Private equity in Norway: market and regulatory overview

A Q&A guide to private equity law in Norway.

This Q&A is part of the PLC multi-jurisdictional guide to private equity. It gives a structured overview of the key practical issues including, the level of activity and recent trends in the market; investment incentives for institutional and private investors; the mechanics involved in establishing a private equity fund; equity and debt finance issues in a private equity transaction; issues surrounding buyouts and the relationship between the portfolio company's managers and the private equity funds; management incentives; and exit routes from investments. Details on national private equity and venture capital associations are also included.

To compare answers across multiple jurisdictions, visit the Private Equity Country Q&A tool.  The Q&A is part of the PLC multi-jurisdictional guide to private equity law. For a full list of jurisdictional Q&As visit www.practicallaw.com/privateequity-mjg.

Sigurd Opedal, Wikborg Rein
Contents

Market Overview

1. How do private equity funds typically obtain their funding?

The main sources of funding for private equity funds are:

  • Institutional investors such as pension funds, insurance companies and banks.

  • Investment companies.

  • High net-worth individuals (family offices).

The Norwegian state provides considerable funding to the Norwegian private equity market through, among other things, designated investment companies, such as Argentum and Investinor.

The amount of capital raised from institutional investors is lower in Norway than in the rest of the European market. Most of the capital raised is from international sources. According to activity surveys carried out by Menon Business Economic for 2010 (Menon 2010) the share of committed capital from foreign private equity investors was 60%, up from 50% in 2009, and increased further to 76% in 2011 (Menon 2011).

 
2. What are the current major trends in the private equity market?

The Norwegian fundraising market gradually improved in 2011 (Menon 2011) but fundraising activity was limited in the first half of 2012 (Menon H1 2012). It is expected that Norwegian private equity managers will aim to raise about EUR2.7 billion in capital for new buyout funds during 2013, including Herkules, FSN Capital, Verdane Capital and Reiten & Co.

Further, the Norwegian venture capital and private equity market in 2011 showed that Norwegian businesses are becoming more attractive to international private equity investors. Funds managed by foreign private equity firms represented 60% of the total investment in Norwegian enterprises in 2011 (Menon 2011). In addition, although Norwegian private equity firms' overall investment in the first half of 2012 was almost as high as in the same period of 2011, investment in Norwegian enterprises increased by 28%, while investment in foreign enterprises dropped by 47% (Menon H1 2012).

In 2011, most investment was allocated to the buyout segment (70%). Venture investments accounted for almost 30%, while seed investments represented less than 1% of the total (Menon 2011). This trend continued in the first half of 2012, indicating that seed investments have all but disappeared from the Norwegian market (Menon H1 2012).

In 2011, the initial investments made by Norwegian venture funds were allocated between the following industry sectors (Menon 2011) (number of investments in brackets):

  • Retail (7).

  • Life sciences (5).

  • Petroleum, cleantech and business and industry related products (4).

The dominant sectors among portfolio companies in the venture segment in the first half of 2012 (by investment value) were (Menon H1 2012):

  • Petroleum.

  • Communications.

  • Information technology (IT).

  • Cleantech and life sciences.

Most initial investments were made in the petroleum and IT sectors, while communications, cleantech and life sciences dominated the follow up investments (Menon H1 2012).

In the buyout segment, IT and communications accounted for the highest number of initial investments in 2011 (Menon 2011). In the first half of 2012, the dominant sectors among portfolio companies in the buyout segment (by investment value) were petroleum and industry-related services and products. Most initial investments were made in business and industry services and products, while petroleum investments dominated follow-up investments. Looking at the number of investments, rather than at investment value, most initial investments were made in the IT and communications sectors, and most follow-up investments were made in cleantech (Menon H1 2012).

The Norwegian private equity market showed a strong improvement in exit activity in 2011. The number of industrial sales climbed substantially compared to both 2009 and 2010 (Menon 2011). The high divestment activity continued in the first half of 2012 (Menon H1 2012).

Hedge funds are not significant players in the Norwegian private equity market.

 
3. What has been the level of private equity activity in recent years?

Fundraising

Fundraising activity in Norway has fluctuated since the record year of 2008, when Norwegian private equity funds raised a total of EUR2.1 billion:

  • In contrast to the downturn in fundraising in 2009, where Norwegian funds raised only EUR106 million (Menon 2009), EUR502 million was raised in 2010 (Menon 2010).

  • In 2011, fundraising activity further increased to EUR1.41 billion (Menon 2011).

  • Fundraising in the first half of 2012 dropped to EUR254 million (Menon H1 2012).

