AIFMD: Annoyingly Inconsistent Frankly Maddening Directive?

In issue 4 of Credit Funds INSIGHT, our (slightly tongue-in-cheek) article titled “AIFMD: Absolutely Insufferably Fundamentally Materially Defective?” was intended to highlight how difficult it has been for the funds industry, and indeed us poor practitioners, to adhere to all of the requirements of the AIFMD.

Following our article (but, alas, not as a result of it), ESMA published in July both its “advice” and “opinion” in relation to the application of the AIFMD passport to non-EU AIFMs and AIFs, and an “opinion” on the functioning of the existing passport and the national private placement regimes. The key points from these documents are summarised in our briefing “ESMA AIFMD advice and opinion on NPPR and passporting regimes”, available on ashurst.com.

However, it is also useful to look at our previous “complaints” relating to the AIFMD and to consider whether they stand up to scrutiny following the evidence detailed by ESMA in its recent publications (they do) and to discuss whether things have got any easier (they haven’t).

The ESMA “advice”

The advice paper considers the AIFMD provisions which allow for the extension of the marketing passport to non-European AIFMs and European AIFMs managing non-European AIFs.

In its advice, ESMA has stated that Jersey, Guernsey and Switzerland are equivalent and are therefore approved jurisdictions, meaning that European managers with funds domiciled in those jurisdictions can utilise the marketing passport for such funds. It also means that AIFMs set up in those jurisdictions may apply to the “relevant EU member state regulator” (which depends on detailed criteria) for full authorisation under, and be subject to full compliance with, the AIFMD, and may then market those non-EU AIFs throughout the EU on the basis of the AIFMD marketing passport.

Perhaps the most interesting points to come out of the paper are not the identities of the countries that have been “approved”, rather those countries that are currently not approved and the reasons given for this. For example, one of the “reasons” (and it is easy to be sceptical in relation to this) why ESMA noted that the US should not be deemed equivalent was in relation to the regulatory structure in the US regarding “investor complaints”. ESMA points out that the mechanism created by the SEC to resolve investor complaints “cannot force a firm to resolve the complaint”. Highlighting this issue seems somewhat bizarre in the context of AIFMD which is, for all intents and purposes, a “professional” investor directed directive, and it should be noted that in the UK (as an example) there is no formal regulatory process in relation to professional investor complaints either. It also strikes us as an anomaly that there appears to be no evidence put forward indicating that an EU national competent authority (a regulator) has refused a fully completed national private placement application from a US manager. Therefore, it seems somewhat odd to suggest that the US cannot be viewed as an approved jurisdiction vis-à-vis a passport. Clearly, there are political reasons for this decision, particularly those related to “equivalence” (in the regulatory context) that extend far beyond the AIFMD. In summary, we are therefore left with nearly 200 pages of somewhat contrived information leading to results that most might view as being pre-determined.

The timing aspects of the extension to the AIFMD passport are also interesting. Within three months of receiving “positive” advice (i.e. in relation to the countries detailed above) and an opinion from ESMA, the Commission should adopt a Delegated Act specifying the date on which the legislative provisions in the AIFMD will become applicable, whereupon the AIFMD passport would then be extended to non-EU AIFs and non-EU AIFMs. Given that ESMA has only provided such advice in relation to Guernsey, Jersey and Switzerland, it is not clear as to whether the Commission will adopt its Delegated Act and “activate” the passport for AIFMs and AIFs from those three countries within three months of the advice and opinion (i.e. around November 2015) or wait until more countries have been assessed positively by ESMA. If the Commission takes on board ESMA’s suggestion and waits until a sufficient number of non-EU countries have been positively assessed, then the Delegated Act may not come into being until 2016.

This timing is important for other related reasons. Three years after the Delegated Act (therefore maybe in 2018 or 2019), ESMA will issue an opinion on the function of the passport for non-EU AIFMs and AIFs, and advice on the (potential) termination of the national private placement provisions. Further, the AIFMD is going to be the subject of a review in 2017. It is therefore possible that around this time the regime, in relation to marketing, may be overhauled (and, indeed, if ESMA is reading and understanding the evidence (see below) that they are receiving, they should).

