We outline in this Alert the importance of the Alternative Investment Funds Managers Directive (Directive 2011/61/EU) or “AIFMD” to US managers of non-EU alternative investment funds (or “AIFs”) that are promoted into the EU. This Alert is based on the assumption that the US manager is not and does not wish to become authorised and regulated by an EU financial regulator.
1. What are my current options for AIFMD compliance?
A US manager of non-EU funds that does not have an EU office that is EU regulated broadly has the following options:
a. Private Placement: Comply with the national private placement regime of each EU country into which you wish to market funds which involves registration, transparency and investor disclosure requirements. You need to do this as a matter of urgency because it is not optional. An EU marketing passport for non-EU regulated managers may become available from 2016.
b. Establish an onshore EU regulated manager: This would of course entail fairly significant time and expense. The EU entity will need to be responsible for at least portfolio management or risk management and have real substance to gain its authorisation and be considered to be the AIFMD of the funds the group wishes to market in the EU. This option does have the benefit of solving the marketing issue because the EU regulated entity could manage EU domiciled funds which would benefit from the AIFMD marketing passport so compliance with multiple private placement regimes would not be required.
c. Use an AIFMD platform provider: We have been in contact with service providers who provide services from the provision of sub-funds of existing structures to stand alone US manager branded funds for which they will act as the AIFM. Due to the liabilities taken on by the AIFM under the Directive, a US manager will need to share its management and/or performance fee with the service provider and depositary and administration fees would apply at fund level. These arrangements will need to be vetted carefully to ensure that the US manager is not viewed as the AIFM under the “letterbox” provisions under the AIFMD. Some managers may view this as an interim solution pending the resolution of the passport for non-EU regulated managers.
d. Rely on reverse solicitation or “passive marketing”: While AIFMD does not affect passive marketing rules, an analysis would need to be undertaken for each country separately to determine what can or cannot be done. In some countries, for example, “pre-marketing” is viewed as full marketing which would attract the full force of their private placement regimes. Where passive marketing will be relied upon it will be important to have detailed procedures in place as to what constitutes passive marketing and documentary evidence in relation to each request for information. Use of reverse solicitation as a means of circumventing the AIFMD will be reviewed by regulators in the short to medium term. Reliance on passive marketing rules is likely to be difficult for widely syndicated funds or where active marketing is necessary to secure commitments.
2. Is private placement of non-EU AIFs permitted in the EU?
- A qualified “yes” because each EU country must elect whether or not it will continue its national private placement regime or “NPPR” or instead require full compliance with AIFMD.
- In 2018 the European Securities and Markets Authority will report to the European Parliament on whether the EU should retain or outlaw national private placement laws. The expectation is that NPPRs will be phased out so US managers should consider their long term strategy for accessing EU investors.
- Member states may impose stricter conditions than are permitted under AIFMD which means that a separate analysis is needed for each member state into which a fund is intended to be marketed.
- Austria, Croatia, Denmark, France and Germany have to varying degrees restricted private placement so in some cases this may ultimately require the US manager to become authorised by the relevant EU regulator into which it first markets funds as an “alternative investment fund manager” with consequential changes being required in respect of the non-EU funds being marketed and so on.
- Before conducting any marketing activities a US manager must seek advice whether the EU country into which it markets permits private placement at all and, if so, what the requirements and procedures are that may affect it and the funds that it proposes to market.
3. If private placement is permitted, can a US manager continue to market in the way it has always done?
- For each EU member state the US manager will need to conduct a feasibility analysis to assess at the outset whether the basic AIFMD requirements are capable of being met – cooperation arrangements must be in place between that EU state and the country where each fund was formed; the country where each fund was formed cannot be on the Financial Action Task Force (“FATF”) blacklist; and the funds and the US manager will need to comply with the additional requirements set out below.
- Registration of the US manager and each fund is required separately with the regulator of each EU state into which a fund is marketed.
- AIFMD investor disclosure requirements must be complied with which may require a PPM update or an additional disclosure document to be produced which must be provided to prospective investors before investment with material changes to that information being notified to investors on occurrence.
- A fund annual report complying with Article 22 of AIFMD must be made available to EU investors within 6 months of financial year end. One of the reporting obligations is to report on the total amount of fixed and variable remuneration paid by the US manager to its staff and beneficiaries (including any carried interest arrangements).
