Similar to the market impact of Abraaj and the last global financial crisis, there will be a lot of reflection and revisiting of subscription finance structures – but, ultimately, they will prove robust, and there will not be much in the way of fundamental change to how the market operates. That said, there will be further improvements in reporting to investors and transparency of information about borrowing at fund level and security structures.
Mauritius Fund overview
We anticipate that the types of fund-level financing and the purposes for which financing is used will continue to diversify in 2023. Many Mauritius private equity funds currently use subscription line facilities to bridge capital calls and reduce administration for their limited partners. Going forward, many funds will find it prudent to consider broadening their use of subscription lines for purposes such as foreign exchange (FX) hedging, letters of credit, evidencing certain funds for acquisitions, gaining a competitive advantage and realignment of investment strategies.
We also anticipate broader use of hybrid net asset value (NAV)/capital call facilities, particularly by credit funds implementing leveraged investment strategies. Private equity M&A activity continued at a robust pace in 2022, although deal volume dropped in 2020 due to the COVID-19 crisis. Even though many of the COVID-19 storm clouds remain, including a likely increase in interest rates, we believe the imperative to deploy fund capital will propel a very active deal market in the coming year. We have also seen that, positively for the sector, and despite some concern in the early days of the pandemic, credit and liquidity for the fund finance market has proven to be robust. The pool of lenders serving the subscription finance market in Mauritius has grown significantly. There has also been a corresponding ability to provide a greater degree of flexibility, with COVID-19 acting as the catalyst for this evolution. Some in the industry have considered exploring alternate fundraising sources; for instance, general partners (GPs) are seeking dedicated debt and/or equity results through new platforms, buy out third-party investors, or make an outsized commitment to their next fund. This not only provides for more flexibility, but equally helps broaden the GP’s investor base to more aligned investors. Further, many funds have moved to more robust quarterly portfolio valuations in response to limited partners seeking more timely information so they can take the appropriate asset allocation decisions. In addition, the highest inflation in over 40 years, driven by supply chain disruptions, soaring energy prices and tight labour markets, colliding with the prospect of slower growth coupled with the geopolitical instability tied to the war between Russia and Ukraine, have increased market volatility and resulted in investors paying closer attention to FX rates, leading to a significant increase in hedging activity to protector investments and returns.
Mauritius global funds (that is, investment funds and their intermediaries) in Mauritius are regulated by the Financial Services Commission (Commission). The Commission has, since 2001, developed a very flexible set of guidelines as well as a consolidated regulatory and supervisory framework for the regulation of such global funds, namely the Securities Act 2005 (Securities Act), the Securities (Licensing) Rules 2007, the Securities (Preferential Offer) Rules 2017 (as recently amended by the Securities (Preferential Offer) (Amendment No. 2) Rules 2021, the Financial Services Act 2007 (FSA 2007), the Securities (Collective Investment Schemes and Closed-end Funds) Regulations 2008 (Securities Regulations 2008), the Financial Services (Peer to Peer Lending) Rules 2020, the Securities (Solicitation) Rules 2020, the Securities (Real Estate Investment Trusts) Rules 2021, and the Securities (Exemption) Rules 2021.
Fund formation and finance
Global funds – overview
The present regulatory framework contemplates two main categories of global funds, namely: an open-ended fund, also known as a collective investment scheme (CIS); and a closed-end fund, commonly known as a private equity fund. Global funds can be structured as companies incorporated under the Companies Act 2001 or as limited partnerships (LPs), which came into force pursuant to the Limited Partnerships Act 2011 (Limited Partnerships Act), or licensed as companies or partnerships holding a Global Business Licence (GBL) under the FSA 2007.
Any CIS or closed-end fund (individually a Scheme or, collectively, Schemes) wishing to be approved, registered with, recognised and/or licensed by the Commission, under the Securities Act, must first apply to the Commission for authorisation as a CIS or closed-end fund in the manner set out in the Securities Regulations 2008, and obtain a GBL under the FSA 2007. Funds usually take the form of companies, LPs, protected cell companies
(PCCs) or trusts. The typical vehicle used to structure a closed-end fund is a private company limited by shares or an LP, while a CIS is commonly structured as a public or private company, unit trust or PCC.
The Mauritian LP combines features of both a company and a partnership, and acts as another preferred vehicle for foreign investors that may provide flexibility in structuring a CIS. It can have separate legal personality just like a company, while at the same time enabling some partners, known as limited partners, to contribute and participate in the returns of the LP without being engaged in its day-to-day management. The GP is responsible for managing the business and affairs of the LP and is personally liable for the debts of the partnership. The GPs in an LP can elect for the LP to have a legal personality or not. If they elect so at the time of registration, they must file with the registrar of LPs a declaration signed by one or more of the GPs stating that the LP shall have legal personality. The register of LPs and certificate of registration shall state whether the LP has legal personality or not.
