ESMA publishes final report on key AIFM Directive concepts
The European Securities and Markets Authority published on May 24 its final report on guidelines for key concepts under the Alternative Investment Fund Managers Directive (please see below for a copy under related PDFs). The report reflects feedback received by ESMA following its publication of a discussion paper on key concepts and types of alternative fund managers on February 23 last year, and in particular a consultation paper issued on December 19.
The consultation paper, which received 37 responses from asset managers, banks, law firms, industry associations, a private equity administrator and public authorities, set out formal proposals for guidelines ensuring common, uniform and consistent application of the concepts in the definition of alternative investment funds in Article 4(1)(a) of the directive by providing clarification on each of these concepts. An important factor is avoiding regulatory arbitrage resulting from national regulators interpreting terms used in the directive in different ways.
A cost-benefit analysis conducted by ESMA estimates that the introduction of the guidelines will make relatively little impact on the number of EU-domiciled funds that will fall under the directive according to the definition in the legislative text, estimated at between 25,650 and 28,975. The authority believes there will be “no material impact” on the Luxembourg-domiciled funds affected, which it says number at least 2,000.
ESMA believes 50 additional funds may fall under the directive as a result in Finland, around 1,600 in France on top of up to 12,000, and no more than 33 in Italy. Up to 150 funds could be captured in or excluded from the scope of the directive in the Netherlands, and about 50 could be excluded in Portugal.
The authority says the guidelines should bring clarity to national regulators and to managers, prevent managers falling outside reporting obligations on leverage used to assess systemic risk, enable smoother application of the AIFMD passport for both EU and (after July 2015) non-EU managers, and minimise the risk on entities not targeted by the legislation falling under its scope.
The new report sets out the final form of the guidelines to be issued to national regulators. These will be translated into the official languages of the EU and the final texts be published on the ESMA website. The deadline for reporting requirements will be two months following the publication of the translations and the guidelines will apply from this date.
CSSF press release 13/23 regarding the AIFM Directive: CSSF signs 34 MOUs with third party counterparts
For further details, please refer to ESMA’s press release: Esma promotes global supervisory co-operation on alternative funds
ESMA consultation paper of May 24 on AIFM Directive reporting obligations
The European Securities and Markets Authority has published a consultation paper on its proposed guidelines for national regulators on the reporting obligations placed on alternative fund managers under Articles 3 and 24 of the Alternative Investment Fund Managers Directive.
The guidelines have been drawn up to assist the national securities market regulators of European Union member states by providing clarification on the information that managers should provide to their regulators, the timing of reporting, and the procedures to be followed when managers move from one reporting obligation to another.
The consultation paper also includes the reporting template set out in Regulation 231/2013, and a diagram summarising managers’ reporting obligations, depending on the total value of their assets under management and the nature of the alternative investment funds they manage or market in the EU.
If ESMA’s current recommendations are adopted, managers that fall outside the scope of the full AIFM Directive authorisation requirement, with assets of less than €100m, or €500m if unleveraged and with a five-year lock-up, will be required to report once a year, by the last business day of January for the previous year.
Alternative managers falling within the authorisation requirement with assets between €100m and €1bn will have to report half-yearly, by the last business day of July and January respectively for the first and second halves of the year, and managers running more than €1bn in assets will have to report quarterly at the end of April, July, October and January.
In addition, reporting is required quarterly for each alternative fund with assets greater than €500m. Reporting must be made annually for all unleveraged funds investing in non-listed companies and issuers with the aim of gaining control, a measure targeting private equity vehicles. Reporting on behalf of funds of funds an benefit from an extension of up to 15 days beyond the deadlines set out by ESMA.
The first reporting period for all existing alternative managers and any others authorised or registered between July 23 to December 31, 2013 will cover this period, with reporting due by January 31, 2014, after which managers will follow the frequency laid down for the level of assets they run.
The paper, which also provides stakeholders with detailed IT guidance for XML filing, is accompanied by the publication of the reporting XSD schema (ESMA/2013/599) that alternative fund managers will have to use to report the information under Articles 3 and 24 to national regulators. ESMA is also seeking feedback from stakeholders on the reporting schema.
The authority says it will consider all comments received by July 1. It will use feedback from the consultation in finalising the guidelines on reporting obligations under Articles 3 and 24 of the directive.
European Commission publishes regulations on AIFM Directive opt-in and member state of reference
The European Commission published two implementing regulations forming part of the detailed framework of the Alternative Investment Fund Managers Directive in the EU Official Journal on May 15.
