RBC survey: Search for stability in a shifting environment

In a complex investment market, managers are sticking with traditional fund domiciles and opting to outsource more operational functions, survey findings reveal. By Vicky Meek

Private fund managers are increasingly opting to domicile funds in Luxembourg, our exclusive survey carried out in conjunction with RBC Investor & Treasury Services reveals. While the top three jurisdictions remain consistent with a similar survey we conducted last year (in which we polled only private equity real estate fund managers), with Delaware, Luxembourg and the Cayman Islands well ahead of rivals elsewhere, this year’s survey, which includes the views of private equity real estate, private equity and private debt funds managers, suggests the popularity of Luxembourg has risen over the past year to match Cayman.

Delaware retains top domicile status

When asked which domicile private fund managers would choose for their next private fund launch, Delaware emerges as a clear leader, with 45 percent of respondents choosing this as a jurisdiction, 36 percent opting for Luxembourg, with the same proportion selecting Cayman. All three are highly rated for their optimal conditions for doing business and for their regulatory and tax framework.

This is quite a turnaround in a relatively short space of time. “If you rolled back a few years, the UK and Channel Islands would have appeared among the top jurisdictions for private funds,” says Leith Moghli, partner at Reed Smith. “While they are still relevant, Luxembourg’s development as a fund centre has largely been to their detriment. It has been a key beneficiary of substance requirements under BEPS, the Paradise Papers and Brexit, while also introducing the SCSp, which has made structuring much more straightforward.”

Luxembourg’s appeal rises

Luxembourg has increasingly become a hub for AIFMD compliance among those seeking capital from European investors. The launch of the SCSp, or special limited partnership, in 2013 – a limited partnership agreement that is effectively a copy and paste of Delaware and UK limited partnership documents – was the start of Luxembourg’s rise, but developments since have boosted its popularity, including the UK’s vote to leave the European Union, the implementation of BEPS and increasing LP concerns about using offshore structures following the Panama Papers and Paradise Papers leaks, and the marketing passport available for AIFMD-compliant private funds.

A large part of Luxembourg’s growing allure is down to the parallel structures being established by US managers. Proskauer partner Edward Lee points out: “In our own analysis of European funds, we’ve seen a big shift in Luxembourg’s favour over the past 12 months, in particular among UK funds, a move that is clearly Brexit-related. However, we are also seeing a number of US managers establish parallel structures in Luxembourg, where they either establish their own AIFM or use third-party AIFM service providers and delegate back to the US.”

“Luxembourg is a relatively easy place for US fund managers to do business,” adds Stephen Meli, partner at Proskauer. “In key ways it’s becoming the Delaware of Europe for US managers. The entities Luxembourg offers are similar to those available in Delaware and the Cayman Islands for fund structures and the documentation is similar, even down to the way the documents read. There’s also a network effect, where every additional US manager that establishes a parallel vehicle there helps attract others.”

LPs are also gaining comfort that Luxembourg’s regulatory regime and its requirement for depositary services under AIFMD offer them added protection, a trend also noted by Nicolas Fermaud, head of the New York office at Elvinger Hoss. “Where firms have had parallel structures for two to three years, we have noticed a disproportionate increase of the commitments collected through the Luxembourg structure,” he says. “In part, managers are raising more capital from European LPs, but it’s also because LPs globally are becoming increasingly comfortable with Luxembourg as a jurisdiction. For firms that equalise costs across their platforms, the Luxembourg set-up with its depositary and regulatory regime is clearly more attractive for many LPs.”

Private fund managers are also eyeing fairly significant growth in assets under management. Over a quarter anticipate an increase of between 10 percent and 20 percent growth in the next year and over half expect over 20 percent in the coming decade.
This increase will come from a wider variety of investors from a broader range of geographies. The majority of respondents (88 percent) expect to increase the proportion of LPs from Asia (excluding China) and 81 percent anticipate a rise in North American investors and 53 percent predict that capital from Central and South American LPs will make up a higher proportion of their AUM.

Outsourcing increasingly popular

All this adds up to increased complexity when it comes to managing private fund businesses. Many respondents are looking to outsource parts of their operations: 51 percent of respondents are seeking to outsource at least half of the fund administration part of their business and a third of respondents want to outsource at least 50 percent of their technology function, with 28 percent and 20 percent saying the same about legal and regulatory services, respectively.

“Outsourcing among fund managers is clearly being driven by a desire to optimise their operations and focus on what they do best,” says Holz. “It’s also a way for them to manage certain risks, such as regulatory risk, given that it’s challenging to keep up with regulations across the different markets they are operating in.”

Disruptive concerns

Big data, automation and artificial intelligence rank top among respondents for their potential to disrupt private capital investment in the next three years, yet over a quarter are not planning or implementing these technologies, and many report having little expertise in this area.

Less disruptive technologies could however help private funds streamline their processes without the need for high levels of investment. Priya Nair, managing director and global head of product management for private capital services at RBC, says: “Smart contracts, for example, can help create base templates where there are a lot of similarities, such as liability frameworks, without the need to have a large element of involvement from lawyers. Regtech has a lot of potential for helping firms monitor regulatory developments globally and ensure firms can stay ahead of the game – it could streamline passporting, for example, and be applied to AML and KYC compliance.”

For those that invest in deploying technologies like big data, the prize could be access to better dealflow. “Firms are looking at how they digitise their internal processes at a time when there is a lot of dry powder in the private markets space,” says Nair. “They need to differentiate themselves around how they originate and how they create value in their portfolio.”

And being able to differentiate from the competition is uppermost in respondents’ minds. While the biggest barrier they perceive to achieving their objectives in 2019 is the economic environment (mentioned by 72 percent), competition is second for 42 percent of respondents.

Irish eyes are smiling on private debt

Ireland is proving an increasingly popular option for private debt firms, with Dublin’s tax arrangements attractive to US managers in particular, as partner in Proskauer’s tax department, Jeremy Naylor, explains. “For US-managed private debt funds, Ireland’s tax treaties can make Dublin a more favourable jurisdiction to mitigate negative US tax consequences for US originated loans.

“While other jurisdictions have similar treaties, the US-Ireland treaties are well known and there is a strong legal advisor network in Dublin that can help private debt funds make use of this as a mitigator against unfavourable tax for investors.”

Reed Smith’s Leith Moghli comments: “Private debt funds do find that some of the structures available in Dublin are workable for debt, particularly where there is a securitisation element, and can provide a high element of tax efficiency – this is largely among the hedge funds that have established debt funds and which are more accustomed to the Irish funds market.”


PDI surveyed 82 private fund managers about a range of fund domicile and regulatory issues. Answers were given on a strictly anonymous basis and the results aggregated.