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Nordic Market Newsletter

15 December 2010


On 11 November 2010 the much disputed Alternative Investment Fund Managers (AIFM) Directive was adopted

The Directive regulates a wide range of investment funds that are not already regulated at European level by the UCITS Directive, including hedge funds, private equity funds, real estate funds and various other types of institutional funds.

The Directive, which is expected to come into force at the beginning of 2013, authorizes the EU Commission and the EU Securities and Markets Authority to adopt the measures necessary for implementation of the Directive.

The Directive is quite far reaching and includes a number of requirements aimed at offering investors a better level of protection through registration and authorization of funds, European supervision and greater transparency.

Key provisions
Definition of AIFM : Any legal person whose regular business is managing one or more Alternative Investment Fund (AIF).
Definition of AIF : Any collective investment undertaking which is not a UCITS and which:

  • raises capital from a number of investors; and
  • invests capital in accordance with a defined investment policy.

Thresholds / Exemptions: An AIF which has an AIFM providing management or marketing services from within the EU will fall within the scope of the Directive, subject to certain exemptions including:

  • AIFMs managing AIFs that have total assets of less than €100 million; or
  • AIFMs managing AIFs that have total assets of less than €500 million subject to the AIFs not being leveraged and have no redemption rights during a period of 5 years following the date of initial investment in each AIF.

Other key exemptions include holding companies, groups, pension schemes and employee benefit trusts.

Passport: Creation of an EU wide passport for authorised AIFMs to market their funds.
Third Country Funds: Third country funds may be marketed across the EU by authorised managers subject to the AIFs and their managers satisfying the requirements of the Directive. Conditional private placement regimes remain for the time being.
Passive Marketing: Passive marketing taken outside the scope of the Directive.
Depositary: Every AIF will have to have a depositary, usually a credit institution or investment firm with an exemption for private equity and real estate funds to use professional advisers.
Depositary Liability: Some strict liability issues remain but on the whole the Directive retains a negligence / intentional failure test. Liable for sub-custody unless the sub-custodian is directly liable to AIF.

Remuneration: AIFMs to be subject to similar limits on pay and bonuses as bankers (pursuant to the Capital Requirements Directive), although some proportionality included.
Robust Governance: Requirement for an AIFM to act in the best interests of the AIF it manages, the investors in the AIF and the integrity of the market, including adopting independent valuations of the AIF’s assets, appropriate management of risks, liquidity, due diligence and conflicts of interest. Functional separation of risk and valuation operations from portfolio management.
Delegation: Restrictions on the delegation of AIFM functions, including requiring prior authorisation from the home Member State.
Transparency: Enhanced disclosure requirements for investors and competent regulatory authorities. Specific disclosure relating to investment in investee companies.

Asset Stripping: Private equity managers to face limits on the amount of capital they can distribute within 2 years of acquiring control of a non-listed company.
Leverage: Managers must set and comply with limits. Limits on borrowing may be imposed in emergency situations by home Member States.
Short Selling: Short selling is outside the scope of the Directive.

Authorisation: AIFMs must be authorised by their home Member State regulator to provide management services to, or market the shares of, AIFs. Once authorisation has been granted it is valid for operations in all Member States (subject to notification procedure via the home state).
Capital Requirements: An externally appointed AIFM must have an initial capital of at least €125,000 (rising to €300,000 for an internally managed AIF).

All of the finer details will be regulated by the Commission and European Securities and Markets Authority (ESMA).
It may become more burdensome and more expensive for fund managers to operate. These costs will in turn need to be covered by investors. The burden will be most onerous for smaller funds, which could lead to a further consolidation in the industry.

Changes to the Prospectus and Transparency directives

Changes made to the prospectus directive and the transparency directive could potentially avoid the cost and complexity of a new issue of shares by raising the monetary limit at which a prospectus must be drawn up. In addition, it will no longer be necessary to publish a prospectus if the offering is directed at fewer than 150 physical or legal persons who are not qualified investors (at the present time 100).

When it comes to the client classification, the notion of “qualified investor” will by definition correspond to the notion of professional client in the MiFiD directive. Thus it will not be necessary to investigate whether professional clients are also qualified investors for the purposes of the Prospectus directive, which will facilitate an offering, such as a private placement, which is directed only at qualified investors.

