European Securities and Markets Authority 103, Rue de Grenelle BLACKROCK 75007 Paris 12 Throgmorton Avenue France London, EC2N 2DL United Kingdom London, 23 March 2012 Discussion paper on key concepts of the Alternative Investment Fund Managers Directive and types of AIFM Dear Sirs, BlackRock is pleased to have the opportunity to respond to ESMA Discussion paper on key concepts of the Alternative Investment Fund Managers Directive and types of AIFM. Who is BlackRock? BlackRock is a leader in investment management, risk management and advisory services for institutional and retail clients worldwide. At December 31, 2011, BlackRock s AUM was $3.513 trillion ( 2.71 trillion). BlackRock offers products that span the risk spectrum to meet clients needs, including active, enhanced and index strategies across markets and asset classes. Products are offered in a variety of structures including separate accounts, mutual funds, ishares (exchange-traded funds), and other pooled investment vehicles. BlackRock also offers risk management, advisory and enterprise investment system services to a broad base of institutional investors through BlackRock Solutions. Our client base includes corporate, public funds, pension schemes, insurance companies, third-party and mutual funds, endowments, foundations, charities, corporations, official institutions, banks and individuals. BlackRock represents the interests of its clients and it is from this perspective that we engage on all matters of public policy. BlackRock supports regulatory reform globally where it increases transparency, protects investors, facilitates responsible growth of capital markets and, based on thorough cost-benefit analyses, preserves consumer choice. BlackRock is a member of European Fund and Asset Management Association ( EFAMA ) and a number of national industry associations 1 reflecting our pan-european activities and reach. BlackRock appreciates the commitment to industry consultation from the ESMA, which is particularly important in the light of the heterogeneous nature of the alternatives industry and the many and sometimes conflicting policy decisions which arise from the implementation of the AIFMD. We particularly support ESMA s approach of considering issues which confront very different industry sectors. Many provisions of the final Level 1 text allow for flexibility in national implementation to reflect the different types of fund governance structures which exist and we strongly support flexible 1 Association of British Insurers (ABI), Association Française de Gestion (AFG), Assogestioni, Association française des Sociétés financières (ASF), Association suisse des institutions de prévoyance (ASIP), Bundesverband Investment and Asset Management (BVI), Dutch Fund and Asset Management Association (DUFAS), Eumedion, Financial Reporting Council (FRC), Irish Association of Pension Funds (IAPF), Irish Funds Industry Association (IFIA), Investment Management Association (IMA), Inverco, Alternative Investment Management Association (AIMA) and National Association of Pension Funds (NAPF). 1
and proportionate implementation of the Directive into national law. This is particularly important if many Level 2 implementing measures are enacted in the form of Level 2 directly applicable regulations. The key areas we focus in our response are as follows: Definition of AIFM - vital to maintain existing flexibility granted by Level 1 AIFMD to reflect heterogeneous breadth of fund governance structures and common delegation models We are concerned that the current drafting of the scope of delegation Paragraph 8 is ambiguous and potentially restricts important elements of flexibility from Level 1 and Level 2 AIFMD. We recommend clarifying this drafting so as not to undermine existing delegation models of many types of AIF or restrict AIFs from deeming themselves as internally-managed AIF. Furthermore, Paragraph 10 appears to incorrectly assume that AIFMs automatically perform, and thus have the ability to delegate, all of the functions listed in Annex I. This is not consistent with Level 1 AIFMD which clearly recognises that there are many different governance structures within AIFs which do not follow a very narrow UCITS-management company structure and that an AIF may appoint an external AIFM to perform only the investment management function of Annex I, point 1 and not administration or marketing etc. It is essential to recognise this flexibility that was intentionally included within the Level 1 Directive to allow different AIF structures and common models of delegation to continue. Restricting the Level 1 text in this fashion will result in difficulties for many types of AIF structures, create additional levels of responsibility and strict liability for external AIFM in certain AIF structures where none existed before and may necessitate the costly restructuring of many existing AIFs without there being an identifiable benefit for professional investors. We therefore recommend that ESMA confirms its understanding of the existing flexibility within Level 1 AIFMD. Types of AIF While we generally agree with ESMA s policy orientations, we have noted a number of areas where additional criteria would be useful to reflect the diversity of AIF structures which exist this is particularly the case of ultimate ownership tights over AIF assets and the definition of whether an AIF is open or closed-ended. **** We appreciate the opportunity to address and comment on the issues raised by this Discussion Paper. We are prepared to assist the ESMA in any way we can, and welcome continued dialogue on these important issues. Please contact any of the undersigned if you have comments or questions regarding BlackRock s views. Yours faithfully, Alex Nightingale Martin Parkes Director, Legal and Compliance Director, Government Affairs & Public Policy +44 20 7743 2168 +44 20 7743 4646 alexander.nightingale@blackrock.com martin.parkes@blackrock.com 12 Throgmorton Avenue 12 Throgmorton Avenue London, EC2N 2DL London, EC2N 2DL United Kingdom United Kingdom 2
