Jersey funds end 2011 with growth in numbers but drop in value

Last week I reported that the net asset value of funds under management in Guernsey had declined for the second quarter in a row, down £10.2 billion (3.7%) to £264.1 billion from October to December, but despite this had still shown an overall annual growth of £4 billion.


Rival fund centre Jersey has just released its December statistics, which show an increase in the number of funds registered in the last quarter, but a £4.3 billion decrease in asset value, to £189.4 billion.   This means that over the 12 months to December 2011, Jersey's fund industry grew by 2.5% in asset value terms, and by 5.1% in fund numbers.  


The fact that the fund numbers are increasing is a good sign for the industry, tending to show that Jersey remains attractive as a location for fund structures, but the underlying asset values are clearly experiencing some  volatility due to the Eurozone crisis and other macro-economic difficulties.

IFG and the roller-coaster ride of holding sale discussions in public

The majority of offshore fiduciary businesses are privately owned companies and most sales and acquisitions are negotiated behind closed doors, with strenuous efforts made to keep the mere existence of a sale process out of the public domain until there has been a successful signing.  It certainly isn’t always easy to achieve this – offshore jurisdictions tend to be small territories, where news travels fast and it can be difficult to keep industry gossip under wraps, despite the most tightly drafted confidentiality agreements.  Spare a thought though, for those who have to conduct their business in the glare of the public eye.

Last year, IFG Group, which has a number of financial services businesses within it, including an IFA business, a personal pension programme administrator and an offshore trust company, was approached by Bregal Group in relation to a possible takeover by the private equity house of the whole group at a price of 1.8 euros per share.  Being a listed company, IFG had to make the talks public knowledge by making a formal announcement, and the company’s shares rose strongly to a peak of 1.95 euros, only to plummet dramatically in September to a low of less than 1 euro per share after it was announced that the talks with Bregal had failed to lead to a firm offer.  Since then, the IFG share price has recovered to a small degree, but for the most part has languished in the doldrums for the best part of 6 months.

Today, however, saw IFG post a significant intra-day rise of around 25 cents, to 1.5 euros. The reason for the spike? - The Board of IFG has announced that it has received an unsolicited expression of interest in relation to a possible purchase of its International Corporate Trustee Services division, which contributes roughly 35% of the group’s profits from an income of £16.6 million.   It is no great surprise that an approach has been made – we are witnessing a period of a great deal of consolidation in the trust company market and there are more willing buyers out there than quality businesses available for sale.  For most trust companies, any exploratory talks following an offer can be carried out in the privacy of the target’s own four walls, and if the talks go nowhere, no-one need be any the wiser.  However, IFG does not have this luxury and whilst the share price rise must be a welcome development in many ways, the company must, given its recent history, be wary of the share price volatility that accompanies such talks in the public arena.

STM Group results point to difficult conditions for trust companies

The performance of the Jersey office of publicly listed financial services company STM Group Plc was the only ray of sunshine in a poor set of financial results released by the company today.


It is relatively rare to see publicly recorded accounts for trust companies, as the majority are in private ownership, and so it is interesting to see how STM has weathered the financial crisis.  And the conclusion seems to be that it has found the going tough. Group revenues declined to £9.8 million from the 2010 figure of £10.5 million, at a time when costs were rising.  As a consequence, a profit of £1.4 million in 2010 was translated into a loss of £300,000 in 2011, and EBITDA declined from £1.7 million to £1 million.


According to the financial statements, the Gibraltar office has been particularly badly impacted in 2011 by the Eurozone crisis and redundancies have been implemented there to reduce the overheads, but the Jersey office, and particularly the portfolio of business acquired from Zenith, has performed well.


STM was formed in 1989 with the aim of becoming a leading multi-jurisdictional corporate and trustee service provider, and has for some time been pursuing ambitious plans to expand through acquisition at a time when there is a clear opportunity for consolidation in the fragmented trust and company market. 


The company has been an active buyer – with acquisitions including Fidecs Group (a Gibraltar head-quartered business), the Atlas Group of Companies, Parliament Corporate Services Limited, Compagnie Fiduciaire Trustees, St George Financial Services Limited and the Zenith Group of companies.  Nevertheless, the latest set of figures would seem to suggest that it is not yet starting to reap the rewards of business synergies and increase in scale brought about by these acquisitions.


The financial crisis, together with increasing regulatory and compliance costs, is seeing some smaller trust companies which have for many years been reliable cash-cows, slipping in to unprofitability, whilst some of their larger rivals thrive despite the economic turmoil.  Although STM has set out with the express aim of being a consolidator, it still a long way behind some of the larger international trust companies in size. The strategic dilemma for the company will presumably be whether to forge ahead with its acquisition strategy despite the drop in profits, or whether to pause for a while to focus on efficiency.

