International private equity firms are increasingly looking to access the large pools of capital that have been created in Australia by compulsory superannuation and the formation of the Future Fund (Australia's sovereign wealth fund) in 2006.

A trap for the unwary

Before taking any action with regard to the addition of an Australian limited partner, private equity firms need to be aware of the Australian laws regulating the financial services sector.  This is because these laws are very broad in scope and could catch many of the activities that are likely to be undertaken by a foreign private equity firm looking to raise capital from Australian investors.  A breach of these laws can carry criminal sanctions and give rise to other adverse consequences.

From an Australian law perspective, a foreign private equity manager and a foreign private equity fund are considered to carry on a financial services business. Australian law further provides that in order for a person to carry on a financial services business in Australia, they must hold an Australian financial services licence ("AFS Licence") covering the provision of the financial services, unless an exemption applies.

Why this could be relevant to you

The initial reaction of foreign firms may be that they do not need to be concerned with the Australian financial services licensing regime because they do not carry on business in Australia. However, the regime has a broad jurisdictional reach. Subject to a limited exception, a financial services business is taken to be carried on in Australia if the provider engages in conduct (from outside Australia or otherwise) that is intended or is likely to induce people in Australia to use the financial services that it provides.  Examples of conduct that could lead to a foreign private equity firm being deemed to "carry on a business" in Australia include: conducting business trips to Australia or having a representative in Australia who has authority to enter into binding arrangements on behalf of the firm. Therefore, marketing to Australian limited partners by a foreign private equity manager is likely to mean that the private equity manager is deemed to be carrying on a financial services business in Australia and is subject to the licensing regime.

The potential consequences of carrying on a financial services business in Australia without an AFS Licence or applicable exemption include criminal prosecution for both the entity and the individuals involved in the contravention. In addition, the persons to whom they provide financial services may have rescission rights and be able to seek the return of any capital advanced to a fund. We are aware, in some circumstances, of the Australian Securities and Investments Commission (ASIC) conducting investigations into the activities of foreign financial service providers in Australia. In addition, local institutional investors are aware of the licensing regime and some require representations and warranties from foreign private equity managers regarding compliance with all Australian laws before they will invest.

So how does one comply with Australian financial services licensing regulations?

By either obtaining an AFS Licence or seeking to rely on one of the exemptions from the requirement to hold such a licence. As the process of obtaining and maintaining an AFS Licence can be quite time consuming and onerous, foreign private equity firms frequently seek to rely on an exemption.

Foreign private equity managers who are regulated by a recognised foreign regulator, like the SEC in the US, the FSA in the UK, the MAS in Singapore or the SFC in Hong Kong, may be able to implement what is known as "passporting relief" from the Australian licensing requirements. Compared to obtaining an AFS Licence, the application process for passporting relief is relatively straightforward. After filing the necessary documents with ASIC and complying with certain other conditions, the foreign private equity manager is able to provide certain financial services for particular financial products to wholesale clients in Australia without being required to hold an AFS Licence. In particular, the passporting relief should generally allow the foreign private equity manager to visit Australia for marketing purposes.

If the foreign private equity manager is not regulated by a recognised foreign regulator, it may be able to rely on other exemptions from the requirement to hold an AFS Licence. However, generally those exemptions would not allow the foreign private equity manager to visit Australia and provide financial services while in Australia. Under Australian law it is very difficult to engage in the marketing of a fund without being considered to be providing financial services.