The jargon-heavy lexicon of offshore finance can baffle the casual observer, but the reasons why many investors choose to use the shelter provided by many leading offshore jurisdictions are often reassuringly simple. Yes, institutional and individual investors are, generally speaking, sophisticated clients. But the reason why they put their money in certain jurisdictions can often be summed up in two words: pack mentality.
Decades ago, two wealthy Hong Kong entrepreneurs opted to use a British Virgin Islands (BVI) entity for a business venture, with much success: word got around and Hong Kong businessmen followed in their droves.
Likewise, early hedge fund investors opted for the Cayman Islands as a domicile and the Caribbean offshore giant now plays home to more than 8,000 hedge funds — by far the largest number of any jurisdiction.
So how do the new generation of investors, many from the world’s hottest emerging markets, choose a home for their money? The message from BVI, Cayman, Guernsey and Jersey is that they are keen to attract the attention of new investors from Russia and the Middle East.
But with a new wave of investors comes a new wave of offshore competition, Mauritius being perhaps the most notable example. How each offshore centre chooses to differentiate itself will be key in the race to be first-choice for emerging market investors.
But redirecting the flow of traffic from the traditional jurisdictions of choice will not be easy.
“People get a perception of a particular product and that is widely promulgated,” explains Maples and Calder’s Chris McKenzie.
China’s cash mountain
One of the pivotal issues in the offshore financial arena is when China will allow the free movement of capital from the country. With an estimated $1.3trn (£670bn) holed up in domestic savings and limited investment opportunities at home, allowing Chinese investors to put their money in overseas investment funds could have a tremendous impact on offshore business.
Investment fund managers, many of whom already domicile their funds in offshore jurisdictions, are lobbying furiously for a system where Chinese individuals and investors can convert local currency deposits into foreign currency for overseas investments.
The first such offering, managed by Chinese fund management firm Hua An Fund Management and Lehman Brothers, was approved by the Chinese authorities last year, marking a milestone towards liberalisation and a potential explosion in investment fund offerings for cash-rich Chinese investors.
Offshore law firms are as yet unsure as to the opportunities Chinese investors will ultimately afford them but Maples Jersey partner Natalie Sullivan says the firm is “realigning” itself to take advantage of when Chinese investors can freely convert renminbi yuan into foreign currency.
“We have a very strong client base in China as a firm and so get a good flavour of where they are going to put their money,” she says. And, as one Hong Kong lawyer puts it: “We are aware of a number of people who want to help Chinese people take their money offshore.”
Outward investment
And China is only one of a handful of emerging markets that could transform the dynamics of the offshore community. Maples, for example, reports an “explosion” of work from Russia, thanks to the country’s oligarchs’ phenomenal wealth. BVI vehicles are popular among Russian businesses making cross-border investments outside Russia, particularly into former CIS countries. McKenzie, a BVI specialist, says the growing presence in Moscow of UK and US law firms means more quality work is being done from Russia, with western financiers being put in touch with local clients; McKenzie now visits the Russian capital twice a year for marketing purposes.
The hunger among Russian companies for outside investment also means London’s Alternative Investment Market (AIM) has for several years provided a steady flow of work to the Isle of Man and Channel Islands.
Daniel Mackelden, of Manx firm Cains, says AIM listings in the pipeline feature a mix of European, Russian and Indian entities, focusing on property, mining, science and technology. The attraction of the London capital markets, while avoiding UK tax by using Isle of Man and Channel Islands vehicles, continues to make AIM a hot topic in emerging markets and among western investors.
“Indian companies are seeking to raise money from sources that would not want to invest directly in India,” says Mackelden.
In Jersey, the introduction in January this year of a new, self-certifying listed funds regime means funds can be set up in just 72 hours. “There has been an extraordinary take-up on these listed funds,” says Carey Olsen partner Eve Kosofsky. The previous regime was widely regarded as old-fashioned, deterring funds that wanted to list on AIM from using Jersey.
“We have seen City referrers that would not normally think of using Jersey come here since January,” she adds.
Capital markets
The development of the capital markets in emerging markets jurisdictions also means more instructions for offshore firms.
BVI and Cayman-domiciled Indian companies are issuing convertible bonds as a potential pre-float financing, for example. In the Middle East, Maples and Walkers recently picked up roles on an Omani bond issue worth almost $1bn (£518m) — the first public structured bond issue out of the country.
Private equity funds are, for many reasons, popular in the emerging markets — in the case of China, takeovers present legal hurdles that deter the more traditional routes of investment. Russian private equity fund Baring Vostok Private Equity launched the country’s largest-ever fund last month, raising $1bn using a Guernsey closed-ended fund — Carey Olsen partner Andrew Boyce led the transaction. He says: “This is the fourth Guernsey structure on which we have acted for Baring Vostok, which shows their level of confidence in the jurisdiction as a domicile for investment funds.”
