In March, Swedish buyout house Nordic Capital became the latest firm to hire its first in-house legal advisor when it recruited Henrik Johansson as general counsel. pfm caught up with Johansson and Nordic Capital’s chief financial officer Klas Tikkanen to discuss AIFMD, BEPS and how regulatory complexity is harming investment.
With regulatory and tax changes being enacted at the local, EU and global level, how has the job of fund structuring changed in recent years?
Johansson: The legal environment is becoming more and more complex, especially with respect to regulation and tax. But it is not the complexity as such that is the issue. The issue is that more complexity typically means more ambiguity. That is the most challenging part. If the boundaries are not clear, you may end up taking an overly conservative approach and modeling outcomes against the worst possible scenario. This can lead to over-caution.
Tikkanen: This ambiguity and the resulting over-caution is hampering business and investment. These developments are not positive for enterprise, and you could question whether they are positive for society as a whole. The changes to AIFMD are a good example. They are without any material benefits for society. In private equity, we are in the unique situation of having counter-parties that are well advised and knowledgeable and there is therefore no need to force private equity into a regime tailored for hedge funds. Doing so, however, creates complexity and ambiguity. The problem is that it is now not uncommon to encounter conflicting pieces of regulation where there is a risk that by complying with one, you might breach another.
Johansson: Increased complexity also drives the need for increased specialization at law firms. You can’t just have a few lawyers responsible for private equity fund work, you now need larger teams integrating experts in a number of areas, such as regulation and tax.
You mentioned the changes to the AIFMD. How are you engaging on the EU’s proposal for the ‘pre-marketing’ of AIFM compliant funds?
Tikkanen: Again, the intention is a good one, but the question you have to ask is if it is really harmonizing the marketing regime. Pre-marketing under the current draft is defined in a very narrow way. If it is enacted as it stands, you would not be allowed to share drafts of your fund or investment strategy ahead of time. Like AIFMD, it is not really tailored for private equity.
Are you concerned about the impact of the OECD’s base erosion and profit shifting rules (widely known as BEPS)?
Tikkanen: I would say that the underlying premise of BEPS is sound because large corporations have taken a generous approach to the web of global tax treaties. But BEPS as it is drafted now will be restrictive. We directly or indirectly employ 24 people in Jersey and that number is growing. Some of our board members there have been with us for 10 years. They meet weekly and track investments from cradle to grave. Really important work is conducted there. Substance for us is not an issue.
How are you planning for BEPS?
Tikkanen: One way we’ve tried to incorporate BEPS into our thinking is by modeling various scenarios when structuring funds and seeing how they fare in financial terms in the matrix of possible future outcomes. For our latest fund, we looked at four jurisdictions and performed an analysis on 24 different structures and applied many different constraints, such as requirements from LPs, GPs and partners in different countries, societal constraints, and constraints around fund leverage.
How involved are your LPs in the structuring process?
Tikkanen: Our structuring generally tends to be done in-house, but we do engage in conversations with key LPs on structuring issues. For example, we have considered whether to stay in Jersey where we have been since 1998 or whether we should launch a Swedish fund. We’ve had that discussion with 25 or 30 LPs and there are strong arguments on both sides.
(Editor’s note: in 2014 fellow Nordic GP Altor left Jersey, where it had domiciled its first 3 funds, deciding to base its fourth vehicle – a €2bn offering – in Stockholm).
What do you find is the best way to incentivize key management talent?
Tikkanen: The upside for private individuals has to be asymmetric, and there needs to be significant investment from individuals to align them with the institutions in the fund. There are various ways we incentivize talent within Nordic Capital. We provide management investment programs with an asymmetric upside. Having a sufficiently high GP commitment and carry hurdles and offering key staff the opportunity to invest is important to us.
What do you think of the idea of super carry?
Tikkanen: At Nordic Capital, everyone draws from the same carry pool. We think our carry is super, but it is not “super carry” at a higher percentage for some individuals.
How have you prepared the firm for GDPR compliance?
Tikkanen: Data protection laws are not foreign to us. Similar Swedish regulation has been around for a long time and is well understood by Swedes and other Nordic countries as well. For us that hurdle is not high. What caught our attention and made us think a bit more stringently were the fairly draconian remedies under the GDPR regime. For example, one of the most important data sets is about the individual performance of professionals. We track a person’s actual impact in financial terms such as their contribution to the fund, as well as form qualitative opinions on individuals and we require their consent to store this appraisal data. That is an example of a procedure that is required under GDPR and which we already have in place. An example of an area where we have discovered we do now need to implement new procedures is when we hold certain information that is regarded as particularly sensitive under GDPR. We have enforced a new consent routine, and we are erasing extra sensitive data.
How will the new Swedish tax rules e.g. interest rate repayment restrictions impact the firm and its portfolio companies?
Tikkanen: They were originally supposed to come into force in July 2018, but it is likely they will be delayed quite substantially, maybe until July next year. What we’ve said is that we would like the regulation that is in place now — which is vague — to be thrown out and for something much clearer to be introduced. We would like to remove rules that allow tax authorities to make their own interpretation regarding compliance. We’ve asked them to look at what other countries are doing. It is important for Sweden to be looked at as sensible in comparison with other jurisdictions.