- Regulator reporting requirements will be imposed by the regulator of each EU country into which the funds are marketed so the US manager must factor potentially a multiplicity of reports into its compliance procedures.
- A registration fee will need to be paid up front and then annually by the US manager in respect of itself and for each fund to access the NPPR which differs between the member states.
- Asset stripping and major shareholding notifications may apply to private equity funds.
There are some exemptions to the AIFMD requirements however these do not apply to larger asset managers.
4. What position is the UK taking?
- The UK has instituted a new registration and reporting NPPR which US managers of non-EU AIFs established (i) before 22 July 2013 who want to market into the UK will need to comply with from 22 July 2014; and (ii) after 22 July 2013 wishing to market into the UK will need to comply with now.
- The UK NPPR regime needs to be complied with before marketing an AIF so US managers of existing AIFs need to address NPPR registration now so that promotion activities can continue uninterrupted after 22 July 2014.
- The UK has implemented the AIFMD in a pragmatic fashion. Unlike a number of jurisdictions, the UK has not imposed any stricter NPPR requirements than those under the AIFMD. Any non-EU funds below the de minimis threshold for example, only need to comply with a registration process and minimal disclosure requirements. Some jurisdictions, including Germany and Luxembourg, only apply the de minimis threshold to domestic funds. As a result we have found that some US managers wishing to access the EU market have decided to only promote into the UK.
5. Is it possible to delegate portfolio management and still be a non-EU AIFM?
- “Yes”, however the AIFM must carry out at least risk management or portfolio management.
- It is possible for an internally managed non-EU AIF or US manager to retain risk management and delegate portfolio management and still remain a non-EU AIFM. Such arrangements need careful vetting to ensure that the AIFM is not simply a "letter box".
6. Can the US manager avoid AIFMD requirements for reverse solicitation investors?
- Theoretically “yes”, where the country concerned does not have any additional regulation dealing with passive marketing.
- In practice one would need to conduct an analysis for each target country to determine how restrictively it interprets reverse solicitation and what “marketing” means to its regulator. This will differ between the EU states.
- Passive marketing is unlikely to be a viable long-term solution where the intention is for the fund to be widely syndicated or where any active steps need to be taken to secure investor commitments.
7. Registration with each EU regulator is too administratively burdensome. Can the US manager apply for a marketing passport in relation to non-EU AIFS that applies across the EU instead?
- “No”, unfortunately marketing passports will not become available to non-EU managers until the end of 2015 at the earliest.
8. What approach should US managers of non-EU AIFs consider taking?
- Identify in respect of each AIF the EU states into which it is marketed or desired to be marketed.
- Determine if each of those EU states has a NPPR and the form that the NPPR takes in each EU state.
- Assess in principle if each AIF complies with the basic NPPR conditions (cooperation arrangements being in place with the relevant EU states and the AIF formation jurisdiction and again that jurisdiction not being blacklisted by FATF).
- Obtain NPPR advice on the conditions and procedures to be followed for each EU states where the outcome is positive. Remember that EU states can impose harsher conditions so there will be divergences in the approach taken.
- Review fund offering documents to ensure that the required pre-sale investor disclosures are captured.
- Register the US manager and each AIF with the regulators of the applicable EU states identified above.
- Incorporate AFIMD compliance into the manager and AIF governance and compliance procedures.
- Restricting marketing to only those EU states where the manager and the AIF concerned is registered with the local regulator.
- Take steps to ensure that the regulatory reports and NPPR fees payable to each EU state regulator are made and paid in good time.
- Amend AIF annual reports to comply with AIFMD requirements.
Please note that this Alert is provided for information purposes only, does not constitute legal advice and solely reflects the views of the author and not those of Reed Smith LLP as a firm.
The Reed Smith Investment Funds and Regulatory practices have global coverage with more than 20 partners across the United States, the EU and Asia. We would be happy to assist you to navigate AFIMD, US securities laws and other regulatory issues during this period of unparalleled change in the investment management industry. Please call your usual Reed Smith contact or the author if you wish to receive legal advice tailored to your business.
Client Alert 2014-169