Guernsey growth
Illustrating the ‘pack mentality’ argument for why investors opt for copycat deals, Guernsey has also been enjoying a flow of work from New York firms thanks to last year’s groundbreaking $5bn (£2.5bn) listed fund by US buy-out legend Kohlberg Kravis Roberts & Co (KKR), which led many in the private equity community to rethink their capital-raising philosophy.
“The KKR deal put Guernsey on the New York radar,” says one Jersey lawyer. Ozannes’ David Moore says the firm, which advised the underwriters in the original deal, has been instructed on several occasions by similar parties.
“There have been at least 10 of this kind of product,” he says, adding that the KKR concept has expanded, meaning deals are tailored according to the investment expertise of each sponsor.
Ogier partner Bill Simpson says Guernsey is enjoying renewed attention, particularly on the private equity side. “Guernsey was all the rage in the 1990s, then people went away when the island started to become more regulated. Now it has switched back — there is a trend away from the less regulated jurisdictions so fund managers can say to investors, ‘this is a Guernsey fund.’”
The capacity restraints on the island — in terms of the number of administrators the island can house — means retail funds have largely migrated to Dublin, leaving Guernsey to build up its reputation for investment fund administration — and private equity in particular.
Mark Helyar, a partner at Bedell Cristin’s recently-launched Guernsey office, agrees that there is a renewed confidence in the jurisdiction. “There is a lot of quality work coming in,” he says. Helyar led the Bedell team advising on the creation of the world’s largest incorporated cell company (ICC) mutual fund last month, the first ever conversion of a protected cell company to an ICC.
The Dubai debate
The rapid growth of the Dubai legal market is also big news for offshore firms. With a raft of UK advisers setting up shop in the emirate, many are surprised that more offshore firms have not followed the lead of Maples, Walkers and Conyers Dill & Pearman. Sharia-compliant funds are a significant source of work for many firms, with Jersey promoting its new ICC to Islamic investors.
“The feedback is that the provisions the ICC legislation introduces are particularly attractive to investors looking for Sharia-compliance — it has caught the attention of Islamic scholars,” says Mourant du Feu & Jeune partner Jonathan Rigby.
However, Cayman’s ICC structure is older and contributes in part to its reputation in the Middle East as the jurisdiction of choice for funds, just as the Cayman unit trust enjoys huge popularity among Far East investors.
However, Appleby Hunter Bailhache Cayman partner Bruce Putterill says he sees a preference in the Middle East for the Channel Islands, in terms of self-establishing structures. “That is one of the reasons we are in Jersey,” he adds.
Given this, an Appleby launch in Dubai is surely an option under consideration. Indeed, the level of exposure and flow of instructions that firms with a presence in Dubai are enjoying seems to make the case for a presence in the United Arab Emirates clear.
Maples partner Tahir Jawed says it is essential for the firm to be seen on the headline deals — the firm has worked on nine of the 12 largest sukuk (Islamic bond) issues during the past year. Funds are extremely busy in Dubai, with Middle Eastern stock market speculators used to aggressive returns seen in the early part of this decade, looking to higher-risk private equity funds to make their money.
“There is a whole generation of people who do not think you can lose money on the stock exchange,” Jawed
says, explaining the Middle Eastern appetite for outward investment into China and India.
The new offshore wave
Another relatively new player in the global financial world is Mauritius. As such, Appleby’s Mauritius launch last month has certainly got rivals talking. Several partners at rival firms concede the move could prove very lucrative for the firm. Mauritius is regarded as Africa’s most stable democracy and is the first offshore jurisdiction in the southern hemisphere that a firm the size of Appleby has entered directly.
The new office, led by partners Malcolm Moller and Mauritian Gilbert Noel, is focused specifically on investment into emerging African and Asian markets — the island already has $35bn (£18bn) across 460 registered global funds. African infrastructure deals are often routed through Mauritius, with South African firms using the island for lending and asset finance facilities.
The Mauritian Government is also on a drive to encourage further foreign investment and diversify its reputation to date as ‘India offshore’, thanks to the double taxation treaty it enjoys with India.
Inward investment
With predicted economic growth of 9.2% in the current financial year, investor appetite for India shows no sign of abating. Cayman and BVI companies are being used in India on the full gamut of deals, from holding investment companies to pre-float investments to investment funds. The interest from investors in Japan in India and the other key markets such as Russia, China and Brazil, has meant onshore jurisdictions such as Singapore are winning new business. For example, Deutsche Asset Management’s offshore India fund is managed from Singapore.
Middle East investors are also showing huge interest in Chinese real estate and private equity funds that are focused on China, meaning referrals from the Middle East to the Far East are increasingly common. These funds favour Cayman-exempted limited partnerships, but BVI is also proving popular due to a lack of red tape.