The regulations are automatically binding on member states without any need for transposition into national legislation. They will enter into force on June 5 and apply from July 22, the deadline for adoption of the directive into the national law of member states and the date on which it takes effect.
Commission Implementing Regulation (EU) No 447/2013 sets out the procedure for alternative fund managers that are not required to comply in full with the AIFMD but that nevertheless choose to opt for authorisation from their home regulator. The same process applies as with managers that are required to seek authorisation under the directive.
The regulation also clarifies that a manager granted AIFMD authorisation whose assets under management subsequently fall below the thresholds set out in the directive remains authorised and subject to full application of the legislation unless and until the authorisation is revoked. This will not be triggered automatically by a fall in assets below the threshold, but only at the manager’s request.
Commission Implementing Regulation (EU) No 448/2013 establishes a procedure for determining the member state of reference that will conduct regulatory oversight of a non-EU manager seeking to manage or market fund products within the union.
The regulation says that where there is more than one possible choice of jurisdiction for the non-EU manager’s member state of reference, the manager must submit a request to all of the regulators in question to decide which of them should take responsibility.
The manager must supply relevant information and documents including details of any EU-domiciled funds run by the non-EU manager, their assets under management and the domicile of those assets, and where and how they intend to market funds within EU member states.
The regulators approached are jointly responsible for reaching a decision, within a month at the latest, but the European Securities and Markets Authority should ensure that all possible member states of reference are involved, and ESMA should assist them in reaching a decision.
If the regulators in question fail to reach a decision within the stipulated period, the manager can decide itself in which member state of reference it should be regulated according to the criteria set out in the directive.
ESMA final guidelines on sound remuneration policies under the AIFM Directive
The European Securities and Markets Authority has published final guidelines on remuneration of alternative investment fund managers, designed to prevent conflicts of interest arising that could lead to managers taking on excessive risk to the detriment of their investors.
The guidelines have been finalised following the publication of a consultation paper in June 2012 and ESMA’s receipt of feedback from industry members, a summary of which is included in the document, along with the opinion of the Securities and Markets Stakeholder Group.
The rules will apply to European Union-based managers of alternative investment funds including hedge funds, private equity funds and real estate funds, and also to non-EU-based managers that market funds to EU investors under passporting arrangements, which will be subject to the guidelines in full after a transitional period. Non-EU managers will become eligible for an AIFM Directive passport following a delegated act by the European Commission in or after July 2015.
The guidelines, which have been drawn up in co-operation with the European Banking Authority in order to ensure alignment of remuneration policy rules across different sectors of the financial industry, will require managers to introduce sound and prudent remuneration policies and organisational structures. According to ESMA, stronger constraints on how fund managers are paid will ultimately lead to improved investor protection.
The authority argues that the remuneration rules will prompt prudence in risk-taking by fund managers and help align their interests with those of investors. It sees the application of the provisions universally and consistently as essential to the establishment of a level playing field in the alternative fund sector throughout the EU.
The rules managers must comply with when establishing and applying a remuneration policy for certain categories of staff are set out in the Alternative Investment Fund Managers Directive, which is scheduled to take effect on July 22, 2013, and ESMA’s guidelines are designed to provide clarification on how the provisions should apply.
ESMA says the governing body of each manager must ensure that sound and prudent remuneration policies and/or structures are in place and are not circumvented. Managers should determine which staff should be covered by the policies and be able to demonstrate the criteria used in making the decision.
The guidelines should apply to staff identified as having professional duties that might have a material impact on the fund’s risk profile, including senior management, “risk takers” and those responsible for control functions, as well as any employee whose total remuneration puts them in the same pay bracket as these categories of staff.
The types of remuneration covered include all forms of payment or benefit paid for professional services or duties by the management company or by the fund itself, including carried interest, as well as any fund units or shares they receive.
The guidelines say all remuneration should be divided into fixed remuneration (payments or benefits not affected by performance criteria) and variable remuneration (additional payments or benefits depending on performance or, in certain cases, other contractual criteria).
Both types of remuneration may include monetary payments or benefits including cash, shares, options or remuneration by funds through carried interest models, as well as non-monetary benefits such as discounts or car allowances.
The guidelines also include the application of the principle proportionality to the remuneration provisions, the structure, role and functioning of an alternative management firm’s remuneration committee, the role of compliance and control functions within the organisation, and the role of pensions and other deferred remuneration.
