Private Funds as an Alternative Business Financing Tool

Business financing is the core of every business organisation. Whether you want to start a business, expand an existing one, implement new technology, develop new products, or make investments, financing is a key issue that needs to be carefully addressed. While banking is the predominant provider of business financing, businesses that are start-ups, thematic, intellectual property-centric or knowledge-based, innovative technology-based ventures and other non-traditional businesses often face challenges in accessing bank-based financing, largely due to the characteristics of bank financing which are often incompatible with these ventures. Lending with high collateral remains a key feature of bank lending and collateral is often lacking among newer and start-up businesses.

Businesses can explore alternative financing to bridge this gap. Notable examples of alternative financing are crowdfunding and peer-to-peer (P2P), private equity, venture capital, asset-based lending structures, factoring, private lending schemes, and collective investing. In recent years, we have also seen the merging of a new way of financing using cryptocurrency. In this article, we would like to share briefly on how private funds can be used as an alternative financing tool.

In general, funds may be categorised into public and private funds. Both funds are collective investment vehicles where the manager of the fund pools together the money invested by all the investors and uses this money to make investments on behalf of the fund. In general, most mutual funds are public funds where the initial investment amount requirement is low to enable the public at large to invest in these funds. Public funds are required to be properly registered with a relevant authority, managed by a licensed fund manager, and heavily regulated to protect investors’ interests. Private funds, on the other hand, may be unregistered and the regulations around them are often much looser than public funds. Due to the light regulatory touch on private funds, they are required in most jurisdictions to only deal with qualified, professional, sophisticated, or accredited investors and not solicit investments from the public at large or small investors. The initial investment amount for a private fund is often much higher, too. Although private funds are allowed more flexibility compared to public funds, managers of private funds are expected to uphold a high degree of professionalism and are also responsible for protecting the interests of investors.

The looser regulatory requirement on private funds enables businesses to use them as an effective fund-raising tool. Businesses may finance their ventures by establishing private funds to solicit investments from targeted investors. A private fund’s investment strategy may be set very broad, allowing the manager of the fund to make all investment decisions unencumbered by investment restrictions typically imposed on public funds by regulators. Its investment strategy can be tailor-made to meet specific non-conventional objectives by allowing investing in unlisted equities, joint ventures, contracts, notes, exchange-traded funds (ETFs), collective investment schemes, real estate, digital and alternative assets, and many more. Private funds may also be structured to accept subscriptions by investors not limited to fiat currency but to also include digital currencies, asset or share swaps, guarantees, and so on. Unlike soliciting financing from banks that often requires collaterals, or investment from private equity funds that take a controlling interest and engage actively in the management of the company or business, private funds can be structured with minimum interference to the business.

Private funds are not subject to public disclosures and enjoy more freedom in how everything is handled from reporting to redemptions. This allows private funds to look at illiquid investments and alternative assets that a public fund would shun due to the difficulties of regular valuation and liquidation in the case of rising redemptions. It is for this flexibility that many hedge funds are private funds. In addition to investment flexibility, private funds can also be vehicles of choice for managing family wealth and succession. Wealthy families can inject their businesses into private funds and use them as protection and succession vehicles where assets in these funds are unitised and can be subscribed, transferred, or redeemed by family members only. The mindset of investors investing directly with a company or business deviates largely from investors who are investing in a fund. The former will often evaluate very critically, the many factors that will affect the growth and profitability of a business before investing, while the latter may only consider the risk and attractiveness of the potential yield of a fund. This makes it relatively easier to attract investors using a fund structure.

Businesses and individuals in Asia that are interested to establish private funds may consider Labuan International Business and Financial Centre (Labuan IBFC). Labuan IBFC has robust legislations that allow private funds to be established and structured via a trust, company, partnership, protected cell company, or foundation. A private fund under the Labuan Financial Services and Securities Act 2010 is defined as a fund whose shares are:

  • Not offered to the general public, are owned by not more than 50 investors, and where the first-time investment of said investors is not less than RM250,000 or such other sum as may be prescribed by Labuan Financial Services Authority (Labuan FSA) or the equivalent in a foreign currency; or
  • Owned by any number of investors, where the first-time investment of each such investor is not less than RM500,000 or such other sum as may be prescribed by Labuan FSA or the equivalent in a foreign currency.

An Islamic private fund with a similar definition as the above and is in compliance with Shariah principles may be established in Labuan under the Labuan Islamic Financial Services and Securities Act 2010. Some of the key advantages of Labuan IBFC that allow individuals and businesses to establish and manage private funds for diverse purposes are as follows:

  1. Private funds are required to lodge their information memorandum only with Labuan FSA, therefore significantly shortening the time to market to raise funds unlike public funds that need to go through lengthy registration processes;
  2. Key information of a Labuan private fund is protected by law with no public searchable records. This confidentiality will be welcomed by many high-net-worth investors;
  3. There is no requirement to appoint a licensed fund manager to manage the fund’s investment. This opens up the opportunity to competent individuals and businesses to establish and manage their own private funds to meet their respective objectives with significantly lower operating costs; and
  4. Labuan IBFC has innovative financial and the most efficient taxation legislations that make it an ideal jurisdiction for establishing and managing private funds in Asia.

It will be advantageous to the business community to be familiar with all types of alternative financing options besides traditional bank financing. The flexibility offered by some of these structures may allow businesses to raise financing quickly, in a cost-efficient manner and retain a significant amount of control in running and growing their businesses.


Hiu Chee Fatt
Managing Director and Trust Officer
hiucf@amaxtrust.com

AMAX Trust & Advisory Limited (LL 16025)
(Licensed Labuan trust company)
1-23(A), First Floor, Paragon,
Jalan Tun Mustapha,
87008 Labuan, Federal Territory,
Malaysia.
Stay ahead of the game
Access a wealth of information from Labuan IBFC from reports on forward-thinking research to insightful articles.
Get in touch
Interested to setup your business in Labuan? Speak to our dedicated advisors to find out more.
Stay ahead of the game
Access a wealth of information from Labuan IBFC from reports on forward-thinking research to insightful articles.
Get in touch
Interested to setup your business in Labuan? Speak to our dedicated advisors to find out more.
Stay ahead of the game
Access a wealth of information from Labuan IBFC from reports on forward-thinking research to insightful articles.
Get in touch
Interested to setup your business in Labuan? Speak to our dedicated advisors to find out more.
Ooops!
Generic Popup