Date 23 June 2013AIFMD – what youshould be doing tocomplyPart 2By Shane Brett,Managing DirectorGlobal Perspectiveswww.glob...
ContentsIntroduction 21. Investor and RegulatoryReporting 32. Domiciliation 43. Liability 44. Illiquid investments 55. Ser...
Global +44 (0) 20 3239 28431. Investor a...
Global +44 (0) 20 3239 2843• US fund man...
Global +44 (0) 20 3239 2843ensure its se...
Global +44 (0) 20 3239 2843Managers shou...
Global +44 (0) 20 3239 2843Similarly as ...
Global +44 (0) 20 3239 2843Order the new...
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Hedge Funds & AIFMD - what you should be doing to comply - Part 2


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This is the second of our two part white paper covering AIFMD and what fund managers should be doing to comply. It is available here -

The first part of this white paper (available here examined many of the main areas fund managers should be reviewing to comply with AIFMD. This included identifying the AIFM, leverage calculations, fund manager authorization, depository selection, remuneration policies, and the requirements for non-European managers.

The second part of this white paper will look at the other important areas of the directive and what is required. These include fund domiciliation, manager liability, reporting requirements, managing illiquid investments and opportunities presented by the legislation.

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Hedge Funds & AIFMD - what you should be doing to comply - Part 2

