The European Directive on Alternative Investment Fund Managers (AIFMD) and non-EU fund Managers
By Donnacha O’Connor
Posted: 23rd January 2013 10:11July 22, 2013, the transposition deadline for the AIFMD, is a very significant date in the regulatory calendar, not only for EU managers of non-UCITS funds, but also for non-EU fund managers who are raising capital in the EU, or have aspirations to do so.
While the AIFMD applies to EU based fund managers and will subject many of them to mandatory registration with their home regulators under this new law and a plethora of regulatory requirements affecting they way in which they operate, it also applies to non-EU managers which manage any collective investment undertaking that is not a European UCITS fund (“Alternative Investment Funds” or “AIF”) and may ultimately, but not until at least October, 2015, or in most cases, October, 2018, require such managers to register in the EU. The earlier of the two dates will be relevant for AIFM who manage one or more EU domiciled AIF, and the later date for AIFM who only manage non-EU AIF. From July 22, 2013, however, a non-EU fund manager that is considered to be the “Alternative Investment Fund Manager” or “AIFM” of an AIF will be subject to new restrictions on its ability to market such AIF to EU investors, new requirements regarding initial and periodic disclosure to its investors and new regulatory reporting requirements.
Managers will have to rethink their offering materials, the content of their periodic reporting to investors, the content of their funds’ annual financial statements and the managers’ ability to collate and report significant amounts of data in order to meet the technical requirements of the AIFMD. Mandatory periodic reporting to a European regulator will in particular be an entirely new undertaking for most non-EU managers. Annex IV of the European Commission’s implementing Regulation published on December 18, 2012 introduces a pro-forma reporting template for highly detailed reporting that calls for hundreds of data entry points to be filed with the pertinent EU regulator.
Non-EU Managers – Marketing AIF in the EU until October 2018
From July 22, 2013 until at least October, 2018, each EU Member State is permitted, but not obliged, to allow a non-EU AIFM to market its AIF to professional investors in that Member State under the Member State’s own national private placement rules (as amended by the AIFMD), without the AIFM having to be authorised and regulated as an AIFM in the EU, provided that:
(i) the AIFM complies with the AIFMD’s transparency requirements (see below) in respect of each AIF marketed by the AIFM in the EU and, though not dealt with in this article, with the AIFMD’s anti-asset stripping requirements in respect of EU registered non-listed companies;
(ii) there is a cooperation arrangement for the purpose of systemic risk oversight between the regulator of each EUMember States where the AIF is marketed and the regulator of the home jurisdiction of the AIFM, and between those Member State regulators and the regulator of the home jurisdiction of the AIF; and
(iii) the country where the AIFM or the AIFis established is not listed as a non-cooperative country and territory by the OECD’s Financial Action Task Force on anti-money laundering and terrorist financing.
Around that time, the European Commission will decide whether non-EU AIF can continue to be marketed in the EU using national private placement rules or whether they can only be marketed by EU authorised AIFM using the EU marketing passport provided for in the AIFMD. This allows non-EU fund groups five years to decide whether or not to register an AIFM in Europe, however, there are a number of important matters to consider now.
Firstly, the activity of “marketing” is defined under the AIFMD as any direct or indirect offering or placement at the initiative of the manager or on behalf of the manager of units or shares in an AIF it manages to or with investors domiciled in the EU. The AIFMD provides that AIF may only be marketed to professional investors in the EU in two ways, by way of a marketing “passport” or by way of private placement. The AIFMD defines marketing in a way that does not include reverse solicitation/reverse solicitation, which is outside of the AIFMD’s scope.
The AIFMD provides that MiFID investment firms and credit institutions may only market an AIF to EU investors to the extent the AIF can be marketed in accordance with the AIFMD.
