In 2006 each man, woman and child in New Zealand contributed US$24,944 to the country’s GDP. In Australia the GDP per capita is a much more impressive US$32,202. With higher GDP per head the Australian economy can afford to pay people more with the result that many of our brightest and best are tempted to pack up and head overseas.
How do we begin to address this? The starting point is building up investment in industry and our capabilities as a nation. This should help businesses large and small find investors and grow.
This is not an easy task for New Zealand – as a geographically isolated country we need to work extra hard on our ability to raise capital for both domestic and international investment. Our legal environment often follows the lead of other jurisdictions but one of the advantages of that is the opportunity to learn from their experiences and do better. Australia ran into problems by introducing Limited Partnerships in a piecemeal form – tax changes for venture capital limited partnerships were enacted before the partnership law was ready. By the time the partnership law reforms were completed further tax changes were required and the process continues today.
The English and Scottish Law Commissions have been consulting on proposed reforms to partnership law since they released a report on the subject in 2003. New Zealand is about to catch up with its own limited partnership regime, likely to commence in April 2008.
Limited partnerships are the most common vehicle for international investment funds and in particular, private equity and venture capital funds.
In a limited partnership the limited partners contribute capital and generally stay clear of the management of the business, and the general partner runs the partnership, makes the investment decisions and has unlimited liability for the debts of the partnership. Losses and profits flow straight through to the partners often bringing tax benefits to investors if the partnership makes losses early in the investment cycle – as often happens in biotech and other heavy R&D industries.
New Zealand’s limited partnership is essentially a hybrid of a partnership and a company, with features of both partnership and company law appearing in the draft Limited Partnerships Bill. The Bill is the product of five years of consultation and drafting review, in which the New Zealand Private Equity & Venture Capital Association and other industry participants played a major role. The NZVCA’s advisers, including the writers, compared equivalent models in the US, UK, Channel Islands and Australia and tried to pick the best of each regime.
The NZVCA’s view was that New Zealand needed to adopt an internationally recognised model so that investors and managers can focus on making investments and not on understanding a quirky New Zealand system. The benefits for New Zealand business are that the new limited partnerships:
- generally ensure that so long as investors do not participate in management of the limited partnership their liability is limited to their investment – just as a shareholder’s liability is limited to the amount they pay for their shares
- reduce GST leakage where the general partner is the manager as any management fees will be a partnership expense rather than being charged externally
- allow unlimited partner numbers and duration, in contrast with the existing special partnership regime and unlimited investment, in contrast with the Australian limited partnership model
- will be transparent vehicles for tax purposes so that losses and gains are attributed to investors directly – this is particularly effective if losses are expected in the early stages of investment (although losses in excess of a limited partner’s capital contribution may need to be carried forward due to a new proposed tax provision) or if a non-taxable gain is to be passed to investors
- can be used for any type of business with the exception of banking and insurance, although will be most useful for venture capital and other private equity funds
- will be much easier to establish and administer than complex existing fund structures
- give fund managers the right to keep the identity and contributions of their investors confidential, which is not the case for investors in corporate fund structures whose names and shareholdings can usually be found on the Companies Office website as shareholders
- are familiar to offshore investors, the assumption being that offshore investors feel more comfortable investing in vehicles they know and understand.
As with any new legislation there is a process to follow, including public submissions (the closing date is yet to be set), select committee improvements and issues to be debated. A few key issues to be discussed will be:
- the extent of the "safe harbours" or activities a limited partner can be involved in without contravening the "no management" rule. These are to be contained in regulations which need to be developed well in advance of the enactment of the legislation
- the trigger point for when a person becomes a limited partner and can avail himself of the protection of limited partner status. The draft Bill places the obligation on the general partner to get it right
- the extent of the power in an insolvency to claw back distributions made to limited partners. The current test applies if the limited partner knew that the limited partnership would not satisfy the solvency test after the distribution and applies for three years
- written partnership agreements are compulsory for limited partnerships but there is no qualitative test. We are keen for the legislation to set out some default rules
- continued confidentiality of names and investments of limited partners, including where that information is contained in annual returns
- the pass through of all losses to investors.
Those issues aside, we expect the regime to attract domestic and foreign investment and introduce an internationally competitive framework for venture capital and other investments.
For those looking for investors – this has to be good news.