Practical implications of ELTIF II for General Partners

The who

Catering to retail investors is not for everyone – certain general partners (GP) have much more appetite for targeting this segment. Based on the requests we are seeing from clients and prospects, three categories of fund managers emerged that are more interested in diving into this opportunity at scale:

1. Traditional asset managers, who developed a private markets arm secondary to their core business. Retail is in their DNA and they are also used to working with a large network of distributors and managing liquidity pockets required for this.

2. Large pure play private markets managers, primarily the US ones. They are raising ever larger funds and retail capital can feed into those.

3. GPs with the mandate for a specific social impact or market stimulation (such as the European Investment Fund or other EU institution-backed GPs).

For whom and how

By reducing the minimum investment threshold ELTIF II opens the door to the mass affluent and even retail market. We have observed GPs lowering the minimum investment requirements to as low as EUR 1,000 and minimizing the lock-up period to effectively just a couple of years (if they manage to achieve the diversification requirements within this time frame).

Principal characteristics differing from classic private markets (closed end) funds that we have experienced:

• Increased NAV frequency – monthly or even weekly

• Semi-open or evergreen

• Subscriptions / redemptions mechanism with paid-up subscriptions

• Redemptions regulated via gates with multiple conditions

• Increased liquidity needs and diversification rules necessitate investments in listed/ liquid assets (liquidity pocket), leading to very different asset classes in the same fund.

This is where the tricky points start, operationally speaking.

3 focus areas will help you save cost and time

The following aspects should be carefully considered and discussed in detail with your service provider. This initial investment of time will save you the cost and reduce a probability of errors in the long run.

A. What are the categories of non-professional investors you are targeting?

• Impact on the level of sophistication of the prospectus.

• Impact on the educational effort a GP would need to make towards both the investors and the distributors.

• Are you planning to mix institutional and non-professional in the same vehicle? Keep in mind that the stricter regulatory requirements apply to the entire fund.

B. How will investors come in?

• Are you going to use the distributors? What type? This is the channel that is well established within the 3rd party fund administrator world, at least those also catering to UCITS. At Societe Generale Securities Services, for example, we leverage our UCITS Investor Services team and subscription / redemption process is automated as far as possible via SWIFT messaging / Central Securities Depositories (CSD).

• Are you planning to use distribution platforms? Considerations here are the additional cost to investor and a possibility to integrate smoothly with your administrator for reporting and other purposes. This option would likely require IT development and hence the initial onboarding will be more costly.

C. Are you planning to allow redemptions during the life of the fund? If so, how will you manage the liquidity for the fund with illiquid underlying assets? It’s worth keeping in mind that more conditions result in layers of complexity. Therefore, the onboarding becomes more expensive, risk of errors increases, and the time that GP / AIFM needs to dedicate to reviews and validations during the life of the fund goes up.

Examples:

• if the gate threshold is hit, the simple operational option is to reset the unsatisfied portion of redemptions, rather than prioritise them in the queue for the next one.

• Adding a liquid pocket put the accounting system to the test: for private assets GP/external valuer is an important source for asset values, while for public assets the system automatically pulls daily prices from the market, therefore the core accounting system must be able to manage both types of asset classes smoothly.

• Extra investor protection measures, of course increases the cost of operating the fund. Here providers with existing strong and stricter compliance approach might be able to provide more automated and less expensive offer by repurposing their existing processes.

Conclusion – What does all of this mean for GPs?

Even though as a service provider we were prepared, having provided services to ELTIFs since 2020, ELTIF II brings on new challenges. What really helps is track record with public markets funds (UCITS), with the type of managers that are keen on ELTIFs, and the ability to bring the two teams together as well as leveraging the interconnectedness of the systems internally (e.g. fund accounting is done on 2 specialised modules of the same accounting system).

Tips for getting the balanced target operating model to positively impact the return via cost optimisation:

• Carefully define your dealbreakers for each of 3 focus areas and be open to modify the rest

• Explain what’s the outcome you want to achieve and follow the lead of your Admin/Depo on how to achieve it

• Sometimes seemingly obvious things from the investment manager perspective are too complex to implement flawlessly in operations.

• Remember: almost anything can be implemented through customization and IT development, but it’s expensive and you never know when something non-standard can backfire and limit you, e.g. the systems are interconnected for analytics and reports, which might not work compared with a tried and tested standardised process

• A good service provider will explain the rationale and limitations of the operating model

• Simplify to automate as much as possible – this is a risk reduction strategy

• ELTIF II is a whole new product – it will take time to figure out true investor preferences – ask your service provider to pass on their observations – they are the ones dealing with the requests day in and day out – they can bring you closer to the end investor.

Article published in the Luxembourg Private Equity Association Magazine in December 2023.

Veronika Zukova
Head of Product Development Private Equity & Real Estate, Societe Generale Securities Services Luxembourg