It will no longer be necessary to publish details of employee share savings programmes, even if the company’s shares are not regulated on an organized market, provided that the company is registered within the EU or the company’s shares are listed on a third country market which the Commission has approved. Employees shall instead be provided with a document containing basic information which can form the basis for investment decisions.

The investors’ right of withdrawal in connection to an amendment to the prospectus has been clarified and has been limited to two working days after the amendment has been made public.

Member states must implement the directive within 18 months.

Golden Shares in government owned companies

The EU Court of Justice has found that Portugal’s ownership of “Golden Shares” in a domestic dominant energy company constitutes a breach of the EU treaty. “Golden Shares” give the owner special rights in the company.

Green paper on auditors and auditing

The EU Commission has published a green paper on auditors and auditing in light of the financial crisis. The green paper considers a multitude of questions on how auditing can be made more clear and informative for shareholders and other stakeholders, on who should appoint auditors, on how the dominance of the big four can be softened, on supervision etc. The Commission will take action on these issues during 2011.


Tax advantages in private equity-backed acquisitions

An international comparison of tax treatment will often show certain benefits in using a Swedish corporate acquisition vehicle. This is primarily due to the tax treatment of debt for such purposes. Notably, in Sweden, interest payments are fully deductible, and interest payments and dividends are free from withholding tax.

A private equity-backed acquisition in Sweden is generally structured (as shown in the chart below) so that the Target is acquired by a Swedish special purpose vehicle (“SPV”), which is in turn owned by a foreign parent company controlled by the private equity fund. The parent is typically registered in a tax haven where interest income is not subject to tax. Consequently, interest paid on the investment in the SPV (i.e. debt capital provided by the fund to make the acquisition) is not subject to tax (neither in the SPV nor in the parent). Accordingly, by using this structure the deductable interest payments on the capital investment can be set off against the profit of Target for tax purposes.

A further advantage of the Swedish rules is that there are no thin capitalisation provisions, which would limit the deduction of interest when the level of equity in the borrowing company is low compared to the level of borrowed capital. In theory, therefore, a Target can be acquired with more or less exclusively debt capital (although in practice the lending bank will usually require that a certain proportion of the purchase price consist of equity from the fund).

The following example illustrates the tax advantages in a typical private equity acquisition structure:
Purchase price: 200 MSEK
Financing (debt only): 140 MSEK external loan (bank), 60 MSEK from the fund
Profit in Target: 7 MSEK
Interest on internal loan: 12%
Company tax: 26.3%

In this example, the structure used generates a “tax discount” on earnings for the post-acquisition Group of approximately 1.9 MSEK per annum (60 MSEK x 12% x 26.3%) which corresponds to (and cancels out) the tax which accrus on Target’s profit of approximately 1.85 MSEK (7 MSEK x 26.3%).

Should the interest under the internal loan be further consolidated, this increases the debt load, giving rise to higher interest payments and greater tax advantages accordingly.

It has been suggested that this somehow puts industrial actors at a disadvantage in an acquisition process, when private equity firms make use of these tax advantages (compare for instance Nordic Capital’s acquisition of Munters, out from under the nose of Alfa Laval). A longer term threat to this model, however, is that this beneficial tax treatment may be eliminated or otherwise limited. Given recent media attention, it remains to be seen how much longer Sweden will remain advantageous as a site for corporate acquisition vehicles.

The lawfulness of the declaratory action regarding the arbitration tribunal’s jurisdiction

Five years ago, the Svea Court of Appeal handed down a ruling in the Titan vs. Alcatel case, which was widely criticised for its perceived negative impact on Sweden’s reputation as an arbitration-friendly jurisdiction. The Svea Court of Appeal found that it lacked jurisdiction to hear a challenge to an award because of a "lack of Swedish interest", even though the arbitration clause referred to the ICC Arbitration Rules. The parties had also elected that the seat of the arbitration should be a neutral forum between them, Stockholm. The Appeal Court decision was never considered by the Supreme Court because the parties settled the dispute.
However, the Supreme Court has recently ruled in a similar case between the British company RosInvestCo and the Russian Federation. In the RosInvest case, the parties had agreed that arbitration should take place in Stockholm. RosInvestCo initiated arbitration proceedings at the Stockholm Chamber of Commerce Arbitration Institute. The Russian Federation then filed a claim at the ordinary court, claiming that the tribunal had no jurisdiction to hear the case. The Supreme Court found that the parties had agreed that arbitration would take place in Sweden and the Arbitration Act should therefore be applicable. The Supreme Court found that a Swedish judicial interest existed and that the Swedish courts could therefore try the case regarding the arbitrators' jurisdiction to hear the case. Even though the final arbitration award was expected to be handed down before the Russian Federation’s negative declaratory action, the Supreme Court found that the conditions were fulfilled to bring such declaratory action.