General comments - Definition of AIFM Comments on Paragraph 8 We are concerned that the current drafting of Paragraph 8 is ambiguous and potentially misinterprets and restricts important elements of flexibility from Level 1 and Level 2 AIFMD which, if not clarified appropriately, could cause difficulties for the existing delegation models of many types of AIF and in particular would restrict the option for AIFs to deem themselves as internally-managed AIF. Paragraph 8 states that ESMA considers that an AIFM may delegate the two functions (i.e. portfolio management or risk management) either in whole or in part, in the understanding that an AIFM may not delegate both functions in whole at the same time. This appears to be contrary to the position in Level 1 and Level 2 AIFMD on several occasions: Article 20 of Level 1 AIFMD does not preclude the possibility of both day-to-day portfolio management and risk management being delegated, provided that the delegation does not result in the AIFM becoming a letter box entity. ESMA s Level 2 guidance on delegation similarly does not preclude the delegation of both day-to-day portfolio management and risk management, whilst elaborating at Box 74 - on the two situations under which an AIFM should be considered as a letter box entity: o o Firstly, when the AIFM is no longer able to effectively supervise the delegated tasks and to manage the risks associated with the delegation. Secondly, when the AIFM no longer has the power to take decisions in key areas that fall under the responsibility of the senior management or to perform senior management functions. We also note that, later in the ESMA discussion paper, Paragraph 47 states that a company which performs portfolio management or risk management functions for an AIF can be the appointed AIFM or it can perform one or both of these functions under a delegation arrangement. It is unclear whether the in whole wording from Paragraph 8 only intends to clarify that these functions may not be delegated to the extent that the AIFM becomes a letter box entity or if a more restrictive interpretation is intended. If ESMA intends the latter, we would believe this approach to conflict with both Level 1 AIFMD and ESMA s own final Level 2 guidance. This would: result in the significant undermining of existing effective delegation models (thus limiting EU professional investors access to many cross-border EU/global investment strategies); and materially reduce the ability for AIFs to deem themselves as internally-managed AIF as it is generally unlikely, save in some very limited circumstances, that the governing body of the AIF will have sufficient resources and capacity to itself perform day-to-day portfolio management or risk management. We do not believe that it is ESMA s intention to adopt this latter, more restrictive, approach and would appreciate confirmation from ESMA to this effect. Comments on Paragraph 10 We are very concerned that the current drafting of Paragraph 10 is ambiguous, misinterpreting and restricting important elements of flexibility from Level 1 AIFMD which, if not corrected, will cause difficulties for many types of AIF structures and create additional levels of responsibility and strict liability for AIFMs in certain AIF structures. As currently drafted, Paragraph 10 seems to suggest that an AIFM shall in any case be responsible for all functions performed for the AIF, including additional functions as listed in Annex I of Level 1 3
AIFMD. It appears to be ESMA s interpretation that the AIFM should either perform these functions or that they are considered delegated by the AIFM with the AIFM remaining liable for these functions. Paragraph 10 thus appears to incorrectly assume that AIFMs automatically perform all of the functions listed in Annex I this would assume that all AIFs are narrowly structured with a central UCITS-like management company function which appoints all service providers (e.g. investment manager, administrator and distributors providing marketing services), when the reality of the heterogeneous nature of AIF structures is that there will be many corporate AIF structures with an external AIFM where it is the AIF, rather than the external AIFM, which has appointed and has the contractual relationship with providers of administration and marketing services. Level 1 AIFMD clearly acknowledges this and permits the continuation of the broad variety of AIF structures and flexibility of AIFM functions (and consequently AIFM responsibility) in several areas of the Level 1 text. For example: recital 11 of the AIFMD, which states that Several provisions of this Directive require AIFMs to ensure compliance with requirements for which, in some fund structures, AIFMs are not responsible. An example of such fund structures is where the responsibility for appointing the depositary rests with the AIF or another entity acting on behalf of the AIF. In such cases, the AIFM has no ultimate control