Originally designed for use in the captive insurance sector, the protected cell company has established itself as a go-to-solution for a wide range of fund structuring in the 20 years since its creation, writes Joe Truelove of Trident Trust on behalf of the Guernsey Investment Fund Association.
2017 is the 20th anniversary of the introduction of protected cell companies (PCCs) in Guernsey. Back in 1997 this was a truly innovative legal concept which has been copied by many jurisdictions since, often adopting the name of segregated portfolio company. The structure was designed for use in the captive insurance industry but has since found a myriad of different uses, some of which are explored in this article. The concept underpinning the structure is that the PCC is one legal entity within which there are a series of pools of segregated assets and liabilities. Apart from the cells there is also a core which is responsible for the management of the structure and has the board of the entity attached to it.
Private wealth management open-ended asset allocation umbrella funds
From the captive insurance sector it was an obvious step to begin to use the PCC as the legal structure of choice for umbrella funds. These open-ended structures still exist and are often managed in Guernsey. Well established examples include Investec World Axis PCC Limited, which has four separate cells; cautious, core, flexible and global equity, all of which are listed on The International Stock Exchange (TISE), and Kleinwort Benson Elite PCC Limited, which has 10 cells with 32 share classes listed on TISE.
These structures are typically marketed to sophisticated investors and private clients of the private banks which promote them. The cellular structure gives the manager the opportunity to operate an asset allocation model efficiently so that investors may have all of their assets in one or two cells instead of managing multiple small portfolios. The classic model would be to have an income cell, a growth cell and a balanced cell. The costs of operating many small portfolios are reduced for the client and for the manager. There is also a cost saving with respect to the servicing of the structure -there will only be one audit firm required; one board of directors, one administrator and one company secretary.
Christopher Jehan, Managing Director of Midshore Consulting Limited, comments: “We have seen many investment management and wealth management groups operate PCC structures over the years. Most of these tailor different cells to different risk profiles or alternatively have different cells offering investment profiles targeted at investors in different jurisdictions. The ability to issue bespoke offering documents for each cell means that information on a single investment strategy is provided to an investor and there is little chance an investor will invest in a strategy that is not suitable for, and therefore has not been targeted at, them.
“An additional benefit of the cellular structure of the PCC is the segregation of liabilities both between different cells and between cells and the core corporate structure. This gives the protected cell company a distinct advantage over traditional (non-cellular) corporate fund structures and can allow higher risk products to be housed within the same company structure allowing reduction in overall costs.”
A number of providers have formed PCCs or incorporated cell companies (ICCs) as ‘platforms’ or ‘incubators’ which they can then use to oversee a number of separate funds, where the management or advice is delegated to a series of investment advisers.
There a number of these structures in existence in Guernsey such as the Global Offshore PCC Limited which is managed by Trident Fund Services (Guernsey) Limited. This approach helps new investment advisers to build a track record in an established investment vehicle with an investment manager monitoring their performance, together with having regulated service providers and corporate governance principles in place.
Adding a new cell is a cost-effective and straightforward process. Investment advisers can launch one cell or multiple cells if they have multiple strategies. Valuation frequency and exchange listing can be varied for each cell.
Closed-ended listed PCCs
The London Stock Exchange (LSE) is home to many closed ended investment companies. A number of these are constituted as PCCs. Perhaps the best known is Better Capital PCC Limited which was formed in 2009 and then added a second cell in 2012. Each cell in this structure represents a different vintage and replicates the launch of a successor fund to the previous cell.
Another example is Real Estate Credit Investments PCC Limited which is managed by Cheyne Capital and was first launched in 2005. The core is listed on the Main Market of the LSE with one cell listed on the Specialist Fund Market demonstrating another feature of the protected cell company - listing cells on different exchanges or having listed and unlisted cells in the same structure to meet differing client needs.
Baring Vostok PCC Limited has followed a similar route but this time with a TISE listing for both the core and one cell. Again the core shares are listed and contain the bulk of the portfolio of the fund but one particular asset is held within the cell of the PCC so that it has a different group of investors and is segregated from the rest of the assets.
The benefits of utilising a PCC for a listed fund are the speed and cost-effectiveness with which a second cell can be added to a PCC compared to the launch of a new legal entity.
Fiona Le Poidevin, CEO of TISE, explains: “There are a number of different issuers structured as PCCs, as well as ICCs, which have securities listed on TISE. Our team has developed significant experience and expertise in dealing with a wide variety of applications to list PCC and ICC structures, which are principally used as investment vehicles by a range of different promoters.
“The Exchange has also admitted cell companies which are used as securitisation vehicles and this has included insurance-linked securities, where the risk and capital markets converge. We have listed the world’s first private catastrophe bond and the world’s first ever securitisation of takaful (Sharia compliant) insurance policies. This demonstrates the flexibility of cell companies and how they are regularly used within a listing on a recognised stock exchange, like TISE.”
Private equity and real estate ‘deal by deal’ PCC structures
Even established fund managers have found it difficult to raise funds for traditional ‘blind pool’ investment funds since the credit crisis. As a result of this some managers have responded by launching co-investment vehicles, separate managed accounts or club deals. In many instances they have retained the structure of a limited partnership as the co-investment vehicle with a general partner as the manager.
Increasingly however clients are utilising a PCC for these non-fund structures in particular for a ‘deal by deal’ structure; a series of transactions where the potential target investors have complete optionality over whether or not to invest in any given opportunity. The core private placement memorandum and terms remain constant and the variability is with each investment, which is set out in a cellular appendix.
I have served on the boards of several such PCCs, each with multiple cells, which are used by clients as vehicles to structure a series of distinct private equity or real estate transactions. There has certainly been a marked increase in the popularity of PCCs being used in these circumstances.
In this way investors may conduct their own due diligence on each and every transaction rather than rely entirely upon a fund manager. Alternatively, the investors may wish to opt out of sectors, geographies or deal sizes or vary their potential commitment by deal based on their risk appetite at the time or simply available cash flow.
With respect to a cost / benefits analysis of whether forming a PCC is more or less cost-effective than forming a standalone fund. The author’s conclusion is that if a potential client intends to make more than two distinct investments or sub funds then a PCC will be more cost-effective than launching three separate co-investment vehicles or standalone fund structures.
Paul Wilkes, Group Partner and Head of the Corporate and Commercial department at Collas Crill, commented: "PCCs and, to a slightly lesser extent, ICCs are incredibly flexible and versatile vehicles for investment purposes. So much so that, save for quite specific reasons, where a client of ours is looking to establish a corporate vehicle for pooled investment purposes (either in the regulated on unregulated, deal by deal space) we will always recommend a PCC. There is very little difference in terms of establishment costs and the benefits for longevity and subsequent deals is a massive advantage. Our clients love them, and for good reason."
PCCs are clearly a very useful legal form for the investment management sector whether for open-ended or closed-ended investment funds, whether the cells or the core are listed or not, and for a cost-effective holding company structure where a series of investments is intended. PCCs also work well for managed accounts (one cell per investor) and family offices (one cell per portfolio company to segregate the potential liabilities arising from a series of businesses).
ICCs have not been considered in this article – and although their uses are very similar to those of PCCs they require an article all to themselves!
An original version of this article was first published by Investment Europe, June 2017.