The guidelines will be next be translated into all the EU’s official languages. Within two months of the publication of the translations on ESMA’s web site, national regulators should confirm to the authority whether they comply or intend to comply with the guidelines by incorporating them into their supervisory practices. They will apply from July 22, subject to the adoption by member states of the AIFM Directive’s transitional provisions.
ESMA consults industry on draft guidelines and technical standards for AIFM Directive
The European Securities and Markets Authority is inviting feedback from members of the alternative investment industry on its proposed guidelines relating to key concepts of the European Union’s Alternative Investment Fund Managers Directive.
The directive, which provides a legal framework for both alternative investment funds (indirectly) and their managers within the EU, is scheduled to come into effect on July 22, 2013.
ESMA’s draft guidelines (http://www.esma.europa.eu/system/files/2012-845.pdf) seek to clarify the rules applicable to hedge funds, private equity and real estate funds. They notably aim to tighten the definition of what types of entity fall within the scope of the AIFMD in order to ensure consistent application of the directive’s provisions throughout the EU and contribute to the creation of a level playing field among alternative funds.
The guidelines set out the criteria for determining what should be considered a collective investment undertaking, capital-raising, a defined investment policy, and the number of necessary investors.
In addition, ESMA has issued a consultation on its draft regulatory technical standards on types of alternative fund manager, which are also intended to facilitate the uniform application of the directive throughout the EU.
The technical standards (http://www.esma.europa.eu/system/files/2012-844.pdf) distinguish between managers of funds whose investors have the right to redeem their shares at least annually (open-ended alternative investment funds), and those whose investors have less frequent redemption rights, which affects the asset threshold at which managers are obliged to comply with the directive’s requirements.
Both consultation papers stem from an earlier discussion paper published by ESMA in February. Some of the issues raised in that paper are not addressed in the new consultation exercises. ESMA says it plans to take into account the European Commission’s Level 2 implementing measures before deciding on the appropriate next steps in these areas.
The Level 2 regulation, which will have direct application throughout the EU without the need for transposition into national law, was also published on December 19.
The closing date for responses to the two consultation documents is February 2013. ESMA says the guidelines and technical standards will be finalised in the first half of next year – that is, before the scheduled implementation date of the AIFMD.
Commission published long-awaited Level 2 rules for AIFM Directive
The European Commission has adopted on December 19 a delegated regulation providing detailed implementing rules for the Alternative Investment Fund Managers Directive, a document that industry members have awaiting for several months.
The Level 2 regulation, which will have direct application throughout the European Union without the need for transposition into national law, was first expected to be published in July but has been repeatedly delayed, but the Commission has kept its promise that it would appear before the end of 2012.
The deadline for the transposition of the directive into national law is July 22, 2013. Other elements of the legislation’s implementation rules, including aspects of guidelines and technical standards from the European Securities and Markets Authority, are contingent on the Level 2 regulation.
The Commission says the delegated regulation is a precondition for the application of the directive in EU countries and was adopted to supplement certain elements of the AIFMD, which is designed to establish a comprehensive and effective regulatory and supervisory environment for alternative investment fund managers in Europe.
The new rules concern the conditions and procedure for the determination and authorisation of alternative fund managers, including applicable capital requirements, and operating conditions for managers including rules on remuneration, conflicts of interest, risk management, liquidity management, investment in securitisation positions, organisational requirements and rules on valuation.
Other parts of the regulation deal with the conditions under which managers can delegate functions to investment advisers, risk managers or other providers of outsourced services, as well as rules governing depositaries to alternative funds, including their tasks, responsibility and liability.
The regulation details the reporting requirements for alternative fund managers and sets out how the leverage used by funds should be calculated. Finally, it includes rules for the co-operation arrangements to be established between EU national regulators and their counterparts in jurisdictions outside the union.
The delegated regulation published by the Commission is subject to a three-month scrutiny period by the European Parliament and the Council, after which it will come into force, providing neither institution objects, on the day following publication in the EU Official Journal.
The publication of the Level 2 regulation has been welcomed by industry members such as the Alternative Investment Management Association, which represents hedge fund managers. AIMA chief executive Andrew Baker says: “We are pleased that the text of the implementing measures of the AIFMD has been published, enabling the global industry to make its final preparations for implementing the directive by July 2013. We have engaged intensively with European and international policymakers since the release of the first draft of the AIFMD back in 2009, and while we may not agree with all the final provisions – notably on areas like depositaries and delegation – it is now important to look forward.”
European Private Equity & Venture Capital Association secretary-general Dörte Höppner says: “Publication of the Level 2 delegated acts is an important step toward giving European private equity fund managers and their investors legal certainty.
