Poland’s new PE vehicle gets mixed reception

On July 1 the new Polish Investment Funds Act came into force. Replacing its 1997 predecessor the new Act reflects provisions of two EU Directives and while it is primarily concerned with funds that raise money on the capital markets, there is one addition which will be of interest to the Polish private equity community: a new investment vehicle called the non-public assets fund. Tom Allchorne reports.

There are no private equity funds in Poland at the moment, according to Barbara Nowakowska, executive director at the Polish Private Equity Association, if this is taken to mean a “proper tax transparent fund structure. There are around 10 ten if we include all funds that operate in a form of a company, either a limited liability or a joint stock company. These funds, however, do not have a tax transparent structure,” she says.

The overwhelming majority of VC or private equity funds operating in Poland are registered outside the country, and pension funds are prohibited from investing in foreign entities and non-listed companies.

The new Act doesn’t change this. Instead it creates a fund structure which is legally available to the pension funds. Under the new law, three new structures and four special types of funds have been created. One structure is a fund with different categories of participation units, which allows the fund to sell participation units of different categories to investors while the fund conducts a unified investment strategy. Of the remaining two, one is closely modelled on the umbrella fund model of Western Europe, and the other is essentially a master feeder fund. The new law also allowed for branches of foreign funds to be registered in Poland.

Of the four types of funds, only one is relevant to private equity, the aforementioned non-public assets fund, which has been specifically created to allow investment in non-listed companies. To be classed in this category, at least 90% of the funds assets must be invested in non-listed securities or financial instruments.

The closed-end fund, which existed under the old law, did not allow for (i) commitment and capital calls, (ii) distributions of proceeds after exit from an investment, (iii) carried interest, (iv) subcontracting fund management, and (v) management fees. The new act scraps all these restrictions.

Unfortunately for the Polish Finance Ministry, which drew p the Act, Polish pension funds have so far displayed attitudes ranging from indifference to scepticism, best shown in their reaction to the launch of Copernicus Capital Partners fund-of-funds, the first in the country and which hopes to take advantage of the new investment vehicle. When the fund was launched in September 2003, a report in the Warsaw Business Journal quoted a number of pension fund managers saying they weren’t particularly interested in putting their money into something as illiquid as private equity. In response to this, Copernicus has included an option for LPs to trade certificates on the stock exchange.

Copernicus presumably anticipated such a reaction, given that at the time of the launch it expected investors to commit around 0.5% of their assets into private equity. Pawel Gierynski, managing partner at Copernicus Capital Partners, says: “I think we are a solution for potential Polish investors, but at the moment they are not that interested. They have expressed some interest in private equity as a whole and they will invest, but when and in what form I don’t know.”

There are still a number of restrictions on pension funds should they ever wish to part with their money. Pension funds can invest abroad up to 5% of their assets and only into listed securities. As for closed-end investment funds, not more than 10% of the net asset value of a pension fund may be invested (this applies to all investment funds, not only private equity funds), not more than 2% of net asset value of a pension fund may be invested in one investment fund, and a pension fund may not hold more than a 35% participation in one investment fund.

The funds are regulated, a sticking point for some, by the Securities and Exchange Commission (SEC). The private equity community has been lobbying to the Polish parliament to completely deregulate VC and PE funds. Without such deregulation, it’s hard to see why many firms would want to register their funds in Poland. Gierynski, says: “The selection of fund vehicles is driven by investors. More than 90% of investors are from outside Poland and the offshore structure is preferred by them.”

Sub-regulations to the new law and actual implementation will show if the non-public asset fund is a sufficient tool or not. “Practitioners say it is not”, says Agnieszka Deeg-Dabrowska,

a partner at CMS Cameron McKenna’s Warsaw office. “But at the same time, formation of private equity funds that are registered in Poland and that are under SEC supervision may increase the credibility of private equity funds in the eyes of Polish companies seeking finance.”

In the short-term it appears the creation of this new vehicle will have little or no effect, but in the medium- to long -term the situation could change. Polish pension funds are estimated to accumulate over €55bn by 2010. Nigel Williams, chairman of Royalton Partners, says: “Because of the rules surrounding pension funds, they have to put most of the money in the local stock exchange. This is happening in many of the central European countries. But the pension funds are building money up as none of them are paying out yet and so many of them are looking at investing in private equity.”

Neil Milne, a managing partner at Copernicus, says: “There is an interest from institutional investors in the asset class in

the long term but the legal constraints means they can’t because many of the funds are foreign-registered. If these pension funds wish to get into private equity, investing in a fund-of-funds is much more sensible. They are only looking at €15m worth of commitments and so it really is not worth them setting up a dedicated investment team.”

Since their privatisation during the 1990s, pension funds have so far invested mainly in government bonds, but the liberalisation of asset allocation rules in the new act and rising interest rates will encourage pension funds and other institutional investors to the listed markets. The combination of asset growth and increasing appetite for risk means investors will become increasingly drawn to the domestic stock exchange, limited as they are by EU regulations on investing abroad.

The Warsaw Stock Exchange could soon become overwhelmed with all this money flooding in, which should mean private equity becomes an option as pension fund managers look for new investment avenues.

“Historically there hasn’t been much money on the ground in these countries so most of it has come from abroad,” says Charles Waddell, partner at CMS Cameron McKenna. “There are now a lot of private pension funds and private insurance funds, so one would expect people to create local private equity funds.”

The new vehicle certainly has potential, and with an estimated €110m of potential investment from pension funds into private equity, it seems certain that Polish investors will take an increasing interest in the market. But the market itself does not appear to be that interested by it, feeling that it won’t change firms registering funds in foreign countries. While this is an explicit, if understated, acknowledgement by the Polish government of private equity as an asset class, the industry seems to think it would be better if the government didn’t get involved at all.