Chang Min Lee" /> Chang Min Lee" />
On October 21, 2021, an amendment to the Financial Investment Services and Capital Markets Act ("FSCMA" and such amendment, “Amendment”), which regulates private collective investment vehicles ("private equity funds", “PEF”), has been taken effect. The principal purport of the Amendment is the classification of PEFs not by the purpose of management but by investor and the unification of PEF regulation. This article will examine the amended provisions of the Amendment (Act No. 18128), the Enforcement Decree of the FSCMA (Presidential Decree No. 32091), the Regulations on Financial Investment Services (Financial Services Commission Public Notice No. 2021-42) relevant to the institutional reorganization of PEF.
1. Reclassification of Private Equity Funds System
Private equity funds, previously classified into two categories based on the “investment objective” (“professional investment-type” and “management participation-type” funds), have been reclassified based on the target investors as “institutional” PEFs and “general” PEFs.
A. Qualifications of Investors
Under the Amendment, individuals other than foreigners who are professional investors, and GP’s executive officers or professionals for investment management cannot be LP of institutional PEFs. Furthermore, among collective investment schemes, only institutional and general PEFs in which LPs of institutional PEFs hold all of the collective investment securities can become LPs of institutional PEF.
B. Increase in the Number of Private Equity Fund Investors and Improved Regulations
Under the Amendment, the limitation on the number of PEF investors has increased from 49 to 100. (i) There is no limitation for institutional investors, and (ii) the total number of general investors and professional investors that are not institutional investors must not exceed 100. (iii) However, the number of general investors is limited up to 49.
Also, this multilayered calculation method for the number of PEF investors provides that (i) when another PEF acquires at least 10% of the PEF, or (ii) when the GP managing the PEF managers at least two other PEF and the other two or more institutional PEFs acquire at least 30% of the institutional PEF (individually, when it acquires less than 10% of the institutional PEF's fund securities), the number of investors in the other institution PEF shall be added to the total.
C. The Addenda Provisions (Provisional Rules)-The Treatment of Preexisting Private Equity Funds
In accordance with the provisional rules, professional investment and management participation PEFs are deemed to be general and institutional PEFs under each amended Act. Also, persons who operate professional PEF investment businesses, and the GPs of registered management participation PEF are registered as general PEF investment businesses and the GPs of institutional PEFs.
Provided that PEFs, where individuals are included as LPs, are deemed under the Addenda rules to be institutional PEFs after the enforcement of the amended Act, but (i) may not take commitments of
additional capital outlay, and (ii) may only manage the fund by a management participation method in accordance with prior provisions (investments that acquire at least 10% of stocks with voting power, or investments that enable the election of officers if acquisition is below 10%) (Addenda Article 8 (2), (5)).
These Addenda rules provide not that "capital outlays" may not be taken but rather that "commitments of capital outlay" may not be taken; there is therefore room to interpret the rules to mean that taking capital outlays in accordance with prior commitments is permissible after the enforcement of the amended Act, but it is necessary to watch the interpretation of the financial supervisory authorities on this point.
2. Unification of Investment Management Regulations
Currently, professional investment PEFs cannot make management participation investments, while management participation PEFs may only make management participation investments other than a few exceptions under the Act. However, the Amendment unified the management regulations of each type of PEF as below:
A. The Treatment of Financial Company GPs (Prior Regulations Maintained)
Provided that, for institutional PEFs managed by financial companies (other than banks, insurance companies, financial investment businesses, new technology enterprise finance business, and so on) as GPs, the existing regulations on management methods is maintained and the fund can only be
managed in the same way as the asset management methods of management participation PEFs under the FSCMA prior to amendment.
B. Impact on Option-Contingent Investment
Previously, through authoritative interpretation, the financial supervisory authorities have limited management participation PEFs from making option-contingent investments in ways substantively similar to lending. However, due to the unification of management regulations, institutional PEFs are now permitted to make loans. Therefore, the above authoritative interpretation on option-contingent investments is expected to be withdrawn, or the scope of application reduced, making it necessary to watch the stance of the financial supervisory authorities.
3. Protection Mechanism of privately placed funds
A. Manager Designation, Management Stage
A manager of general funds shall state provision of its collective investment agreement of general PEFs, and prepare main product description. A general manager for general investors shall (i) prepare quarterly asset management reports and deliver them to investors (other than professional investors), and (ii) be externally audited by an accounting firm if the size of collective investment assets exceeds a certain level.
B. Strengthening Sales Process of Sales Company
A sales company shall verify in advance whether the content of the main product description prepared by a management company accords with the provision of its collective investment agreement and deliver the description to general investors (other than professional investors). A sales company of general PEFs for general investors shall verify the state of fund management based on assets management reports prepared by a management company and shall require for correction and report to the Financial Supervisory Service if necessary.
C. Private Equity Funds Management Examination by a Trustee Company
A trustee company of public offering funds and general PEFs for general investors shall manage and monitor collective investment assets, and examine details of collective investment assets.
4. Stronger Supervisory Power over Institutional Private Equity Fund GPs
A. Ongoing Supervision of Institutional Private Equity Funds
The amended FSCMA, in order to provide ongoing supervision of institutional PEF GPs, provides for the obligation to amend registration and gave financial supervisory authorities the power to give orders to and inspect GPs. In accordance with these regulations GPs, are obligated to report changes, other than minor matters, to the Financial Services Commission within two weeks, and to prepare financial statements for the business year which they must submit to the Financial Services
Commission within 45 days of the end of the business year.
B. Regulations Relating to the Management Personnel of Institutional Private Equity Funds
According to the Amendment, an individual shall have two or more fund managers (“institutional collective investment scheme manager”, “securities manager” or “real estate manager”) as full-time executives or employees to register as a GP of institutional PEFs. An “institutional collective investment scheme manager” is a person who satisfies at least one of requirements that (i) the one has managed collective investment scheme, working at financial institutions and so on. for over three years, (ii) the one has worked and completed education at financial institutions for over three years, and (iii) the one has specialty.
A GP registered under the existing Act needs to satisfy required conditions of an institutional PEF manager within the one-year stay period pursuant to Article 9(2) of the Addenda of the FSCMA. Provided that, the individual should fulfill the required conditions within the designated periods according to Article 3 of the Addenda of the Regulations on Financial Investment, which deems the individual is qualified when (i) a manager registered under the existing Act manages the institutional PEF for one year, (ii) a manager registered after the enforcement of the Amendment manages collective investment assets of the institutional PEF, and (iii) for six months for the one who wants to register as a GP.
C. The Rules of Conduct for an Institutional Private Equity Fund GP
With simple investments by institutional PEFs to be permitted, the following actions are prohibited in order to prevent unlawful activities such as the use of job-related undisclosed information: (i) Failure to clearly distinguish between employees in charge of managing the fund assets of the institutional PEF on the one hand, and employees in charge of execution including the acquisition, disposal, and so on. of assets subject to investment on the other (other than management participation investments); and, due to the stronger requirements for the management personnel of institutional PEFs, (ii) the management of institutional PEFs by a person who is not investment management professional personnel.
The recent amendment of the FSCMA is causing phenomenal changes to the regulatory framework for PEFs in South Korea and the overall management of private funds. It is important for the industry to fully understand the changes in the Amendments, develop internal management system, and monitor further changes.