“This regulation recognises private equity as a mature and established asset class, and although it could be more proportionate, the industry is prepared for the challenges in terms of cost and timing that the AIFMD poses.
“The EVCA will continue to remain engaged on the outstanding areas of remuneration, third countries and the definition of an alternative investment fund manager and fund. It is now vital that the AIFMD is implemented consistently across member states without any gold-plating to ensure a level playing field.”
Special limited partnership (société en commandite spéciale) introduced under Luxembourg’s AIFMD legislation
Luxembourg’s legal framework for alternative fund structures will be significantly extended as part of the draft legislation transposing the European Union’s Alternative Investment Fund Managers Directive into national law.
In addition to implementing the directive, the Luxembourg legislation introduces changes designed to make the grand duchy significantly more attractive as jurisdiction for the management and structuring of private equity, venture capital and real estate fund vehicles.
The changes involve the updating and enhancement of two existing partnership vehicles, the standard limited partnership (société en commandite simple) and partnership limited by shares (société en commandite par actions), and the creation of a new special limited partnership (société en commandite spéciale).
Bill of law no. 6471 was submitted to the grand duchy’s Chamber of Deputies by finance minister Luc Frieden on August 24. It is scheduled for approval by parliament and on the statute book before the end of this year, well ahead of the deadline for AIFMD adoption of
July 22, 2013.
The changes to the existing partnership vehicles and the establishment of the special limited partnership involve amendment of the laws of August 10, 1915 on commercial companies and of December 19, 2002 on the Commercial and Companies Register and corporate accounting, as well as changes to Luxembourg’s Commercial Code.
They also involve changes to the February 13, 2007 law on Specialised Investment Funds (SIFs) and that of June 15, 2004 on Risk Capital Investment Companies (Sicars) to enable these types of fund to adopt the legal form of a standard limited partnership or special limited partnership.
The preamble to the draft legislation notes that the standard limited partnership is a very long-established type of company. It has antecedents in Roman law, although in its current form it dates back to contracts used in maritime trade contracts in 10th century Italy, and has also played an important role in spreading the concept of limited liability throughout corporate law, before becoming an important tool of the fund industry in recent years.
It also has deep roots in the grand duchy’s commercial law as a very lightly regulated type of commercial entity, whose legislative framework has barely changed since 1915. Despite certain constraints, contractual freedom is primordial in the structuring of such an entity.
Historically limited partnerships have been little used or understood in Luxembourg, France and Germany, although the number of standard limited partnerships and partnerships limited by shares on the Commercial and Companies Register has been growing in recent years.
The lack of attention paid to limited partnerships in a financial centres of Luxembourg’s importance is all the more surprising, the preamble says, given that partnerships are widely used for fund structuring in Anglo-Saxon jurisdictions, including the Channel Islands, UK dependent territories in the Caribbean and the US state of Delaware, and especially for the private equity and real estate investment sectors.
While Luxembourg already offers the fonds commun de placement (common contractual fund), which shares certain characteristics with partnership structures, which is used not only for Ucits funds but certain alternative investments such as property funds, private equity and venture capital firms have traditionally preferred the Anglo-Saxon partnership model.
Although standard limited partnerships enjoy a special status under the Sicar legislation, only a handful of Sicars have so far been structured in this way. That may be down to the fact that Sicars are regulated and common law partnerships are typically not so, but the introduction of the AIFM Directive could well prompt alternative fund managers to reconsider their domicile options in the future.
Whereas the standard limited partnership has a legal personality of its own distinct from that of its limited partners, the special limited partnership does not have legal personality and is designed to resemble as closely as possible the English limited partnership regime.
The existence of both types of vehicle, as is the case in Anglo-Saxon jurisdictions, provides industry participants with a maximum degree of choice and flexibility, allowing broad freedom of organisation within an efficient contractual structure.
Both the standard and special limited partnership regimes in Luxembourg provide managers and investors with the structuring flexibility expected in the sector as well as a legal framework for the general partner-limited partner relationship.
The Luxembourg government and the country’s fund industry hope that the availability of these options in an onshore civil law jurisdiction will consolidate the grand duchy’s position as a leading European jurisdiction for regulated alternative investment funds and managers of all kinds, bolstered by its long experience in fund domicile and regulation and the depth and expertise of its service offering.
