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Marketing into the EU: Considerations for US asset managers

  • Europe
  • Financial services and markets regulation
  • Investment funds and asset management

05-03-2021

With a total population of 446 million inhabitants and a nominal collective GDP of around US$14 trillion, the European Union (“EU”) represents the world’s second largest market and a key target for the global asset management industry.  However, with 27 separate member states separately implementing (and interpreting in slightly but sometimes significantly different ways) a number of overlapping Union-wide Directives, the barriers to entry for non-EU asset managers can be daunting. 

In this briefing we discuss the key considerations for US and other non-EU asset managers hoping to market to an EU investor base and the pros and cons of the two main options:

  • securing a marketing passport
  • applying for authorisation in a single member state via its national private placement regime (“NPPR”)

Further, we address the following questions:

  • What are the key pieces of regulation
  • Who do they cover
  • Are there any exemptions
  • How do I reach my target market in a cost effective way

AIFMD

For investment managers operating from or marketing a fund in the European Union, the chief regulatory barrier will be the Alternative Investment Fund Managers Directive (“AIFMD” or the “Directive”), which has been implemented by member states across the EU.  AIFMD has a broad scope and sets out requirements for qualifying managers; any alternative investment fund (“AIF”) managed in the EU must be managed by an authorised Alternative Investment Fund Manager (“AIFM”).  AIFMD also regulates the marketing into the EU of AIFs which are established and/or managed outside the EU. The definition of AIF given by AIFMD includes any “collective investment undertaking, including investment compartments thereof, which raises capital from a number of investors with a view to investing it in accordance with a defined investment policy for the benefit of those investors”.  This is a wide net and the requirements of AIFMD apply across the industry with the exception of UCITS funds which are both established and managed within the EU as these are separately regulated under the UCITS Directive.

One of the benefits of AIFMD is that it can grant funds an EU wide (technically European Economic Area (“EEA”) wide)[1] passport, which enables an AIF to be marketed freely to “professional investors” across the trading bloc using its home state authorisation (see ‘who is covered by the marketing passport?’ below for more information).  Currently only EU AIFs manged by EU AIFMs are eligible for the marketing passport.[2]  Crucially, this applies to the entirety of any given fund structure, which means that for an AIF in a master/feeder structure to be eligible for the marketing passport under AIFMD, both the master and feeder vehicle must be (a) established in the EU, and (b) each must have an authorised EU AIFM.

In practice this means that a European feeder fund will not be eligible for the marketing passport if it feeds into a Delaware master fund (to take one example), even if the European feeder fund is overseen by an EU AIFM.

Securing a marketing passport

US and other non-EU asset managers can apply for AIFMD status themselves, but because funds they manage they will never be eligible for the EU marketing passport, it is generally not worth incurring the steep costs (in both time and resources) associated with AIFMD authorisation.  For this reason, non-EU firms wanting to market widely in the EU are generally encouraged to establish a new fund in EU and retain the services of a third party or host AIFM who takes responsibility for AIFMD compliance.  Third party AIFMs – typically based in Ireland or Luxembourg – will usually offer fund administration alongside AIFMD compliance as a packaged service.

While the master/feeder restrictions can cause difficulties for those managing capital for EU and non-EU jurisdictions, once an EU fund is established with an EU manager, it is possible to tailor the structure so that the fund co-invests into underlying investments in parallel with (what would otherwise be) a “master” non-EU fund.  This arrangement maintains many of the administrative benefits of the master/feeder relationship, while granting the EU fund marketing rights across the EU using a single home state authorisation.  For non-EU managers hoping to market widely across the EU, this is generally the most cost and time efficient approach.

Who is covered by the marketing passport?

The AIFMD marketing passport only permits marketing to professional investors.  The definition of this category under AIFMD is tightly drawn, comprising those who are per se professional investors and a more restrictive list of elective professional investors, who may be treated as professionals on their request.

