Private Investment Funds and fundraising in Israel: Part I – Fund Marketing Basics
Private investment funds in Israel are generally formed as limited partnerships under the Partnerships Ordinance [New Version], 5735-1975, and have a customary GP/LP structure. Unlike many other jurisdictions, there are no specific fund formation and fund management regulations in place for private investment funds, with the notable exception of mutual funds or private investment funds designed to invest primarily in publicly traded securities, bonds, and currencies which have their own specific regulatory regime.
This means that the marketing, operation, and management of most private investment funds in Israel do not require licensing or registration of the fund or its managers unless specific regulation that pertains to the nature of its business or portfolio assets so requires (e.g., bank-like activity, cryptocurrency or certain defense-related assets).
Marketing and sales of fund interests in Israel are governed by the general principles of the Securities Law, 5728-1968 (the “Securities Law”) and the rules and regulations promulgated thereunder, as well as a number of position papers published by the Israel Securities Authority (“ISA”). The same rules and procedures apply to the marketing and sale of both domestic and foreign funds as well as investment vehicles seeking to raise funds in Israel.
The default rule under the Securities Law is that no person can make an offering or sale of securities to the public other than in accordance with a prospectus (or a draft prospectus) the publication of which the ISA has approved.
In this regard, any action designed to induce investors in Israel to purchase securities, including limited partnership interests, would be a public offering unless an appropriate exemption is available. The ISA further clarifies that the physical element of ‘offering’ under the default rule is a non-exhaustive list of behaviors that entail approaching potential investors by various means of communication and media.
The Securities Law offers a number of exemptions from the default rule, three of which are the most relevant to marketing private investment funds and which we shall describe in detail below.
Qualified Investors Exemption
The qualified investors’ exemption allows the offering and sale of securities to an unlimited number of investors who meet the criteria to be considered sophisticated and financially sound and able to tolerate the risk of loss as a result of an investment in securities and able to evaluate investment opportunities without the protection offered by the default rule (“Qualified Investors”).
The types of investors deemed Qualified Investors are listed on the First Addendum to the Securities Law and include various regulated and supervised entities, licensed professionals, legal entities incorporated outside of Israel (if such entities can obtain sufficient information to make investment decisions), as well as Israeli legal entities and individuals who meet certain asset-value or income thresholds (“Threshold Meeting Investors”).
Having investors meet the Qualified Investors’ definition is insufficient in and of itself. The ISA has clarified the procedures that must be followed in order to comply with the conditions of this exemption. For that purpose, we must distinguish between the offering stage and the sale of securities stage, which takes place upon the admission of the investors to the fund.
For instance, various limitations apply to the information about the investment opportunity that can be shared with potential Threshold Meeting Investors (each, an “Offeree”) before and during the offering stage, and certain certifications must be obtained from each Offeree before they can be considered a Qualified Investor.
These certifications must be verified in the second stage, during the onboarding process, before securities are sold and prior to admitting the Offeree to the fund. Deviation from the foregoing procedures will preclude reliance on the qualified investors’ exemption and consequently may be deemed a public offering of securities in violation of the default rule. It is therefore crucial to obtain appropriate legal advice to ensure compliance with the Securities Law and procedural guidelines dictated by ISA.
A Limited Number of Non-Qualified Investors Exemption
Regardless of the unlimited number of Qualified Investors to whom offering of securities can be made under the previous exemption, the offeror may also offer and sell securities to a limited number of offerees that do not meet the qualifications for being designated a Qualified Investor (each, a “Non-Qualified Investor”).
The number of Non-Qualified Investors in an offering may not exceed 35 offerees within any 12-month period, on a rolling basis. Non-Qualified Investors are counted individually for the purpose of this exemption, therefore pooling them into one or more legal entities will not reduce their number.
Emphasis should be made on the marketing efforts that can inadvertently amount to ‘offering’ of securities, in which case the offeree would count towards the limit of Non-Qualified Investor even if the offeree did not ultimately invest in the fund.
It must be noted that offering securities to a number of offerees greater than 35 who are Non-Qualified Investors, whether due to an honest mistake of the offeror or in reliance on their certification as being Qualified Investors (for the purpose of the previous exemption) that turned out to be false, constitutes a public offering without a prospectus, in violation of the default rule (regardless of whether a third-party distributor, marketer or broker has acted on behalf of the offeror). Therefore, reliance on this exemption should be undertaken with due care.
Pre-Marketing ‘General Publication’ Exemption
A general publication regarding the intention to offer securities can be exempt from the default rule as long as (a) it reveals very limited information about the investment opportunity and its terms; (b) it is explicit about the limitations on offering and sale of securities related to the investment opportunity advertised; and (c) the communication with potential investors following the publication does not constitute a ‘public offering’ (i.e., the offering and sale of securities fall under at least one of the other exemptions).
This exemption allows the offeror to draw potential investors without releasing specific details about the terms of the fund and the securities offered, which would normally constitute an offering of securities. Very limited information may be published under this exemption, and would generally include the sector in which the fund is active, the asset class in which the fund is contemplating investment, the identity of the fund’s principals and the minimum investment amount, which is viewed by the ISA as a vetting tool rather than a marketing feature.
It is prohibited to make public financial information, such as, the purchase price of the securities, target returns and average or exact past returns from previous investments, financing strategy, investment costs, target sale price, data concerning investment volumes made by the offeror, and any similar information. A publication that contains any of the foregoing restricted information will not satisfy the general publication exemption and consequently may be deemed a public offering of securities in violation of the default rule.
Since one of the conditions of the general publication exception is that no public offering was made, the general publication exemption should best be used by the offeror merely to create initial interest, assisting in identifying potential investors that can meet the other two exemptions, and then proceeding with the marketing effort in accordance with those exemptions.