Luxembourg already has a substantial private equity sector, including the management, domiciliation and servicing of both funds and transaction vehicles. However, being able to offer vehicles equivalent to those available in traditional offshore jurisdictions will reinforce the country’s appeal to leading private equity and private equity real estate houses as well as private and institutional investors that are used to and comfortable with Anglo-Saxon-type limited partnership structures.
The strategy of upgrading the standard limited partnership, as opposed to the creation of a Luxembourg partnership vehicle out of whole cloth, provides continuity in the grand duchy’s companies law as well as demonstrating its readiness to adapt with the times.
While the changes entail a number of innovations, they involve not so much a wholesale change in the standard limited partnership structure as refinement of the existing legislation while respecting the fundamental principles of the legislation on commercial companies.
The upgrading of the standard limited partnership and the introduction of the special limited partnership are likely to prompt increased use of partnership structures under the Sicar and SIF regimes for funds employing alternative strategies and/or aimed at sophisticated investors.
The changes to Luxembourg law involved in the reform of the limited partnership regime are contained in articles 182 to 201 of the draft legislation, entailing amendments principally to the 1915 commercial companies law (Articles 182-194), as well as to the 2002 law on the Commercial and Companies Register (Articles 195-200), and to the Commercial Code (Article 201), as well as assorted tax provisions.
Luxembourg’s AIFM Directive transposition law awaits scrutiny by Parliament
The draft legislation transposing the European Union’s Alternative Investment Fund Managers Directive into Luxembourg law was submitted to the grand duchy’s Chamber of Deputies by finance minister Luc Frieden on August 24.
Although the deadline for member states to adopt the directive into their national law is July 22, 2013, Luxembourg plans to become one of the first EU countries to implement the AIFMD, and the government expects the legislation to have been approved by parliament before the end of this year.
The Luxembourg legislation not only incorporates the directive but introduces into national law a new regime to be known as the société en commandite special, or special limited partnership, which we discuss in a separate client note.
Bill of law no. 6471 also contains various ‘housekeeping’ measures revising and updating Luxembourg’s investment fund regulation as a whole, especially the 2010 statute adopting the Ucits IV directive into national law, and entails amendments to a total of 14 other pieces of legislation, including the laws governing Specialised Investment Funds (SIFs) and Risk Capital Investment Companies (Sicars).
In accordance with the directive, which was agreed by the EU Council and Parliament in November 10 and formally adopted the following year, the Luxembourg legislation provides for the registration of all managers of alternative investment funds – comprising hedge funds, private equity and real estate vehicles and any other types of fund that do not fall under the Ucits regime – apart from those excluded by the directive, exempted by the fact that they fall below the directive’s thresholds for assets under management, or that benefit from grandfathering arrangements.
Managers registered under the legislation must comply with its requirements – supplemented by the European Commission’s forthcoming ‘Level 2’ regulation and guidelines drawn up by the European Securities and Markets Authority, Esma – regarding operating conditions, organisational rules and transparency.
Once the directive comes into effect next July, registration is required before any new EU-based manager can begin management of alternative funds; existing managers have a transitional period of one year within which to apply for authorisation.
From July 22, 2013, Luxembourg-based managers of EU-domiciled funds will be free to market them under an AIFMD ‘passport’ to professional investors in any other EU member state, subject to notification requirements. Although this has not yet been explicitly addressed, past practice suggests that authorised managers will be also able to market their funds to EU countries that have failed to transpose the directive into their national law by the deadline.
Luxembourg-based managers of non-EU-domiciled funds, or managers of Luxembourg funds based outside the EU, may be able to benefit from the passport as well, but not before July 2015, and only once the Commission, on advice from Esma, has passed delegated legislation to that effect.
In the meantime, funds that are not domiciled or are not managed within the EU may continue to seek distribution through national private placement arrangements, where these exist, although their managers must still comply with the directive’s requirements regarding transparency.
The Luxembourg legislation offers flexibility regarding marketing of funds to retail investors, regardless of whether the funds are EU-domiciled or not, and of whether the marketing is within Luxembourg or on a cross-border basis. The directive left this question to individual members states to decide for managers falling under their jurisdiction.
Article 46 of the legislation authorises managers based in Luxembourg, other EU countries or third countries to market alternative funds, wherever they are domiciled, to retail investors as long as the funds are subject to appropriate supervision, non-Luxembourg funds are covered by investor protection rules equivalent to those in the grand duchy, and investor eligibility rules are adhered to.
