In keeping with our monitoring of issues in both emerging markets and the developed markets that so often shape reforms elsewhere, this tenth issue of the EMPEA Legal and Regulatory Bulletin looks at developments impacting investors in South Asia, the Middle East, China and Europe.

Orrick, Herrington & Sutcliffe’s John Shehata comments on Egypt’s efforts to liberalise its econ-omy since the removal of the Morsi-led government from power in July 2013. He catalogues progress towards the creation of a more favorable investment environment, including the lift-ing of restrictions on repatriating foreign currency, and recommends areas for further reform.

Darshika Kothari and Aditya Jhaveri of the Indian law firm AZB & Partners provide guidance on recent regulatory developments in India aimed at building investor confidence, including last year’s overhaul of the country’s company law regime, the Securities and Exchange Board of India’s proposal to rationalise investment routes into India and amendments to angel fund regulations.

Moving east, the Bulletin explores issues of fraud and entrepreneurialism in China. Violet Ho of Kroll Advisory Solutions draws from the firm’s recent Global Fraud Report 2013/2014 to provide insight on the mindset of entrepreneurs in China, illustrating a universally applicable rationale for conducting in-depth investment due diligence when investing in businesses in emerging markets.

In our continuing coverage of the far-reaching European Alternative Investment Fund Managers Directive (AIFMD), we focus on the circumstances in which European and non-European private equity fund managers are able to market their funds under national placement rules across Europe. The Bulletin informs readers of a wealth of materials produced by the European Venture Capital Association (EVCA) on this topic.

Finally, we are pleased to report that efforts to put the EMPEA Legal & Regulatory Guidelines into practice continue to grow with the translation of the Guidelines into two additional languages: Arabic and Burmese, with a French version currently available. The EMPEA Legal and Regulatory Council is also pleased to welcome two new Council members who we hope will help us influ-ence the impact of global regulatory developments on the asset class and enhance members’ understanding of the same. They are William Hay of Baring Private Equity Asia, based in Hong Kong, and Oliver Rochman of Proskauer Rose, based in Boston.

We invite EMPEA Members and non-members alike to explore regulatory and other issues facing the private equity industry at EMPEA’s Global Private Equity Conference in Washington, DC on May 12-15. We also look forward to engaging with private equity practitioners focused on South Africa at the Private Equity in Southern Africa Conference, presented by SAVCA, FT Live, and EMPEA on February 11.

In the interim, we welcome your comments and suggestions, which can, as always, be shared with Jennifer Choi at choij@empea.net. Given our renewed focus on advocacy efforts, we are particularly interested in hearing from you on issues in your country or a target country where you feel industry advocacy efforts could bear fruit.

A very happy new year to you all.

Mark Kenderdine-DaviesGeneral Counsel and Company Secretary, CDC Group plcChair, EMPEA Legal & Regulatory Council

A Publication of the Emerging Markets Private Equity Association

Issue No. 10 – Winter 2014

Legal & Regulatory Bulletin

Contents

India Regulatory Update .....3

The Way Forward for Private Equity in Egypt ....................8

Pre-empting Fraud: Understanding the mindset of the Chinese entrepreneur and how business in done in China ............................11

AIFM Directive Implementation: Fund Marketing .................13

EMPEA's Fundraising Masterclass Series .............14

1077 30th Street NW, Suite 100 Washington DC 20007 USAPhone: +1.202.333.8171 Fax: +1.202.333.3162 Web: empea.org

About EMPEA

The Emerging Markets Private Equity Association (EMPEA) is an independent, global membership association whose mission is to catalyze the development of private equity and venture capital industries in emerging markets. EMPEA’s 300+ member firms share the belief that private equity can provide superior returns to investors, while creating significant value for companies, economies and communities in emerging economies. Our members include the leading institutional investors and private equity and venture capital fund managers across developing and developed markets.

1077 30th Street NW • Suite 100 • Washington, DC 20007 USAPhone: +1.202.333.8171 • Fax: +1.202.333.3162 • Web: empea.org

Publication Editorial Team

Jennifer ChoiVice President, Industry and External Affairs

Katryn Bowe Industry Relations Associate

Production Assistance Ben Pierce Pierce Designers

To learn more about EMPEA or to request a membership application, please send an email to info@empea.net.

EMPEA Legal & Regulatory CouncilMark Kenderdine-Davies (Chair) CDC Group plc

Benjamin Aller SJ Berwin

David Baylis Norton Rose

Carolyn Campbell Emerging Capital Partners

Folake Elias-Adebowale Udo Udoma & Belo-Osagie

Laura Friedrich Shearman & Sterling LLP

William Hay Baring Private Equity Asia

Kem Ihenacho Clifford Chance

Geoffrey Kittredge Debevoise & Plimpton LLP

Prakash Mehta Akin Gump Strauss Hauer & Feld LLP

Zia Mody AZB & Partners

Peter O’Driscoll Orrick, Herrington & Sutcliffe LLP

Paul Owers Actis

Oliver Rochman Proskauer Rose LLP

Mara Topping White & Case LLP

Jordan Urstadt Capital Dynamics

Solomon Wifa O’Melveny & Myers

Disclaimer: This material should not be construed as professional legal advice and is intended solely as commentary on legal and regulatory developments affecting the private equity com-munity in emerging markets. The views expressed in this bulletin are those of the authors and not necessarily those of their firms. If you would like to republish this bulletin or link to it from your website, please contact Holly Freedman at freedmanh@empea.net.

© 2014 Emerging Markets Private Equity Association. All rights reserved. The EMPEA Legal & Regulatory Bulletin is a publication of the Emerging Markets Private Equity Association (EMPEA). Neither this publication nor any part of it may be reproduced, stored in a retrieval system, or transmitted in any form or by any means—electronic, mechanical, photocopying, recording or otherwise—without the prior permission of EMPEA.