US Senate gives Treasury a new anti-tax-haven weapon in its arsenal

You could be forgiven for thinking that tax havens and highway transportation don’t have much in common, but it seems you would be wrong.  Senator Carl Levin has linked the two in his latest campaign against tax havens, by putting forward an amendment to a US surface transportation bill which would give the US a powerful new weapon in its anti-tax-haven arsenal.

Yesterday the US Senate adopted an amendment to the bill which gives the US Treasury more power to combat tax evasion enabled by foreign governments or financial institutions, and could potentially lock some foreign governments and non-US financial institutions out of doing business in the territory altogether. In particular, the Treasury could prohibit US banks from accepting wire transfers or honouring credit cards from banks found to significantly hamper US tax enforcement efforts.

Although the amendment is doubtless a move which will offer Senator Levin the opportunity for some good sound bites about clamping down on tax dodgers, the move will not be welcomed by the US financial institutions, who are already struggling to digest the significant new bureaucracy which they will face when the 400 pages of new regulations come into force under the Foreign Account Tax Compliance Act (FATCA) in January 2014.  There is a growing feeling that whilst preventing tax evasion is a laudable aim, the methods being used by Levin and his supporters are placing an intolerable burden on US and foreign financial institutions, and that the US is becoming a jurisdiction with which some organisations are simply deciding to avoid dealing.

A final vote on the measure is expected on 13^th March. Then it will go to the Republican controlled House of Representatives, where it is likely to face more opposition.

Guernsey fund business contracts for 2nd quarter

The current business turmoil in international markets appears to be having a continuing impact on Guernsey funds, which have declined for the second quarter in a row.


The net asset value of funds under management and administration fell by £10.2 billion (3.7%) to £264.1 billion from October to December, following a decline of £3 billion in the previous quarter.
Despite the two consecutive quarters of decline, over the last 12 months total net asset values in Guernsey funds increased by £4 billion.


Jersey has not yet released its December statistics and so it is difficult to draw comparisons, but in the July-September 2011 quarter Jersey fund assets under management increased by just under £1 billion to £197.6 billion, and in the 12 months to September 2011 they grew by almost £13 billion.  


It is early days, but there seem to be signs that Jersey is closing the gap on its neighbour and business rival.

Intertrust acquires Walkers' fiduciary business

Walkers, the Cayman head-quartered law firm with offices in British Virgin Islands, Dubai International Finance Centre, Ireland and Jersey, has announced that Intertrust Group has agreed to acquire Walkers' corporate, fiduciary and company secretarial business, Walkers Management Services (WMS). 

Intertrust, which is backed by Dutch private equity boutique, Waterland Private Equity Investments, was founded in 1952 and has become a global leader in the trust and corporate services domain, with over 1,000 employees in 20 jurisdictions.   The acquisition will assist Intertrust in further expansion of its international footprint, particularly in key markets in the Americas. As a combined group after completion of the acquisition, Intertrust will operate with more than 1,100 people from 30 offices in 21 countries. 

The sale appears to be further confirmation of two trends - the divestment by certain of the offshore law firms of their fiduciary businesses to  allow a focus on core legal services, and the emergence of a small number of "super-consolidators" in the fiduciary sector - firms who are gaining a material size and global reach sufficient perhaps to sustain an IPO in the future.

WMS has been part of the Walkers Group since 2001, providing management services through its three core divisions: corporate, fiduciary and company secretarial services. Walkers and the Intertrust Group have announced that they intend to continue to work closely in the future, and to avoid disruption to existing client teams where possible.

Law-firm subsidiary businesses - a source of conflict?

The Lawyer has reported that, in a rare example of apparent misjudgment, DLA Piper co-chief executive Sir Nigel Knowles has become embroiled in a partnership storm after it emerged last week that he and a small number of other DLA partners have personally invested in LawVest (of which Knowles is non-executive Chairman) without declaring it to DLA’s board or the partners.

DLA Piper reportedly invested £62,500 into LawVest last year, and is aiming to redefine the lower and mid-market for corporate law services, by offering fixed price annual contracts.

  

What makes the personal investments in LawVest particularly controversial is that DLA Piper and LawVest have both stated that they expect that smaller DLA Piper clients will be referred to LawVest, which intends to trade under the brand name Riverview.  In a previous blog posting I have commented on the fact that this could create an interesting dynamic as it will apparently see a shift of existing business from DLA to Riverview, albeit at the smaller end of their client base.  In these circumstances, it is perhaps surprising that Knowles and the other partners who invested personally in LawVest are said to be shocked that their actions were being perceived by their colleagues as giving rise to a conflict of interest.

