"While the overall picture is a lot clearer than it was 12 months ago, significant challenges exist for marketing funds in Europe and these will certainly continue for the foreseeable future."
Clearly, one of the biggest implications that the introduction of the Alternative Investment Fund Manager’s Directive (AIFMD, or Directive) has had both inside and outside the European Union is the way in which it has affected the ability of private fund managers across the globe to access investors based in the European Union. This article will assess the current marketing landscape and will also examine how marketing strategies may develop over the next few years.
As a reminder, only alternative investment fund managers who have their registered office in the European Union, and who are marketing a fund which is also established in the European Union, can use and benefit from the marketing passport that is provided for under the Directive. The clear advantage of the passport is being able to market to “professional investors” (as defined in the Directive) throughout the European Union, without having to rely on increasingly difficult national private placement rules. Early experience shows that using the passport is relatively straightforward, with an obligation to submit a passport application to the relevant “home state” regulator together with the various information about the fund which is subject of the passport application. Generally speaking, regulators have up to 20 working days to review the passport application and then notify the other relevant EU national regulators accordingly. A number of local regulators, once they receive the notification that a fund is to be passported into their jurisdiction, are attempting to charge fees (both initial and annual recurring ones) for passporting a fund into their particular jurisdiction. It is questionable whether this is actually allowed by the Directive and there is uncertainty as to what the impact would be of a manager refusing to pay such fees. As a practice point it is sensible only to apply to use the passport in those jurisdictions where the manager does clearly intend to market the fund in question as some of those jurisdictions which are trying to charge the largest fees (eg, Latvia and Malta) are unlikely to be of interest from a marketing perspective.
The other main uncertainty surrounding the use of the passport is the Directive requirement that any “material changes” to the information provided in the initial passport application must be notified to the regulator and one month must have elapsed before such changes can be implemented. As yet there is little by way of official guidance as to what constitutes a “material change” for these purposes but it has been suggested that suitable criteria would be that there was a substantial likelihood that a reasonable investor, if aware of such changes, would reconsider its investment in the fund in question.
Early evidence does suggest that a number of private fund managers in the EU are less reluctant to become full-scope Directive-compliant firms than was initially expected; indeed a number of sub-threshold firms are opting to comply with the Directive primarily to get the benefit of the marketing passport.
What has been abundantly clear since the introduction of the Directive is the way that a number of major EU jurisdictions have updated their private placement regimes, which has resulted in major difficulties in continuing to access local investors. In addition, where previously many people thought that merely including an appropriate disclaimer or legend in a private placement memorandum or other offering document would “tick the box” with respect to a particular jurisdiction, there is now a renewed emphasis and awareness on proper compliance with national securities laws. This is partly due to the cooperation agreements that have been put in place between third countries and the major EU jurisdictions as well as the notification requirements that have been introduced ensuring that non-EU private fund managers are “on the screen” of local regulators in a way that did not happen previously. There is also anecdotal evidence of investors trying to claim (after the fact and particularly in respect of poorly performing funds) that a particular fund was sold to them in breach of local marketing requirements thus leading to a possible claim against the fund manager.
EU jurisdictions have reacted in a number of ways and there is now a patchwork of rules that need to be navigated carefully in order to continue to market funds in Europe. The current position can be briefly summarised as follows:
• A number of jurisdictions have introduced a notification requirement before marketing can commence, but are otherwise continuing previous private placement regimes which allow marketing to professional investors (the United Kingdom and the Netherlands are examples of such an approach). Assuming compliance with the limited Directive provisions which apply, marketing in these jurisdictions is relatively straightforward.
• Some jurisdictions have introduced a registration/local regulatory approval regime before any marketing in that jurisdiction can commence. A number of Nordic countries have followed this route, including Sweden and Finland. While the applications are not unduly cumbersome, the approval can take a few months to achieve, thus potentially impacting upon closing timetables.
• There are jurisdictions that not only require local regulatory approval but have also introduced certain additional Directive provisions. The most obvious examples here are Germany and Denmark, which require the appointment of a depositary (one of the main changes introduced by the Directive) to the fund in question. This has provided particularly problematic for small and medium-sized managers, who may not currently have custodian arrangements for their funds. A number of service providers have however adapted their depositary offerings to focus on the non EU market as well.
