Beverly Chandler, Opalesque London: Su Cheen Chuah of Hong Kong based law firm Deacons has written a timely note on the potential impact of Europe's AIFMD on Hong Kong based managers.
Su Cheen Chuah
Chuah writes: "The Alternative Investment Fund Managers Directive (AIFMD) is a European Union (EU) Directive which introduces a new regime to regulate alternative investment fund managers (AIFMs) with the aim of increasing investor protection while reducing systemic risk. It must be implemented into the national laws of EU Member States by 22 July 2013."
Fundamentally, changes introduced by the AIFMD include the requirement for the authorisation of certain AIFMs, and the imposition of certain organisational requirements and compliance obligations on AIFMs together with continuing reporting and disclosure obligations.
Beyond that, the AIFMD introduces an EU passport system for the marketing of alternative investment funds (AIFs) and it is here that an AIFM can market its funds to professional investors across the EU Member States on the back of authorisation in a single EU Member State. Chuah writes: "Although initially only applicable to EU AIFMs managing EU AIFs, from July 2015 the passport system may be extended to permit non-EU AIFMs authorised in accordance with the requirements of the AIFMD to market all AIFs to "professional investors" across the EU."
Chuah identifies five frequently asked questions Hong Kong based fund managers have on the AIFMD legislation.
1. Does AIFMD apply to me?
Yes, if you (i) manage an EU AIF; or (ii) market non-EU AIFs (such as Cayman funds) to investors in the EU.
2. What constitutes marketing?
The AIFMD only applies if you actively market one or more AIFs under your management to investors in the EU. You will be considered to be marketing your AIFs if you make "a direct or indirect offering or placement of units or shares of the AIFs" to investors in the EU. For this, the Financial Conduct Authority (FCA) in the United Kingdom (UK) is of the view that in order for units or shares of an AIF to be available for purchase by potential investors, the prescribed documentation and information (e.g. private placement memorandum and subscription agreement) must, in all material respects, be in final form. Thus, draft documentation and any communications in connection thereto may not fall within the meaning of an offer or placement for the purposes of the AIFMD.
3. Does AIFMD apply if EU investors invest via reverse solicitation?
No; if an EU investor invests in your AIFs on their own initiative (i.e. via a reverse solicitation), there is no need for you to be AIFMD compliant.
According to the definition, marketing is conducted "at the initiative of the AIFM or on behalf of the AIFM". Thus, reverse solicitation falls outside the scope of marketing under the AIFMD and can continue on or after 22 July 2013 where it is recognised and permitted by the local national law in the relevant EU Member State.
However, what is a reverse solicitation may be limited in practice. The onus will be on you to maintain records which clearly prove that the investment was not initiated by you.
4. Can I still rely on the private placement regime to market in the EU?
You will be able, until at least 2018, to continue marketing in an EU Member State under that EU Member State's private placement regime subject to compliance with certain AIFMD requirements. Key obligations will include:
Annual reporting - Annual Reports must be furnished to the relevant regulators in the EU Member States and made available to investors no later than six months after the AIF's financial year end. Annual Reports must include disclosure on financial statements, fund activities, fund manager remuneration and any material changes to key operational, risk and management features of the AIF, and include any material changes throughout the year.
Pre-investment disclosures to investor - Disclosures to include information on all fees and expenses borne by investors, descriptions of liquidity risk management, latest NAV and historical performance of the AIF, details of any preferential treatment provided to an investor, together with risk profile, valuation and management procedures.
Ongoing disclosures to investors - Periodic disclosures to investors on the percentage of the AIF's assets which are subject to special arrangements arising from their illiquid nature (e.g. side pocket arrangements), any new liquidity management arrangements, the current risk profile of the AIF and the risk management systems employed to manage those risks.
Pre- and post-investment reporting obligations to the regulator of the relevant Member State(s) - AIFMs must disclose certain information on liquidity and risk management arrangements, principal markets and instruments traded on behalf of the AIF, percentage of fund assets subject to special arrangements arising from their illiquid nature, arrangements for managing liquidity, the risk management systems employed, current risk profile of the AIF, and the results of stress tests performed in line with the AIFMD.
In July 2018, and on the advice of the European Securities and Markets Authority (ESMA), a determination will be made as to whether the private placement regime should be abolished. If it is abolished, the only way to access EU investors would be to become a fully-compliant AIFM.
Note that in order to take advantage of the private placement regime, there must be in place co-operation agreements between (a) the competent authorities in each EU Member State where the non-EU AIF is to be marketed; (b) the supervisory authority of the domicile of the non-EU AIF; and (c) the supervisory authority of the country where the non-EU AIFM is established. On 22 May 2013, ESMA approved Memoranda of Understanding (MoUs) on co-operation with 34 regulators, including Hong Kong's Securities and Futures Commission. While ESMA has negotiated the MoUs centrally, they are bilateral agreements that must be signed between each EU securities regulator and the non-EU authorities. The actual supervision of AIFMs lies with the national securities regulators, therefore each authority decides with which non-EU authorities it will sign an MoU.
5. What should I do next if I intend to market in the EU under the private placement regime after the implementation of the AIFMD?
You should consider taking the following steps if you intend to market your AIF in the EU after the implementation of the AIFMD:-
Identify the EU Member States that you currently market or intend to market your AIF with a view of determining (i) whether you are still able to take advantage of their private placement regime; (ii) whether there are any changes to their private placement and other applicable securities regimes being introduced in conjunction with the AIFMD implementation; (iii) whether those EU Member States have entered into the necessary co-operation agreements; (iv) what you need to do to ensure that you can comply with their private placement regime requirements.
Review your AIF private placement memorandum and annual report to ensure that they comply with the AIFMD transparency and disclosure requirements.
Ensure proper systems, policies and procedures are in place in order for you to comply with on-going reporting obligations to the relevant EU competent authorities and on-going disclosure/reporting requirements to investors.
(This piece first appeared in Opalesque on June 5th.)
This article was published in Opalesque's Asia Pacific Intelligence our monthly research update on alternative investments in the Asia-Pacific region.