over whether a depositary is in fact appointed unless the AIF is internally managed. This concept is acknowledged and emphasised at Article 5. the definition of managing AIFs focuses on the performance of the investment management function referred to in point (1) of Annex I. The very deliberate flexibility within Annex I evidenced at point (2) ( Other functions which an AIFM may additionally perform in the course of the collective management of an AIF ) provides that it is not necessary that an external AIFM itself performs all additional functions listed in Annex I point (2) in order to ensure compliance with AIFMD in accordance with its duty from Article 5(1). Therefore Level 1 clearly allows for the possibility that an AIF may appoint an AIFM for some functions only. This is a key difference from UCITS product regulation and specifically differs from the fixed functions and responsibilities included within the activity of collective portfolio management for UCITS within Annex II of Directive 2009/65/EC. Accordingly within Level 1 AIFMD, the AIF may directly appoint separate third parties for other functions, such as marketing/distribution or administrative tasks. In general for many corporate AIF structures, market practice is for these other services to be performed under a contract between the AIF itself and a third party, so we believe it would not be correct and contrary to Level 1 AIFMD for ESMA to conclude that such additional functions de facto "should be considered as having been delegated by the AIFM to a third party". The effect of this would be to incorrectly make an external AIFM strictly liable for non-performance of services which there are no obligations for the AIFM to perform. Furthermore, from a general legal perspective, a legal person is unable to delegate any functions or responsibilities which they do not have previously received. Accordingly, an external AIFM which has not been appointed for all Annex I functions may also not delegate such functions for which it has not been appointed. There should not be a presumption in the interpretation by ESMA that an AIFM has delegated a function which it has never received. To do so would introduce strict liabilities for services upon AIFMs who have neither received the authority to appoint providers of such services, nor delegated to nor appointed such service providers. Such a restrictive interpretation would also likely further increase AIFM indemnity insurance premia for these newly assumed strict liability risks. Definition of AIF 1. Do you see merit in clarifying further the notion of family office vehicles? If yes, please clarify what you believe the notion of investing the private wealth of investors without raising external capital should cover. There are three key types of family office: Single Family Office, Multi Family Office and Commercial Family Office: 4
1. A Single Family Office has either one individual beneficiary or more likely a series of individual beneficiaries from a single family and possibly a family foundation included in as well. 2. A Multi Family Office exists where a Single Family Office has decided to spread the costs of running a family office by inviting other families to invest alongside them. 3. A Commercial Family Office is a group of professionals who have set up an office to manage the assets of a number of ultra-high net worth families on a fiduciary basis. There is often a difference between the family office itself and the vehicle used to invest the assets of the family office. Family offices may set up fund structures such as OEICs (open-ended investment company), unit trusts, fund of funds or other forms of regulated vehicles to hold their assets and in this case will be required to set up their own authorised UCITS or AIFM or contract with a third party provider to provide these services at commercial rates. Other family offices just invest from pools of cash they have sitting on deposit or with custodians and manage their assets as discretionary manager would manage a segregated discretionary account. Hence not all family offices have funds. Those that do will probably have set them up as regulated vehicles of one sort or another. In this respect it may be useful to see family offices as management structures. 2. Do you see merit in clarifying the terms insurance contracts and joint ventures? If yes, please provide suggestions. We consider that insurance contracts are generally sufficiently defined under applicable national law. We are not aware of uncertainty of application. In respect of joint ventures ( JVs ) this will be a question for national regulators to consider under national law. Nevertheless in our view there are a number of characteristics of joint ventures which taken together differentiate them from AIF. These include the following points: Decision making A JV will almost always reserve key material decisions (e.g. decisions to sell the assets of the JV, to finance, to appoint/remove the asset manager, to liquidate the JV etc.) to all JV partners, even if day to day management is carried out by one partner. Each JV partner will have an active and not just a passive decision making role. The suggestion that all partners will be involved in the day to day running of the JV does not reflect our experience of the way JVs are run in practice. Often a JV is a marriage of equity with expertise; as such one partner has the necessary experience to carry out the day to day management, whilst the equity provider(s) will