Javier Echarri is secretary-general of the powerful European Private Equity and Venture Capital Association (EVCA), which has emerged as one of the main actors in shaping EU policies on asset management.
To read a shortened version of this interview, please click here.
Does the new proposed directive on alternative investment funds make a genuine distinction between private equity and hedge funds?
The directive starts saying private equity did not create the crisis, and that investors in private equity seem not to need any additional protection. It declares the distinction between private equity and hedge funds. Indeed, in the financial world, we are the less financial and the more entrepreneurial.
Nevertheless, it regulates the sector in a way that would discriminate private equity against competitors. It is basically a hedge fund directive which at the last minute has been turned into an alternative fund directive, and as a consequence, contains major ill-advised policies.
Can you be more specific?
Requiring private equity-backed companies to disclose a quantity of information almost equivalent to what listed companies have to disclose is discrimination against those companies vis-à-vis their own competitors, which are often backed by a sovereign wealth fund, a rich investor or a family. They play the same game, but they will not have the same requirements.
How can private equity's competitors benefit from the new rules?
Once information of a portfolio company becomes public, including balance sheet, economic situation, difficulties or not, products and so on, competitors are going to use this information to squeeze the company out of the market. We are not against regulation, but it has to be fair. We have no problems with disclosures, provided that they will be applied at the same level to all actors.
What extra costs would the new requirements impose on private equity companies?
Taking into consideration only the external evaluator, which the directive requires for private equity even if we believe it would be useless, what we have heard most is that each portfolio company would need spending some €30,000 a year.
What about the thresholds of €100 million and €500 million of assets under management from which the European Commission has proposed to exempt smaller companies? How many private equity firms will be able to avoid applying the new regime?
In theory, the threshold would cover 70% of the industry. It would exclude only part of the venture capital business and part of the growth capital. But these thresholds do not make sense either. There will be the same range of constraints on small companies as on big ones. Moreover, we expect European institutional investors to invest in regulated funds once the directive enters into force. It would be a normal reaction. You would expect the European Investment Fund to do so because it uses EU money.
Therefore, I fear that even a small fund wanting to raise money from the EIF will have to comply with the directive. Investing in companies would make no sense any more with this directive in place.
By imposing precise thresholds, could the directive put pressure on your industry, splitting the different components of the private equity world?
Venture capital, growth capital, buy-outs, and very large buy-outs function to some extent differently, and to another extent in the same way. All invest in non-listed companies for a number of years - the average today is five-and-a-half years - with the purpose to sell them, making profits. The big difference is that venture is riskier because many companies will fail. In buy-outs, the purpose is that all companies should ideally survive, and make a more moderate but consistent return. In buy–out situations, private equities buy a company which already exists. Ventures often buy a technology and then they have to build a company around it. In that sense, it is very different.
Don't you think that the directive will widen these differences?
Historically, the models have been diverging little by little. That's why EVCA changed its structure already in 2006. We set up three platforms, one for ventures, one for mid-market operations and one for large buy-outs. And in the general assembly we had in June, we reinforced that division further and now the platforms are completely autonomous. So we have incorporated these market differences that are more and more pronounced. I am not sure the directive will make that distinction bigger, but the market is doing it.
How do you see the possibility of imposing limits on leverage?
I think it is completely inappropriate. The way to control leverage is on the supply side. If banks are lending to companies, they will have different capital requirements on the basis of the level of risk. We believe that leverage has to be controlled.
Many criticised the Commission for only imposing the new rules on managers and not on funds. I guess you have a different opinion on the subject?
Some countries have chosen to regulate both the managers and the funds as did France and Spain, others only the managers, such as the UK. However, if you regulate products, you are preventing their evolution in different economic circumstances. In ten years, there will be different products and they will find themselves outside the regulation. From this point of view, it makes more sense to regulate managers. So whatever the strategy or the purpose and the definition of a vehicle is, managers will have in any case certain specific responsibilities. I think this approach anticipates the future better.
Is there anything positive in the Commission proposal from your point of view?
The passport would be a very good thing. It would rationalise the market.
Hedge funds are pooling resources to lobby against the directive. Are you planning similar initiatives?
We are not doing that. We have been very consistent in our approach in Brussels since early 2007 when the Parliament started to get involved in private equity issues. It produced two reports which were initially very aggressive. But at the end they were pretty constructive papers. Then we entered a new political game between Rasmussen and Barroso and the debate became very political again. Since the beginning we had resources for that.
What we need most are people who get engaged from our companies and go to talk to people in their countries, with politicians and the press. I don't think it is a question of financial resources. We have it already and we have always had them. We don't need to put up a fund.
To sum up, what is the first provision you would scrap from the draft directive?
The discrimination against private equity. It discriminates against companies just because they are private equity-backed. It discriminates private equity investors vis-à-vis sovereign wealth funds or Richard Branson [the English billionaire, best known for his Virgin brand] when he buys companies, or family businesses. And you cannot do it in this cycle, when most European companies are in desperate need of capital. Putting limits on access to capital in this indirect way is an absurdity.
