Complex tax, accounting and employment matters, among other things, drive the choice of acquisition structure for private equity-funded transactions. Some of the most common types of private equity acquisition transaction are leveraged buy-outs (LBOs) and management buy-outs (MBOs).
Where an LBO/MBO transaction involves a domestic or international business with a UK-domiciled management team, the use of Jersey acquisition structures has gained traction with UK private equity advisers for a number of reasons. This update examines why Jersey companies, Jersey employee benefit trusts and Eurobonds quoted on the Channel Islands Stock Exchange (CISX) have become integral components of the LBO and MBO transaction planning process.
One such Jersey debt and equity acquisition structure is as follows:
Click here to view diagram.
The key Jersey-connected parts of the structure include:
- a Jersey group holding company/acquisition vehicle;
- a Jersey employee benefit trust; and
- a CISX-quoted Eurobond.
Furthermore, a tiered Jersey debt and equity holding structure:
- enables the structural subordination of intra-group/acquisition financing (ie, it splits debt and equity investment);
- facilitates the requirements of both the private equity backer and target group management;
- provides UK-resident, non-UK domiciled target group management with remittance-based taxation options for a future exit (eg, UK capital gains tax);
- allows for simplified dividend flows to private equity investment vehicles and therefore ultimate private equity investors; and
- should not be subject to tax or stamp duty in the United Kingdom on any future disposal.
The employee benefit trust facilitates the alignment of target management objectives with those of the private equity shareholder.
The principal advantage of using a Jersey holding company is the flexibility of Jersey company law in relation to returns to investors - whether by means of dividend, redemption of share capital or share buy-back. A Jersey company may make a distribution from a wide range of sources, not merely from distributable profits. A zero rate of income tax applies to virtually all Jersey companies.
Where a Jersey company is managed and controlled in a country where all or part of the company's income is taxed at a rate of 20% or more, the company is treated as tax resident in that country (eg, in the United Kingdom). As a result, the Jersey company should not be dual resident for UK dual-resident investment company purposes. On exit, no stamp duty is payable on the transfer of shares in a Jersey company and there is no corporation or capital gains tax in Jersey. As an alternative exit, Jersey companies are also suitable vehicles for an initial public offering.
Rewarding, motivating and retaining senior employees and attracting high-profile new executives to portfolio companies require a well-structured, tax-efficient and effectively administered remuneration package.
As part of the LBO/MBO process, it is usual for share-based incentive plans to be designed to align the activities of executives and senior employees with the requirements of the private equity group investor. Share plans are typically operated in conjunction with an employee benefit trust - generally an offshore trust where the trustee's duty is to act in the interests of the employees (and certain qualifying former employees) that are beneficiaries under the employee benefit trust.
The Jersey employee benefit trusts that form part of structured LBO/MBOs fulfil a number of functions, depending on the plan structure, the stage in its lifecycle and the target company structure. It is common for employee benefit trusts to allow for multiple share plans to be managed through a single trust arrangement for a group of companies.
Incentive plans for the private equity management team are often more creative and can be tax efficient, depending on their country of residence and domicile. Plans include structuring of carried interest, share incentives, bonus deferral and partnership interest management.
The CISX has seen a dramatic increase in the listing of quoted Eurobonds since December 2002, when it was designated by the UK Inland Revenue as a recognised stock exchange under Section 841 of the UK Income and Corporation Taxes Act 1988.
Many of these Eurobonds have been issued in connection with private equity transactions. Typically, the debt issuing entity will be a UK tax resident company formed in connection with a private equity funded acquisition. The act designation is significant, as qualifying debt securities listed on the CISX are eligible for the quoted Eurobond exemption. That exemption allows an issuer within the UK tax net to make gross interest payments on listed securities (ie, without the deduction of UK withholding tax of up to 20%).
Other key advantages of listing on the CISX are as follows:
- Unlike other European stock exchanges, the CISX is not bound by any EU Listing Directives and can be considerably more flexible in its approach.
- The CISX does not require an issuer to appoint a local paying agent in the Channel Islands or for the notes to be issued in a clearing system.
- The CISX is aware of the transaction time constraints that affect issuers and will commit to meeting agreed transaction timetables.
- Listing fees levied are competitive with those of other Eurobond exchanges.
This article was first published by the International Law Office, a premium online legal update service for major companies and law firms worldwide. Register for a free subscription.