want to be involved in the major decisions, which would affect their equity returns/yields. As such a JV is a relationship between different parties bringing different things into the partnership but with a common goal. By contrast, an AIF would give very little discretion to the investors, as these decisions would be made by the AIFM and all investors would be subject to the same decisions. The key criterion for determining the existence of a JV should focus on whether active decision is made by all partners regarding material decisions. Purpose A JV is rarely set up without a specific purpose in mind. For example, a real estate JV is typically set up for ownership or the development of a specific asset or a group of assets. Whilst an AIF would also have a stated purpose / investment criteria, there is generally more flexibility as to the assets which may be included in the AIF with the discretion for its manager to select additional assets. In a JV, we would expect the manager to be able to exercise investment discretion in this way. Transfer rights JVs will often restrict transfer rights. The sale of a JV partner s interest is often limited and the ability to sell part (rather than the whole) of their interest may be prohibited or restricted to significant holdings, which is generally aimed at controlling how many partners are in the JV (see Number of participants below). A JV agreement will often contain pre-emption rights or first offer rights, pursuant to which a JV partner wishing to sell their interest ( the Selling Party ) must offer 5
to sell their interest in the JV to the other JV partners, before the Selling Party can offer its interest in the JV to any third party. This would distinguish a JV from many AIF, where interests may often be sold to third parties or in the case of open-ended vehicles simply redeemed. A JV interest does not disappear as the JV interests must always add up to 100% of the venture - the Selling Party must sell to an existing partner to increase their % share (until 100% is reached) or a new JV partner must be brought in. It would be unusual not to have some kind of transfer controls, so ESMA could build criteria around this. Capital raising JVs do not involve public capital raising. Any other criteria around private equity raising would be hard to establish as some JVs have a fixed amount of equity at the start, whilst others have an ability to draw down equity at a later date, as cash is needed. Payment of drawdown requests for further equity may be obligatory but can be optional (which normally results in the dilution of that partner s interest or some other form of financial penalty). Number of participants A JV is unlikely to have more than around 5 participants and often has only 2-3 participants. Many more participants would result in it being unmanageable to take any joint decisions. ESMA could build a simple criterion around the number of participants. 3. Do you see merit in elaborating further on the characteristics of holding companies, based on the definition provided by Article 4(1)(o) of the AIFMD? If yes, please provide suggestions. We do not have particular issues with the definition as it currently stands. 4. Do you see merit in clarifying further the notion of any of the other exclusions and exemptions mentioned above in this section? If yes, please explain which other exclusions and exemptions should be further clarified and provide suggestions. We do not have any further suggestions. 5. Do you agree with the orientations set out above on the content of the criteria extracted from the definition of AIF? We agree with the general orientations given. 6. Do you have any alternative/additional suggestions on the content of these criteria? In paragraph 29 we believe that the key element in assessing whether an investment is held collectively are the contents of the fund s rules of instrument of incorporation and not the actual number of investors at any particular time. 7. Do you agree with the details provided above on the notion of raising capital? If not, please provide explanations and an alternative solution. It is worth noting that for closed ended funds marketing activities typically cease once the initial capital raising has completed. Marketing activities only recommence when a further offering of capital takes place. Open ended funds will have a continuous offering of capital. The difference is key as it will determine whether a third country fund is actually marketing itself into to the EU. 8. Do you consider that any co-investment of the manager should be taken into account when determining whether or not an entity raises capital from a number of investors? No, we do not believe that co-investment of the manager should be taken into account when determining whether or not an entity raises capital from a number of investors, since this would not constitute raising external capital. The term raising from a number of investors should be viewed from the perspective of raising capital from multiple third parties. Internal co-investments by the manager should therefore not be relevant. 6
