During times of financial crisis and scandals, there will always be panic followed by blame and then regulation. In Europe, the regulation stage has been reached.
Recently, the European Commission – headed by Jose Manuel Barroso – issued a draft directive on alternative investment funds which, if passed, will have repercussions for managers of private equity real estate funds.
Though the regulation does not apply to banks, pension funds, insurers or international organisations, the directive applies to all others who manage more than €100 million of assets if leverage is used, catching most real estate GPs.
Rosali Pretorius, partner at law firm Denton Wilde Sapte, says the Commission declined to limit the scope of the directive because it felt “underlying risks”, such as asset price inflation and the rapid growth of structured credit markets, were also present in other types of fund activity, including real estate and commodity funds.
The directive has been widely criticised as arbitrary, unclear and heavy-handed by real estate practitioners.
According to experts, if implemented, it will require fund managers to comply with a whole series of obligations, including “easy” ones such as authorisation, as well as onerous ones such as retaining capital reserves.
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In a recent presentation, Tamasin Little, a partner at law firm SJ Berwin, said managers will have to maintain capital reserves of €125,000, or a quarter of their annual fixed costs, whichever is higher, as well as 0.02 percent of funds under management above €200 million.
Risk management and portfolio management teams will also have to be separated under the draft legislation, if it is approved. Independent valuers must be appointed for each vehicle at least once a year, each fund must appoint a bank “depositary” to receive payments from investors and act as custodian, and managers will have a duty to report to investors the total leverage each quarter. It will be open to the European Commission to impose limits on the amount of debt for funds too.
Adding to the red-tape burden, managers will need authorisation each time they want to outsource a fund management function. Managers will also have to disclose the precise identity of investors that receive preferential treatment.
The far-reaching directive will also force funds whose strategy is to acquire a significant stake (more than 30 percent) in a company to notify it and all other “stakeholders” of “development plans” for the firm.
If a manager wants to market a fund it will have to notify its domestic financial regulator and provide all the information to be given investors. If the fund is domiciled outside the European Union, there will be a three-year delay in being allowed to market a fund.
The directive is now being debated by the European Parliament and Council, but the Commission is hoping to bring it into force by the end of the year. If that happens, EU countries – including the UK – must implement it by the end of 2011.
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