Most capital raised in 2011 and in the first half of 2012 was allocated to buyout and venture funds. To strengthen the early stage segment, the government in 2012 established six new seed funds, each with a capital base of EUR62.5 million, where the government and private investors contribute 50% each of the investment. However, only two of the funds were granted money by parliament in the 2012 budget.

Investments and transactions

EUR7.3 billion was invested in Norwegian enterprises in 2011, covering 312 transactions. This is about half the level of 2010 (EUR15.3 billion) but more than one billion more than the amount invested in 2009. The high figures in 2010 were partly due to one mega-buyout transaction (Menon 2011).

The overall investment by Norwegian private equity funds in the first half of 2012 was at a similar level as the same period in 2011 (EUR243 million in 2012 compared to EUR 252.5 million in 2011) (Menon H1 2012). In 2011, Norwegian private equity funds invested a total of EUR500 million, a decrease of 34% from EUR675 million in 2010, while marginally above the 2009 level (Menon 2011).

The investment activity in the seed segment has dropped significantly since 2009. While over EUR25 million was invested in seed enterprises in both 2007 and 2008, portfolio companies in the seed segment were allocated only about EUR4 million in 2009 and EUR3.3 million in 2010. This trend continued in 2011, when only EUR5.5 million was invested in seed companies (Menon 2011) and in the first half of 2012, when only EUR0.375 million was allocated to seed companies (Menon H1 2012).

Most existing Norwegian venture funds have ended their investment stage and are now focusing on follow on investments and exits. In 2011, Norwegian venture funds made 32 initial investments, down from 58 initial investments in 2010. The number of follow up investments increased to 277, compared to 216 follow up investments in 2010 (Menon 2011).

In the buyout segment, there were more initial investments in 2011 in terms of numbers of investment, but a clear fall in investment activity due to the mega-buyout deal in 2010 mentioned above. The number of initial investments has been increasing steadily since 2007, but the increase is partly due to some venture firms gradually investing more in mature companies (Menon 2011).

The tendency towards more follow up investments and relatively few initial investments has continued in 2012 (Menon H1 2012).

Exits

In 2011, the Norwegian private equity market was dominated by high divestment activity. Norwegian private equity funds reported 50 divestments (excluding write-offs) in 2011, compared to 39 in 2010. 23 of the divestments were sales to industry (trade sales), an increase of 10% compared to 2010. The venture segment dominates in terms of the number of divestments, with 30 investments (excluding write-offs) up by almost 50% from 21 in 2010. 17 of the venture exits were sales to a trade buyer in the venture phase (Menon 2011).

There were 12 reported divestments in the buyout segment in 2011, the same number as 2010, while the number of exits doubled from 2008 and 2009 (Menon 2011).

The high number of divestments in the venture segment continued in the first half of 2012, with 18 divestments by Norwegian funds in both foreign and Norwegian enterprises (the same level as in the first half of 2011) (Menon H1 2012). The high level of divestments is expected to continue in 2013.

 

Reform

4. Are there any proposals for regulatory or other reforms affecting private equity in your jurisdiction?

Norwegian regulatory changes

On 1 January 2013, intermediary services relating to shares in limited partnerships became subject to licensing requirements in Norway. However, only intermediary services offered to non-professional customers require a licence. Therefore, an exemption applies to services offered to professional investors as defined by Directive 2004/39/EC on markets in financial instruments (MiFID). In addition, an exemption applies if the intermediary services are offered to investors making total investment commitments of at least NOK5 million, calculated in relation to each specific partnership/investment. As most Norwegian private equity funds, including their investors, normally qualify as professional investors, the new rules are unlikely to have any significant impact on the Norwegian private equity sector.

AIFM Directive

Directive 2011/61/EU on alternative investment fund managers (AIFM Directive) includes:

  • Authorisation requirements for AIFMs.

  • Regulation of marketing and third country provisions.

  • Depositary requirements.

  • Remuneration policies requirements.

  • General principles for conducting AIFM business activities.

  • Reporting and disclosure requirements relating to capital, valuation, use of leverage and asset-stripping provisions.

The AIFM Directive applies to managers of all funds that are not undertakings for collective investment in transferable securities (UCITS) funds (including venture capital funds). However, the AIFM Directive provides for substantially simpler rules (registration with the competent authorities and minimum reporting requirements) for managers who only:

  • Manage funds established in their home country.

  • Market the funds domestically.

  • Manage funds with assets below EUR100 million (or EUR500 million, if the fund is closed ended and the fund itself is not leveraged, which is the case for most venture capital funds).