EMPEA Legal & Regulatory Bulletin Winter 2014 3

The Indian economy has been famously dubbed the elephant economy. Lately, the fabled elephant has unfor-tunately been bogged down by shackles. Criticism from the investor community suggests that India’s legal and regulatory systems have not kept pace with business and the requirements of an increasingly globalized economy. In response, the Government has recently taken significant steps to seek to remedy this situation. Noteworthy amongst these steps is a long overdue overhaul of the existing com-pany law regime, proposed rationalization of investment routes into India, recognition of certain previously prohib-ited exit rights in investment agreements and formulation of regulations to govern angel funds. These recent develop-ments should help in building investor confidence and are discussed in greater detail below.

The Companies Act, 2013 – A perspective for investorsThe Companies Act, 2013 (“2013 Act”) received the President’s assent on August 29, 2013 and is now in the statute book. The 2013 Act intends to replace a five decades-old law and has ushered in a new era in corporate law and governance. Currently only 99 out of 470 sections have been made operative. It is expected that the remaining provisions will be made operative in a staggered manner.

Provisions under the old company law that correspond to the 99 operative sections under the 2013 Act have ceased to have effect. However, all other provisions under the old law continue to remain in force during the transitional period.

Guiding principlesThis legislation will have far reaching consequences for corporates undertaking business in India, now and in the future. The dominant themes that cut across many of the provisions of the 2013 Act are increased transpar-ency, better corporate governance, a strong protection of shareholder interest, external party accountability (such as auditors, practicing company secretaries) and mandatory

India Regulatory UpdateBy Darshika Kothari & Aditya Jhaveri, AZB & Partners, Advocates & Solicitors

“Criticism from the investor community suggests that India’s legal and regulatory systems have not kept pace with the requirements of an increasingly globalized economy. The Government has recently taken significant steps to remedy this situation”

© 2014 Emerging Markets Private Equity Association4

corporate social responsibility. To tie in all these ends, the 2013 Act prescribes the creation of a National Company Law Tribunal, a specialist body that will enforce and regu-late the provisions of the 2013 Act.

An important concept that emerged under the 2013 Act is progress from shareholder supremacy towards stakeholder supremacy, where the stakeholders in relation to a com-pany are much broader than shareholders. The 2013 Act codifies that the duties of a director would extend to act-ing in the best interests of the company, its employees, the shareholders, the community and protection of the envi-ronment. This principle is prevalent across multiple aspects under the 2013 Act.

Corporate governanceIn the last decade, corporate India has been rocked by scan-dals and controversies relating to corporate governance. The policy-makers have tried to plug these gaps and make all stakeholders accountable. The severity of penalties prescribed for non-compliance has been increased consid-erably as compared to the earlier company law. The 2013 Act has introduced the concept of fraud in relation to the affairs of a company. It makes fraud punishable with pecu-niary fines of up to three times the amount involved and up to a maximum of ten years imprisonment. Incidents of non-compliance under a number of sections of the 2013 Act have penalties linked to that of fraud. An "officer in default" could now potentially include investor nominee directors, if such directors are aware of a contravention mentioned in the board meetings or in board papers and do not object or participate or consent to such contravention. To safeguard against liability, investors would be well advised to cause the promoters and investee company to designate specified individuals of investee companies as officers in default or compliance officers.

A typical form of exit investors often rely on is a public offering of securities. The 2013 Act increases the liability of directors in relation to the prospectus for a public offering and this would translate to heightened liability for investor nominee directors. Directors can no longer avoid liability by relying on statements of experts or by claiming that there were reasonable grounds to believe that statements in the prospectus were true. The members and depositors of a company have been empowered to initiate class action pro-ceedings if they believe that the management or affairs of the company are being conducted in a manner prejudicial to their interests.

The emphasis on corporate governance is significant. The 2013 Act contains detailed provisions on the roles and responsibilities of independent directors and auditors. Checks and balances have been imposed in relation to inde-pendent directors and auditors with a view to act as a check

on the impairment of their independence. Restrictions have been imposed on loans, guarantees and security to directors and persons in whom directors are interested. Furthermore, a higher degree of scrutiny and more stringent approvals have been prescribed for related party transactions, as compared to the old law.

Mergers and acquisitionsThere has been an attempt to make the M&A landscape more straightforward. In terms of cross-border transac-tions, Indian companies have now been allowed to merge with foreign companies located in specified jurisdictions (to be notified). This was previously not permissible. This route could be used to migrate ownership to an international holding structure, increase access to foreign markets and provide exits to investors. Further, in cases where a listed company merges into an unlisted company, the transferee company can remain unlisted, provided that the members of the transferor company are provided with an exit option with cash or other benefits in accordance with a pre-deter-mined price formula (in the manner as may be prescribed).

Structuring considerations for investorsThe 2013 Act limits the ability of a company to make investments through more than two layers of investment companies in India, subject to certain exceptions. Investors often prefer to take an exposure at the holding company level, so as to derive value from the entire target group. Investors will need to factor in this restriction when struc-turing investments. Another factor that investors will need to bear in mind when structuring investments is that the 2013 Act equates private companies with public companies in many aspects. This was not the case under the old law. One such example is in relation to differential rights as to dividends or voting. Under the old law, public companies were required to comply with additional rules regarding shares with differential rights while there was no such restriction on private companies. The new law treats private companies at par with public companies in this regard.

Free transferability of sharesThere has been considerable debate and conflicting juris-prudence from various courts in India as to whether any restrictions can be imposed on the transferability of shares in a public company. The 2013 Act lays this issue at rest by explicitly upholding the validity of such contracts. It would now be possible to contractually agree on terms such as a right of first refusal, a right of first offer, tag along rights and call and put options in the case of a public company. This is a welcome change for the investor community.