Per se professional investors are those entities which are required to be authorised or regulated to operate in the financial markets (including credit institutions, investment firms and etc.), large undertakings which meet significant size requirements, national and regional governments, and other institutional investors whose main activity is to invest in financial instruments.[3]

Elective professional investors are clients who are allowed to waive some of the protections afforded by the conduct of business rules.  These clients may only be treated as professional investors if an adequate assessment of the expertise, experience and knowledge of the client is undertaken by the investment firm.  In the course of that assessment at least two of the following criteria must be satisfied:

  • the client has carried out transactions, in significant size, on the relevant market at an average frequency of 10 transactions per quarter over the previous four quarters
  • the size of the client’s financial instrument portfolio, defined as including cash deposits and financial instruments exceeds EUR 500,000 ( about USD 565,500)
  • the client works or has worked in the financial sector for at least a year in a professional position which requires knowledge of the transactions or services envisaged

In practice, high net worth investors who have worked in the financial sector can often be classified as ‘elective professional investors’ under this definition, while those who have not worked in the financial sector for at least one year rarely qualify.

NPPR

It is not necessary to secure an AIFMD marketing passport to reach EU investors.  If a non-EU manager does not want to establish a dedicated EU fund, non-eligible AIFs have the option of complying with the national private placement regime of the member state in which they wish to market their fund.  Like AIFMD, NPPRs were introduced by an EU-wide Directive.  However the resulting national rules are not consistent across the EU as each member state was able to implement the Directive into national law as they chose and some added to their own additional rules, a process known as ‘gold-plating’.  Complying with multiple country-specific laws will quickly raise a fund’s compliance costs assuming the fund can secure authorisation.  Many states (including Italy, Greece and Poland) have chosen to ‘gold plate’ their NPPR regimes in a manner which makes marketing without an AIFMD passport almost impossible.

The basic AIFMD NPPR requirements – which will apply in every Member State – stand as follows:

  • There must be an existing co-operation agreement/memorandum of understanding (“MoU”) between the regulator of the non-EU AIF and the regulator in the relevant Member State.  It is likely that these agreements will be in place with major financial services jurisdictions
  • The AIF’s jurisdiction must not be designated ‘noncooperative’ by the Financial Action Task Force (“FATF”)
  • Certain AIFMD requirements will apply to the AIFM, even when they market by NPPR.  The AIFM must make initial/ongoing AIFMD mandated disclosures to investors and meet the transparency requirements by issuing an annual report within six months of the financial year for each AIF it markets.  The annual report must contain certain information mandated by the AIFMD, while observing the specific rules or regulations issued by the relevant Member State

Exemptions from NPPR: Communications relating to draft documentation

There are two major exemptions to the NPPR regime which are relevant to US and other non-EU managers: communication of draft documentation and so called ‘reverse solicitation’. However, like NPPR itself, the scope of these exemptions is subject to Member State interpretation, so legal advice should be sought before relying on an exemption in any given jurisdiction.

The exemption for communications relating to draft documentation essentially rests on the idea that provided the circulated draft documents cannot be used by a potential investor to make an investment in an  AIF, communications relating to such documents cannot be viewed as an ‘offer’ for the purposes of AIFMD.  There is no need for the fund manager to apply for approval under NPPR or AIFMD to communicate on this basis.

However, it is important to stress that investors cannot be onboarded via such communications without the appropriate authorisations.  While the distribution of draft documents may be treated as a useful opportunity to establish interest before committing to the expense of NPPR registration, it has limited application beyond this use.  Moreover, there is wide scope for interpretation of this exemption and not all jurisdictions apply the same standards.

Exemptions from NPPR: Reverse solicitation

Responding to unsolicited enquiries from investors is not technically a ‘marketing strategy’ but it is one of the few means by which AIFMs can communicate with EU investors without seeking authorisation from the relevant member state (through NPPR) or securing a AIFMD marketing passport.  Unlike communications relating to draft documentation, fund managers can accept orders for the placement of shares through reverse solicitation without applying for NPPR in the investors home state.  However, the circumstances under which a manager can rely on reverse solicitation are intentionally narrow.  

