On June 23, 2016, Britain will hold a historic referendum to decide whether to remain in the European Union ("EU"). Media coverage has become even more frenzied as Eurosceptics and Europhiles exhaust every conceivable argument as to the pros and cons of leaving or staying in the EU.  What is much less certain, however, is what happens after June 23 if the British public vote in favour of leaving the EU.  The reality is that, until we know precisely what type of relationship with the EU the UK would re-negotiate in the event of a Brexit, it is impossible to say how exactly private equity firms and funds, and their portfolio companies, would be affected by Britain’s departure.  What is certain is that following an “out” vote, the uncertainty would continue as negotiations evolve over a period of years.

Post-Brexit Models

The spectrum of potential models on which the UK could base its new relationship with the EU ranges from a Norway-like arrangement, representing the closest possible post-Brexit relationship with the EU without actually being a member of the EU, to a trade-only arrangement, with the UK trading with the EU merely as a member of the World Trade Organization ("WTO").

Among the most commonly mentioned models are:

European Economic Area ("EEA") membership. This model would closely mirror the relationship Norway currently enjoys with the EU.  As a member of the EEA, Britain would pay a fee to preserve its access to the single market and to continue enjoying the benefits of free movement of goods, services, workers and capital.  However, although the UK would still be required to implement a large portion of EU legislation, it would lose all formal influence over the EU legislative process.

Switzerland-like arrangement ("EFTA"). This model would require Britain to apply to join the European Free Trade Association (EFTA) and then negotiate a raft of bilateral agreements with the EU governing UK access to the single market.  The substance and scope of these agreements would likely vary based on the sector to which the particular agreement applied.  Looking at the Swiss model, for example, the Swiss and the EU did not reach an agreement with respect to financial services and Swiss banks are required to operate in the EU through subsidiaries located in the EU.  The EU has labelled this model complex and flawed, making it less likely that it would agree to a similar approach in the event of a Brexit.

Turkish model. This model would mirror the customs union currently in place between the EU and Turkey.  The UK would enjoy tariff-free access to the internal market for goods, but not with respect to services.  Further, the UK’s ability to enter into agreements with other countries without EU consent would be limited.

Free trade agreements ("FTA"). This model would mirror the recently negotiated FTA between Canada and the EU.  In contrast to a customs union, entering into a FTA with the EU would not require the establishment of common external tariffs.  As such, the UK would be free to impose different quotas and customs than those imposed by the EU on third-party countries.  A potential issue with such an arrangement, however, is that FTAs are usually designed for trade in goods rather than services.  This would mean, for example, that the UK’s ability to export financial services to the EU might be significantly hindered.

World Trade Organization. This model, in which the UK would trade with the EU solely on the basis of being a WTO member, would mark the greatest departure from the current EU-UK relationship.  Although EU law would no longer apply in the UK under this arrangement, Britain would lose the associated benefits of the internal market that it currently enjoys.  As an example, UK exports to the EU could face high tariffs and EU product standards would still need to be satisfied by exporters.

Shifting Regulatory Landscape

The European Alternative Investment Fund Managers Directive ("AIFMD") perhaps is the most fundamental European regulatory change to impact managers of private funds in recent memory.  The AIFMD is an EU directive that aims to establish a harmonised regulatory and supervisory framework for fund managers (European and non-European) that manage and/or market alternative investment funds in the EU. Currently, there are significant differences between the AIFMD regime applicable to a European fund manager and the AIFMD regime applicable to a non-European fund manager.

A UK fund manager generally is required to be authorised by the UK Financial Conduct Authority to "manage an alternative investment fund."  Such authorisation gives rise to more burdensome regulatory obligations than applied prior to the implementation of the AIFMD.  The benefit of AIFMD authorisation is that a UK fund manager may avail itself of a pan-European "marketing passport" in respect of its European funds.  The marketing passport allows for the marketing of a fund to "professional investors" across Europe without having to rely on national private placement regimes, i.e., the UK fund manager only has to comply with one set of rules to market its European fund across Europe.  The "marketing passport" currently is not available to a non-European fund manager, with the consequence that a non-European fund manager must navigate the divergent national private placement regimes when marketing a fund to European investors. 

In the event of Brexit, and subject to the type of relationship negotiated between the UK and the EU, the position of the UK fund manager will need to be carefully considered both as to:

(i) the nature and scope of the regulatory regime that the UK fund manager is subject to. For example, will the UK fund manager face the same regulatory obligations as it currently faces?

(ii) the type of access the UK fund manager will have, and the routes that need to be followed to gain access, to its European investor base. For example, will the UK fund manager be in a position to continue to use the AIFMD "marketing passport"?

Operating and Exiting Investments Post-Brexit

Another consideration for private equity firms is the effect of a Brexit on their portfolio companies, from day-to-day governance to the ability to exit such investments. 

An obvious concern would be a loss of access to the internal EU market and the consequent loss of free movement of goods, services, workers and capital.  A business based in the UK that relies on European employees, for example, or that is heavily dependent upon the import or export of goods or services to or from the EU would be forced to consider how best to adapt as a result of any new barriers.

Key portfolio company contracts, such as financing agreements, may also be affected.  Geographical definitions referencing the EU, force majeure clauses, material adverse change clauses and repayment events are just some of the terms that might need to be re-examined in light of a potential Brexit.

A Brexit might affect sponsors’ own planned exits from their portfolio companies.  Currently, if companies want to offer shares to the public within the EEA or to list them on a regulated market, regulatory approval of their prospectus or equivalent securities offering document (if required) needs to be obtained in one member state alone.  Following a Brexit, however, this principle of "mutual recognition" might no longer apply to UK companies, the result being that a company wanting to offer shares to the public in the UK or list on a UK exchange and elsewhere in the EEA would need to obtain approval of its prospectus by regulators in both locations.  Firms looking to exit their investments via a listing on a regulated market post-Brexit would need to bear in mind these potential cost and timing implications.

In addition to the prospect that final post-Brexit arrangements disrupt sponsor plans for operating existing portfolio companies, sponsors will need to be prepared for the economic costs of uncertainty.  It will take time for the issues arising from a Brexit to be resolved and, during the period of uncertainty, ordinary course operating and exit activities may be more challenging.  Finally, a Brexit would put further short-term pressure on already fragile European economies, potentially affecting portfolio company business models more broadly.


The immediate impact of a Brexit is fairly certain.  The UK would have to notify the European Council of its intention to leave, after which it would officially cease being a member state upon either the date of entry into an agreement with the remainder of the EU with regard to its exit terms or, failing that, automatically two years after notification, unless the European Council unanimously agrees to extend this period. What remains uncertain, however, is what form an exit agreement is likely to take and its effects on private equity firms’ participation in the UK and EU markets.  In practice, reaching an agreement on UK exit terms would likely be an extended process involving exhaustive negotiation that could well take longer than two years.  Not until we know the precise terms of any agreement, however, will we truly appreciate the impact of a Brexit on businesses, including private equity firms, currently operating throughout the EU.  Fasten your seatbelts.