Secondly, the AIFMD allows, but does not require, Member States to allow private placement, so the marketing of AIF without the marketing passport will need to continue to be looked at on a Member State by Member State basis as is currently the case. There is a popular misconception that until 2018, non-EU AIFMs may continue to privately place their investment funds in the EU as they have always done, and that the “status quo” is being maintained until then. It is also important firstly to realise that the EU is currently a patchwork of different national rules relating to the offer and sale of non-UCITS funds. Some Member States have well defined private placement rules and some significantly restrict or prohibit the offering of foreign non-UCITS funds without the fund registering with the local regulatory authority. Germany is one country whose implementation of the AIFMD is set to eliminate the possibility of private placement of AIF in that jurisdiction well in advance of October 2018.
Thirdly, while the AIFMD recognises the private placement rules of each Member State, it only permits Member States to allow non-EU AIFM to market to ‘professional investors’ and may impose stricter requirements on AIFM marketing to retail investors. A “professional investor” is any investor which is considered to be a professional client or may be treated as a professional client on request within the meaning of Annex II of Directive 2004/39/EC(the European Union’s Markets in Financial Instruments Directive).
Fourthly, the AIFMD also explicitly permits Member States to impose stricter rules on non-EU AIFM and non-EU AIF than on EU AIFM and EU AIF marketing in their territories.
Finally, substantial transparency requirements and portfolio level requirements apply as set out below.
Non-EU Managers – Marketing AIF in the EU from July 22, 2013 - Transparency Requirements
AIFM will be required to cause each AIF which it markets in the EU to be audited annually. These audited financials must be provided to investors upon request and must be made available to the national regulator of each EU country in which the AIF is marketed, in each case no later than six months from the AIF’s financial year end. The accounting information included in those financials must be prepared in accordance with the standards of the third country where the AIF is established. The audited financials must contain a number of what might be regarded as standard features of annual reports, but must also disclose the total amount of remuneration for the financial year, split into fixed and variable remuneration, paid by the AIFM to its staff, and number of beneficiaries, and, where relevant, carried interest paid by the AIF.
Disclosure to Investors
AIFM will be required to make available to investors certain information before they invest in the AIF and upon any material change to that information. The disclosure requirements under this heading include many matters which might be regarded as standard but also many matters that it is reasonable to assume will need to be addressed for the first time this year. AIFM must for example make available to investors a description of the circumstances in which the AIF may use leverage, the types and sources of leverage permitted and the associated risks, any restrictions on the use of leverage and any collateral and asset reuse arrangements, and the maximum level of leverage which the AIFM is entitled to employ on behalf of the AIF. This information must also include a description of the AIF’s liquidity risk management, a description of preferential treatment (for example by way of a side letter) or the right to obtain preferential treatment that any investor has obtained. A description of the AIFM’s valuation procedures and pricing methodology must also be made available to investors prior to investing. The AIFM must periodically disclose to investors the current risk profile of the AIF, the risk system operated by the AIFM, any new arrangements made for the management of liquidity risk in the AIF, the percentage of the AIF’s assets which are subject to special arrangements arising from their illiquid nature (such as side pockets) and the total amount of leverage employed by the AIF and any changes to the maximum level of leverage which the AIF may employ.
Obligations to Report to EU Regulators
The AIFM must regularly report to each Member State in which its AIFs are marketed, on the principal markets and instruments in which it trades on behalf of the relevant AIF, the main instruments in which it is trading, its principal exposures and most important concentrations. The AIFM must provide to each such Member State a quarterly list of the EU AIFs which the AIFM manages and non-EU AIFs which it markets into the EU. Importantly, where necessary for the effective monitoring of systemic risk, each Member State in which the AIF is marketed may require more information on a periodic as well as an ad hoc basis. In addition, in exceptional circumstances, ESMA may request a Member State to impose additional reporting requirements.
The transposition deadline for the AIFMD is fast approaching and non-EU managers need to focus their attention on the practical impact of its provisions.
Donnacha O’Connor is a partner in the Irish law firm, Dillon Eustace and advises principally in the area of investment fund regulation. Dillon Eustace is a leading Irish law firm and a well known investment funds specialist.
Donnacha O’Connor can be contacted by phone on +353 1 6731729 or alternatively via email at firstname.lastname@example.org