The AIFM Directive must be implemented by EU member states by 22 July 2013. Norway is as a member state of the European Economic Area (EEA) required to implement the AIFM Directive in Norwegian law. A Green Paper with a proposal for implementation was presented to the Ministry of Finance on 4 March 2013. The Green Paper is subject to a public consultation period expiring on 20 June 2013. After this, the Ministry of Finance will draft a White Paper with a proposal for implementation, to be presented to and enacted by the Norwegian Parliament. The new Norwegian AIFM act is unlikely to take effect before 1 January 2014.

Based on the authorisation in the AIFM Directive for the European Commission (Commission) to adopt more detailed regulations, the Commission issued on 19 December 2012 the Level 2 AIFMD Delegated Regulation (the Level 2 Regulation). The Level 2 Regulation will apply from 22 July 2013 and require implementation at member state level.

The use of a regulation rather than a directive for the substance of the AIFM Directive provides more predictable rules, with little scope for variation between the member states. Broadly, the member states' scope for variation is limited to adopting stricter rules for those managers proposed to be subject to the simpler regime (see above) and the marketing of private equity funds to non-professional investors.

In addition, the European Securities and Markets Authority (ESMA) has developed regulatory technical standards (RTS) on the determination of types of AIFM. The RTS will be submitted by ESMA for endorsement by the Commission.

New regime for venture capital funds

On 7 December 2011, the Commission adopted a proposal for a new regulation of managers of venture capital funds, to strengthen venture capital fund access to sources of funding. The regulation sets up a voluntary regime for managers of venture capital funds, allowing them to register for an EU-wide marketing passport, while imposing fewer and less onerous compliance obligations than under the AIFM Directive.

The new regulation will only be available to alternative investment fund managers (as defined in the AIFM Directive) to which all of the following apply:

  • They have an aggregate capital under management of less than EUR500 million (related to funds which are not leveraged at fund level and which are closed within five years).

  • They are established within the EEA.

  • They are registered with the registration authority in their home state under the AIFM Directive.

  • They manage qualifying venture capital funds.

A qualifying venture capital fund is a fund to which all of the following apply:

  • It is established within the EEA.

  • During the investment period it invests at least 70% of its committed and called capital in qualifying investments (see below).

  • It invests a maximum of 30% of its committed and called capital in investments other than qualifying investments.

A qualifying investment includes:

  • Equity investments in a portfolio company which (at the time of investment) is not listed on a regulated market, employs fewer than 250 persons, has an annual turnover of less than EUR50 million and an annual balance sheet of less than EUR43 million.

  • Loans (secured or unsecured) to companies as set out in the bullet above, in which the qualifying venture capital fund has already invested.

  • Investments in other qualifying venture capital funds (fund-in-fund investments), as long as these funds do not invest more than 10% of their committed and called capital in other qualifying venture capital funds.

Given the restrictions on type of investments, the regulation may benefit some venture capital organisations, but is likely to be too narrow for many lower mid-market private equity managers.

The Commission's proposal (with amendments) was adopted by the European Parliament and the Council in March 2013. The regulation is intended to come into force in parallel with the AIFM Directive.

 

Tax incentive schemes

5. What tax incentive or other schemes exist to encourage investment in unlisted companies? At whom are the schemes directed? What conditions must be met?

There are no tax incentive schemes that specifically aim to encourage investments in unlisted companies. However, corporate investors may benefit from the exemption method when investing in unlisted companies (see Question 7).

 

Fund structuring

6. What legal structure(s) are most commonly used as a vehicle for private equity funds in your jurisdiction?

If foreign investors are targeted in the fundraising, Norwegian private equity fund managers typically use a limited partnership in a foreign jurisdiction, in particular the Channel Islands, as the fund vehicle.

The most common Norwegian legal structures used as a vehicle for private equity funds are:

  • Silent partnerships (Indre selskap (IS)).

  • Limited partnerships (Kommandittselskap (KS)).

  • Limited liability companies (Aksjeselskaper (AS)).

The silent partnership has the most similarities with a foreign limited partnership and has become the predominant Norwegian legal structure. Both limited partnerships and silent partnerships are referred to as limited partnerships in this chapter.

 
7. Are these structures taxed, tax exempt or tax transparent (flow through structures) for domestic and foreign investors?

General

Regardless of residence, an investor is subject to tax in Norway on:

  • Business carried out in Norway.

  • Investment activities carried out in Norway.

However, this tax liability is generally mitigated by the exemption method (see below, Exemption method for corporate investors).

Taxation of limited partnerships and their investors

Regardless of its nationality, a limited partnership is not a taxable entity (although the partners' taxable income is first calculated at partnership level, as if the partnership was a taxable entity, and then divided among the partners) (Norwegian Tax Act).

A limited liability company is a taxable entity. A limited liability company investor can benefit from the exemption method (see below, Exemption method for corporate investors).