Under AIFMD there must be no ‘direct or indirect’ contact for the exemption to apply.  That applies to everyone in the AIFM’s organisation along with all third parties (marketers etc.).  A promotion received by a prospective investor from any of these third parties will invalidate any exemption that might have otherwise applied.

It is vital that the manager maintain comprehensive and accurate documentation if it intends to rely on reverse solicitation.  Regulators take a dim view of overreliance on reverse solicitation and it can never be a marketing strategy.  In the UK, the Financial Conduct Authority’s guidance stresses that:

“a confirmation from the investor that the offering or placement of units of shares of the AIF was made at its initiative, should normally be sufficient to demonstrate that this is the case, provided this is obtained before the offer or placement takes place.  However, AIFMs and investment firms should not be able to rely upon such confirmation if this has been obtained to circumvent the requirements of AIFMD.

Other points to consider

Under the Regulation on key information documents for packaged retail and insurance-based investment products (“PRIIPs”), before a fund is made available to retail investors in the UK or the EU (whether under NPPR or reverse solicitation), the manager must draw up a key information document (“KID”) in accordance with the requirements of that Regulation and publish the document on its website.  EU regulators may require the KID to be sent to them.  There is a very rigid three page format for KIDs which are generally prepared by AIFMs or other service providers for fees of a few thousand dollars.  Lawyers do not generally prepare KIDs.

Placement agents are separately regulated in the EU under the Markets in Financial Instruments Directive (“MiFID”) and depending on the scale of placement activity which is being undertaken in the EU it may be necessary to engage a placement agent which is already authorised in the EU or to set up a subsidiary within the EU which can be passported across the EU as a tied agent of a regulatory host which is itself authorised under MiFID.

AIFMD and Brexit

At the end of the transitional period on 31 December 2020 the UK onshored applicable EU law to ensure continuity of the UK legal order immediately following departure.  While divergence may be expected in the future under UK plans to introduce a new overseas funds regime (“OFR”), initially securing marketing access to the UK through NPPR will continue to follow substantially the same process as for the remaining EU Member States.  

The UK has not made significant additions to its AIFMD NPPR regime and it is possible for non-EU funds to secure marketing access.  The only addition made to the rules outlined above is an FCA notification requirement, under which a fund’s AIFM must report regularly to the FCA.  However, these reporting obligations are not notably onerous and US AIFMs in particular will find the content of the notifications substantially similar to that already required by SEC’s Form PF.

If permission to market the non-EU AIF is secured, care should be taken to ensure that the firm does not conduct any other ‘regulated activities’ within the UK.  Doing so may require additional authorisations which in turn would in turn trigger further regulatory requirements, for example under MiFID as onshored into UK laws.

Now that the Brexit transition period has come to an end UK domiciled funds are ineligible for the marketing passport granted to EU domiciled funds under AIFMD.

View from the US

US registered advisers who market and provide services to non-US clients must be aware of the jurisdictional reach of the US Securities and Exchange Commission and the Investment Advisers Act of 1940 to the adviser’s non-US clients.  Under US law, a registered investment adviser with its principal place of business in the United States must comply with the substantive provisions of the Advisers Act of 1940 with respect to its US and non-US clients alike.  A separate analysis needs to be undertaken under US law with respect to any pooled investment vehicle through which an adviser provides advisory services, and whether such pooled vehicle needs to be registered under the securities laws or is entitled to certain available exceptions. 



[1]  The EEA includes all of the EU member states plus Iceland, Liechtenstein and Norway.

[2] Reforms, which if activated would broaden access, have been on the EU statute book for several years, but have not yet been commenced.

[3] Qualifying large institutions must meet two of the following size requirements on a company basis:

  • balance sheet total: EUR 20,000,000
  • net turnover: EUR 40,000,000
  • own funds: EUR 2,000,000

For more information or guidance on any of the issues mentioned in this briefing, get in touch