9. Do you agree with the analysis on the ownership of the underlying assets in an AIF? Do other ownership structures exist in your jurisdiction? Given the difference between tax transparent AIF structures where investors are deemed to hold a specific proportion of underlying assets and non-transparent structures where investors only have rights over shares or units issued by the AIF we believe this characteristic will be confusing. We note that a more appropriate measure would be to focus on the lack of control over the management of assets by investors. This will need to acknowledge the role that investor advisory committees play and which exist in a number of AIF structures. We also note that that the intention of the AIFMD is that assets which can be held in custody are held in the name of the depositary or its appointed sub-custodian which again serves to indicate the lack of control over the AIF's assets by investors on a day to basis. 10. Do you agree with the analysis on the absence of any investor discretion or control of the underlying assets in an AIF? If not, please explain why. We agree that there should be a lack of discretion by investors but also that for there to be an AIF there must discretionary management exercised on a day to day basis by its manager. 11. Do you agree with the proposed definition of open-ended funds in paragraph 41? In particular, do you agree that funds offering the ability to repurchase or redeem their units at less than an annual frequency should be considered as closed-ended? We consider that this analysis needs to take into account additional characteristics given the future extension of AIFMD to cover third country funds. We refer ESMA to the extensive FSA perimeter guidance (PERG) in the UK on whether a fund is open-ended or closed-ended. The question is important not only in terms of definitions within AIFMD but also in determining whether the provisions of Prospectus Directive apply to specific AIF structures. We have not looked at other guidance which may exist in other member states but use this as an example of additional issues which affect the decision of whether an AIF is closed-ended or not, In PERG 9, the FSA refers to existing UK law which states that, a reasonable investor would, if he were to participate in a collective investment scheme: (1) expect that he would be able to realise his investment in the scheme, within a period appearing to him to be reasonable; and his investment would be represented, at any given time, by the value of the shares in, or securities of, held by him as a participant in the scheme; and (2) be satisfied that his investment would be realised on a basis calculated wholly or mainly by reference to the value of the property for which the scheme makes arrangements. In terms of timing, the FSA's view is that a period of six months would generally be too long to be a reasonable period for a liquid securities fund. A shorter period affording more scope for an investor to take advantage of any profits caused by fluctuations in the market would be more likely to be a reasonable period for the purpose of the realisation of the investment. Given the different types of AIF structures we would suggest that a wider test than one relying just on a time period is used, taking into account existing national guidance on the topic. 12. Do you see merit in clarifying further the other concepts mentioned in paragraph 37 above? If so, please provide suggestions. We believe it is important to define the concept of leverage and employs substantial leverage so that AIFMs can assess whether the AIF they manage fall within the additional reporting requirements in Article 24(4). This is particularly important given that three methods of assessing leverage are provided for in ESMA s Level 2 advice and so the methodology for assessing whether the use of leverage is substantial could vary quite significantly from AIF to AIF. 7
Treatment of UCITS management companies 13. Do you agree with the above analysis? If not, please provide explanations. We agree with ESMA s approach in general, but would note that it remains vital to respect the application of different UCITS and AIFMD regimes within a dual authorised UCITS/AIFM management company and, in particular, that there should not be an inappropriate leveling-up of AIFM standards and obligations (being for EU professional investors) to the UCITS standard for retail investors, unless AIFMD Level 1 specifically provides for this. Treatment of MiFID firms and Credit Institutions 14. Do you agree with the above analysis? If not, please provide explanations. We agree in general with ESMA s approach and interpretation of Article 6. We do however note the following: - For existing MiFID firms which will need to resign their MiFID status in order to become authorised as AIFMs, we would recommend that this process is as streamlined as possible to avoid undue delays. We already note helpful parallels for UCITS firms which wish to become dual authorised - Article 7.4 of Level 1 AIFMD permits UCITS firms already authorised under Directive 2009/65/EC not to provide information or documents already provided to national regulators; and - The authorisation of existing UCITS management companies under Directive 2009/65/EC varies across member states in respect of their performance of certain MiFID-like activities such as discretionary portfolio management, requiring on occasion either a special licence, specific MiFID licence, an AUM cap on the volume of MiFID-like activities or CRD capital requirements. We would recommend that ESMA bear these existing member state variations in mind when producing its Level 2 guidance so not as to inadvertently prevent legitimate existing UCITS management companies, which currently perform MiFID-like activities under the derogation at Article 6.3 of Directive 2009/65/EC, from becoming dual authorised as AIFM. 8