A Norwegian limited partnership is considered to have a fixed place of business in Norway. Non-resident investors in a Norwegian limited partnership are therefore liable for tax in the same way as a resident individual investor.

Foreign corporate investors must file tax returns with the Norwegian tax authorities if they invest in a limited partnership with a fixed place of business in Norway.

It is uncertain whether a limited partnership can be effectively implemented without creating a fixed place of business in Norway, as this has not been attempted (see Question 8).

Exemption method for corporate investors

Under the exemption method, corporate investors in limited partnerships are not taxed in Norway on income they receive from shares held by the limited partnership, in companies that are tax resident in the EEA.

The exemption method is available to all corporate entity investors, regardless of their tax residence, and commonly exempts foreign investors from tax in Norway.

Conditions. The exemption method has no minimum shareholding requirements for investment in the EEA, and no holding period requirements. However, investments in low-tax jurisdictions in the EEA must be made in a company that is properly established and that performs genuine economic activities in the EEA. A company is deemed to be resident in a low-tax country if it is subject to less than two-thirds of the income tax it would have been subject to had it been tax resident in Norway.

3% rule. The exemption method was amended in late 2008, to make 3% of the previously exempt income subject to tax at the ordinary tax rate of 28%, resulting in an effective tax rate of 0.84% on the exempt income (3% rule). This compensates for the fact that the costs of the investments (administration and so on) are tax deductible, and is in line with several other countries in the EU/EEA.

With effect from the fiscal year 2012, only distributions are subject to the 3% rule, including distributions from limited partnerships (when the 3% rule was introduced, distributions from a company (but not from limited partnerships) and proceeds from the sale of shares in a company were subject to the 3% rule).

The tax is imposed on the investor's net exempt income during a fiscal year. A net loss is not deductible.

Income from shares held through a limited partnership in companies that are tax resident outside the EEA may also be exempt from tax under the exemption method (except for the 3% tax) if they have both:

  • A shareholding of at least 10%.

  • A holding period of two years.

These requirements apply to the limited partnership as a whole and not to each investor individually. The exemption does not apply to investments in companies that are resident in a low-tax country.

Income from shares not covered by the exemption method is taxable as general income at 28%.

Proceeds from the sale of shares. Corporate investors' proceeds from the sale of shares held by a limited partnership are also generally tax exempt. However, if the value of shares held by the limited partnership falling outside the exemption method exceeds 10% of the total investment, at any point in time during the previous two years, the whole gain is taxable at 28% in Norway, as general income of the investor. Norway's right to impose tax on foreign investors may be limited by tax treaties.

Individual investors

A distribution of funds from a limited partnership to an individual investor is taxable at 28% to the extent that the distribution exceeds a calculated tax free allowance and the tax payable on the partner's share of the partnership's income. Proceeds from the realisation of a partnership share in a Norwegian limited partnership are taxed at the same rate. When calculating the taxable income there should, however, be a deduction for unused tax free allowance.

If a Norwegian limited partnership holds shares in other Norwegian limited partnerships, the individual investors in the partnership are not subject to tax on distributions to the partnership (except under the 3% rule) or on gains from the partnership's realisation of shares in another partnership, if the shares fall under the exemption method (see above, Exemption method for corporate investors). Income from shares falling outside the exemption method is taxable at 28%.

 
8. What (if any) structures commonly used for private equity funds in other jurisdictions are regarded in your jurisdiction as not being tax transparent (in so far as they invest in companies in your jurisdiction)? What parallel domestic structures are typically used in these circumstances?

The rules on tax transparency for foreign limited partnerships are not entirely clear. It is assumed that structures that are fundamentally comparable to Norwegian limited partnerships will be tax transparent under Norwegian law. Important criteria for this assessment are whether the general partner has unlimited personal liability, owns a share of the partnership (which may be low) and is entitled to profit.

 

Investment objectives

9. What are the most common investment objectives of private equity funds?

Private equity funds' objectives are typically to achieve capital gains by taking control positions in a number of private companies with significant potential, and then developing and improving the companies before seeking exit opportunities. The rates of return sought vary for the different kinds of funds.

The average life of a fund is generally ten years (including a right to extend the term by up to two years, subject to consent by the manager and/or investors).

 

Fund regulation and licensing

10. Do a private equity fund's promoter, principals and manager require licences?

Although intermediary services relating to shares in limited partnerships became subject to licensing requirements in 2013, exemptions apply to typical Norwegian private equity structures. Therefore in practice, a private equity fund's promoter, principals and manager do not currently need to be licensed (see Question 4, Norwegian Regulatory changes).

 
11. Are private equity funds regulated as investment companies or otherwise and, if so, what are the consequences? Are there any exemptions?

