Funds finance is a vibrant and dynamic arena, a specialised and increasingly complex market in which our involvement and experience have grown exponentially in recent years. Structures and products are increasingly specialised in this evolving market so having experienced advisors with a track record and market expertise in this space is a must. Where there are Scottish elements to a funds structure successful and confident navigation of the intricacies of Scots law in this field is essential.
Scots law is on the verge of significant and exciting reforms which will facilitate funds finance transactions and create alternative security-taking options for market participants.
Fasten your seatbelts, we are going on a trip. Join us in looking ahead to the enhancements these exciting reforms will deliver to Scottish funds finance. We are travelling to the future, to a time when the Moveable Transactions (Scotland) Act (MTSA, currently in Bill form here) is in force. Purpose of travel? To see how much brighter the future is for funds finance transactions with a Scottish element in the MTSA era.
First, though, let's look at some of the Scottish aspects of funds finance arrangements.
Scottish limited partnerships in funds structures
Scottish limited partnerships (SLPs) – those unique and flexible entities commonly used in funds structures - are one of Scots law's gems. Unlike limited partnerships constituted elsewhere in the UK, they have separate legal personality, so can own assets, enter into contracts, borrow money and be sued, all in their own name. They are tax transparent, are subject to personal (rather than corporate) insolvency rules, can be used as a primary fund vehicle or as a carried interest or feeder fund, and can also act as a general or limited partner in other limited partnerships within a fund structure.
Taking security in respect of SLPs
SLPs cannot grant floating charges so in a funds finance context asset-specific securities need to be considered. As the assets involved are usually rights or receivables belonging to the limited partners, the general partner or the manager, security will typically involve a Scots law assignation in security over those rights.
In the funds landscape this could involve, for example, assignations in security in favour of the lender of:
Receivables
• a general partner's (or manager's) right to issue drawdown notices and make capital calls in the SLP
• a limited partner's interest in receivables due to it by the SLP
SLP partners' interests
• a limited partner's and/or general partner's interest as limited/general partner of the SLP
Bank accounts
• the SLP's Scottish bank account(s)
Security in respect of the general partner
• (where the general partner is a Scottish limited liability partnership (LLP)) the LLP members' rights under the limited liability partnership agreement in respect of the general partner
Where the general partner is a limited company other elements of the security package might include a shares pledge and/or a floating charge, as we have explained here.
Where an assignation of a partner's interest as general or limited partner of an SLP is under consideration careful analysis of perfection steps and a detailed review of the terms of the limited partnership agreement are required to ensure that in taking an assignation in security the lender does not inadvertently take on the role of general partner (or manager), or obligations of limited partner (as the case may be), in its/their entirety, and thereby assume additional substantial liabilities. For this reason it is more common to assign only the receivables due to a general or limited partner. Similar considerations apply where the general partner is an LLP and an assignation is taken of the members' rights in the LLP. We have written in more detail about these and other types of security in our handy guide on SLPs in the funds sector here.
In Scots law intimation is key to perfecting a security interest over contractual rights – notice of the assignation in security must be given to the relevant counterparties.
And that brings us to the reason for the time travel. Scots law on assignations and their perfection is on the cusp of reform. Assuming it is passed without significant change to its Bill, the MTSA will deliver a complete shift in the way security over rights or receivables can be perfected in Scots law.
Securities in respect of SLPs: how things will change
The following three examples of the MTSA's overhaul of Scots law are of relevance to funds finance transactions:
1 Perfection by registration
MTSA regime: Perfection of the security interest can be achieved by registration of the assignation in security in a newly created 'Register of Assignations' and this obviates the need for intimation.
Perfection by registration is an alternative to perfection by intimation, a method which, as explained below, is dramatically improved by the MTSA.
Current regime: The only current method of perfecting these security interests is intimation by service of notice on each debtor – for example in an assignation in security of capital call rights, by notices served on all limited partners.
2 Electronic notice of intimation
MTSA regime: Intimation notices can be served electronically, removing the administrative burden and expense of the prudent approach under the current regime.
Current regime: Service of the written intimation notices is usually by recorded post as best evidence to show delivery has taken place.
3 Notice of intimation – instruction to pay assignor
MTSA regime: The assignation in security is valid notwithstanding an instruction in the notice of intimation to the debtor to continue to pay to the assignor. This commercial certainty facilitates the assignation in security as the parties' intention is for payment to be made to the secured party/lender only on default.
Current regime: There is currently some doubt in Scots law as to the effect of an instruction to a debtor to continue paying the assignor on the validity of the assignation in security. The potential risk is that the assignation in security is held to be incomplete and the lender has no fixed security.
When will these changes come into effect?
The Bill did not proceed in this session of the Scottish Parliament due to the effects of the COVID-19 pandemic (and, at the time, Brexit pressures). The changes are, however, much anticipated, and needed so it is hoped that parliamentary progress can be made at the next opportunity.
The extensive and modernising proposed reforms will bring greater certainty to borrowers, lenders and security holders and should increase efficiency for all finance types, including funds finance, real estate finance and invoice financing.
Meantime we can experience the benefits of the reforms only through time travel, and in the context of funds finance transactions where SLPs feature, tailored Scots law advice should be taken to navigate the requirements of the current regime.
Brodies' Funds Practice
We offer the full range of structuring, formation, restructuring, regulatory, tax, banking & finance and dispute resolution services in relation to partnerships, SLPs, LLPs and their various applications. We work closely with many leading City firms and leading firms in the US and many other global fund centres, to assist in the development of cross border arrangements that are robust and workable.
If you would like to discuss a funds finance project further please contact Alan Knowles or Bruce Stephen.
