Proposed pension fund rules are posing a threat to the private equity industry, according to the European Venture Capital Association (EVCA). The EVCA has spoken out against the inclusion of the “prudent person rule plus” as part of European Union law governing investments made by pension funds. The rule would impose limits on the size of pension fund allocations to private equity and venture capital. Last year pension funds were the largest single source of capital for private equity funds in Europe, contributing €10.7 billion, a figure that would be jeopardised if this proposal was approved.
In October 2000 the European Commission proposed a directive on pension fund activities and despite much discussion, little progress has been made towards the final draft. The current document proposes the adoption of a prudent person rule, which is qualitative and calls for diversification. For cultural reasons, stemming from the level of development of pension fund systems in different states, this rule has been opposed and discussions of the “prudent person rule plus” initiated. Didier Guennoc, research director at the EVCA, says there is little understanding among policy makers of the consequences this rule would have. The EVCA’s position statement has been sent to all those concerned with the directive. “We’ve had good feedback and we hope the statement will have a positive impact,” says Guennoc.
The proposed “prudent person rule plus” would impose unspecified quantitative limits, in addition to the qualitative rules, on investments made by pension funds. The EVCA also fears private equity and venture capital would be seen as part of the alternative assets group, also including hedge funds. The limit for pension funds investing in these types of alternative assets could be as low as 5 per cent of their total assets. The association fears the new rule would lead to “severe disturbances” in countries such as the UK and the Netherlands where funds have voluntarily adopted the prudent person rule and already invested upwards of this amount in private equity. Massive divestments would then be needed for them to comply.
Last year European pension funds invested an average of 3.6 per cent of their assets in private equity, while US pension funds invested 7.5 per cent of their capital in the asset class, according to the EVCA. The association urges that the figure of 7.5 per cent should be considered as a benchmark and it recommends that institutional investors should have the freedom to invest at least this amount of their assets in private equity. “Pension funds using the prudent person rule have performed better than those with quantitative limits have. This rule should be implemented but it also needs to take cultural differences into account,” says Guennoc. He believes a limit of 7.5 per cent investments in private equity may be useful for countries where no pension fund system has been established.
The EVCA also points out that the rule threatens the principles of the Risk Capital Action Plan, which has been agreed by member states. It aims to encourage the development of a strong pan-European venture capital industry, on a par with the US, with high levels of investment in young companies.