The Alternative Investment Fund Managers Directive (AIFM Directive) is hugely complex. Many have reservations on this contentious European initiative, a final draft of which was passed by the European Parliament on 11th November 2010.
The Directive is an attempt to bring the alternative investment sector under a single market framework. It applies to both EU AIFMs running one or more funds and non-EU AIFMs managing one or more EU-domiciled funds and will give fund managers the right, once they’ve received authorisation to sell their fund(s) from one Member State, to “passport” their funds freely across all other Member States in the EU.
Alternative investment funds (AIFs) are defined as any collective investment vehicles raising capital from investors that are not UCITS – i.e. hedge funds, private equity funds, US mutuals. With such broad implications, the biggest fear within the industry is that the AIFM Directive could stymie the activities of global investors and managers and become a kind of regulatory straitjacket.
On Tuesday 2 February, Kinetic Partners in conjunction with international law firm Osborne Clarke, held an information seminar at Osborne Clarke’s London office to share some thoughts on level two implementation of the Directive.
Following an introduction on the scope of the AIFM Directive by Paul Anning (pictured) of Osborne Clarke, Tim Hames of BVCA provided a political context.
He noted that whilst level one was somewhat unclear due to political involvement, there would be “less overt political input” in level two. Hames noted that the established viewpoint coming out of Europe is that “safety is more important than efficiency”.
To that end, the European Securities & Markets Authority (ESMA), which replaced CESR on 1 January 2011, will be responsible for overlooking level two of the Directive. Paradoxically, this could mean that the undertaking will be more opaque. Of primary import to ESMA will be a range of 26 issues including risk and liquidity management, through to leverage, all of which will need to be considered and agreed upon.
“The timeframe for level two of the AIFM Directive is eye-wateringly tight – March/April,” said Hames. Whether this timetable will be met remains to be seen. Hames also added that whilst there could be potential problems regarding passporting, BVCA would continue to lobby the FSA to support it.
Helen Parsonage of Osborne Clarke outlined remuneration policies and procedures. They will apply to all senior management, risk takers, control functions and any employee in the same remuneration bracket as the first two. Parsonage said that assessment of performance must be set in a multi-year framework appropriate to the AIF being managed. Also, guaranteed bonuses should only be given on an exceptional basis, i.e. first-year joiners. Under the FSA’s existing Remuneration Code there is a tiered structure based on perceived risk with large banks in Tier 1 and hedge funds/PE funds in Tier 4 (lowest tier). Under AIFMD, some funds may move to a higher tier and be subject to more requirements.
Parsonage went on to say that at least 40 per cent of variable remuneration would have to be deferred over a period appropriate to the AIF’s life cycle, and that depending on the size of the firm a remuneration committee would need to be established.
One critical component of the AIFM Directive involves the issue of third country passporting. With France having recently backed down, many believe that non-EU AIFMs being able to passport is now a formality. But as Andrew Lowin of Kinetic Partners pointed out, this is not necessarily a given, adding that the final decision rests with ESMA who are responsible for monitoring managers’ behaviour. “There are 90+ provisions to go through to develop detailed rules. Ultimately, ESMA may decide not to approve third country passporting and instead stick with private placement,” said Lowin.
Private placement regimes for EU AIFMs managing EU AIFs will remain unchanged until 2013, after which it is envisaged they’ll be able to passport them throughout the EU. Those managing non-EU AIFs will need to market them on a private placement basis but they will be subject to AIFM Directive’s other provisions (except needing a depositary under Article 21). Non-EU AIFMs will be able to market non-EU AIFs on a private placement basis provided they comply with the Directive’s transparency requirements and bilateral agreements are in place between regulators. Beyond 2018 the objective is that passporting requirements for both EU and non-EU AIFMs will bring an end to private placement regimes in the EU.
On fund marketing, Lowin said that one of the more significant changes was the introduction of “Tax Information Sharing Agreements” (TISAs) that will need to be established between the home state of non-EU AIFs, AIFMs and the Member States into which they wish to market their fund(s) in order for managers to take advantage of the passport. The danger here is that certain states may procrastinate on signing TISAs, or that managers may to decide to bypass them altogether by developing UCITS-compliant products. Lowin added that the Directive doesn’t prevent EU investors crossing borders to invest in funds via ‘reverse solicitation’, nor does it prevent passive marketing.
David Butler of Kinetic Partners wrapped up the seminar by stating that no details on operations and procedures were yet in place under level two. He said that the amount of work BVCA, AIMA and IMA will have to do on education would be huge and would need the full support of fund managers. Level two proposals are to separate risk management and portfolio management.
Butler expects that proportionality would be accepted; meaning only key managers would need a fully articulated separation and risk strategy. Key proposals on liquidity management will apply to any AIF that is leveraged and open-ended. Butler said that the risk here could be that ESMA adopts UCITS provisions.