Insider information

The Svea Court of Appeal has in a recent judgement evaluated whether certain information constituted inside information. A board director of a medical company informed a friend and shareholder about a delay in the production of influenza vaccine. The shareholder sold shortly thereafter, and before the information was made public, more than 50 per cent of his shares in the company. After the information was made public, the value of the share decreased with 34 percent. The Court of Appeal found that the information constituted inside information and held the shareholder liable of insider crime and the board director liable of unauthorized disclosure of inside information.

Mandatory bid obligation

In statement 2010:32 (Intius), the Swedish Securities Council recently found that no obligation to make a mandatory bid arose as a result of a private person first acquiring control over 34.8 per cent of the shares in Intius ex gratia and increasing this stake with 63.3 per cent of the shares as a result of a non-cash issue. The background was that Intius had an acute liquidity shortfall, which led the chairman to leave the company. In 2009, no operations were conducted and the company did not have a board. A company owned by the private person was acquired through a non-cash issue by Intius. In addition, a company controlled by the private person obtained a large number of shares at nil consideration from the former CEO of Intius. The Council made its dispensation decision based on the fact that the acquisitions were part of a reconstruction of Intius.

In statement 2010:33 (Corem Property Group - Arnhult) the Securities Council has granted an exemption from the mandatory bid obligation in connection with a shareholder subscribing for his or her pro-rata share in a rights issue.

Incentive programmes

In statement 2010:40 the Swedish Securities Council re-examined its previous statement (2008:48) concerning the scope of the board’s authority to determine the material terms of a share price related incentive programme. The Securities Council found that a general meeting resolution in respect of the upper limit for the size of the programme, the categories of employees entitled to take part and the principles according to which the instruments may be acquired would be sufficient. Whilst the shareholders’ resolution should set out the criteria used to assess performance, it is acceptable (for competition or stock market related reasons) not to set out the precise degree of success required to trigger the allotment. This is a question best handled by the board, as long as the shareholders are provided with information regarding the degree to which performance criteria were satisfied by the end of the programme.

Changes to the Rule Book of Issuers

NASDAQ OMX Stockholm AB has decided to make minor changes in its Rule book for Issuers of shares. The changes will enter into force on 1 January 2011. A mark-up version of the new Rule book is available on the Exchange's webpage.


Standby Equity Arrangements

Equity financing is sometimes seen as a cumbersome and time consuming way to bolster a company’s working capital. Over the past few years, a new and more flexible form of equity financing, known as “Standby Equity Distribution” or “Equity Credit Facilities” has been developed for publicly listed companies. Two Scandinavian pharmaceutical companies (the Swedish Karo Bio AB and the Finnish Biotie Therapies Corp.) recently announced plans to enter into these types of arrangements.

Under these arrangements, the issuers negotiate with investors the right (but not an obligation) to draw down financing in smaller tranches, usually over a term of two to three years. Besides flexibility on timing, the issuer may also get the right to determine the issue size (up to a certain limit) and minimum price per share for each tranche. The commitment sizes are usually around EUR 10 - 20 million and the size of individual tranches are around a few hundred thousand, depending on the type and nature of the issuer as well as on the liquidity of the shares.

The investor commits to subscribe for new shares (or to purchase treasury shares) up to a certain amount, at a price per share to be determined by reference to a formula taking into account the traded volumes during a few market days before the issue. The upside for the investor may involve fixed commitment or drawdown fees, a discount on valuation or some combination thereof.