Regulation

Private equity funds are not regulated as investment funds. Although intermediary services relating to shares in limited partnerships became subject to licensing requirements in 2013, exemptions apply to typical Norwegian private equity structures. Therefore, in practice there are no restrictions on how a private equity fund organised as a limited partnership can be marketed or advertised (see Question 4, Norwegian Regulatory changes).

Private equity funds organised as limited liability companies can only be marketed and sold by licensed institutions and may be subject to prospectus requirements. Norway has implemented Directive 2003/71/EC on the prospectus to be published when securities are offered to the public or admitted to trading (Prospectus Directive), although an exemption applies if the offer relates to securities issues in minimum lots of EUR100,000 in terms of nominal value or subscription price.

Exemptions

See above, Regulation.

 
12. Are there any restrictions on investors in private equity funds?

There are no general restrictions on investors in private equity funds but certain institutional investors, such as insurance companies/pension funds and UCITS funds, may be subject to specific restrictions.

Insurance companies and pension funds are subject to asset allocation restrictions applicable to investments made with assets backing their technical reserves. The asset class "alternative investments", which includes private equity fund investments, cannot, as such, exceed 10% of the insurance company/pensions fund's portfolio of assets backing their technical reserves.

The asset management regulations applicable to insurance companies/pension funds also impose restrictions on permitted exposure to single issuers, implying that exposure to one single private equity fund, depending on the legal structure of the fund in question, cannot exceed 1%, or alternatively 4%, of the pension fund's technical reserves. Specific ownership restrictions also apply to a pension fund's permitted ownership of companies carrying out business activities which are financially geared, or which carry business activities not naturally related to insurance activity.

UCITS funds are subject to the investment restrictions set out by the EU UCITS directives, in relation to investments in financial instruments which are not listed on a regulated market.

There are a few general restrictions applicable to all Norwegian investors such as, for example, a minimum age of 18.

 
13. Are there any statutory or other limits on maximum or minimum investment periods, amounts or transfers of investments in private equity funds?

There are no statutory or other limits on maximum investment periods, amounts or transfers of investments in private equity funds.

 

Investor protection

14. How is the relationship between the investor and the fund governed? What protections do investors in the fund typically seek?

In partnerships, the relationship between the fund and investors is governed by the limited partnership agreement.

In limited liability companies, the relationship between the fund and investors is governed by the shareholders' agreement and articles of association.

In both structures, an investment advisory agreement, which the limited partners are not parties to, is entered into between the fund manager and the fund (or general partner, depending on the structure). This typically contains provisions protecting investors, including:

  • Key-man provisions.

  • Restrictions on the activities of the fund manager and its key personnel, including on the raising of new funds.

  • Rights to replace the fund manager.

  • Provisions on transparency, valuation and reporting.

  • Conflict of interest provisions.

  • Participation in investment committees.

  • General investment restrictions.

 

Interests in portfolio companies

15. What forms of equity and debt interest are commonly taken by a private equity fund in a portfolio company? What are the relative advantages and disadvantages of each? Are there any restrictions on the issue or transfer of shares by law?

Common forms

Private equity funds normally take ordinary shares as equity stakes in a portfolio company. Preference shares are also commonly used.

Convertible loans and warrants are less common instruments but are used, especially in venture capital investments. Ordinary loans are seldom provided to portfolio companies except for bridging purposes.

Advantages and disadvantages

Separate share classes are often used to structure the allocation of profit from the portfolio company between the investors. For example, preference shares can carry pre-emptive rights to distributions from the portfolio company until the injected capital has been repaid with an annual return. The use of different share classes can, among other things, be used to give incentives to management (see Question 28).

An advantage of a convertible loan and warrants is that the investor is initially less exposed than in an equity investment and may later elect to convert to equity, depending on the development of the company. The conversion to equity may itself trigger a tax liability, but following the conversion the possible gain on the equity may be exempt from taxation according to the exemption method (see Question 8).

Restrictions

The issuance of equity in a portfolio company is generally subject to the following restrictions:

  • The issue of shares must be approved by a two-thirds majority of the general meeting.

  • The issue price of the shares must not be below the par value of the shares.

  • The existing shareholders have a right of first refusal unless otherwise decided by a two-thirds majority of the general meeting.

Unless a private limited liability company's articles of association provide otherwise, existing shareholders have pre-emptive rights and the company has the right to approve share transfers. Both the articles of association and a shareholders' agreement, if applicable, may include various restrictions on transfer of shares.

 

Buyouts

16. Is it common for buyouts of private companies to take place by auction? If so, which legislation and rules apply?

It is common for buyouts of private companies to take place by auction, although the number of auction sales has decreased in the recent years. There are no particular rules or legislation applicable to auctions.

