated their time to the needs of existing portfolios as opposed to new ventures.
  • Prior to the pandemic, commentators predicted 2020 would be the year of a ‘take-private boom,’ with the gap between private and public company valuations shrinking and private equity ownership becoming widely more accepted.
  • Brexit continues to shape the investment landscape. In a recent report, PwC found that six out of ten financial investors surveyed saw the UK’s exit from the EU making the UK “less attractive for private equity investments.” In its place, Germany is set to become the hub for European private equity houses, with 46% of respondents seeing it as the most attractive country for PE-backed investments.
  • On a global scale, the growth of private equity was only increasing prior to Covid-19: 5,102 PE-backed buyout deals were completed in 2019, with 2,515 company acquisitions and sales with private participation taking place in Europe. 27.5% of all global transactions in 2019 had private equity involvement on both sides.
  • Private equity investors are paying ever closer attention to emerging markets, like the BRICS (Brazil, Russia, India, China and South Africa), but also countries you might not immediately think of, such as Mexico and Colombia. In 2018, emerging markets attracted a record $9.4 billion in private equity investment.
  • The EU and the Financial Conduct Authority (FCA) have both been making efforts to extend the rules governing banks and investment firms to private equity houses. The FCA has been keen to highlight the benefits of aligning UK policy with that of the European and international norms, so Brexit negotiations in this area may run somewhat smoothly. PRIIPS regulations (which amplify the standards of protection to insurance-based investment products) came into effect in January 2018 and have since come in for some hefty criticism: in 2020 the European Fund and Asset Management Association (EFAMA) wrote to the European Commission calling for urgent review of the regulations.