  1. 1. Date 23 June 2013AIFMD – what youshould be doing tocomplyPart 2By Shane Brett,Managing DirectorGlobal Global Perspectives White Paper
  2. 2. ContentsIntroduction 21. Investor and RegulatoryReporting 32. Domiciliation 43. Liability 44. Illiquid investments 55. Service Providers 56. Organizational Change 67. AIFMD Passport 68. Conclusion 7This is the second of our two part whitepaper covering AIFMD and what fundmanagers should be doing to comply.The first part of this white paper (availablehere examinedmany of the main areas fund managersshould be reviewing to comply withAIFMD. This included identifying the AIFM,leverage calculations, fund managerauthorization, depository selection,remuneration policies, and therequirements for non-European managers.The second part of this white paper willlook at the other important areas of thedirective and what is required. Theseinclude fund domiciliation, managerliability, reporting requirements,managing illiquid investments andopportunities presented by the legislation.IntroductionThe AIFMD regulation comes into force inthe 27 countries of the European Union onJuly 22nd 2013. The main tenets of thiswide ranging legislation are now wellknown throughout the industry. Its scopeis very wide.AIFMD applies to all non-UCITS fundseither managed or marketed intoEurope. As well as hedge funds this alsoincludes private equity funds, fund ofhedge funds and real estate Funds.Currently fund managers should becompleting a detailed impact assessmentto ensure they are ready for AIFMD. Theyshould also be putting in place concretesteps to ensure they will comply with theregulations.Global Perspectives( can assistin completing your AIFMD impactassessment and implementing itsrequirements.
  3. 3. Global +44 (0) 20 3239 28431. Investor and RegulatoryReportingReporting is a major newrequirement under the regulations.AIFMD requires significant initial,on-going and exception basedreporting to both investors andregulators.• RegulatorsAIFMD requires on-going reportingto European regulators, similar tothe recent Form PF reportingrequirement in the United States.Indeed some of the questions arenearly identical.These questions cover the basicfund and fund managerinformation, as well as specificdetails regarding liquidity,exposure and the underlyinginvestments of the fund.The challenge here is that eachfund manager must submit thereport to their home regulator -and neither its final structure northe date of first report submissionhas been published! This is makingthe reporting process a challengefor many managers.Some regulators (like Ireland andthe UK) are happy to have atransition period and allowmanagers to begin filing in 2014.Other countries (notablyLuxembourg) have made noisesabout requiring their fundmanager’s file for the first time inOctober this year based on theperiod July – September 2013. Thiswill be a big ask for manymanagers.To try and alleviate these concerns ESMA,the European super regulator, has justreleased draft guidelines as to how thereporting template should be completedand gives a timeline for submissionbeginning in January 2014.Managers should now be reviewing thissubstantial document closely andpotentially working with their serviceproviders to agree the data gatheringprocess.Some administrators are offering tocollate this data for managers as anadditional service offering. They will havemuch of the required data on theirsoftware systems.Finally, it is important to note that ESMAguidelines are only proposals and the finalguidelines will not be known until at leastSeptember 2013 – 2 months after theAIFMD legislation comes into force!• InvestorsSeparately AIFMD has specificrequirements regarding reportinginformation to your investors. Informationregarding leverage, risk management andthe use of collateral must be reported toinvestors at least annually.Similarly if a fund manager enters any“special arrangements” on the fund (e.g.gating, side pockets etc.) investors mustbe immediately advised.To ensure compliance here Managersshould be speaking to the Transfer Agencydepartment at their administrator. Theyshould be able to facilitate the investornotification process as part of their TAservice offering.
  4. 4. Global +44 (0) 20 3239 2843• US fund managersA final word regarding reporting fornon-European managers. Goingforward non-European managerswho are in-scope for AIFMD (i.e. ifthey plan to market their fundsinto Europe) will be required tosubmit “transparency reports” to aEuropean regulator. This will applyto most US managers. Thesereports must include details of thefund and its exposure andinvestments. Many US managersare now slowly waking up to theserequirements.We will cover the full AIFMDrequirements for non- Europeanmanagers in full detail in aforthcoming Global Perspectiveswhite paper. Sign up to ourdistribution list (at the end of thiswhite paper) to receive it.2. DomiciliationOver the past few years a debatehas taken place within the industryabout whether it would be easierfor a manager to change thedomiciliation of their funds, eitherto register them in Europe andhave them fully in-scope for AIFMDor register them outside the EU toavoid some of the regulations mainrequirements (at least for the nextfew years).Some large managers have alreadyre-domiciled in recent years, eithermoving all their funds into theEuropean Union, or moving themall to an offshore jurisdiction likeCayman.A further option being discussed iswhether fund “co-domiciliation”could be an attractive option. Forthis a manager would run both an offshorefund (e.g. domiciled in Cayman) and anonshore fund domiciled in Europe. Theonshore fund would mirror the offshoreentity.While co-domiciliation would overcome theregulatory restrictions imposed by AIFMD,we would consider co-domiciliation achallenge to run operationally.Costs would be higher for the onshorefund due to depository and leveragerequirements. Reporting and regulatoryobligations would also be much tighter.Currently fund Managers should beconsidering the existing and likely futuredomiciliation of their funds. Futurestructures should be analyzed and mayneed to be restructured if a fund is judgedto be inadvertently in-scope for AIFMD.It is important to note however, that evenfunds registered outside Europe to avoidAIFMD will have to comply on a phasedbasis in the years ahead, if they want tomarket their fund into the EuropeanUnion. In the future it will be very difficultto escape AIFMD’s net.3. LiabilityAIFMD substantially increases liability forfund managers in many areas. Theobligation is now squarely on the managerto ensure their fund is compliant.While the new depositary is on the hookto investors should the fund go belly up;the fund manager is responsible to theirregulator in most areas should somethinggo wrong.For example, in the future it will be farharder to blame the fund administrator ifa NAV is struck incorrectly or there areoperational errors on the fund. Thedirective is clear that it is theresponsibility of the fund manager to
