January 12, 2024 (Preqin News) – Nine years since the launch of the European Long-Term Investment Fund (ELTIF), a European Union mechanism conceived to increase non-bank financing for companies investing in the ‘real economy’, changes aimed at boosting the framework’s uptake were applied this week.
As ‘ELTIF 2.0’ enters circulation, we review the background to the mechanism, what’s changing, and explore what might happen next.
Background
The EU introduced the ELTIF framework in 2015, aimed at allowing both retail investors and professionals to invest in ‘real economy’ projects requiring long-term capital.
Qualifying funds were restricted to investing in unlisted companies in areas such as infrastructure – particularly transport and energy – and social infrastructure (schools, hospitals, etc.). They could also invest in listed small- and medium-sized enterprises (SMEs), which need long-term capital to develop intellectual property and other intangible assets.
Under the original ELTIF framework, guidelines that funds must follow included:
Invest a minimum of 70% of the fund’s capital in eligible asset types.
Be authorized under the Alternative Investment Managers Directive (AIFMD).
Limit derivative use to strictly operational needs.
Have a specified timeframe during which time investors would not ordinarily be able to withdraw their commitments.
Meanwhile, investors had to commit a minimum of €10,000 ($10,946).
Why the change?
The uptake of ELTIF funds has been relatively muted. Estimates suggest that less than 100 ELTIF funds have been issued since the label was introduced, and only in a small number of member states. The aggregate size of net assets was estimated at approximately €2.4bn in 2021 by the European Parliament and Council of the European Union.
Steps to amend the ELTIF scheme commenced in 2020 when the European Commission (EC) announced its Capital Markets Union Action Plan, which included efforts aimed at increasing the attraction of ELTIFs to investors.
In November 2021, the European Commission adopted a package of measures that included proposals to ‘increase the attractiveness of ELTIFs for investors and their role as a complementary source of financing for EU companies’.
A political agreement on the proposals was reached in October 2022 and approved by the European Parliament in March 2023, with changes due to apply from January 10, 2024.
‘With ELTIF 1.0, they didn’t have a massive uptake,’ Amar Unadkat, Special Regulatory Counsel at international law firm Proskauer, told Preqin News. ‘And the reason for that is there are very prescriptive requirements; it’s difficult to comply with these stringent rules. So, the purpose behind ELTIF 2.0 is to gain a bit more traction for ELTIFs and to say, “if ELTIF 1.0 didn’t take off and we want these vehicles to have more uptake, let’s try and relax some of the requirements and make them more appealing to sponsors”, particularly where those funds are only going to be marketed to professionals and there is less regulatory risk.’
What are the details?
One of the most eye-catching changes is the removal of a retail investor minimum investment threshold, previously set at €10,000 ($10,946).
Other key changes include:
A requirement to invest a minimum of 55% in eligible assets (previously 70%).
An expansion to the definition of what qualifies as eligible assets.
A framework that will allow for redemptions before the end of the fund’s term.
An increase in the amount that can be invested in a single asset (rising to 20% from 10% previously).
Rise in the borrowing cap from 30% of the ELTIF’s capital: up to 50% of the ELTIF’s net asset value for retail investors, and to 100% for those ELTIFs that are reserved for professional investors only.
What happened this week?
January 10 was the date from which the revisions apply. However, a set of Regulatory Technical Standards (RTS) that will determine the details on issues such as the amended redemption framework and minimum holding periods are still pending finalization.
Following a consultation launched in May 2023, the European Securities and Markets Authority (ESMA) published its proposals for Level 2 RTS on December 19 last year (Level 1 RTS have already been incorporated) and will require agreement from the EC before being eligible for final approval from the European Parliament and Council.
What happens next?
The EC has up to three months to adopt ESMA’s Level 2 RTS proposals (although that period can be extended and the Commission could also request changes to the draft), after which the European Parliament and Council have another three months to review and approve them.
‘While the aim is that with ELTIF 2.0 there will be more uptake of ELTIFs, the RTS hasn’t come into force yet and exactly how it’s all going to look is still yet to be seen,’ said Proskauer’s Unadkat. ‘So, we’re still in a bit of an unknown. Certainly, the aim is that there should be more of an uptake and certain requirements have been relaxed under the new rules – but there’s still a bit of uncertainty.’
Importantly, the amendments also contain grandfathering provisions. ELTIFs that are authorized before the date of application of the amendments will be considered compliant for five years from the application date (although they can opt into the new regime earlier). The ELTIFs that were authorized before the date of application, and do not raise further capital, will be deemed compliant throughout the life of the fund.
The final word
‘It’s a movement in the right direction. Some of the more technical elements are still yet to be completely worked through but it's likely, at least initially, that interests in these vehicles will continue to be distributed through private banks and similar kind of networks, which naturally lend themselves to more high net worth retail investors,’ said John Verwey, Partner at Proskauer.
‘In terms of institutional investors and directing capital to the areas that some institutional investors have otherwise avoided, I think, similarly, it’s really whether the kite mark of an ELTIF will encourage people that otherwise weren't investing in that asset class to invest in it. I think that we just don’t yet know how much of a pull that could be. I certainly don’t think it’s going to hurt and I think the liberalization of requirements certainly push in the right direction.
‘Whether or not we’ll see a sea change? For the next 12–24 months, the jury's out, we just have to wait and see.’
The opinions and facts included within the above do not constitute investment advice. Professional advice should be sought before making any investment or other decisions. Preqin providing the information in this content accepts no liability for any decisions taken in relation to the above.