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Product and legal innovations keep Ireland one step ahead

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It is highly anticipated that Ireland will have a new corporate vehicle for Irish funds in place by the end of 2014: the Irish Collective Asset-Management Vehicle or ICAV.

Its imminent introduction will provide managers with an alternative to the public limited company (PLC) that has, to date, been the most popular vehicle for Irish collective investment funds. The Bill was introduced at the end of July 2014 and is being treated as a high priority by the Irish parliament.
 
Brian Kelliher is Partner, Asset Management & Investment Funds, at Dillon Eustace and is in no doubt that the ICAV will enhance Ireland’s competitiveness.
 
“There is a lot of interest in it from some of our clients, in relation to both UCITS and non-UCITS funds they manage,” says Kelliher, who caveats the point by adding: “I suspect that many of these managers will not, however, avail of the ICAV unless the funds they manage specifically intend to target US taxable investors, which is one of the key benefits of the ICAV.
 
“As a result some managers may look to restructure their current Irish plc vehicle. We’re already getting enquiries from existing Part XIII clients. I suspect that is where the interest will be initially. I can’t see existing Part XIII companies that are not targeting US taxable investors going down the ICAV route.”
 
 If they wanted to invest offshore, Ireland didn’t have a corporate fund that could elect to be treated as a partnership for US tax purposes.
 
“We do have unit trusts and investment limited partnership structures but if US taxable investors are looking for a corporate structure that can check the box to be a flow through for US tax purposes, until now we haven’t been able to offer one. Now we do with the ICAV so that’s clearly going to benefit Ireland,” adds Kelliher.
 
There are possible tax-adverse implications for US taxable investors if they invest offshore and that fund cannot check the box and be classified as a partnership. Ultimately, that fund, like an Irish Part XIII company currently, is classified as a PFIC; passive foreign investment company.
 
“We expect that any new funds will be structured using the ICAV. The provisions allow for full conversion of an existing Irish plc into an ICAV with continuity in terms of performance history, contractual relationships, etc. Ireland’s redomiciliation legislation has actually been amended so that a limited company or equivalent company in the Cayman Islands or elsewhere can redomicile and convert to an ICAV at the same time,” explains Shay Lydon, Partner at Irish law firm Matheson.
 
Ireland’s investment company structure falls under Company Law, whilst unit trusts are anchored in trust law. What the ICAV now offers is a corporate-type vehicle specifically for investment funds; the legislation that governs ICAV has been designed purely for ICAV funds.
 
“One can compare the ICAV to the UK OEIC structure. The Irish ICAV is going to be broader than that and won’t be restricted to open-ended vehicles, but the advantage of OEIC legislation was that it sat outside, to a large extent, Company Law, and is a successful fund-specific vehicle,” says Michael Barr, partner in A&L Goodbody’s Asset Management & Investment Funds Group.
 
Ireland’s Companies Acts range all the way from the 1963 Companies Act to the latest 2013 Companies Act. All of these revisions apply to an investment company unless it is dis-applied specifically for Part XIII. The ICAV will do away with this scattergun approach, where investment companies are regarded just the same as any other trading company, and take a more focused approach.
 
“There is this element of the entire realm of Company Law applying to an investment company and some of that is just not appropriate. Company Law is more applicable to trading companies than investment companies. That is the main concern,” comments Kelliher, who continues:
 
“With ICAV, the whole legislation is simplified into one Act and is tailored to the corporate fund structure. It’s taking advantage of a lot of the flexibilities that we have seen to date in the unit trust structure and the corporate structure we have for existing Part XIII companies, and applying them appropriately to the ICAV. It’s going to be a more streamlined, flexible structure.”
 
A few key features of the ICAV
 
It is envisaged that the ICAV will have some common features with Corporate Fund PLCs:
 
•           Authorisation and supervision by the Central Bank;
 
•           Establishment as a UCITS fund or an AIF;
 
•           If established as an AIF, it may be structured as open-ended, closed ended or with limited liquidity;
 
•           Possible establishment as an umbrella fund with segregated liability between sub-funds;
 
•           Multiple share classes;
 
•           The assets of the ICAV must be entrusted to a depositary;
 
•           The paid up share capital of the ICAV must be equal to the net asset value of the ICAV;
 
•           Registered office in Ireland;
 
•           Board of directors and a minimum of two directors;
 
•           A secretary must be appointed;
 
•           The name of the ICAV must be approved by the Registrar of Companies;
 
•           Minimum of two shareholders.
 