For Luxembourg, the legislation applies indirectly not only to SIFs and Sicars but also to non-UCITS funds set up under Part II of the grand duchy’s fund legislation, which may or may not follow alternative strategies or be aimed at sophisticated investors, and unregulated vehicles such as financial participation companies (Soparfis) if they call under the directive’s definition of alternative investment funds. Under the legislation, all Part II funds qualify as alternative funds, being non-Ucits. The law’s scope includes Luxembourg-based managers of alternative funds domiciled in other jurisdictions.
The legislation therefore provides for amendments to existing legislation, notably regarding rules governing the depositary, delegation of functions, valuation of assets and provision of information to investors. Legislation was passed earlier this year to amend the 2007 SIF regime and bring it into line with some of the requirements of the AIFM Directive.
Part II funds, SIFs and Sicars that qualify as an alternative investment fund under the directive may be self-managed (where their legal form permits) or appoint an external manager, and can access the pan-EU marketing passport. They are subject to the depositary regime, delegation and valuation rules, and must meet the AIFMD transparency requirements.
Where the manager of such funds is below the directive’s minimum assets thresholds, they remain under the current regulatory regime, but the manager must register with the CSSF and meet ongoing reporting requirements. Where SIFs and Sicars do not qualify as alternative investment funds, the existing regime continues to apply.
Under the 2010 Luxembourg fund legislation that brought Ucits IV into national law, there are two options for management companies. A Ucits management company under Chapter 15 of the 2010 law may act as an external manager of an alternative investment fund under a double licencing arrangement, which means there is no obligation to supply the CSSF with information or documents already provided during the Ucits authorisation procedure. A firm in this position also enjoys access to the management company passport under both Ucits and AIFMD regimes.
A non-Ucits management company authorised under Chapter 16 of the 2010 law may, without further authorisation, act as management company to investment vehicles that fall outside the scope of the directive or for alternative funds if it falls below the assets threshold.
It may act as management company for FCPs, Sicavs and Sicafs that are alternative funds if it designates a manager authorised under the directive, or it can seek licensing under the directive, again without the obligation to provide information or documents already supplied under its earlier authorisation procedure. It can also benefit from the AIFMD management company passport.
A Chapter 16 entity may only act as management company for investment vehicles outside the scope of the directive if the vehicles in question have their own specific regulatory framework, such as SIFs or Sicars, or if it also acts as management company for alternative funds that do not reach the directive’s minimum asset threshold or that have an external manager authorised under the directive.
A non-Ucits management company that manages alternative funds in the terms of the directive must seek authorisation as an alternative fund manager if it exceeds the thresholds and if it has not designated a manager authorised under the directive.
The legislation also amends Luxembourg’s 1993 legislation that created the status of financial sector professional (PSF). Article 178 creates a new category of specialist PSF that may act as depositary to alternative funds, for the most part private equity vehicles, that have a lock-up of at least five years from the date of the original investments and that generally do not invest in financial instruments that the directive requires to be held in custody, or that usually takes controlling stakes in issuers or non-listed companies.
The availability of this option under the directive reflects current practice in various EU member states, notably Germany. Luxembourg’s decision to incorporate this into its legislation may give it the opportunity to increase its share of closed-ended alternative fund business.
This new type of PSF status can be combined with others such as fund administrator, transfer agent, client communication agent or domiciliation agent, although not with management of Ucits or alternative funds. However, depositary and administration functions within the same entity should be hierarchically separated in order to identify and manage potential conflicts of interest between the depositary and the fund, its investors and manager.
Article 179 provides for the abolition of the PSF status of managers of non-co-ordinated funds, used by managers of foreign non-Ucits funds, which will become obsolete since the vast majority of such funds will qualify as alternative investment funds under the directive. This means that their managers must in future be authorised under the AIFMD and will be treated as an alternative investment fund manager under Luxembourg law.
It also amends the 2005 legislation on institutions for occupational retirement provision, to allow Asseps and Sepcavs (equivalent in legal form to FCPs and Sicavs respectively) to delegate asset management to Luxembourg or other EU managers that are authorised to carry out portfolio management under the directive.
The various sections of the legislations are as follows:
Articles 1-4: General dispositions of the law, comprising definitions, its purpose and scope, exemptions and exclusions, and the criteria for determining the manager of an alternative investment fund.
Articles 5-9: Authorisation of alternative investment managers, including preliminary conditions, the authorisation request procedure, authorisation conditions, capital requirements, amendments to the authorisation, and withdrawal of authorisation and liquidation.
Articles 11-15: Conditions managers must adhere to, including general principles such as honesty and integrity, remuneration practices, conflicts of interest, risk management and liquidity management.