Corporate social responsibilityThe 2013 Act provides for mandatory corporate social responsibility. It provides that all companies having a net-worth of INR 5,000 million or more, turnover of INR 10,000

EMPEA Legal & Regulatory Bulletin Winter 2014 5

million or more, or a net profit of INR 50 million or more in a financial year are required to spend at least 2% of the average net profits in the last three years towards permitted social causes. Way forwardOver 300 sections of the 2013 Act are subject to the issu-ance of further rules. This will entail a lot of moving parts to the legislation. Moreover, rulemaking is delegated to the bureaucracy and does not have the discipline of parlia-mentary debate. Six sets of draft rules have already been issued for public comments and it will need to be seen how this eventually pans out. Rules in relation to the National Company Law Tribunal and the National Company Law Appellate Tribunal have been finalized and await notification.

In conclusion, while the 2013 Act attempts to keep the cor-porate law current and up to speed with changing times, it will only be fair to pass a final verdict after the complete regulatory framework has been put in place. Transitioning from the old company law to this new legislation will require India, Inc. to streamline its practices and processes and it remains to be seen how soon corporates will be able to ready themselves.

Rationalization of investment routes into IndiaAlong with the attempt at streamlining corporate law, the Government has also sought to simplify investment routes into India. There are broadly three routes for foreign invest-ment in India of which the two major routes are foreign direct investment and foreign portfolio investment. Foreign direct investment has the connotation of establishing a last-ing interest in an enterprise for the long term, while foreign portfolio investment is primarily targeted towards investing in listed shares through exchange trades and is generally con-sidered short term capital. On January 7, 2014, the Securities and Exchange Board of India (“SEBI”), the capital markets regulator, has issued the SEBI (Foreign Portfolio Investors) Regulations, 2014 (“FPI Regulations”). The FPI Regulations introduce a new regime for foreign investors investing in India under the foreign portfolio investment route.

Pursuant to the FPI Regulations, a new class of investor known as foreign portfolio investors (“FPIs”) has been put in place. This new class of investors merges the two earlier categories of foreign investors making portfolio investment, i.e. foreign institutional investors and qualified foreign investors.

The key eligibility criteria prescribed for applicants seeking registration as an FPI includes: (i) the applicant is not resident in India and is resident in a country whose securities market regulator is a signatory to the International Organization

of Securities Commission’s multilateral memorandum of understanding or who has signed a bilateral memorandum of understanding with SEBI, (ii) in case the applicant is a bank, such entity is resident of a country whose central bank is a member of the Bank for International Settlements, (iii) the applicant is not resident in a country identified in the public statements of the Financial Action Task Force as a jurisdiction having deficiencies, including in relation to anti-money laundering or the financing of terrorism, (iv) the applicant is permitted to invest in securities outside the country of its incorporation and its charter documents permit the applicant to invest on its own behalf as well as on behalf of its clients, and (v) the applicant has sufficient experience, good track record, is professionally competent, financially sound and has a generally good reputation of fairness and integrity.

The FPI Regulations provide that existing SEBI registered foreign institutional investors and qualified foreign inves-tors will not be required to register as FPIs until the expiry of their residual term for which they have paid registration fees to SEBI. Upon the expiry of the residual period, such entities will be required to pay the prescribed conversion fees and obtain registration as FPIs in order to continue to make foreign portfolio investments in India. That said, all foreign institutional investors and qualified foreign inves-tors are required to comply with the provisions of the FPI Regulations with effect from January 7, 2014.

The FPI Regulations provide simpler entry, monitoring and reporting norms and provide for a cost effective framework for FPIs to operate within. Every applicant is required to reg-ister itself under one of the following three FPI categories:

(i) Category I FPI - foreign governments and foreign govern-ment related investors;

(ii) Category II FPI - regulated broad based funds, appropri-ately regulated entities, broad-based funds whose invest-ment manager is appropriately regulated, university funds, university related endowments, pension funds etc.; and,

(iii) Category III FPI - a residual category of investors that does not fit within (i) and (ii) above, such as endowments, charitable societies, foundations, corporate bodies, trusts, individuals and family offices.

SEBI has proposed a risk based "know your client" (KYC) approach for FPIs as per their categories. FPIs are required to register with designated depository participants on behalf of SEBI and not directly with SEBI, as was the case earlier with foreign institutional investors. Simplification of the registration process is a positive step and will make it easier for foreign portfolio investors to invest in India.

© 2014 Emerging Markets Private Equity Association6

These regulations come at an opportune time as a lot of concerns have been raised regarding the flight of foreign funds away from the Indian capital markets.

Put/call options and preemptive rights for investorsIn another significant development, the SEBI issued a noti-fication on October 3, 2013, permitting pre-emptive rights such as tag-along/drag-along rights, rights of first refusal, rights of first offer and call and put options in investment agreements of public limited companies. This marks a major shift in SEBI’s stance. SEBI in the past had steadfastly stuck to its position that such provisions were in contravention of the law. Until recently, the enforceability of such provisions with respect to public companies was not free from doubt. The SEBI notification has some riders attached. It has been stipulated that the selling party of a put option must hold the title and ownership of the underlying securities for a mini-mum of one year from the date of entering the contract, the consideration paid on the exercise of any option must be in compliance with the rel-evant guidelines for pricing as are stipulated by SEBI and the Reserve Bank of India (“RBI”), India’s central bank, and the contract must also compulsorily be settled by way of actual delivery.

The RBI has issued a circular dated January 9, 2014, pursu-ant to which it has permitted optionalities (which intend to cover put options) in relation to equity shares, compulsorily convertible preference shares and compulsorily convertible debentures issued by Indian companies to persons resident outside India, subject to meeting with the minimum lock-in and pricing prescribed by the RBI. The guiding principle that the RBI has set forth is that foreign investors should not be guaranteed any assured exit price. The RBI was against put options because it believed that by virtue of such rights, foreign investors were able to achieve guaranteed returns on equity and therefore their investments were essentially debt masquerading as equity. Debt raised from foreign entities is required to comply with additional requirements as per RBI regulations.

