Post-Brexit, UK fund managers have had to keep track of a lot of regulatory upheaval. Some EU regulations were transposed into UK law, others weren’t, and there are still a few dangling threads with no clear decision. So don’t fret if you haven’t yet processed the rules that now apply to non-EU alternative investment fund managers (AIFMs) who want to market their funds in the European Union.
The Cross Border Distribution of Funds (CBDF) Directive and CBDF Regulation, launched in August 2021, explicitly defines pre-marketing activity for all EU jurisdictions—and, by extension, the use of reverse solicitation—for non-EU fund managers in addition to AIFMs within the EU.
Fund managers have traditionally relied on reverse solicitation to market funds in Europe, but CBDF changes that landscape dramatically. The new rules amend the existing EU Alternative Investment Fund Managers Directive (AIFMD) to define what qualifies as pre-marketing. Pre-marketing a fund—even a fund that has not been set up yet—precludes you from reverse solicitation for 18 months.
Under the new regulations, there are two primary avenues open to non-EU fund managers looking to market alternative investment funds in the EU:
- National private placement regimes (NPPRs)
- Third-party AIFM services
We know better than most how quickly the landscape of regulatory compliance can shift. To save UK and U.S. fund managers from making a costly marketing mistake in the EU, we’ve created this post to help guide firms toward their ideal EU AIF solution.
Pre-marketing and reverse solicitation under CBDF
Suppose a professional EU investor subscribes to an AIF within 18 months of initial pre-marketing activities related to that fund. Under CBDF, their subscription will be considered the result of marketing (therefore entailing AIFMD marketing notifications).
In essence, this means that pre-marketing a fund in the EU precludes fund managers from using reverse solicitation for 18 months.
It takes very little activity for an EU manager to fall under pre-marketing regulation. The moment you tell an investor, “We’re planning a fund, our investment focus is X, and our name is ABC Management,” you’ve pre-marketed that fund. Because you’ve taken pre-marketing steps, you cannot reverse solicit for 18 months following that announcement. This is a stark change from previous regulation, which held a looser definition of pre-marketing and enabled fund managers to rely on reverse solicitation as a general strategy—a strategy that is no longer feasible.
As a former member of the single market, UK-regulated firms can no longer rely on passporting rights, either. There are ongoing discussions about whether the EU might treat the UK as an equivalent jurisdiction, but the outcome is unlikely to be finalised any time soon.
Because the UK has exited the EU, it will not be implementing the CBDF. UK managers will be treated as non-EU AIFMs in the same manner as U.S. and other non-EU managers.
However, U.S. and UK managers may still be exposed to CBDF restrictions. Each EU member state needs to implement the CBDF, deciding whether the CBDF rules apply to EU and non-EU managers in equal measure. Third-party AIFMs must comply with the CBDF, which means that non-EU managers leveraging third-party AIFM services will be subject to the new rules. The same may be true when relying on NPPRs, depending on the decisions of the Member State.
Moving forward, non-EU fund managers looking to market their AIFs in the EU must be mindful of how they structure their approach. There are now two primary routes to market: NPPR and third-party AIFM.
Marketing AIFs under NPPR
The National Private Placement Regime (NPPR) is a mechanism that allows non-EU AIFMs to continue marketing funds in Europe that otherwise cannot be marketed under AIFMD. Managers must ensure compliance with the NPPR rules outlined in the AIFMD and the requirements of local regulators, as some requirements vary slightly by country. For this reason, where funds once took a blanket approach and marketed throughout Europe using passporting, applying for access to just three or four jurisdictions via NPPR is much more practical under the new rules.