• Finally, some jurisdictions have in effect made it very difficult to market funds on any type of private placement basis; for example, Italy, France (to a certain extent) and Austria. This is either done deliberately in order to favour local fund managers or, in some cases, due to the complete lack of a suitable legal framework for private placement, particularly in light of voluntary passporting which is likely to be introduced in the next couple of years.
Again, early evidence shows that quite a number of non-EU based private fund managers are opting to avoid marketing in the EU completely. However, it is also clear that those non-EU managers that have substantial investor bases in the EU cannot afford to forego European fundraising and an increasing number are now having to proceed with the registration/approval requirements in certain jurisdictions, but it is very much a case-by-case analysis to decide whether the cost and additional compliance burden is worthwhile. In addition, there are no de minimis exemptions which (absent genuine reverse solicitation) would allow marketing to a small number of investors.
This patchwork of private placement rules has brought into sharp relief some fairly important (and in some respects seemingly obvious) issues.
WHEN DOES MARKETING BEGIN?
As the obligation to register and file occurs prior to marketing commencing, this is a critical issue. “Marketing” is not properly defined in the Directive and again, rather unhelpfully, different countries have their own views on when marketing is deemed to have started. For example, the UK has introduced useful guidance such that marketing only commences once an investor has received all of the information necessary for it to be able to make an investment in a fund, but other jurisdictions have an “earlier” definition such that once a private placement memorandum is provided then marketing will have started. However, as a rule of thumb, in most jurisdictions some type of soft/pre-marketing will be permitted (eg initial calls to investors, teaser documents) without triggering filing obligations.
WHERE IS MARKETING TAKING PLACE?
Again, this seems fairly straightforward but it is important to remember that the Directive applies to marketing to investors who are “domiciled” or have a registered office in the European Union. Particular issues therefore arise where investors have multiple presences and offices and invest through vehicles or structures which are domiciled in different jurisdictions. In addition, gatekeepers and managed account providers are often the focal point of a marketing exercise but the underlying investor is a different entity. However, although this question is often raised, merely meeting an EU-domiciled investor outside the EU is not a legitimate way of circumventing the Directive.
Much has already been written about the extent to which reverse solicitation could constitute a viable marketing strategy for accessing investors domiciled in the EU. While it is clear that reverse solicitation can be effective in a number of situations where only a limited number of investors are involved, it seems difficult to build a broader marketing strategy (particularly where placement agents or Introducers are used) around it. Again, quite a few jurisdictions have issued fairly restrictive guidance on how far reverse solicitation can be used – for example, a requirement that the solicitation required from the investor should be specific about the fund in question, rather than a general approach to the manager. Larger and more proactive EU-based investors are reaching out to managers more often as they are well aware that marketing to them has become more difficult. In addition, a proper paper trail will be important in ensuring that an effect reverse solicitation occurred.
HOW WILL MARKETING STRATEGIES DEVELOP?
While the new rules have only come fully into force over the past few months it is clear that the current situation will not last too long. This is due to the following factors:
• the probable introduction of the marketing passport for non-EU funds and managers in the next couple of years. It is evident that the EU is keen to do this relatively quickly. One possible consequence is that certain jurisdictions will turn off any private placement regime and only allow private funds to be marketed under a passport. This will be particularly problematic for non-EU managers as using the passport will require full compliance with Directive;
• the possibility of certain EU-based investors being restricted to investing only in fully Directive-compliant funds, either through local legal requirements or other policy decisions;
• the likelihood that a number of jurisdictions will review their own updated private placement rules in the near future, either in light of feedback from their local investor community (and again there is early evidence of this starting to happen) or as a result of the introduction of the voluntary passport; and
• how comfortable managers will be solely using reverse solicitation.
While the overall picture is a lot clearer than it was 12 months ago, significant challenges exist for marketing funds in Europe and these will certainly continue for the foreseeable future. A number of service providers are now offering platform solutions, such as establishing EU-based feeder funds which can be passported, but these will be costly solutions and not suitable for many managers.
In practice it is likely that managers will focus, in the short term, on those EU jurisdictions where private placement is relatively straightforward (eg, the UK) but absent a significant investor base they will avoid others, unless reverse solicitation is viable. Passporting will become increasingly important, particularly for EU-based managers.