PRINT THIS PAGE The Walker Review28/11/2007. Source: SJ Berwin. Simon Witney
Even the sceptics cannot deny that publication of Sir David Walker's review this week is a seminal moment for the private equity industry, notes SJ Berwin. Unique in the world, Walker's guidelines urge private equity houses that own or acquire 'large' UK companies - or aspire to do so - to reveal much more about themselves than they have in the past, and to require their portfolio companies to be more open than other private companies have ever been. Many of the affected houses have already pledged to comply, and most are expected to do so. In practice, the pressure to fall into line - at least for UK-based houses - is likely to prove irresistible. Misleading reports in the press this week that the guidelines issued on Tuesday are a "watered-down" version of the July draft risk diverting attention from the central issue: the large buyout sector has accepted that, if it is to prosper, it needs to keep a wider group of stakeholders happy than those to whom it has previously paid attention. As it happens, in many ways the final code has been bolstered in recent months - not least by the announcement of an independent monitoring body, led by Sir Mike Rake, Chairman of BT - recognising that self-regulation is not, on its own, enough. It is also clear that the review's recommendations will take large private company reporting significantly further than required by a company law that was, only last year, re-written after a full and public debate.
All of that is clearly important, but there are a number of open questions which will need to be resolved in the coming months. First, there will be interpretation issues: the code is (quite deliberately) non-specific on a number of questions. For example, the definition of an affected portfolio company rests on whether it is "owned or controlled" by a private equity house, but there is no guidance on what those terms mean, and there will be grey areas. The review also says that all private equity houses with a "designated capability" to own or control large companies (as defined) should comply, even if they have not actually made any relevant investments. That could catch (in theory) a wider group of funds than was expected.
To all of this, the response of those that drafted the code is clear - it is intended to be "principles-based" and interpreted accordingly. It is not a rule book drafted by lawyers, and it is important that it does not become so. There will be areas where good faith judgements need to be taken, and that should be possible because it is clear what the code is aiming to achieve. But market practices will develop, and these will be watched with interest.
The second open question is whether funds that are keen to sign up will be able to bring management teams along with them. The problem is likely to be even more acute for existing portfolio companies - where managers might argue that avoiding unnecessary and distracting bureaucracy was one of the reasons they went private in the first place. In the end, of course, a private equity fund which controls a company could force the issue, but investors will not want to do that. They have to persuade companies of the need for additional disclosures - and the additional benefits that they will bring, at the individual company level. Those benefits are there, but have taken a back seat in the current debate - which has focused on benefits to the private equity industry and its wider stakeholders. The benefits for companies themselves - who will suffer much of the burden - will need to be carefully enumerated and explained.
Thirdly, we must wait to see the extent of the impact of the code in the private equity sector. Walker estimates that 65 UK portfolio companies will be caught by his definition of a "large" company owned by private equity. In fact, more are likely to make the enhanced disclosures which he suggests as some funds will apply the code across the whole of their portfolio (and not just to the qualifying companies). It will be harder to do that on a pan-European basis than to apply it to smaller UK companies. What is even less clear is whether firms operating exclusively at the mid-market end of the industry (and who have no large companies in their portfolio) will opt to comply, or come under pressure to do so. Many will resist that pressure - at least initially - but it is likely to build.
And we wait to see the impact outside of private equity. Walker has urged the British Private Equity and Venture Capital Association (BVCA) to engage with "private equity like" investors - including, for example, sovereign wealth funds and balance sheet investors - to persuade them to fall into line. If they succeed in that, it will help deal with the concern that Walker establishes an "unlevel playing field". If they fail, it will increase pressure for (less flexible) legislation to mandate uniform standards for all. That would be a retrograde step.
Finally, there is the question of whether this is enough to satisfy the industry's critics - the answer to which, if it were ever in doubt, is now clear. Walker's "hope and expectation" is that his recommendations will "mitigate many of the specific concerns about large-scale buyout activity that have emerged in the recent past". But others (including the Chairman of the Treasury Committee, a body which helped to entrench some of the mischaracterisations of the industry that now exist) have already made it clear that they still have concerns, as have some trade union leaders. Walker is back before the Treasury Committee next month, and will no doubt hear more specifically why it is still worried.
Of course, Walker does not deal with everyone's concerns - it was never going to, and never intended to. But many commentators have acknowledged its significance and, ultimately, wider engagement with stakeholders will benefit and strengthen the industry.
Simon Witney is a partner at SJ Berwin, a pan-European law firm with a particular focus on private equity. It has offices in London, Frankfurt, Munich, Berlin, Madrid, Paris and Brussels. If you would like further information on its services to the private equity industry please contact Jonathan Blake or Simon Witney in its London office +44 20 7533 2222 or visit our website at www.sjberwin.com
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