In terms of pricing, the RBI has prescribed that the exit price in case of a put option on the equity shares of a listed com-pany will be the market price as determined on the floor of the exchange. In case of an unlisted company, the exit price pursuant to a put option of equity shares should be less than the Return on Equity (“RoE”) as per the latest audited

balance sheet. RoE has been defined to mean profit after tax divided by the net worth and net worth is to include free reserves and paid up capital. However, in case of compulsorily convertible preference shares and compulso-rily convertible debentures, the pricing for an exit by way of a put option can be arrived at as per any internation-ally accepted pricing methods as certified by a chartered accountant or SEBI registered merchant banker.

The RBI has put to end a long standing controversy regard-ing the use of put options by foreign investors. In case of equity shares of listed companies, the RBI has sought to link the exit pricing to the market price on the stock exchange,

which is an expected benchmark. However, this benchmark could perhaps be prone to abuse as compared to the earlier pricing benchmark of the higher of 26 weeks or 2 week average of the weekly high and low closing prices quoted on the stock exchange. In the case of a put option of com-pulsorily convertible preference shares and compulsorily convert-ible debentures it seems that there

is a fair amount of latitude provided to parties to determine the exit pricing. However, the exit pricing prescribed in rela-tion to unlisted equity shares seems to be restrictive.

The minimum price at which a foreign investment can cur-rently be made in unlisted equity shares is determined on the basis of the discounted cash flow valuation of the equity shares. The discounted cash flow valuation takes into account the future performance of the company based on specified variables. An RoE valuation takes into account the historical returns made on the equity investment. Accordingly, when an investment has been made on the basis of the discounted cash flow value, determining the exit pricing pursuant to a put option on the basis of the historical return on equity may be restrictive in certain cases and may not convey the actual fair value of the equity shares.

The RBI has further stipulated that all existing contracts will need to comply with the above mentioned lock in and exit pricing conditions to qualify as compliant with exchange control laws. Accordingly, it will need to be assessed whether existing contracts need to be amended or not.

Recognition of put options by the SEBI and RBI is a welcome move for foreign investors and has provided much needed clarity after many years. That said, the pricing stipulations imposed by the RBI in the case of a put option of unlisted equity shares may prove to be restrictive.

“The Foreign Portfolio Investors Regulations provide simpler entry, monitoring, and reporting norms, as well as a cost effective framework for FPIs”

EMPEA Legal & Regulatory Bulletin Winter 2014 7

Angel Funds In May 2012, SEBI had first issued regulations for govern-ing alternative investment funds (“AIF Regulations”). On September 16, 2013, SEBI amended the AIF Regulations to provide for the recognition of angel funds as a distinct invest-ment class within the alternative investment funds regime. While some argue that the regulations for angel funds are needlessly prescriptive, the fact that SEBI has recognized angel funds as a separate class is itself a welcome move.

The amended AIF Regulations provide that investors who propose to invest in an angel fund should have early stage investment experience or experience as a serial entrepre-neur or be senior management professional with at least 10 years experience. Individual investors who propose to invest in an angel fund will be required to have net tangible assets of at least INR 20 million. Corporate entities that pro-pose to invest in an angel fund will be required to have a net worth of INR 100 million or be an alternative invest-ment fund/ venture capital fund registered with SEBI. Angel funds should have a minimum corpus of INR 100 million and the minimum investment by an investor in any angel fund should be INR 2.5 million. The sponsor/ investment man-ager of an angel fund should maintain a continuing interest of not less than 2.5% of the corpus of the angel fund or INR 5 million, whichever is lower.

To ensure that investments made by angel funds are genuine angel stage investments, angel funds will only be permit-ted to invest between INR 5 million and INR 50 million in investee companies, and such amounts will be locked in for a period of three years. Further, investments will only be permitted in investee companies that are: (i) incorporated in India and are not more than three years old, (ii) do not have a turnover exceeding INR 250 million, (iii) are unlisted, (iv) are unrelated to an industrial group whose group turn-over is in excess of INR 3,000 million, and (v) there is no family connection between the investee company and the investors proposing to invest in such investee company.

India generally lacks the depth in seed-stage and early-stage funding. Various studies have highlighted that there are numerous seed-stage companies in India that require fund-ing. Most of these companies approach venture capital funds. Institutional venture capital funds typically have a high ticket size and therefore these seed-stage companies sometimes have no choice but to raise funds from the unorganized mar-ket at a high cost. The framework provided by SEBI in relation to angel funds should help in boosting fundraising to cater to seed-stage and early-stage companies in India.

The India story going forwardAs per World Bank estimates, India is the 10th largest econ-omy in terms of nominal GDP. India’s GDP has grown at a compounded annual growth rate of 7.9% between 2003 and 2013. This marks a phase of strong growth despite the global financial crisis during 2008–2009. Growth has however recently slowed due to a variety of domestic as well as global factors. Structural reforms will be the key fundamental driv-ers to sustain the India story. One such structural reform is making the regulatory environment conducive to business, and the efforts outlines here are a step in the right direction.

About the Authors

“ Recognition of put options by SEBI and RBI is a welcome move for foreign investors, providing much needed clarity”

Darshika Kothari is a Partner at AZB & Partners, Advocates & Solicitors, India.

Aditya Jhaveri is an Associate at AZB & Partners, Advocates & Solicitors, India.