  5. 5. Global +44 (0) 20 3239 2843ensure its service providers complywith all aspects of the regulation.It is also the manager’sresponsibility to ensure thedepositary receives all data andreporting required from the fund’sadministrator. This will be requiredby the depositary in order toperform their on-going checks andreviews on the fund.As part of this enhanced liabilitymanagers will also be obliged toconduct regular due diligence ontheir service providers (see partone of this white paper for moredetails). The top tier investmentmanagers are doing this already.AIFMD now makes this a legislativerequirement.Managers should be completing adetailed review of the articlesrelated to liability and performing agap analysis against their internalset- up and processes. Where aretheir gaps? What changes need tobe made? Are your serviceproviders deficient in any area? Areyou?4. Illiquid investmentsAIFMD has specific requirementsfor funds that hold investmentswith limited liquidity.To confuse matters AIFMD doesnot properly define “limitedliquidity”!Private equity and real estate willobviously fall into this category butit is not clear if lightly tradedstocks or bonds (e.g. emergingmarket debt or small cap shares)are also in-scope.The directive does not preclude or prohibitinvestment in these types of assets.Instead it prescribes a process that mustbe put in place regarding how theseassets should be managed anddocumented by the fund manager.If a manager holds assets with limitedliquidity they must prepare a businessplan for how these investments will bemanaged. This must be regularly updatedby the manager. Transactions must beconducted in accordance with the businessplan and due diligence must also becompleted and documented on the assetsin question. Performance of the assetsmust then be monitored on an on-goingbasis by the fund manager with referenceto the business plan.These requirements will obviously have asignificant impact on Private Equitymanagers. These managers shouldcurrently be drafting their business plan inrespect to all in-scope illiquid investments,as well as setting up the prescribedinternal processes to document andmanage these requirements. For some PEmanagers this will be a large,cumbersome task.We will review the full AIFMDrequirements for private equity managersin a forthcoming Global Perspectives whitepaper. Sign up to our distribution list (atthe end of this white paper) to receive it.5. Service ProvidersThe 116 articles of AIFMD are asking a lotfrom European managers. More than everbefore managers now need world-classservice providers they can lean on toprovide assistance with data gathering,reporting and automated calculations (e.g.leverage). The importance of a goodadministrator and fantastic software isincreasing.
  6. 6. Global +44 (0) 20 3239 2843Managers should be speaking totheir service providers regularly toensure they are ready for AIFMD.This will include conversationsabout reporting to the regulator,liaising with the fund’s newdepository, potential changes toareas like valuation policy andensuring that you as the fundmanager are satisfied that yourservice providers are operationallyready for AIFMD.Managers would be recommendedto consider how their serviceproviders can assist them inmeeting their AIFMD obligations.For example for the new reportingrequirements, the administratorwill likely have most of the dataAIFMD requires for submission.Some of the larger administratorsare planning to offer this servicethis as a new service.A number of compliance softwarevendors are also building specificapplications to aggregate the datarequired for AIFMD submission.Contact us for more details.6. Organizational ChangeAIFMD compliance will meansignificant change to operationalprocesses, data collection andreporting for many managers.What was previously good businesspractice (e.g. regular due diligence,communication to investors andappropriate data retention) nowbecomes a legal requirement.This means managers may have tobulk up their internal operationaland data gathering capabilitiessignificantly in order to comply.This may be relatively easy for largermanagers but many mid-tier players arefeeling the squeeze.Currently fund managers should beassessing their own organizationalstructure to ensure it is fit for the newAIFMD world. If they have a concernregarding their organizational capabilitythey may want to review what servicescan be outsourced to a third party and ifthis is allowed under the directive.We recommend using the requirements ofAIFMD as an opportunity to review yourlong-term business strategy. This shouldinclude not just what you need to do tocomply but also using the regulationrequirements and its move totransparency, as an impetus to build awork class alternative asset managementbusiness.7. AIFMD PassportAs can be seen from this two part whitepaper AIFMD has a huge amount ofregulatory requirements for alternativefund managers. So the question should beasked, are there any positives that can betaken from this legislation?The reward for all this hard work will bethat AIFMD approved managers can“Passport” their funds across the wholeEU, similar to the existing UCITS regime.We see significant opportunities for thegrowth of an EU AIFMD passport for hedgefunds in the years ahead. The UCITSpassport has been very successful as away for managers to establish credibilityglobally and allows investors to recognizequality.AIFMD may be particularly useful in newemerging markets (for example in Asia).
  7. 7. Global +44 (0) 20 3239 2843Similarly as more traditionallypension funds carve out anallocation to alternativeinvestments, those hedge fundmanagers with AIFMD accreditationmay be at a significant marketingand sales advantage.8. ConclusionFor the last couple of years wehave been advising clients thatAIFMD would fundamentallychange the alternative investmentindustry.This two part white paper hasoutlined the sheer breadth of thelegislation and the number ofchanges required by alternativefund managers.This legislation combined withexisting regulatory initiatives likeFATCA and Form PF will prompt asurge in industry consolidation.The future will comprise a smallernumber of hedge fund managers,managing larger funds. Theminimum threshold AUM to run aviable fund is growingsubstantially. This will represent achallenge for startup managers.Consolidation will also be seenacross service providers as manymanagers seek a large “one-stopshop” to provide administration,custody and depository services.The scale of AIFMD’s depositoryliability will favor thoseadministrators with a large bankand deep pockets standing behindthem.Global Perspectives will continue to look atthe impact of AIFMD in forthcoming whitepapers.This will include analysis of therequirements for both private equitymanagers and those managers locatedoutside Europe, in the US and Asia.Sign up to our mailing list to receivethese free research publications:-!whitepapers/c1a4eor
  8. 8. Global +44 (0) 20 3239 2843Order the new book (Jan 2013)-“The Future of HedgeFunds”By Shane BrettThe last 2 decades havetransformed the Hedge Fundindustry from a niche investmentsegment to a massive globalindustry.In this excellent and wide-rangingstudy of the Hedge Fund industry,Shane Brett examines the mainissues and trends currently takingplace, and analyses how they willaffect the future of the industry.This includes-• Changing investor demandsacross the industry,• New regulatory requirements -including FATCA, AIFMD & theJOBS Act,• Future operational trends -including Operational Due Diligence& Managed Account Platforms,• Emerging Service Provideropportunities – including HedgeFund Administrators,• Hedge Fund investment strategy- including new emerginginvestment opportunities,• Best practice changemanagement – how to manageHedge Fund industry change.The “Future of Hedge Funds” alsoexamines the current and futureglobal economic environment andwhat this will mean for HedgeFunds in the years ahead.Available from Amazon in paperback for Kindle