The Limited Liability Partnerships Act 2016 (LLP Act) was introduced to further equip the economy’s financial sector with innovative tools, as well as alternative and attractive vehicles to investors – the Limited Liability Partnership (LLP). Similar to the LP, the LLP combines features of both a company (holder of a GBL) and a partnership, where the LLP is incorporated as a body corporate having separate legal personality from its partners, thus providing the flexibility of a partnership. The LLP Act applies to a person (a) offering professional or consultancy services, (b) holding a Global Legal Advisory Services licence, or (c) engaging in other prescribed activities. An LLP has a separate legal personality from its partners. Under an LLP, the partner is accountable and liable to the LLP only to the extent of its contributions (except in the event of insolvency). The LLP is required to have at least two partners and one manager. The relationship between the partners and the LLP is governed under a partnership agreement.
On 1 January 2000, the Protected Cell Companies Act 1999 came into force, which created an incorporation and registration regime whereby a Mauritian company carrying out global business would be able to register as a PCC. A protected cell (known in some jurisdictions as a ‘segregated account’ or ‘segregated portfolio’) is an account containing assets and liabilities (known as ‘cellular assets’) that are legally separated from the assets of the company’s ordinary account, called its ‘non-cellular assets’, and also separate from assets and liabilities allocated to the company’s other protected cells (if any).
A trust, established under the Trusts Act 2001, is a legal relationship created by the beneficial owner creating the trust (the settlor) and the persons willing to undertake the office of trustee (the trustees). As part of this relationship, property (the trust fund) is declared held by the trustees for the benefit of certain parties (the beneficiaries) or for certain purposes, creating a binding obligation on the part of the trustees to act in accordance with the terms of the trust. Trusts are normally liable to income tax on its chargeable income. Chargeable income is calculated as the difference between the net income derived by the trust and the aggregate income distributed to the beneficiaries under the terms of the trust.
The regulatory and supervisory framework for global funds is in line with international principles and practices as laid down by the International Organization of Securities Commissions. Intermediaries ensure the proper functioning of investment funds and hence protect the best interests of investors. All global funds are therefore subject to ongoing reporting obligations, as imposed by the Commission under the Securities Act and the
FSA 2007. Reporting obligations include submission of Audited Financial Statements and Quarterly Statutory Returns (Interim Financial Statements), in accordance with the FSA 2007. A fund is required to be managed by an investment manager licensed in Mauritius. A foreign regulated investment manager may alternatively be appointed, subject to the prior approval of the Commission.
As the private funds sector grows and matures in Mauritius, financing solutions are increasingly required by funds and fund managers. The need for finance can vary, from equity bridge or capital call facilities used to assist liquidity and speed of execution for private equity funds, to more esoteric products used by hedge funds in addition to their prime brokerage agreements, such as NAV-based margin loans to provide liquidity or
leverage, and equity or fund-linked derivative solutions. In fact, we still have not been consulted on a single facility payment event of default in the first half of 2022. Also, as more investors look to limit their investments to a smaller group of preferred sponsors, sponsors are also diversifying their product offerings. We have, for instance, noticed a trend involving a number of sponsors leveraging their existing investor relationships by
creating funds focused on sectors in which they have not traditionally participated (i.e., buyout shops creating direct-lending funds).
General security structure for Mauritius transactions
Historically, funds have predominantly been incorporated as corporate structures. Some companies may have more than one class of shares, which denote various fee structures and/or limitations on the types of investments some shareholders can make. There may also exist multiple series within each class of shares. In order to widen its array of financial products, Mauritius introduced its Limited Partnerships Act, adding a new dimension to the international investment community. This investment vehicle enables global funds to be structured as partnerships in Mauritius, reducing the need for complex master-feeder structures and ensuring tax-efficient structures.
Mauritius has become a central hub for foreign direct investment into India and Africa due to its network of double taxation avoidance agreements and investment protection and promotion agreements with various African countries. However, while investors have been able to form global business companies for foreign direct investment, the more rigid structure of companies means they are not always perfectly suited for these investment projects. For example, for funds structured as a Mauritius corporation, a shareholders’ agreement governs the relationship with the shareholders rather than a partnership agreement. The obligation of shareholders to pay in capital contributions is contingent upon the issuance of
further shares, and a corporation’s ability to issue shares is generally not delegable under Mauritius law, thus limiting the ability to make capital calls on investors in an event of default under the fund financing facility.
Security for the fund finance consists of: (a) a security assignment by the fund of the capital commitments, right to make capital calls, right to receive and enforce the foregoing, and the account into which the capital commitments are to be funded; and (b) a charge on the bulk of its other assets including its accounts, investments compensation from various of its assets including bonds, guarantees, negotiable instruments and the like. The security package relating to the capital calls is tailored in order to account for specifics of Mauritius law and the structure of the fund as a corporation (rather than an LP, as most funds in Mauritius are structured as corporations). In particular, various rights in respect of the fund are vested in the board of directors and cannot be easily delegated. Mauritius law requires that shares be issued in exchange for capital calls.