The ESMA “opinion”

Moving on to the “opinion”, where we can really compare our previous thoughts in relation to the AIFMD with the evidence that ESMA has received. On the face of it, we must have been wrong, given ESMA’s high-level statement in relation to the national private placement and passport regimes – which apparently have seen no “major issues” – but ESMA requires longer periods of time to gather more evidence to form a final conclusion.

However, when one scratches beneath the surface, the situation appears somewhat different and below is a summary of some of the issues highlighted by respondents to ESMA’s call for feedback. (As a side note, if ESMA views the below as not constituting “major issues”, then perhaps this is the litmus test that should be used when a fund manager AIFM considers what constitutes a “material change” for AIFMD purposes.)

The marketing passport

Firstly, we must consider what the intention of the benefits of the passport was meant to be. If a European manager (with a European fund) has a marketing passport, it should simply be able to go into another member state and market its fund. This should involve three simple steps:

1. an application to home state regulator;
2. the application is sent onward to other relevant regulators; and iii. marketing begins.

If there are any other steps involved in the process, one must question what the point of the whole thing is. Unfortunately, respondents have “identified” (in the same way that one identifies the proverbial elephant in the room) issues, including:

• differing fees charged by competent authorities;
• definition issues in relation to “professional investors”; and
• importantly, a varying interpretation on what constitutes “marketing” in the various jurisdictions.

This final point should not be underestimated and, indeed, is what we previously referred to as the “chicken and egg” problem that appears in many member states where regulators are of the view that marketing cannot commence until all documents are in final form (which is incredibly difficult to do if one is not allowed to negotiate such documents with investors in the first place).

As an ancillary point, ESMA did pick up the fact that certain regulators had implemented additional national requirements compared to the provisions of the AIFMD (such as requiring a centralising agent through which all payments must be channelled) which we (and others) view as a clear breach of the directive.

In summary, the passport does not completely do what it should but, according to ESMA, this is not a “major issue”.

National private placement regime

Unsurprisingly, there were far more issues uncovered in relation to the divergent approaches by competent authorities under their respective national private placement regimes. These relate to many of the issues which we previously identified, such as fee discrepancies, timing problems and general information, and process uncertainties that make the whole process extremely difficult for fund managers to manage (and, for smaller fund managers, almost operate as a barrier to entry).

However, what is more striking, is some of the detail provided by respondents and which seems to sum up the whole process:

• “Among those surveyed, 52% of respondents believe that AIFMD registration requirements have in fact had a somewhat or very negative impact on European limited partners, due to uneven implementation of the AIFMD and the additional requirements posed by certain national regulators”;
• “The regulation might make sense if fund managers were addressing retail investors, which is, however, not the case. We feel the regulation is restricting our access to top fund managers rather than providing us with any benefit”;
• “We do not see any positive impact, only a potential delay in coming to market because of a lack of registration capacity by authorities”.

Indeed, a pie chart is included in ESMA’s paper which indicates that only around ten per cent of respondents believe that the AIFMD registration requirements had any positive impact in relation to investor protection.

Lastly, it does appear that the frustrations around the AIFMD are (again, as anticipated) going to increase as managers begin to feel the full effect of the regulator reporting requirements under the AIFMD. There is a lot of evidence that there is duplication in relation to the reporting process which creates additional costs, particularly since many member states have different interpretations as to the detailed requirements necessary to comply with these obligations and different forms and process for doing so.

Concluding thoughts

What this all points to is the inability of fund managers to be able to properly comply with the AIFMD. Put another way, we do not consider that it is possible (certainly in the case of the national private placement regimes) for a fund manager to be able to market a fund in multiple European jurisdictions while complying with the letter of the rules in each jurisdiction simply because it is impossible to line up all the pieces in the same direction. Therefore, an educated, risk-based approach is perhaps the best a manager can hope for. According to ESMA, however, this is not a “major issue”! More interesting is a point that will perhaps impact beyond the fund managers’ world – in the regulatory sense, the US is a long way from being deemed “equivalent”.

_{This article is part of Issue 5 of our Credit Funds Insight for 2015. To see the full publication, please click here.}