NPPR requires specific provisions, including risk oversight and compliance with depositary requirements. The primary steps firms must follow are:
- File NPPR notification
- Make an Article 23 AIFMD pre-investment disclosure (AIFMD Investor Disclosure Statement)
- Draft an Annual Report (covering financial statements, financial activities, and remuneration disclosures)
- Make annual or more frequent reports to local regulators (Annex IV reporting covering asset values, strategy focus, principal exposures of funds, and risk and liquidity profiles, amongst other areas)
Firms must file an NPPR notification if they are an above-threshold third country AIFM marketing an AIF, regardless of whether the AIF is a UK fund or belongs to a third country. Once the FCA receives the filing, there is no approval waiting time; firms can start marketing the fund immediately.
Firms that are unregistered with the FCA will need to register for Connect access and contact the FCA for a NPPR Access Code.
AIFMD investor disclosure statement
Firms must provide a pre-investment disclosure to all European investors before they invest in the AIF. The pre-investment disclosure must include descriptions of:
- The AIF’s investment strategy and objectives, procedures to change investment strategy/policy, asset types, techniques and associated risks, and investment restrictions
- The permitted use of leverage by the AIF
- The main legal implications of the contract
- The identity of the AIFM and the AIF’s service providers
- The AIF’s valuation procedure and the pricing methodology for valuing assets
- The AIF’s liquidity risk management
- All fees, charges, and expenses, and the maximum amounts thereof (direct or indirect)
- How the AIFM ensures fair treatment of investors
- Details of the procedure and conditions for the issue and sale of interests in the AIF
The pros and cons of marketing AIFs via NPPR
Before Brexit, firms often signed up for access to every jurisdiction. Now, they must carefully consider where they want to market to investors. Without a path providing easy access to all EU jurisdictions, applying to a select few EU jurisdictions under NPPR is the new avenue of choice for most new and growing firms.
Here’s why NPPR is increasingly popular:
- Cost-effective: NPPR is significantly less expensive than third-party AIFM services, though it involves more legwork. Comprehensive disclosures and reporting are required, and specifics vary by Member State, so there’s country-by-country disclosure to consider. But a higher investment of time means a lower cost.
- No special licencing: There is no need to have an EU AIFM licence or obtain MiFID permissions with associated capital requirements.
NPPR is the preferred route to market for smaller firms, who don’t mind doing a bit of additional disclosure to save significant money. Also, you don’t have to navigate local requirements in a vacuum. IQ-EQ offers professional services to help our clients market AIFs in the EU under NPPR—local stipulations and all.
Marketing AIFs via sub-delegation by a third-party AIFM
Non-EU managers can also opt to establish funds managed by third-party or host EU AIFMs—meaning that the non-EU manager becomes a delegated sub-manager of the EU AIFM. A sub-delegation agreement between an EU AIFM (generally based in Luxembourg or Ireland) and a UK AIFM requires the UK AIFM to have its own MiFID permissions.
The non-EU manager cannot engage in any pre-marketing activities, as these must be carried out only by EU financial institutions. (See EUR-Lex for detailed rules on who can conduct specific activities under CBDF.)
Here are some additional factors to consider when considering third-party AIFM services:
- Expense: The cost of a third-party AIFM is proportionate to the scale and operational substance of the solution —approximately €45,000-60,000 annually in addition to fees of €35,000 for a registered office, resident board directors, and a company secretary, all of which are required. The depository might cost an additional €35,000 each year
- Frequent filings: Statutory filings to the regulator are required each quarter, in addition to annual filings.
- Local presence: A local presence is required in each jurisdiction, with associated local specifications and costs.
Third-party AIFM is a less popular option than NPPR for small and growing firms, as it is significantly more expensive and open to full registration requirements in certain jurisdictions. Additionally, sub-delegated MiFID managers in the UK will be subject to IFPR, a more robust capital framework with higher capital requirements.
How to adapt your EU AIF marketing strategy
The landscape of financial regulation in Europe and the UK continues to evolve, as always. Non-EU AIFMs must keep on their toes to ensure their activities follow the new CBDF guidelines, and they must decide how to proceed when marketing AIFs in EU jurisdictions.