 
17. Are buyouts of listed companies (public to private transactions) common? If so, which legislation and rules apply?

Traditionally, public to private transactions have not been common for private equity funds. However, since the global financial crisis hit Norway in the second half of 2008, the drop in listed companies' share prices and growth of Norwegian buyout funds has made buyouts of listed companies more common.

A buyout of a listed company is subject to the provisions of the Securities Trading Act, which implements Directive 2004/25/EC on takeover bids.

Typical models for buyouts of listed companies are:

  • A voluntary offer (sometimes following receipt of a certain number of pre-acceptances) conditional on, among other things, a 90% acceptance level. If more than 90% is achieved, a subsequent squeeze out may follow if certain conditions are met, without having to submit a prior mandatory offer.

  • Acquisition of up to one-third of the shares in the company through market transactions, followed by a subsequent voluntary offer. However, the disclosure rules for large shareholdings of listed companies apply and the shareholder must inform the company and Oslo Stock Exchange if the ownership either increases past or falls below the thresholds of 5%, 10%, 15%, 20%, 25%, one-third, 50%, two-thirds and 90%.

  • Acquisition of more than one-third of the shares through market transactions, followed by a subsequent mandatory offer.

An offeror must also observe insider information legislation and listed companies' ongoing reporting requirements to the market.

Principal documentation

18. What are the principal documents produced in a buyout?

Buyouts of unlisted companies typically include the following documents:

  • A confidentiality agreement.

  • A term sheet.

  • Due diligence reports.

  • A share purchase agreement.

  • Shareholders' agreement.

  • Agreement regarding management ownership.

In buyouts of listed companies, the principal document is typically the offer document, which sets out the price and terms of the buyout. Depending on prior contact with the board and/or the target's shareholders, the documentation may also include:

  • A confidentiality agreement.

  • Due diligence reports.

  • A transaction agreement with the target, including:

    • the terms and conditions for submitting the offer;

    • pre-acceptance formulas with existing shareholders.

Financing agreements are normally important in both types of buyouts.

Buyer protection

19. What forms of contractual buyer protection do private equity funds commonly request from sellers and/or management? Are these contractual protections different for buyouts of listed companies (public-to-private transactions)?

Private equity funds seek contractual protection by, among other things, requesting:

  • A structured purchase price. Funds may demand that a significant part of the purchase price be structured as an earn-out, and be only payable on the target company reaching certain targets in terms of revenue and profitability. Where the sellers also form part of the target company's management, the funds may also require that a part of the purchase price be made conditional on the sellers not resigning from their positions in the company for a certain period.

  • Extensive representations, warranties and indemnities. To secure payment under the relevant warranties and indemnities, private equity funds often require a part of the purchase price to be held in an escrow account for a part of the warranty period.

  • Protective covenants. Private equity funds frequently request that sellers be bound by non-compete and non-solicitation obligations, typically for a period of two to three years after completion of the transaction.

 
20. What non-contractual duties do the portfolio company managers owe and to whom?

The manager of a portfolio company owes several non-contractual duties, primarily to the company itself, but also to its board and its shareholders. Most important in this respect is the general duty of loyalty owed to the company, which imposes various obligations on the manager, including:

  • Acting in the best interests of the company and its shareholders.

  • Avoiding or disclosing any conflict of interest with the company.

  • Exercising due care, skill and diligence.

  • Rejecting benefits relating to the company management from third parties.

  • Respecting the confidentiality of company information.

In principle, managers are free to carry out MBOs provided their general duty of loyalty to the company, its board and shareholders is respected. In any event, the management will be expected to, and in some cases obliged to, disclose its interest in carrying out an MBO at a fairly early stage. If the managers have information relevant to the valuation of the company that has not been provided to the shareholders, this must be disclosed to the shareholders before the MBO.

 
21. What terms of employment are typically imposed on management by the private equity investor in an MBO?

Terms typically imposed on management by private equity investors include:

  • Accession to the (extensive) portfolio company shareholders' agreement.

  • Good leaver/bad leaver provisions. If a bad leaver situation occurs, the management are forced to sell their shares to the fund, usually at a significant discount to market price.

  • A lock-up period for the sale of shares in the portfolio company.

  • An obligation for the management not to compete with the company for a certain period. The non-compete clause is only valid if the management is offered due compensation.

  • An obligation for the management not to solicit the company's employees for alternative employment (non-solicitation clause).

  • An obligation for the management to respect the confidentiality of all company information (confidentiality undertaking).

If management is involved in developing intellectual property, the private equity investor should ensure that the company's ownership of the intellectual property is secured.

 
22. What measures are commonly used to give a private equity fund a level of management control over the activities of the portfolio company? Are such protections more likely to be given in the shareholders' agreement or company governance documents?