Articles 16-17: Organisational requirements, including IT capabilities and valuation.
Articles 18-19: Delegation of the manager’s functions to third-party providers, and the role and functions of a fund’s depositary.
Articles 20-22: Transparency, comprising the requirement to publish an annual report and its content, investor information and reporting to the CSSF.
Articles 23-28: Employment of leverage within funds, use of leverage information by regulators, obligations on managers of private equity or other alternative funds that acquire control over companies, notification of transactions conferring control, special reporting requirements of such funds, and ‘asset-stripping’ restrictions.
Articles 29-30: Marketing of shares or units in alternative funds run by Luxembourg-based managers in the grand duchy and in other EU member states, and the marketing of funds run by non-Luxembourg managers in the grand duchy.
Articles 31-32: Management by Luxembourg-based managers of funds domiciled in other member states, and by non-Luxembourg managers of Luxembourg funds.
Articles 34-35: Third country rules, comprising management by Luxembourg-based managers of funds domiciled outside the EU and not marketed within it, and marketing of such funds in Luxembourg or other EU countries under the passporting regime.
Articles 36-37: Marketing in Luxembourg under a passport of a third-country-fund run by a manager from another EU member state, and private placement distribution in Luxembourg of third-country funds run by EU managers.
Articles 38-39: Authorisation of third-country managers in Luxembourg as member state of reference, and marketing in the EU of funds run by a third-country manager where Luxembourg is the manager’s member state of reference.
Articles 40-42: Marketing in Luxembourg of funds run by a third-country manager where Luxembourg is not the member state of reference; marketing in other EU countries of funds run by a third-country manager where Luxembourg is the member state of reference; and marketing in Luxembourg of third-country funds run by a third-country manager where Luxembourg is not the member state of reference.
Articles 43-45: Management of funds domiciled in other member states by non-EU managers whose member state of reference is Luxembourg; management of funds domiciled in Luxembourg by non-EU managers where Luxembourg is not the member state of reference; and private placement marketing of funds in Luxembourg by non-EU managers.
Article 46: Marketing of alternative funds to retail investors.
Articles 47-52: Regulatory powers, the CSSF’s responsibility regarding Luxembourg managers or the marketing and marketing of funds by managers from other EU countries through a branch, oversight and investigative power, administrative penalties, and the right to appeal.
Articles 53-57: Duty of co-operation between regulators, personal information, exchange of information with third-country regulators, exchange of information on systemic risks, and co-operation on regulatory oversight.
Article 58: Transitional arrangements.
Article 59: Penal measures.
Articles 60-125: Amendments to 2010 investment fund legislation.
Articles 126-152: Amendments to 2007 Specialist Investment Fund legislation.
Articles 153-172: Amendments to 2004 Risk Capital Investment Company legislation.
Articles 173-175: Amendments to 2005 pension fund legislation.
Articles 176-208: Amendments to other Luxembourg legislation.
Articles 209-211: Entry into force.
Appendix I: Obligatory and optional functions of an alternative investment fund manager.
Appendix II: Remuneration policy.
Appendix III: Documentation required for marketing authorisation in Luxembourg.
Appendix IV: Documentation required for marketing authorisation in another EU member state.
Esma unveils draft remuneration guidelines for alternative fund managers
The European Securities and Markets Authority has published on June 28 a consultation paper on proposed guidelines on remuneration of alternative investment fund managers, which will apply to managers of alternative funds including hedge funds, private equity funds and real estate funds.
Under the Alternative Investment Fund Managers Directive, which is due to be implemented by EU member states by July 22, 2013, all management firms covered by the directive will be asked to introduce sound and prudent remuneration policies and structures designed to increase investor protection and avoid conflicts of interest that could lead to excessive risk-taking.
The rules are also designed to ensure that managers maintain a prudent balance between a sound financial situation and the award, payment or vesting of variable remuneration – that is, if need be managers should be in a position to reduce or claw back bonuses or other payments in order to avoid running into financial difficulties.
Esma is seeking feedback from industry participants by September. The final guidelines should be issued before the end of the year and will enter into force on the date of the implementation deadline.
The AIFM Directive establishes a set of rules that managers must comply with in establishing and applying a remuneration policy for certain categories of staff, and it gives Esma the task of drawing up guidelines to clarify the legislation’s provisions in detail.
According to Esma, the proposed guidelines are aligned with remuneration policies in other financial sectors as well as the commitments made by the G20 countries and embodied in the Financial Stability Forum’s Principles for Sound Compensation Practices, and are inspired by the 2006 Capital Requirements Directive.