These new separate provisions will allow the ICAV to evolve and adapt as the fund industry itself adapts and this will help the ICAV become best in class in terms of its suitability for corporate vehicles, according to Liam Collins, Partner, Matheson.
 
“It is expected that the ICAV will be able to prepare financial statements on a sub-fund basis. That’s very useful where managers have sub-funds in their umbrella structure in the high teens or twenties. Shareholders in the umbrella that might only be invested in one sub-fund receive financial statements that relate to all sub-funds in the plc. They might end up getting a 400-page document of which perhaps only 10 per cent is directly relevant to them. Under ICAV, it will be possible to provide them with financial statements that pertain to the sub-funds they are invested in only.
 
“This is just one example of the benefits of having bespoke legislation for the corporate vehicle,” comments Collins. 
 
Another significant development, on the product side, for Ireland is a direct lending fund vehicle. The Central Bank of Ireland has given its imprimatur, making Ireland the first European jurisdiction to recognise such a fund under the AIFMD.
 
Lydon thinks this is a “huge step forward”, commenting: “This creates an Irish regime for a fund that sits within AIFMD but has a set of tailored rules that are designed for these loan origination structures. It follows a consultation that the CBI began last year with the funds industry as well as with other regulators and the Financial Stability Board. They released a consultation paper and based on the feedback they swiftly adopted a new rulebook for loan origination funds. Bank loan fund promoters have, for years, expressed their desire to not acquire loans in the secondary market but to originate their own loans as well.”
 
Kieran Fox is Director, Business Development at the Irish Funds Industry Association (IFIA). He says that there’s a growing acceptance that bank financing is unlikely to have the capacity over the next few years that Europe’s political leaders would like it to have to stimulate economic growth.
 
“In the meantime, the US has a large well-established direct lending market that probably assisted in stimulating their economy in recent times. It’s time to accommodate this market in Europe and take up some of the slack as banks continue to deleverage.
 
“This led to the CBI’s consultation paper, following which they referred the issue to the ESRB – European Systemic Risk Board. In March 2014 the ESRB published a response. They said that non-bank financing could be a valuable source of funding to Europe’s real economy but that it probably has the potential to give rise to systemic risk issues if not subject to adequate regulation. They advised the CBI that if they introduced a direct lending vehicle they should be aware of the potential for specific systemic risks and that adequate macro- and micro-prudential regulations should be put in place.
 
“As a result, the CBI has proposed a loan origination QIAIF to sit within the general AIFMD framework but it has added additional requirements around reporting, credit assessment, leverage, diversification, skin in the game, whether banking entities are connected to the vehicle and so on, to address the systemic risk issues flagged by the ESRB,” explains Fox.
 
In effect then, the Irish direct lending vehicle will be a beefed up QIAIF.
 
“By itself it wouldn’t be enough to create a successful jurisdiction but put it together with everything else that Ireland can offer and it enhances the domicile,” adds Lydon. To underscore how committed the CBI is to pushing product innovation, another area of potential interest could be for UCITS funds to tap in to China’s fixed income market, in particular its interbank bond market (CIBM).
 
“This has started to attract a lot of interest. We asked for clarification from the CBI earlier this year on whether the CIBM was a recognised, regulated market for UCITS purposes. The response by the CBI was that it intends to update its policy and its new rulebook. There is now clarity that the boards of Irish UCITS may evaluate individual markets, including the CIBM, in order to satisfy themselves that they are a regulated market. That will create a lot of opportunities to invest in Chinese fixed income under the UCITS regime. We expect to see funds coming on stream in the next couple of months,” says Lydon.
 