© 2014 Emerging Markets Private Equity Association8

Since the removal of the Morsi-led government from power in July 3, 2013, Egypt has started on a path of istikrar, istismar and istilam—stability, enhancement of entrepre-neurship, and safety and security of the state—that should bolster Egypt's economy. The EGX30, Egypt's key share index, hit a three-year high in early November, with the mar-ket up 20% over the previous two months. Private equity activity continues and local private equity players formed the Egyptian Private Equity Association (EPEA) in 2011. In the background of this economic activity, most Egyptians have been focused on the draft Constitution, which was overwhelmingly approved in a two-day vote on January 14 and 15, 2014. The approval of the draft Constitution will set the stage for Egypt to undertake further reforms to cre-ate a more favorable environment for private equity and venture capital.

The scope of the economic section of the Constitution is intended to better regulate and liberalize Egypt's economy. Article 27 of the draft Constitution states that the new economic system will aim at achieving prosperity and economic growth through sustainable development and social justice. If passed, it will commit Egypt's economic system to transparency, competitiveness, the promotion of investment, and the prevention of monopolies. Article 28 emphasizes that economic production and service- and information-based activities shall be considered the key components of the national economy. The state will commit to protecting them, increasing their competitiveness, and providing an environment that attracts investment. It also outlines the state’s responsibility to work on increasing pro-duction, encouraging exports and regulating imports. The Central Bank of Egypt took an important first step in the

The Way Forward for Private Equity in EgyptBy John Shehata, Orrick, Herrington & Sutcliffe LLP

Note: Mr. Shehata wishes to thank Mr. Sherif S. Samy, chairman of the Egyptian Financial Supervisory Authority, Mr. Omar S. Bassiouny, legal counsel of the Egyptian Private Equity Association, and Ms. Dalia Tadros, executive director of the Egyptian Private Equity Association, for the information they provided in connection with this article.

EMPEA Legal & Regulatory Bulletin Winter 2014 9

direction of a freer market when it issued a circular on January 6, 2014 lifting some of the restrictions on repa-triation of foreign currency established in early 2011 and thereby making it easier for companies and individuals to transfer euros and US dollars out of Egypt. A critical next step for Egypt will be the reform of Egypt's Company Law, which is no longer suited to the needs of domestic or for-eign investors.

Egypt’s Company Law Problems with Egypt's Company Law and the weaknesses of local courts cause most private equity and venture capital investors who make investments in Egyptian company to do so through vehicles incorporated outside Egypt1, choose for-eign law to govern their contracts, and provide that disputes will be resolved through international arbitration outside Egypt. To create a more welcoming environment for foreign direct investment, among other things, Egypt's Company Law must be updated to reflect international norms.

Company Law n. 159 of 1981 is one provision of the Company Law that requires urgent amendment. As currently in force,

Company Law n. 159 of 1981 requires that joint stock com-panies intending to offer shares to the public must offer at least 49% of the shares to Egyptian underwriters for a period of one month, unless an Egyptian founding shareholder has already acquired such percentage of shares prior to the pub-lic offering. In addition, a minimum of three shareholders are required at all times and employee participation in company management is mandatory through board membership, share ownership or the establishment of an administrative com-mittee selected from among the employees. Limited liability companies must have a majority partner (at least 51%) who is an Egyptian national or a legal entity incorporated under Egyptian law and fully owned by a local citizen, a minimum of two shareholders at all times, and at least one manager must be an Egyptian national. In all cases, the path to obtaining licenses and authorizations is neither linear nor rapid: minis-terial authorizations are often required and bureaucrats can attempt to extort money from license applicants.

Investment Incentives & Guarantees Law Another law that is due for an update is the Investment Incentives and Guarantees Law n. 8 of 1997, which is often referred to as providing exceptions to Company Law n. 8 of 1981. This law was intended to encourage foreign direct investments in Egypt in specific sectors: manufacturing and mining, logistics, tourism, medical facilities, oil services, infrastructure, and, interestingly, venture capital. At a mini-mum, the scope of its application should now be expanded to cover foreign direct investment in all sectors. The most important feature of the law is that it allows non-Egyptians to own 100% of Egyptian companies in the relevant sectors, as well as to nominate boards of administrators that do not include an Egyptian citizen. Licenses and permits required by foreign investors are also intended to be easier to obtain, and the General Authority for Investments has established a one-stop shop fully dedicated to assisting foreign inves-tors in obtaining the required permits promptly. Companies falling within Law n. 8 of 1997 can purchase properties, land and construct buildings and plants anywhere (with the exception of the Sinai region) as long as those assets are needed to implement the company's business in Egypt. The law also provides that in no cases can those companies be confiscated or nationalized and their assets cannot be subject to sequester, seizure or expropriation by any admin-istrative order. The Investment Incentives and Guarantees Law provides something of a blueprint for Company Law reform in Egypt generally, begging the question of why the protections and benefits currently granted by the law to foreign investors in specific sectors are not available to all investors —both foreign and domestic.

Notable Private Equity Deals in Egypt

1. June 2013: Actis invested US$102 million to acquire a 30% stake in Edita Food Industries

2. February 2013: Swicorp invested US$10 million in Orchidia Pharmaceutical Industries

3. September 2012: Beltone Private Equity invested US$2 million in Bio Pharma Egypt, a manufac-turer of nutritional supplements

4. August 2012: Capital Trust Group acquired a minority stake in Sakson Oil & Gas Group

5. April 2012: Capital Trust Group, structured through its fund Euromena II, acquired 51% of Al Oyoun al Dawli Hospital

6. March 2012: Venture capital firm Ideavelopers invested US$1.3 million in DrBridge, a health-care IT firm

1. Egypt is a signatory to the 1958 New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards, and the Egyptian Arbitration Law n. 27 of 1994 is closely modelled on the UNCITRAL model arbitration law.