One would expect security to be taken over bank accounts of the fund and assignment of rights to make capital calls, accompanied by a power of attorney in favour of the lender to exercise such rights on behalf of the fund/GP and/or manager (as the case may be) in a typical fund financing security transaction. So, while one would have a pledge over the security provided above, the ability for a lender to make a capital call on its own would be complicated by the foregoing. In a worst-case scenario, the preferred enforcement mechanism would have the lender appoint a receiver (and, if necessary, a liquidator), as each have statutory authority to make capital calls and issue shares in order to satisfy creditors to whom such security is pledged. Indeed, after an event of default, a lender is entitled to appoint a receiver under the Insolvency Act 2009. Security documents, such as fixed and floating charge documents, would need to provide that if a receiver were appointed, it would have full management powers to the exclusion of the board of directors. Under the Insolvency Act 2009, the receiver would have the power to make calls of unfunded capital to the extent such assets are included in the charge granted to a lender and issue shares.
It is also recommended that a liquidator be appointed in order to avoid certain issues relating to the set-off of claims by shareholders against the called capital (described further below). The liquidator would also be permitted to call capital. For example, various contract law defences may be waived in Mauritius by contract in the situation where the fund is not in insolvency (including non-performance by the fund). Generally, such language is sought for three reasons: (a) to waive contract law defences such as lack of consideration, mutual mistake, impracticability, etc.; (b) to prevent LPs from claiming that they may set off amounts owed to them by the fund against what is due to the lender; and (c) claims that an issuance of shares or some other action by the fund is required as a condition for payment of capital contributions.
We recommend that such language be included in this transaction since, in the event of insolvency of the fund, the language may prove helpful and could avoid other defences raised by shareholders that their commitment to contribute capital is a ‘financial accommodation’ or otherwise avoidable under insolvency laws. Such ability to waive in advance the right to raise the defence above and other defences by contract could be inserted in the contract (presumably by amendment to the shareholders’ agreement or by an investor letter); however, general waivers are not effective, so specific waivers would be required as to each of the possible defences.
Moreover, such contractual waivers would not be effective in a number of circumstances, including rights to set-off pursuant to the Insolvency Act 2009. By statute, under the Insolvency Act 2009, while a receiver is in place, principles of contractual, legal and equitable set-off apply that would permit set-off by shareholders, and such set-off is available to the extent that claims have been incurred prior to the commencement of the liquidation (subject to other limitations). To avoid such risk, we normally recommend the initiation of winding-up by a lender by appointment of a liquidator, as such appointment would crystallise the liability of shareholders as a statutory liability that cannot be set off against amounts owing to the shareholder.
Key developments in Mauritius
Some of the salient amendments made to the present regulatory framework are as follows.
Amendments to the Companies Act 2001
The timeframes under the COVID-19 provisions have been repealed and amended as follows:
- The frequency of the annual meeting of shareholders shall be:
- not more than once annually;
- not later than six months after the balance sheet date of the company or such other period as the Registrar of Companies (ROC) may determine; and
- not later than 15 months after the previous annual meeting.
- The disapplication of the duty of directors during insolvency of a company in times that have been decreed by the Government of Mauritius as the COVID-19 period has been removed and the duties are now restored, unless as may be otherwise prescribed.
- Where a company has an obligation to prepare and file financial statements, it shall prepare the financial statements within six months or as may be prescribed by the ROC after the balance sheet and file them with the ROC within 28 days or such other period as the ROC may determine from signing the financial statements.
Amendments to the Securities Act – obligation for auditors to be approved by the Commission
Only audit firms approved by the Commission are authorised to audit the financial statements of a CIS manager or CIS. The Commission must be satisfied that that an audit firm has adequate experience, expertise and resources to audit such financial statements.
Amendments to the Banking Act
The Bank of Mauritius (BOM) is entitled to issue rules to provide for the framework under which digital currency will be issued by the BOM and may be held or used by the public. The BOM may, for the purposes of issuing digital currency, open accounts for and accept deposits from such persons as it may determine.
Establishment of a Central KYC System and Central Accounts Registry
The BOM is authorised to establish (i) a Central KYC System for facilitating the electronic verification of the identity of customers, validation and extraction of KYC records of customers by KYC institutions, and collecting KYC records submitted to KYC institutions by their customers, and (ii) a Central Accounts Registry for collecting information on accounts maintained by customers, other than the balance and amount held in these accounts (Registry).
The BOM is empowered to require any KYC institution (including financial institutions licensed by the Commission) to furnish to the Registry, on such terms and conditions as it may determine, such information as it may require for the purpose of maintaining the Registry.
The fund finance year ahead
As 2022 is coming to a close, we believe that real-time uncertainty about current economic conditions and policy actions will likely keep market volatility high, and investors will remain focused on whether central banks can tame inflation without triggering a global recession. The fund finance market was extremely resilient during and following the global financial crisis (outperforming many other forms of finance) and has benefitted from strong growth since; thus, we remain cautiously optimistic for a robust fund finance market in 2023 – and we further expect the number of facilities consummated to continue to grow at a solid clip as fundraising improves and the product further penetrates the private equity market, and a greater number of existing facilities get refinanced. Our Mauritius Fund Finance Team has worked with the vast majority of market participants over the last 18 months, and while the present uncertainty about current economic conditions and policy actions will likely keep market volatility high, and investors will remain focused on whether central banks can tame inflation without triggering a global recession, we nevertheless remain cautiously optimistic for a robust fund finance market in 2023.