With the Renminbi Qualified Foreign Institutional Investor (RQFII) quota up and running in Ireland, and the imminent introduction of a direct lending vehicle, Ireland is making itself very attractive to global investment managers, and especially Asian managers who are keen to launch European funds and raise global assets: either to invest back into China via RQFII or to invest across European SMEs with a direct lending QIAIF.
 
“We have seen a Chinese manager using the UCITS regime in Ireland for RQFII but we’d like to see a bit more interest. Once we do, more managers will follow. With RQFII, and the Shanghai-Hong Kong stock connect programme, it is presenting a lot of opportunities for inward investment to China. What we want to see is Asian asset managers also trying to avail of European fund structures to raise European assets: a two-way flow,” according to an undisclosed source.
 
Fox points out that there are a number of positive factors that count in Ireland’s favour with respect to garnering interest in Asia-Pacific.
 
“Firstly, the business environment and the servicing of companies here is second to none. Secondly, the CBI has an excellent reputation when it comes to investment funds. Right now it is closely liaising with its counterparts in Hong Kong and in China,” confirms Fox.
 
Earlier this year, London-based ETF provider Source launched a China A-shares ETF with Hong Kong-based CSOP Asset Management Limited out of Ireland. More joint ventures will likely follow. As Stephen Tu, senior analyst at Moody’s, wrote in a recent special comment entitled “New Wave of Chinese ETFs Provide Footprint for Western Asset Managers, Moody’s expects RQFII quotas to grow and become an important cross-border conduit for the next several years.
 
“Over time, the proportion of China equities that investors hold will become materially higher than where it is right now. With RQFII, the end investor is able to move in and out of China very easily. You have physical ownership of A-shares unlike previous A-share ETFs, which relied on swaps and other derivatives. That means less tracking error and no counterparty risk,” says Tu.
 
As China liberalises its markets, jurisdictions like Ireland will be ideally placed to capitalise on the fact.
 
Bringing the focus back to Europe, Ireland has this year seen strong growth on the AIF side under AIFMD. According to Fox, QIAIF assets are up 24 per cent through August 2014, over which time 170 QIAIFs launched.
 
“That 24 per cent growth in QIAIF assets represents EUR55bn. Within that, something like EUR23bn is from net inflows and the remaining EUR32bn is from capital appreciation. As of end of August assets in the QIAIF were EUR291bn and across all AIFs in Ireland that number was EUR356bn. Those managers establishing QIAIFs are a broad mix but by far and away the two largest countries where the asset managers are based are the UK and the US,” says Fox.
 
Having just come back from a series of roadshows in the US, on both coasts, Fox confirms that the tone of US managers has changed with respect to AIFMD. There is, he says, a realisation now that reverse solicitation to stay out of scope of the directive is no longer a viable strategy.
 
“If you’re a marquee manager then it might be easier to allow reverse solicitation because investors come to you. The other category would be managers of soft closed funds that have a waiting list of investors. However, for the vast majority of managers who wouldn’t fall into those two categories, and who are in active asset raising mode, they realise they’re going to have to do something else; either private placement or avail of a fully AIFMD-compliant structure and use the marketing passport.
 
“We are starting to see more third party AIFMs being established in Ireland, in either in their own right or via third party structures. There’s definitely a lot of interest among US managers,” confirms Fox.
 
Clara Dunne is Senior Country Officer, Caceis (Ireland). She confirms that the private placement regime is potentially tricky for managers, both European and non-European, given that there are so many different rules in each EU Member State to potentially fall foul of.
 
“Bigger, more established managers will doubtless be able to rely on local expertise but boutique players who are likely still in asset raising mode and using private placement could unwittingly misunderstand what is required in certain jurisdictions.
 
“US managers are still uncomfortable with the AIFMD; it’s more likely that they would just market a new fund to a small number of EU jurisdictions,” comments Dunne.
 
Regardless of regulation, Ireland seems to be going from strength to strength as Europe’s leading domicile for alternative funds. With the introduction of ICAV, a direct lending QIAIF, an RQFII programme in place, and a committed central bank, the jurisdiction is doing all that is necessary to appeal to today’s global fund management community.

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