© 2014 Emerging Markets Private Equity Association10

Corporate Governance Code Egypt's Corporate Governance Code of 2005 also deserves particular attention. Over the years, there have been sev-eral attempts at corporate governance reform in Egypt that led to the current version of Code of Corporate Governance. The Code is mainly based on OECD prin-ciples and has been firmly endorsed by the Ministry of Investments and the General Authority for Investments and Free Zones. The Code was incorporated into the Code of Corporate Governance for Listed Companies issued in February 2011. The Code for Listed Companies reflects international best practices and corporate governance standards. However, com-pliance with its rules, as with the Code of Corporate Governance, is voluntary, with the consequence that many companies do not fol-low either Code and there is no enforcement of the rules. Furthermore, the Code for Listed Companies is lacking a few key provisions even though it has been drafted with a view to adherence to international conventions. It does not contain sufficient measures to grant share-holders the right to timely and complete disclosure of company information, there are no provisions requiring the mandatory involvement of minority shareholders in important corporate decisions, and the rules governing related party transactions do not precisely describe the scope of their application or regulate related party trans-actions sufficiently.

Local Advocacy PrioritiesThe Egyptian Private Equity Association (EPEA) is advocat-ing for amendment of the Egyptian company and capital market laws in order to create a better environment for pri-vate equity deals. Among other things, EPEA is focused on amendments to the Egyptian Capital Markets Law (Law n. 95 for 1992) and its Executive Regulations, including (i) a new chapter in the Executive Regulations of the Capital Markets Law specifically regulating the establishment, registration and operation of private equity funds, asset managers and other fund management vehicles, (ii) a set of rules that

amend the regulatory framework for investors’ subscription in funds and the transfer of rights and shares between inves-tors, (iii) the simplification of the regulatory framework in connection with the evaluation and pricing of the underly-ing assets of a fund, (iv) a clearer set of rules for the duties of fund managers, and (v) a simplification of the formation process for new Egyptian funds. EPEA is also focused on supporting amendments to the Company Law that would establish the recognition of common provisions in private equity transactions, including drag-along and tag-along rights, senior ranking for debt and senior equity holders in liquidations, step-in rights, and rights of first offer.

Taxation remains an important positive feature of investing in Egypt. The maximum tax rate applied to corporate profits is 25%. The Investment Incentives and Guarantees Law provides some additional benefits to foreign investors falling within its scope: custom duties can be discounted to a rate of 5%, and corporate profits can be nearly exempt from taxes if a company is based in a free trade area.

In 2007, Goldman Sachs named Egypt one of the N-11, which are

eleven countries that have a high potential of joining the ranks of the world’s largest economies in the 21st century, and in 2009, the Economist Intelligence Unit ranked Egypt as a member of the CIVETS, the six most favored emerging markets. Egypt now has an opportunity to fulfill that promise and to build a market in which private equity and venture capital can flourish, but it will only succeed if the government applies itself to amending the Company Law, revising the Code of Corporate Governance and taking the other steps required to encourage domestic and foreign investment.

“Egypt has an opportunity to build a market in which PE can flourish, but it will only succeed if it amends the Company Law, revises the Code of Corporate Governance, and takes further steps to encourage domestic & foreign investment”

About the Author

John Shehata is Special Counsel at Orrick, Herrington & Sutcliffe LLP.

EMPEA Legal & Regulatory Bulletin Winter 2014 11

Although China remains an attractive destination for private equity investors, it has gained a reputation as a market where contracts are often treated more like vague notions than bona fide agreements. Kroll commissioned the Economist Intelligence Unit to carry out the Annual Global Fraud Survey, which found that fraud continues to be per-vasive in China, with 67% of senior executives based in China reporting they were affected by fraud in 2012 – 2013. The study also found the average percentage of revenue lost to fraud across industries in China rose 50% from 0.8% in 2011-2012 to 1.2% in 2012-2013.

While all investors face fraud risk in China, regardless of their geographic origin or investing strategy, private equity investors often have limited legal recourse because private equity investments in China tend to be minority positions. It is therefore critical that private equity investors understand the Chinese culture of doing business and the mindset of the Chinese entrepreneur.

Familism and Guanxi Chinese entrepreneurship has for centuries been built upon two attributes of Chinese society: (1) familism and (2) guanxi. These cultural practices in turn shape the nature of fraud and inform the precautions foreign investors should employ.

Familism is the social convention that prioritizes the entire family above the needs of individual members. Familism has great influence on business decisions in Chinese society, par-ticularly since many of China’s companies are family-based. Foreign management may find it hard to penetrate this circle of trust and loyalty, making it challenging to enforce corpo-rate governance standards or select business decisions.

Guanxi refers to personalized networks of influence and reciprocity that individuals and businesses possess. Guanxi is a central foundation in Chinese society; such informal relationships, including those with the Chinese government, govern almost every aspect of social and business interac-tions. Entrepreneurs call upon guanxi to execute or enhance a range of business transactions. For example, an entrepre-neur with well-developed guanxi may receive licenses or a loan approval more rapidly than a less connected competitor. It is essential for investors to investigate the precise favors or exchanges the entrepreneur calls upon and issues via his informal network. The relationship between guanxi and

fraud is complex; a firm that exhibits these advantageous connections may or may not be engaging in fraudulent practices. Investors should also pay close attention to how the entrepreneur developed his guanxi, particularly relation-ships with government counterparts. Is it an institutional alliance based on operational strength and contributions to the local economy, or one based on bribery?

Understanding the mindset of a Chinese entrepreneurFirst-generation Chinese entrepreneurs, partly because they often come from humble beginnings, are highly ambitious and willing to take risks if they sense a maximum pay-out on their investments. This propensity towards risk taking may not change when the private company transitions to a listed and/or international company, which could create corporate governance challenges. Indeed, 21% of compa-nies based in China feel highly vulnerable to management conflict of interest, according to the 2013/14 Kroll Global Fraud Report.

Recognizing the tell-tale signs of fraudWhen investing in the “China story,” investors should not be consumed by an entrepreneur’s ambitious pitch until they can corroborate the story. When something sounds too good to be true, investors need to dig deeper.