Measures commonly used by private equity funds to gain management control include:

  • Board representation rights.

  • Veto rights and/or preferential voting rights.

  • Voting regulations for the board and company general meeting, relating to:

    • capital increases (to ensure growth and handle emergency situations);

    • issuance of other financial instruments;

    • acquisitions and disposals;

    • material loans and investments;

    • approval of business plan and annual budget;

    • the conditions of employment of key management;

    • distributions of dividends; and

    • amendments to the articles of association.

These regulations have traditionally only been contained in shareholders' agreements for confidentiality and flexibility reasons. However, it has become more common to include protective provisions in the articles.

 

Debt financing

23. What percentage of finance is typically provided by debt and what form does that debt financing usually take?

The general proportion of debt financing is difficult to establish. It varies between fund managers and sponsors (based on, among other things, their record and relationship with the banks involved) and the prospects of target companies.

Since 2012, the required equity ratio for leveraged transactions is about 40% to 45%, depending on the deal, and the trend is towards lower equity ratios. The other terms of loan documentation, such as undertakings, flex language (permitting banks to change the terms of the financing due to, for example, increased costs) and similar arrangements have recently seen to be more favourable to banks.

The senior leverage ratio in the Nordic market (that is, Denmark, Finland, Norway and Sweden) is around 3.5 to 4 times earnings before interest, tax, depreciation and amortisation (EBITDA), and 5 times EBITDA in total debt in the best cases. In addition, the margins on a term loan facility A were about 400 basis points, and about 450 basis points on a term loan facility B.

In leveraged buyouts, debt financing is normally provided by banks to the acquiring company and often also to the target group (see Question 25). Term loans are often used to finance the acquisition (at least in part) and any refinancing of the target group's existing debt. Working capital facilities (typically revolving credit facilities) are often used to finance the group's general corporate and working capital requirements (often structured as senior debt). A trend in today's Nordic market is including a bond tranche in the structure, or a bride-to-bond arrangement (that is, an arrangement whereby the bank(s), for parts of the acquisition costs, offer short term financing to be refinanced in the bond market post-closing). Sponsors' equity financing is often by way of equity and/or subordinated debt.

Lender protection

24. What forms of protection do debt providers typically use to protect their investments?

Security

Due to the financial assistance rules (see Question 25), debt financing is normally secured by a pledge of shares in the target group parent. The part of the debt used to refinance the target group's existing debt, and/or to finance the group's general corporate and working capital requirements, is often also secured by security created over the target group's assets. Such debt is also often secured by guarantees provided by the various group companies.

Contractual and structural mechanisms

Most debt providers seek protection by ensuring the financing agreement contains:

  • Subordination arrangements

  • Mandatory prepayment provisions.

  • Representations, warranties, general undertakings and financial covenant provisions.

  • Event of default provisions.

These provisions are determined on a case-to-case basis. They are typically either:

  • Contractual, such as:

    • information and reporting requirements;

    • positive and negative covenants, including negative pledge, restrictions on financial indebtedness, financial support, disposals, acquisitions, mergers and restructurings and dividends and other distributions;

    • veto rights for certain corporate resolutions;

    • cross-default provisions;

    • mandatory payment or default in a change of control situation;

    • contractual subordination of mezzanine facilities, bonds and other forms of high-yield financing and the equity financing provided by the sponsors (by way of equity, subordinated loans and similar structures).

  • Structural, such as subordinating certain financing by structuring it as equity. This can apply to mezzanine facilities, bonds and other forms of high-yield financing as well as to the sponsors' equity financing.

Financial assistance

25. Are there rules preventing a company from giving financial assistance for the purpose of assisting a purchase of shares in the company? If so, how does this affect the ability of a target company in a buyout to give security to lenders? Are there exemptions and, if so, which are most commonly used in the context of private equity transactions?

Rules

Limited liability companies cannot make funds available or grant security in connection with the acquisition of shares or a right to shares in the company or its direct or indirect parent company. The prohibition covers all transactions involving financial support from the target company. Acquisitions are typically structured by using holding companies as acquisition vehicles.

Exemptions

Ordinary distributions of dividends from the target company are not caught by the prohibition. The prohibition only applies to the acquisition of shares. If a buyout is structured as an asset purchase, the prohibition does not apply. There is uncertainty over the scope of the prohibition in relation to certain debt push-down strategies due to limited case law.

Insolvent liquidation

26. What is the order of priority on insolvent liquidation?

Debt providers take priority over equity on insolvent liquidation and secured creditors take priority (in relation to the secured assets) over unsecured creditors. However, debt providers do not rank pari passu in all respects, as certain claims are given a preference in insolvency, for example liquidation costs and employees' claims for payment of wages. Further, debt providers can contractually subordinate their claims in insolvency.

