Private equity managers are reviewing their fund documents and applicable laws to determine their best course of action when dealing with a sanctioned investor or portfolio company.
During a private equity roundtable, Dechert attorneys said that private equity managers have been forced to freeze investments tied to sanctioned Russian people and companies, or consider other actions, since sanctions were announced in February following Russia’s invasion of Ukraine.
Fund managers who are subject to US jurisdiction must comply with US sanctions regulations. Partner Thiha Tun said a private equity manager’s options for compliance are tied to a fund’s governing documents, which are often broadly drafted.
Limited partner agreements vary from fund to fund, and the assets of sanctioned LPs can be frozen, the investor can be forcefully redeemed, or a GP can force the sale of the sanctioned investor’s interest.
However, because managers are prohibited from further dealing with a sanctioned party, managers cannot give the investors the proceeds from an asset sale or simply return their investment. In these instances, the assets are put into a blocked account with the government.
“I wouldn’t say there’s a formal process of what to do with a sanctioned investor because it all comes down to the law and what your fund documents say,” Thiha said. “But you definitely need to stay away from any course of action that will give the investor any of their money back or any other kind of distribution. Some agreements allow sponsors to recoup fund expenses from the sanctioned investor, but the chances of calling that money back are almost zero.”
Sanctions against portfolio companies are also problematic for GPs and, as a result, many sponsors are doing extensive due diligence on who owns a company and who owns or has interest in the owners, said partner Markus Bolsinger.
“There’s a lot more drilling down on who owns the company and who is the company doing business with, because the PE firms don’t want to trip any wires,” he added. “The sanctions are also forcing some creative buyouts with affected companies.”
Mark Thierfelder, partner and chair of corporate and securities and private equity, said ongoing due diligence is necessary because a portfolio company a firm had invested in before the invasion may have been in compliance, but represents a problem now.
And sanctions may not be imposed on a company directly, but on one of its suppliers or subcontractors.
“It’s really coming down to sponsors doing sanctions analysis to see whether there are problem areas and pressure points,” Thierfelder said. “You really have to look at the global assets and figure out where everything is coming from, where everyone is doing business and, even if there isn’t a problem right now, could there be six months from now.”