Esma says the proposed guidelines are a key element in a common EU rulebook that will ensure consistent compliance with the AIFM Directive throughout the 27 member states, and reflect the regulator’s co-operation with the European Banking Authority on remuneration principles.
Esma says managers should ensure that their remuneration systems are well designed and implemented, including notably maintaining a “proper” balance of variable to fixed remuneration, the measurement of performance as well as the structure and, where appropriate, the risk-adjustment of variable remuneration. Even smaller or less sophisticated managers should make the best possible attempt to align their remuneration policy with the interests of the manager itself, the funds it managers and their investors.
The guidelines are subject to the proportionality principle; not all managers will be required to implement the requirements in the same way and to the same extent. Esma says some managers will need to apply more sophisticated policies or practices in fulfilling the requirements, while others can meet the requirements in a simpler or less burdensome way.
This will depend in part on the risk profile, risk appetite and strategy of the manager and the funds it manages, as well as their size, internal organisation and the nature, scope and complexity of their activities. Esma says there should be no exemption for managers that are subsidiaries of banks, even though they may already fall under the separate requirements of the Capital Requirements Directive.
The key elements of the guidelines include the internal governance of alternative funds and/or managers, depending on their structure. They stipulate that the governing body of each manager should ensure that sound and prudent remuneration policies and structures exist and are not improperly circumvented. Managers should also determine what kind of staff should be covered by a remuneration policy and disclose the criteria by which they were selected.
The draft guidelines identify the categories of employees to be covered by a remuneration policy. These include members of the governing body of the manager, depending on its legal structure, such as directors, the chief executive and partners. The governing body is distinct from the senior management who effectively conduct the business of management firm, and whom it directs, but they may well be overlap of membership.
They cover control functions, comprising staff other than senior management responsible for risk management, compliance, internal audit and similar functions, including for example the chief financial officer in relation to their responsibility for preparing financial statements.
Staff members responsible for heading the portfolio management, administration, marketing and human resources should have remuneration requirements specific to their category. The guidelines also apply to other risk-takers such as staff members whose professional activities, either individually or as a group, can exert material influence on the manager’s risk profile or on a fund that it manages, including anyone capable of entering into contracts or positions and taking decisions that materially affect the risk positions of the manager or a fund, such as staff, individual traders and specific trading desks. They may also include other high-earning staff that do not fall into any of these categories.
To assess the materiality of influence on the risk profile of a manager of fund, the management firm must define what constitutes materiality within their particular context.
According to Esma, remuneration consists of all types of payment or benefit paid by the manager, any payments by the fund itself, such as carried interest, and any receipt of participation in the fund through shares or units in exchange for services provided by the manager’s staff.
The guidelines distinguish between fixed remuneration, which does not take into account any performance criteria, and variable remuneration that depends upon fund performance or possibly other contractual criteria.
Both types of remuneration can include direct monetary payments and benefits. The latter may include cash, shares, options, cancellation of loans to staff members upon the end of their employment, pension contributions, remuneration by funds, and non-monetary benefits such as discounts, fringe benefits or special allowances toward the cost of items such as cars or mobile phones.
Esma says that ancillary payments or benefits that are part of a general, non-discretionary policy throughout the management firm and do not represent any kind of incentive for employees to take on risks can be excluded from the definition of remuneration for the purposes of the AIFM Directive requirements.
In addition, the requirements do not cover any payments made directly by the fund for the benefit of the selected staff that consists of a pro-rata return on any investment they have made into the fund.
Esma argues that retention bonuses should be considered as a form of variable remuneration and only be allowed as long as risk alignment requirements are properly applied. However, fees and commissions paid to intermediaries and external providers of outsourced functions are not covered by the guidelines.
The guidelines include detailed rules on the establishment, structure and functioning of the remuneration committees that managers that are significant in size or that manage funds that are significant are required to create (and that for others may be considered good practice).
They also cover the principle of alignment of risks, which may for instance entail the retention by the manager of discretionary pension benefits accruing to employees for five years after they have left the firm.
The consultation runs until September 27. Esma is inviting feedback from industry participants and other interested parties, indicating the specific aspects of the guidelines on which they are commenting, a clear rationale clearly stating the costs and benefits, and any alternatives the authority should consider. Esma says it aims to publish a final report before the end of the year, ensuring that the guidelines are in place in advance of the directive’s transposition deadline in July next year.