Other priorities are generally subject to contract (see Question 24).

Equity appreciation

27. Can a debt holder achieve equity appreciation through conversion features such as rights, warrants or options?

A debt holder can achieve equity appreciation through rights to convert debt into equity, warrants and options.

 

Portfolio company management

28. What management incentives are most commonly used to encourage portfolio company management to produce healthy income returns and facilitate a successful exit from a private equity transaction?

Private equity investors generally require key management to invest personally in order to ensure their interests are aligned.

Management equity incentives can use various ratchet mechanisms such as different share classes and shareholder loans (of which repayment may be postponed until exit) to increase the investment leverage.

Share options are not commonly used because this can trigger an unfavourable tax liability for the management.

 
29. Are any tax reliefs or incentives available to portfolio company managers investing in their company?

There are no tax reliefs or incentives available to portfolio company managers. However, they can benefit from the general exemption method by investing through a personal holding company (see Question 7).

 
30. Are there any restrictions on dividends, interest payments and other payments by a portfolio company to its investors?

A limited company is subject to restrictions in respect of the funds that can be distributed as well as the timing of the distribution. A limited company can only distribute as dividends:

  • The annual profit according to the adopted income statement for the last financial year (therefore, profits can only be distributed as dividend in the following financial year).

  • Retained earnings after certain deductions.

There are no specific restrictions on interest payments and other payments with a contractual basis by a portfolio company, although such payments must be on arm's length terms and are generally subject to ordinary taxation at a rate of 28%.

 

Exit strategies

31. What forms of exit are typically used to realise a private equity fund's investment in a successful company? What are the relative advantages and disadvantages of each?

Forms of exit

Trade sales are the most common exit for private equity investments in Norway, accounting for about 46% of exits in 2011 (Menon 2011) and 50% of exits in the first half of 2012 (Menon H1 2012). IPOs have traditionally been the main alternative but as the financial crisis prevented IPOs in the second half of 2008, secondary buyouts became the predominant exit alternative for private equity investors.

Advantages and disadvantages

Traditionally, IPOs have been a preferred alternative to maximise value. However, to avoid the shares being floated at a discount, strategic shareholders such as the management and private equity investor may undertake to keep some of their shares in the company for a certain period following the IPO.

 
32. What forms of exit are typically used to end the private equity fund's investment in an unsuccessful/distressed company? What are the relative advantages and disadvantages of each?

Forms of exit

Common exits from unsuccessful companies include sales of shares at discount prices, sales to management, liquidation and, in some cases, bankruptcy.

Advantages and disadvantages

In contrast to discounted sales and sales to management, liquidation and bankruptcy proceedings are thoroughly regulated by law.

In relation to general market perception and reputation, and if pricing is neutral, sales are generally preferred over liquidation, and liquidation is preferred over bankruptcy.

 

Private equity/venture capital association

Norwegian Venture Capital Association (NVCA)

W www.norskventure.no

Status. The NVCA is a non-governmental organisation.

Membership. There are two classes of membership: primary and associate. Primary members are independent professional management companies and venture corporate entities with seed, venture or buyout investments as a substantial part of their business, and with a certain capital base. Associate membership is open to all other investors or service deliverers to the industry, such as consultants and law firms.

Principal activities. The association aims to:

  • Stimulate recruitment to company startups.

  • Provide expertise to higher education institutions and research teams.

  • Put the entrepreneur's case to public opinion and government.

  • Work for better policies governing startups and risk capital.

  • Create a strong Norwegian environment for earlyphase investment.

  • Build networks between venture capital companies.

  • Promote ethics and guidelines for the venture capital business.

  • Transfer expertise to new and established ventures.

Published guidelines. The NVCA has published a code of ethics, see www.norskventure.no/foreningen/en/index.aspx?mid=1044&cat=1717

Information sources. See website above.



Contributor profiles

Sigurd Opedal

Wikborg Rein

T +47 22 82 75 00
F +47 22 85 75 01
E sop@wr.no
W www.wr.no

Professional qualifications. Norway, 2002

Areas of practice. M&A; private equity transactions and fund formation; restructuring and equity; capital markets.

Recent transactions. Advising:

  • Mayfair in connection with the merger between DNV and Germanischer Lloyd.
  • Amedia in connection with sale of shares in TV2 to Egmont.
  • Amedia in connection with the acquisition of Edda Media from Mecom Group Plc.
  • Reiten in connection with the StormGeos acquisition of ImpactWeather Inc.
  • Reiten in connection with investment in StormGeo by DNV.
  • Troms Kraft in connection with the sale of Pronea and Troms Kraft Fiber to EQT

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