After a significant period of negotiation, the Level 2 regulations pursuant to the EU Alternative Investment Fund Manager (AIFM) Directive were issued by the European Commission on December 19 2012. The controversial areas of negotiation between EU member states focused particularly on delegation and depositary requirements. While there are still a number of areas to be finalised and clarified, the regulations provide a clear indication of the likely final position.
From July 2013 onwards, AIFMs of private equity funds based within the European Union must comply fully with the directive in order to offer their funds to professional investors in the region. The directive will bring with it significant and costly additional regulatory obligations in relation to capital adequacy, leverage restrictions, valuations, manager remuneration restrictions and depositary requirements, among other things.
However, AIFMs of private equity and alternative investment funds based in so-called ‘third countries’ – of which Jersey is one – will be able to continue to market their funds to professional investors within the European Union using existing national private placement regimes until 2018, without having to comply with the more onerous regulatory requirements of the directive, provided that certain conditions are met.
This update examines:
1. why a typical fund structure with a Jersey general partner will be treated for the purposes of the directive as having its AIFM within Jersey and, hence, outside the full ambit of the directive; and
2. how Jersey is meeting the conditions to enable funds with Jersey AIFMs to continue to be marketed in the European Union under EU private placement regimes, and
3. passporting.
Jersey AIFMs
A typical structure for a European closed-ended alternative investment fund is a limited partnership with a Jersey general partner and an investment adviser based in the European Union or elsewhere. In relation to this structure, for the purposes of the directive the AIFM will be treated as being the Jersey general partner for the following reasons:
1. The general partner is legally responsible for the overall management of the fund, including risk management and portfolio management. Although the investment adviser will typically provide the general partner with investment advisory recommendations, the investment decision-making and investment execution authorisation lies with the general partner.
2. The board of the general partner will typically consist of a majority of Channel Island resident directors who are not employees or partners of the investment adviser.
3. Regular board meetings will be held by the general partner and ongoing regular oversight of the performance and operation of the fund will be carried out by the board of directors of the general partner and the administrator, which will be carried out in Jersey.
4. The substance of the administration of the fund will be outsourced to a professional administrator based in Jersey. This will include the keeping of accounting records, the preparation of accounts, capital calls, valuations and distributions, among other things.
5. Jersey has regulatory policies in place that restrict the extent to which regulated parties (which would include the administrator and, for most categories of fund, the general partner) can outsource services to the investment adviser or any other third party. These policies in particular require that ultimate responsibility for the discharge of those services remain with the administrator or general partner, and that the administrator and general partner retain the ability to monitor the performance of any outsourced services.
6. The administrator of a fund and (for most categories of fund) the general partner will be subject to regulation in Jersey that will require them, for instance, to operate to high corporate governance standards.
7. A number of larger private equity managers and AIFMs have their own permanent establishments in Jersey, with their own employees and premises from which to carry out administrative operations. This adds further weight to the proposition that Jersey has appropriate professional infrastructure and fund administration expertise to be a leading jurisdiction in which to establish substantive management and control of an investment fund.
Conditions for private placement
In order to be able to continue to take advantage of existing EU private placement regimes, the following conditions must be met:
1. The jurisdiction must not be on the Financial Action Task Force blacklist – Jersey is highly regarded in terms of its regulatory standards and is not on the blacklist.
2. AIFMs must comply with the directive requirements in relation to transparency, reporting and asset stripping – Jersey will be satisfying this condition through enhancements to existing codes and regulations.
3. Cooperation agreements must be in place with the relevant EU member state – Jersey is on the European Securities and Markets Authority priority list of third countries in terms of agreeing a standard form of cooperation agreement and the expectation is that there will be a single form of cooperation agreement to which all EU member states will sign up. A key condition for a cooperation agreement is that all relevant categories of fund to be marketed into the European Union are subject to an appropriate degree of regulatory supervision.
a. Jersey expert funds are expected to meet this condition with no changes. In relation to Jersey eligible investor funds and Jersey private placement funds, recently introduced regulations include the requisite supervisory powers to meet this condition.
4. For funds which are not to be marketed into the European Union, the existing regulatory regimes for professional investor funds (which are typically used for private equity funds) will remain in place and unaffected. Funds to be marketed in the European Union will continue to be established under existing regulatory regimes, which are enhanced to meet the requirements of the directive.
Passporting
1. The initial focus in Jersey is on meeting the conditions required to be able to continue to take advantage of EU private placement regimes from 2013. However, from 2015, the full passporting regime will also be available to Jersey managed funds, and regulations which are being implemented will in due course also ensure that the requirements for passporting are met.
2. This will provide options for Jersey funds to be marketed into the European Union from 2015 either through private placement or through passporting.
3. As mentioned above, funds established in Jersey and which are not to be marketed into the European Union will remain unaffected.
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