US Fund Sponsors, Remuneration Disclosures & The AIFMD (Alternative Investment Fund Managers Directive)
Europe has increasingly become an attractive fundraising location for non-EU fund sponsors looking to expand their investor reach. Many will consider setting up a European parallel fund to sit alongside their main fund. Operating in Europe means complying with the Alternative Investment Fund Managers Directive (‘AIFMD’), which comes with a number of operating requirements that some sponsors may not be familiar with.
One such requirement we have increasingly discussed with non-EU sponsors is an obligation to comply with, and disclose remuneration figures to investors. This may sound alarming at first glance, but here we will dig into what this actually means in practice.
Is your Luxembourg parallel fund in scope?
EU Host Alternative Investment Fund Managers (‘AIFM’) have four core functions: portfolio management, risk management, valuation verification and general overall fiduciary duty in respect of the fund operations. With US fund sponsors who are Securities and Exchange Commission regulated, the portfolio management can be delegated. Delegation means the AIFM remains ultimately responsible but provides via a delegation agreement, a regulated third party with certain powers and responsibilities subject to oversight by the AIFM.
While the delegated portfolio manager is now able to take investment and divestment decisions for the Luxembourg fund, it must also subject itself to compliance of the requirements under AIFMD, the primary legislation in the EU setting out the framework for managing a private markets fund. The legislation requires (amongst other matters) that the entities to which portfolio management have been delegated are subject to regulatory requirements on remuneration that are equally as effective as those applicable under the AIFMD.
Remuneration is usually disclosed in the unaudited section of the accounts. Where the AIFM has delegated the portfolio management function, this will need to include the portfolio manager’s remuneration details as set out below.
Remuneration information needs to be disclosed under the AIFM Directives
The remuneration disclosure essentially consists of the headcount of the personnel involved in portfolio management activity, the total remuneration, the fixed remuneration and the variable remuneration.
Since the portfolio management activity usually involves a larger group of people, the remuneration of single individuals is not identifiable for external parties. The methodology for calculation of the amount of fixed and variable remuneration for disclosure should be subject to a policy agreed upfront between the AIFM and the portfolio manager.
ESMA Guidelines for staff remuneration disclosure
The European Securities and Markets Authority (‘ESMA’) offers guidance on how to determine the relevant groups of staff (Identified Staff). Essentially, the remuneration shall include staff that have a material impact on risk profile of the AIFM and/or the AIF.
This includes board managers and senior management of the AIFM, control functions (risk management, compliance, internal audit and similar functions), other risk takers and portfolio management or risk management activities that have been delegated by the AIFM.
For portfolio managers, the identified staff refers to personnel that have a material impact on the Luxembourg fund’s risk profile.
What are the challenges with the AIFMD Regulation?
Remuneration disclosures appear to surprise non-EU portfolio managers when they are initially brought up. There is obviously no equivalent in markets outside of Europe where private funds can often operate with little to no regulatory disclosure requirements on this topic.
While it might be easier to identify the relevant staff in the host AIFM entity, in large US organisations, there are often many teams that have direct or indirect impact on the risk profile of the Luxembourg fund. In addition, they usually dedicate only a small part of their time to the Luxembourg fund.
Best practices to deal with this AIFMD Reporting requirement
- At the outset, non-EU fund sponsors using a EU Host AIFM should discuss what is required with their proposed AIFM and also Luxembourg legal counsel to determine the best way to comply with the reporting requirements. This can depend on the organisation and business of the non-EU portfolio manager.
- Set up policies and procedures during onboarding which have been agreed by the Luxembourg Counsel and EU Host AIFM.
- Discuss the audit process with your fund administrator, auditor and AIFM team in advance.
- Ensure calculations are based on rational analysis in accordance with the agreed policy and applied consistently.
At first glance, for non-EU sponsors that have not operated in Europe before, the requirement to disclose remuneration to investors may seem daunting. However, the practical reality of this issue is that remuneration is not required to be disclosed on a personal basis. We regularly discuss this, and other issues with sponsors looking to operate in Europe for the first time, and will gladly share our experience as required.