The purpose of this posting is not to examine what has happened at DLA in particular, but instead to highlight a complex area that more and more firms will find themselves having to navigate as ABS structures become common, and in particular as more law firms start investing in subsidiary businesses as a consequence of an increasingly competitive and dynamic market.  

Owning valuable capital assets within partnership structures often leads to tensions at the best of times.  In the offshore environment, the vast majority of law firms set up their own trust company businesses many years ago, which in many cases became very profitable and highly valuable, saleable assets.  In the early days, owning these businesses seemed to be a genuine win-win for the law firms – they were established by the partners in the business at the time, and were very cash generative.  Everyone was happy.  But as time went on, in most of the firms the political dynamics became increasingly complex, and in some cases led to relationships between partners breaking down.  There were a number of reasons why this tended to happen:

• In some cases, as the subsidiary companies became more valuable, it started to cause difficulty with building an economic business case for bringing new partners into the law firms which owned them, particularly if the prospective partner was not working in a field which would be likely to generate more work for the subsidiary, because their fee earning potential could not “justify” the interest in the trust company that they would acquire through partnership.  Firms responded to this in a myriad of different ways.  Some cut right back on offering partnerships in those areas (which of course led to longer term recruitment and retention problems), whilst others started to offer newer partners a share of the law firm profits, but no interest in the subsidiary businesses.  This latter approach led to two-tier (or sometimes multi-layered) partnership structures – a potential source of enormous tension and bitterness for those who don’t make it to the higher tiers;
  
• Some firms allowed individual partners, as opposed to the partnership, to have personal investments in the trust companies, whilst other partners had no interest.  This could lead to friction in relation to referral arrangements, such as suspicion that law firm fees were being discounted in order to be able to secure work for the subsidiary company – an arrangement which would benefit only those who had a personal investment.  The mere perception of a lack of transparency (as seems to have happened at DLA) would only inflame any tensions in this respect;
  
• As the subsidiary business became more successful, they in many cases started to out-perform their law firm founders and this in itself could become a source of tension – on the one hand from the people running the subsidiary business (who sometimes felt that the law firm partners were getting rich off the back of the subsidiary’s success, whilst contributing little directly to it), and on the other hand from the law firm partners, who might resent the fact that the contribution of the law firm to building the subsidiary brand in the subsidiary was being under-valued.  This dynamic is perhaps something which afflicts the professions more than some other more commercial businesses spheres, but is not unique to law firms.  Anyone who has studied the enormous rift that developed between Arthur Anderson and its consultancy business, leading to its bitter split, will know that the seeds of that debacle lay in exactly the sort of tensions described here;
  
• If the subsidiary business needed material capital investment, then this added an extra layer of complexity, because partners at different points in their careers are likely to have different views and vested interests in investment and divestment decisions.  For example, a partner who is close to retirement is not likely to be willing to take a large income sacrifice to finance a huge IT project which will not deliver any benefits during his tenure, whereas others might feel it is essential for future growth and that older partners, if they block it, are putting a brake on the business; and
  
• Finally, as some law firms started to divest their subsidiary businesses, it became apparent that the structures established by many firms had resulted in something akin to a pass-the-parcel situation: interests in the subsidiary business would be passed down from generation to generation of partners, but those in situ at the time of a sale would be in line for a huge pay-day.  As partners approached retirement, there was therefore a natural tendency for them to press for a sale of the business, whilst those who had been working towards, but not yet achieved, partnership would fear that everything they had been working towards might be sold out from under their feet. 

All of these are enormously complex dynamics.  The offshore law firms, and many of the accountancy practices, have been grappling with them for years, trying a myriad of different solutions and with varying degrees of success.  As the UK legal landscape changes and becomes more dynamic and competitive, and law firm businesses become less homogenous, so the firms here will need to start addressing similar issues.  The DLA Piper/LawVest venture has hardly got off the ground before the first problems have surfaced, and we can expect more to follow. 

There needs to be clarity, transparency and a shared vision of the future at the outset, which is clearly articulated.  If there is an absence of trust between those partners that those taking the key decisions are working towards a shared goal, have only the best interests of the firm as a whole at heart, and have a proper mechanism in place for recognizing what was once termed goodwill, tensions may become unbearable. 

UK firms can and should be seizing the opportunities open to them to reinvigorate and expand their businesses.  But those who rush into such ventures without thinking through the consequences and learning the lessons from some of those businesses which have gone down that route before them, might live to rue the day.