Although standby equity facilities are more flexible and provide a quicker way to issue new shares, certain legal and practical considerations must be taken into account when entering into a standby equity arrangement and when exercising such arrangement:

- What announcements will be required? The issuer will need to disclose the main terms of the standby equity arrangement and the intended use by way of a stock exchange announcement. Similarly, the exercise of each tranche of the facility must usually be disclosed once the price has been determined and the issuer has resolved to draw down on a tranche.

- Will the arrangement or the exercise of an individual tranche on the part of the investor need to be disclosed? This must be assessed on the basis of the applicable rules on disclosing certain ownership interests.

- Could insider trading restrictions apply and what consequences would this have?

- When and how are the new shares to be listed? The exercise of the standby equity arrangement will normally be viewed as a private placement from the issuer’s point of view, thus avoiding the need for a prospectus. However, if the number of newly issued shares is very large, a prospectus may still be required in order to get the new shares admitted to trading.

- Does the Board of Directors have sufficient authority to issue new shares and/or to sell treasury shares?

In conclusion, standby equity arrangements can provide listed companies with flexibility and access to capital at times when a traditional secondary offering is not justified. However, these arrangements require careful planning and implementation to be used effectively.


New rules for variable remuneration in financial holding companies in Denmark

On 9 November 2010, a bill on remuneration policies in financial institutions and financing holding companies was introduced by the Danish Minister for Economic and Business Affairs. The new rules seek to implement the provisions of the European Capital Requirements Directive and the European Commission’s general principles.
Companies are obliged to have remuneration policies which are consistent with good risk management and which do not encourage short-term profit and excessive risk-taking.

1. Who is the subject to the rules?
The Directive requires member states to implement new rules in relation to employees of banks, mortgage banks, stock broking and other investment companies. The Danish Bill also extends to employees of insurance companies.
The new rules will apply to variable remuneration of the company’s board of directors and executive board and other “substantial risk takers”. It is basically up to the board of directors to decide which individuals fall within the definition of “significant risk takers”. It is understood that this group will comprise employees whose activities have a significant impact on the company’s risk profile. The management of markets and treasury divisions will typically always be classified as significant risk takers. Further, employees whose total remuneration is equivalent to the individuals described above must also be considered by the remuneration policy, but only to an appropriate extent.

2. Limitations on variable remuneration
The existing Danish Financial Business Act already limits the extent of the variable remuneration paid to executive boards of financial institutions. The maximum variable payment is 50 per cent of the fixed basic remuneration, including pension contributions. The new Bill extends the current limitation and is also applicable to the executive boards of financial holding companies and to non-executive members of the boards of financial institutions and financial holding companies. For companies that receive government subsidies, the maximum variable remuneration is 20 per cent.
The new Bill would also impose a limitation in respect of other “substantial risk taker” employees. It is left to the company to impose an appropriate limit on the variable remuneration for such employees. This may vary depending on the employee’s duties and actual influence on the company’s risk profile.

3. Remuneration in shares
At least 50 per cent of the variable remuneration must be granted in shares, share-linked instruments or other types of instruments that reflect the creditworthiness of the company. The recipient may not realise the shares for at least three years and may not hedge the risk associated with these shares during the period.
As for the board of directors and the executive board, share options and similar instruments may not represent more than 12.5 per cent of the total board remuneration and the fixed basic remuneration. Employees are to be prevented from selling or exercising such options for an appropriate period of time, which period can be set by the company and will vary depending on the circumstances.

4. Conditions for payment
In Denmark, the remuneration policy must be submitted for approval by the company, typically in a general meeting of shareholders.
At least 40 per cent of the variable remuneration must be paid over a period of three years. For the board of directors and executive board this period must be four years. Payment of the deferred part of the remuneration cannot start until one year after the calculation of the variable remuneration and must be paid in one-year intervals.
If the position of the company is significantly weakened, the company may abstain from paying the variable remuneration. Moreover, companies are entitled to require the remuneration to be paid back, wholly or partly, if it has been calculated on the basis of information which is later found to be erroneous.
Financial institutions and financial holding companies whose shares are traded on a regulated market, or those which have had at least 1,000 full-time employees during the past two financial years must establish a remuneration committee. The committee shall consist of members of the board of directors of the company.