Maples Hong Kong partner Anthony Webster says last year was extremely busy for the office, with $10bn (£5.2bn) raised in the last half of 2006 alone, pricipally by China-focused private equity funds.
The UK law firms’ interest in India as a legal market has arguably had an effect on the Channel Islands’ popularity among fund managers. Carey Olsen’s Kosofsky says the UK firm’s familiarity with and proximity to Jersey is benefiting the firm’s funds practice. The firm set up the first Jersey fund — an Indian property fund — to list on Euronext Amsterdam. The firm worked with Mishcon de Reya and Simmons & Simmons to advise Yatra, which is taking advantage of liberalised foreign direct investment rules in India.
The marketing game
With London’s financial services sector in rude health, the Channel Islands are in prime position to benefit from the City boom. Indeed, the boom time for funds in both Guernsey and Jersey has continued after last year’s high. Both islands have introduced regulation to attract closed-ended funds, Guernsey’s coming into effect last month. Consent to establish a fund can now be obtained within three days of filing initial documents, down from the previous waiting time of several weeks. Plans are being made to introduce a similar registered fund regime for open-ended funds this year — all part of a drive by the Guernsey financial community to make it a more attractive jurisdiction to launch a fund.
The Channel Islands’ reputation as having a more onerous and lengthy approval process than some of the Caribbean jurisdictions has seen them lose out to date.
And the message from Cayman is that the London boom is having no effect on their work levels. “From a Cayman perspective, London’s ascendancy is of no concern — we get a lot of referrals from London as well as New York,” argues Quin & Hampson’s Neal Lomax, who says London-based investors are still using Cayman “very heavily”.
In Jersey, the success of the island’s expert funds regime has led to a consultation on establishing a ‘super expert fund’ regime. Again, the motivation behind this move is speed; a self-certifying fund with expert-only access means the checks are fewer and the process quicker.
“This is focused on the kind of business Jersey is trying to do: high-value, institutional business,” explains Ogier partner Philip Le Cornu. Jersey is also trying to attract more fund managers from London, offering them ‘high-value residency’ status that allows them to buy a house. Managing and administering funds from Jersey is part of the jurisdiction’s plan to create a centre of excellence on the island.
The relaxation of Jersey’s regulatory environment in recent years has seen a lot more hedge funds registered in Jersey — and some managers have moved over too. Maples’ Sullivan cites the example of a fund manager with $1bn who exclusively uses Jersey to invest in Asia and Asia-Pacific.
To some extent, the perceived reputational strengths of each offshore jurisdiction will be difficult to alter. But bodies such as Jersey Finance are working hard to promote the jurisdiction; the island’s law firms support the marketing drive by speaking at roadshows and conferences. Jersey Finance is visiting the Middle East this month to promote its Sharia-compliant products, among others.
“It is very important to make sure we are all singing from the same hymn sheet,” Sullivan says of the financial services community in Jersey.
“We know we are a small jurisdiction and have a lot to gain by pooling resources,” she adds.
For its part, the lobby group Guernsey Finance is also raising its game, having increased the number of staff from two to six in the past 12 months. Chief executive Peter Niven, formerly of Lloyds TSB offshore financial services group, is credited as a “great ambassador” for the island in his two years at the helm.
Carey Olsen partner John Greenfield says: “If Guernsey has a message as a jurisdiction, it is that it is a market in which you can do business, where you will get the flexibility and efficiency from the governing bodies that you do not always find elsewhere.”
Despite the Channel Islands’ efforts, the general consensus is that Cayman is top of the list for deals relating to emerging markets. “Cayman is probably the jurisdiction of choice in relation to emerging markets; the important thing is that we have the right product mix so we can take this onshore,” says Mourant’s Rigby.
The firm’s decision to bulk up its Cayman presence through a merger with 12-laywer Quin & Hampson, and this year’s launch of a New York branch proves its aim to tighten links with clients in the key global financial centres of New York, Hong Kong and London.
The long-term effect of the many transatlantic offshore firm mergers is that clients are becoming more familiar with the pros and cons of various jurisdictions, meaning a greater demand for more complex structures; clients are more likely to cherry-pick the best products from across the world.
Stake your claim
“The bottom line is you have to give the client what they asked for — and, typically, they do not want us to reinvent the wheel,” Sullivan says. Where jurisdictions can get a first-mover advantage — for example, Guernsey’s success in KKR-copycat deals — it is difficult for others to compete.
Well-established offshore centres are not going to reinvent their offerings to respond to emerging market opportunities given the importance to them of maintaining their grip on western investors.
Likewise, many believe that it will be difficult for the traditional offshore jurisdictions to cut into the market share of key emerging markets already carved out by Cayman and BVI.
But the younger offshore centres –—especially Mauritius — do offer a fresh appeal to newer investors looking for a lower cost base and, in many cases, a more convenient time zone.
Says Cain’s Mackelden: “It is a case of getting out there and staking your claim to a market.”