Fraud channeled through third parties is very common in China, with 18% of firms based in China reporting that they are highly vulnerable to vendor, supplier or procurement fraud1. A foreign investor, for example, may believe a partic-ular acquisition is legitimate and revenue-generating, when it is actually an over-priced purchase of a business owned by an entrepreneur’s family. Such schemes are a simply a conduit to channel funds back to the entrepreneur’s pocket. They take multiple forms and complexity, so it is important for an investor to confirm the veracity of intermediary con-tracts and acquisitions a Chinese entrepreneur pursues.

Potential investors should also question sales and rev-enue figures, as well as relationships with distributors. For example, a multinational client in the retail sector – who was once impressed by the double-digit sales growth of its China branch – appointed Kroll to investigate the large accounts receivable that were building up with distributors.

Pre-empting Fraud: Understanding the mindset of the Chinese entrepreneurBy Violet Ho, Kroll

1. Kroll Global Fraud Report 2013/14 (http://www.kroll.com/resources/reports/global-fraud-reports/).

© 2014 Emerging Markets Private Equity Association12

Kroll found that the China branch was simply mov-ing goods back and forth from its family-owned distributors. The contracts permitted the distribu-tor to return all unsold goods with no penalty. The illusion of profitability initially boosted the com-pany’s share price; however, share price dropped significantly once the story came to light.

In the West, many companies possess control mechanisms to limit such behavior. These include job rotations, authorization levels, segregation of duties, tendering processes for contracts and internal audits, and more importantly, regulatory requirements such as disclosure of conflicts of inter-est or external audits. To the extent these measures are in place in China, they may not be sufficient to remedy fraud. Junior employees rarely disagree with senior management, and internal authoriza-tion can be easily obtained when the entrepreneur’s family members are the other department heads.

Pre & Post-transaction checksFor foreign investors, conducting extensive and thorough reputation-focused due diligence before entering into a transaction is a priority. This must include a thorough background search on the partners, their business, and track record working with foreign investors.

The mistake many investors make is to rest on their laurels after the deal is done. Post-transaction, an investor should conduct an in-depth risk assess-ment of how the company mitigates or handles instances of fraud, bribery and corruption, money laundering, related-party transactions, and conflicts of interest. Based on the findings, appro-priate anti-fraud, anti-corruption measures can be put in place. A local team put in place by the head office should manage these measures, given the challenges mentioned above. Where satisfactory due diligence cannot be conducted before an acquisition, regulators now expect effective post-acquisition due diligence to identify the risks in a relatively short time after the deal. The primary objec-tive of the forensic due diligence is to evaluate the potential future loss in value resulting from inappropriate or unethi-cal business practices of the target. This analysis generally concentrates on specific areas, such as inventory and sup-ply chain management, consultancy and agency fees, travel and entertainment expenses, political and charitable dona-tions, and cash transactions.

China should not be a place that investors shirk in trepida-tion; rather, it is a vibrant place where intrepid investors

and entrepreneurs can do business for potentially a great reward, but only when done right.

About the Author

Violet Ho is a Senior Managing Director for Kroll’s Greater China Investigation & Disputes practice.

EMPEA Legal & Regulatory Bulletin Winter 2014 13

AIFM Directive Implementation: Fund MarketingThe European Private Equity and Venture Capital Association (EVCA) published an analysis of the circumstances under which European and non-European private equity fund managers are able to market their funds under national placement rules across Europe as of 22 July 2013. This is the day the EU Alternative Investment Fund Managers Directive took effect in national law.

The EVCA memorandum examines how the AIFMD provi-sions pertaining to marketing private equity funds under national placement rules have been implemented and will apply across the European Union.

The December 2013 report from EVCA evaluates the follow-ing implications of the AIFMD marketing provisions:

• The possibility for third-country funds to be marketed to investors in various jurisdictions (or the extent to which third-country funds can be marketed to investors in various jurisdictions);

• Local interpretation of the term “marketing”;

• When the Directive will be transposed into national law, and advice on whether to heed existing domestic law or the AIFM Directive if transposition is not yet complete;

• The relevance to investors who are established in a jurisdic-tion but who are not physically located there at the time marketing takes place;

• Restrictions on pre-marketing;

• The conditions under which a fund manager can rely on a “grandfather” provision (delaying compliance with certain AIFMD requirements) once the Directive is in effect;

• Additional domestic restrictions on marketing fund inter-ests after the transitional period, if any, expires;

• Registration/notification requirements with the national EU competent authorities; and,

• Interpretation given to marketing initiated by the investor, i.e., “active” versus “passive”

As not all EU Member States have finished transposing the AIFMD into national law, the analysis focuses on the sixteen countries that, as of July 2013, had completed (or are close to completing) the transposition. Switzerland is included for comparative purposes.

“AIFM Directive Implementation Fund Marketing” is available for download, free, at http://www.evca.eu/uploadedfiles/EVCA_AIFMD_Fund_Marketing_Guide.pdf

Other EVCA publications that may of interest include:

• AIFMD Third Country: a simple introduction to the impact of the EU’s AIFMD on non-European GPs and LPs (published December 2013). http://www.evca.eu/uploadedfiles/EVCA_AIFMD_third_Country_Paper.pdf

• AIFMD Essentials (published July 2013). http://www.evca.eu/uploadedfiles/EVCA_AIFMD_Essentials_2013.pdf

The application/implementation of the AIFMD marketing rules is detailed on a country-by-country basis, and according to the following four scenarios:

1. Fund Managers outside the European Economic Area (EEA) who are marketing non-EEA Funds under Article 42 (i.e. no AIFMD passport)

2. Fund Managers inside the EEA who are marketing non-EEA Funds under Article 36 (i.e. without a passport)

3. Marketing by sub-threshold Fund Managers who are subject to domestic registration or authoriza-tion only in their home Member State

4. Marketing AIFs (both EEA and non-EEA) by Fund Managers inside the EEA relying on transitional relief under Article 61

© 2014 Emerging Markets Private Equity Association14

EMPEA’s Fundraising Masterclass Series

EMPEA is delighted to highlight the continued success and expansion of the Fundraising Masterclass Series, with recent Masterclasses in Mumbai and Hong Kong, in addi-tion to the annual Masterclass programs in Washington, D.C. and London. This popular addition to EMPEA’s training and professional development programming provides fund managers with practical tools and best practices for fun-draising in emerging markets, with each local Masterclass tailored to specific regional needs. These events have drawn both first-time and experienced fund managers who engage with an expert faculty of practitioners to discuss current hot topics in fundraising, including how to navi-gate the longer fundraising cycle, manage complex investor diligence requirements, and avoid common pitfalls when pitching potential LPs.

