These terms are explained from a general financial point of view, but also with a more particular relationship to the private equity fund industry.
In accordance with the AIFM Directive, an Alternative Investment Fund is a “Collective Investment Undertaking which raises money from a number of investors with a view to investing it in accordance with a defined investment policy for the benefit of those investors” – and which is not a UCITS fund.
The definition fits a number of different vehicles and schemes. An AIF may be structured as a limited liability company or a partnership, legal structure does not matter. It is unclear how many investors are required for an undertaking to be considered “Collective”, probably more than two but a large number is not required.
A requirement to invest for the benefit of its investors disqualifies charities.
In a Blind-pool investment fund, the investor will before making a commitment not know exactly which investments a fund will make. There will be Investment Restrictions limiting the mandate of the fund manager, but within those parameters the investor is otherwise blind.
The degree of “blindness” is very important, particularly to large investors with a varied portfolio. They may want to enter a particular market segment and will look hard at the Investment Restrictions section of the limited partnership agreement.
In hedge funds, visibility will often be very low as these funds tend to have a very wide investment mandate.
A Buy-Out fund invests in shares in existing companies with a view to assist in the further development of these companies, and thereafter realise the investment at a profit.
The Buy-out fund manager uses a number of strategies to develop the company. It may further strengthen the management of the company, implement product and market penetration strategies, strengthen balance sheet, provide further funding and so forth.
The Buy-out fund manager seeks control. If unable to acquire a majority of the shares in the company, control may be sought through shareholders agreements, board representation or shareholder alliances. A level of control is particularly important with regards to exit from the investment.
A Fund-of-Funds is a fund which purchases shares in other funds. It may be a Primary Fund-of-Fund participating as an investor in new funds from day one, or it may operate in the Secondary market investing in limited partnership shares in existing funds (see Primary- and Secondary Funds).
A Fund-of-Funds will by its nature be a highly diversified investment. Visibility into the underlying fund structures and the direct investments made at that level will typically be somewhat limited and poses some particular challenges with regards to portfolio- and tax reporting.
The term refers to the time in a company’s or a technology’s life cycle that a fund may invest (see Investment Restrictions).
A Buy-out fund is typically invested in companies which have developed a certain size and presence in the market but which needs assistance to grow and expand. The main risk is related to how to develop the company further. The downside risk tends not to be bankruptcy but low or negative value development over the funds lifetime.
In a Venture- or Seed Capital fund the investor must accept that the companies in the portfolio are trying to develop new technology, new working methods, new medicines etc. The risk of never getting into the marketplace is significant.
A “National fund” (No. Nasjonale Fond) does not meet the full requirements of the UCITS regulation but are specifically regulated under national law. In Norway, these funds are regulated under the Norwegian Securities Trading Act (No. Verdipapirhandelloven kap. 7). Typically, the deviation from the UCITS regulation is related to marketing and investment profile.
A National Fund cannot without a special permit, be marketed in another country.
A Primary Fund is a first time investor. The fund buys shares in an existing company (private equity fund managers do not typically establish companies), and works to develop that company further by strengthening management, work on product and market penetration strategies, strengthen balance sheet, by providing capital and so forth.
The term Primary Fund is mostly used when in context it is necessary to distinguish Primary- from Secondary Funds. Otherwise, it is generally implied that a Venture-, Buy-Out-, Seed- and Early Stage fund is a Primary Fund.
Having a right to redeem shares means that investors, normally at certain predetermined intervals, may request that their shares are redeemed in compensation for (normally) cash. Having given investors such rights, does impose some constraints on the operation of the fund. Among them the difficulty of deciding, if large net redemptions are called, which assets to sell in order to be able to compensate shareholders wishing to redeem shares. The difficulty lies in properly assessing how to share assets equally and consistently between shareholders requiring redemption of their shares and remaining shareholders.
As the name suggests, a Secondary Fund is specialising in becoming the «second owner». A secondary fund of funds for example, invests in existing funds by buying shares in such funds from limited partners which for some reason want to exit before the fund has run its full term. As the funds typically live for up to fifteen years, the reasons for wanting to exit early are many. Investors may just want to exit an illiquid investment, but more commonly they want to restructure their portfolio. Bank and pension funds which are under strict regulation as to the liquidity of their asset base, may in times when the value of unlisted assets change differently, typically more slowly, than listed assets, need to rebalance their portfolios.
A Secondary Fund may also take over a Tail-End portfolio in its entirety. The situation here is typically that a fund is coming up towards its agreed end-date, still with a portfolio of investments which for some reason have not yet been realised. The reasons for non-exit are varied; market slump, ownership structure or disagreements over strategy, product or market development behind plan and so forth are typical reasons. A Secondary Fund, which can offer additional time to developing the portfolio, offers in these cases a full exit opportunity for the fund.
A Special Fund is a higher risk sub-category of a National Fund. In Norway it is subject to regulation under the Norwegian Securities Trading Act (No. Verdipapirhandelloven kap. 7).
A Special Fund is exempt from parts of the UCITS fund regulation. The funds may leveraged, it may invest in a broader category of assets, it may weight its investments and in doing so take a higher risk, it may invest in less liquid assets and does not have to publish the funds value on a weekly basis. Hedge funds are typically Special Funds.
A Special Fund does not have to allow exit from the fund as often as UCITS funds, but without an exemption from the Norwegian regulatory authority (No. Finanstilsynet), investors must be offered an exit at least once a year.
Special Funds are always subject to the investment criteria of the fund and not less than twice a year the fund must report on adherence to these criteria and the development of the value of the fund.
Special Funds are subject to particular marketing regulation.
Overlapping terms used to describe funds which invest in early stage technological development. Typically these companies are relatively small, the technology is not yet proven, at least not outside the laboratory, and time to market will be uncertain at best. The upside potential if successful however, is extraordinary, but a large number of the companies in this sector will not succeed.
From an investor protection perspective it is an enigma that the EuVECA directive (see EuVECA), lowers barriers to entry for investing in this type of fund compared to funds in other and lower risk sectors.
The term vintage refers to the year of the first close of a fund entity. From this date the fund will be in investment mode, it has funds available.
Looking back, the vintage of a fund will say something about the investment conditions of the fund during its investment period. Investing just prior to a financial downturn for example, will often result in a late realisation of fund assets as they may have been acquired at inflated values and will take longer time to recover and to show increased values.