5. Disclosure of information
The Danish Financial Supervisory Authority is to be authorized to lay down detailed rules on the duty of financial institutions and financial holding companies to disclose information regarding the remuneration of the aforesaid individuals.

6. Coming into force
The Danish Bill is expected to come into force on 1 January 2011. Agreements on variable remuneration entered into after that, and renewal or extension of existing agreements, must be made in accordance with the new rules.

It is expected that the Swedish Financial Supervisory Authority will shortly be proposing amendments to its regulations and guidelines for remuneration policy in order to implement the Directive. These are expected to come into force on 28 February 2011.


New Norwegian accounting regulations

Currently, Norwegian issuers with securities listed on a regulated Norwegian stock exchange that do not prepare consolidated accounts are not required to prepare accounts in accordance with IFRS.

The change recently made to the Norwegian Accounting Act stipulates that companies with listed securities that do not prepare consolidated accounts are now required to prepare their annual accounts in accordance with IFRS. The amendment to the Accounting Act comes into effect for accounting years that commence on 1 January 2011 or later.

The Norwegian Financial Supervisory Authority (Finanstilsynet) and Oslo Stock Exchange (Børs) recommend that issuers who will be switching to IFRS should also use IFRS for their 2011 interim reports. In this connection, they should also apply the International Accounting Standard for interim financial reporting. Oslo Børs acknowledges that the transition to IFRS may require the issuer to provide supplementary information to the market.

This change is expected to affect many borrowers (such as banks and other corporate) with listed fixed income securities (such as corporate bonds).

Transfers of listings of fixed income securities from Oslo Børs to Oslo ABM
Issuers subject to the requirement to prepare accounts in accordance with IFRS from 1 January 2011 who wish to continue with their current financial reporting in accordance with the standard regulations in the Accounting Act (Norwegian accounting standards) will no longer satisfy the requirements for a stock exchange listing. Such issuers may wish to apply to transfer the listing of their fixed income securities from the Oslo Børs to the Oslo Alternative Bond Market (ABM).

The issuer must first distribute a buy-back offer before the listing can be transferred to the Oslo ABM. This is subject to certain exemptions, for instance if the loan agreement makes equal provision for listing on Oslo Børs and Oslo ABM or if the transfer is approved by a sufficient majority of bondholders at a bondholders’ meeting.

The buy-back offer must be appended to the notice calling the bondholders’ meeting to consider the offer, so that investors are aware of the terms and conditions of a potential offer before they cast their votes at the bondholders’ meeting.

Further, any buy-back offer must be made at a fair market price. Oslo Børs recommends that the issuer should request bids from a minimum of three investment firms in order to decide what may be deemed to be a fair market price, and should use the average of such bids. Details of these bids must be made available to Oslo Børs upon request. If the price used in a buy-back offer is based on a swap interest rate, the final price for the buy-back offer should be calculated on the average of at least three banks’ swap interest rates at the same pre-determined time prior to the period in question. The offer must state which yield curve has been used as the basis for the banks’ swap rates.

Revised edition of the Norwegian Code of Practice for corporate governance

The Norwegian Corporate Governance Board has published a revised edition of the Norwegian Code of Practice for Corporate Governance. The following changes have been made:

The Code of Practice recommends that, in addition to adopting ethical guidelines, companies should define guidelines for corporate social responsibility.

In share capital issues resolved by the board on the basis of a mandate from the general meeting, and where the existing shareholders' pre-emption rights are waived, the company should explain the justification for waiving the pre-emption rights in the stock exchange announcement issued in connection with the increase in share capital.

The Code of Practice recommends that the general meeting set out guidelines for the duties of the nomination committee.

Internal controls and the systems used for risk management should also encompass the guidelines for corporate social responsibility.

The Code of Practice now recommends that performance-related remuneration be subject to an absolute limit.

This section has been redrafted to address solely the target company. In addition it is now recommended – for each and every bid – that the board of the target arrange for a valuation by an independent expert, and make a recommendation to shareholders as to whether or not they should accept the offer.

  • Section 1: Implementation and reporting on corporate governance
  • Section 4: Equal treatment of shareholders and transactions with close associates
  • Section 7: Nomination committee
  • Section 10: Risk management and internal controls
  • Section 12: Remuneration of executive personnel
  • Section 14: Take-overs