We were delighted to roll this event out for the first time across Asia in 2013 and early 2014, and were thrilled to

have the generous and continued support of Debevoise & Plimpton LLP and Berchwood Partners across both the Mumbai and Hong Kong events. These events also pro-vided an excellent opportunity for collaboration with local partners such as the Indian Private Equity & Venture Capital Association and Hong Kong Venture Capital and Private Equity Association, whose support and involvement at these events was extremely additive. EMPEA looks forward to another successful year of Fundraising Masterclass programming, so please mark your calendars for the 2014 Fundraising Masterclass in Washington, D.C., which will take place on May 15, 2014, following the 16th Annual IFC Global Private Equity Conference in association with EMPEA on May 12-14, 2014. The Washington, D.C. Masterclass will once again be pre-sented with the support of Debevoise & Plimpton LLP and MVision Private Equity Advisers.

For more information on EMPEA’s Fundraising Masterclass Series, please visit http://www.empea.org/events-education/training/em-pe-fundraising-masterclass/.

Fundraising Masterclass, Hong Kong

Fundraising Masterclass, London

EMPEA Legal & Regulatory Bulletin Winter 2014 15

EMPEA Consulting Services Product LinesEMPEA Consulting Services offers three product lines: white papers, case studies and custom research.

White Papers

White papers enable fi rms to educate investors and stakeholders on a given opportunity set. As an outsourced provider, EMPEA Consulting Services can fl exibly respond to requests for independent, authoritative third-party coverage of specifi c topics, markets and sectors, as well as “ghost write” content to be marketed under the client’s brand.

Prior work includes white papers on distressed investing and sector-specifi c opportunities in emerging market regions.

Case Studies

Case studies highlight a fi rm’s prior investments and enable:

Investor relations teams to communicate the fi rm’s story while fundraising;

Deal teams to articulate to business owners the merits of partnering with their fi rm; and,

Firms to generate awareness of portfolio companies ahead of exit.

The Consulting Services team can work with you to design fi rm-specifi c templates for your case studies, helping to build your brand.

Custom Research

Custom research leverages EMPEA’s emerging markets private equity data, global network and internal domain expertise to provide answers to clients’ specifi c questions.

Examples of requests include market and sector analyses to inform follow-on fund strategies and GP market maps.

Consulting Services

EMPEA Consulting Services supports our member fi rms and industry clients by expanding the capacity of chief strategy and investment offi cers, investor relations teams and dealmakers.

For more information or to begin a project with EMPEA Consulting Services, contact the team at any time via email at consulting@empea.net or by phone at +1 202 333 8171. EMPEA Members receive priority service and discounted pricing.

Contact EMPEA Consulting Services

© 2014 Emerging Markets Private Equity Association16

Foundedin2004byahandfulofvisionariesatthe heart of the emerging markets private equity and venture capital industry, the Emerging Markets Private Equity Association (EMPEA) is a non-profit, independent, membership organization.

Our 300-plus member firms share in the belief that private equity can provide superior returns to investors while creating significant value for companies, economies and communities in emerging markets. With access to an unparalleled global network, EMPEA provides its members a competitive edge for raising funds, making good investments and managing exits to achieve superior returns.

Formoreinformation,visitwww.empea.organdfollowusonTwitter @EMPEA.

The EMPEA Edge

EMPEA powers the emerging markets private equity marketplace by delivering unparalleled intelligence and market data upon which investment decisions are being made every day.

Membership Benefits Include:

• GlobalConferencesDiscountedRates

• EMPEAMembers-OnlyReceptionsandGlobalNetworkingEvents

• FreeAccesstoEMPEAProfessionalDevelopmentWebcastSeries

• Data Insights Covering All the Major Emerging Markets Regions, Plus Brazil,China and India

• QuarterlyEMPEDataandIndustryStatistics,PlusAnnualFundraisingandInvestment Review

• EMPEA Legal & Regulatory Bulletin Subscription

• Limited Partners Surveys

• EMPEAMemberDirectoryAccessandFirmProfileListing

• And more!

Join EMPEA at our upcoming webcasts and conferences!

Measuring and Benchmarking Private Equity PerformanceAn EMPEA Professional Development Webcast with Capital Dynamics and HEC SchoolofMgmt.Prof.OliverGottschalg 11 March 201410:00 (Washington)/14:00 (London)/22:00 (HongKong)

4th Annual Institutional Investors-Only SummitHostedbyIFCandEMPEA12 May 2014The Ritz-CarltonWashington, DC

EMPEA’s Members-Only Reception and 10th Anniversary Dinner12 May 2014TheWestinGeorgetownWashington, DC

IFC’sGlobalPrivateEquityConferencein association with EMPEA13-14 May 2014The Ritz-CarltonWashington, DC

EMPEAFundraisingMasterclassPresented with Debevoise & Plimpton and MVision Private Equity Advisers15 May 2014The Ritz-CarltonWashington, DC

Formoreinformationandtoregister, visit www.empea.org.

Our 300+ member firms

represent nearly 60 countries and

over US$1 trillion inassets under management.