ESMA final report
Guidelines on sound remuneration policies under the AIFMD
On Monday 11 February, the European Securities and Markets Authority (ESMA) published its final report setting out guidelines for the remuneration of alternative investment fund managers (AIFMs) under the Alternative Investment Fund Managers Directive (AIFMD).
ESMA’s remuneration guidelines will apply to managers of alternative investment funds (AIFs) including hedge funds, private equity funds and real estate funds, as well as managers of other non-UCITS-regulated funds which are managed or marketed in the EU.
Existing AIFMs will have until 22 July 2014 at the latest to comply with these requirements unless they seek earlier authorisation. Firms with performance years commencing 1 January 2014 may need to assess their position over the coming months to ensure that appropriate policies and structures are in place in respect of the full performance year.
This alert summarises the key changes from the draft guidelines previously issued by ESMA in June 2012.
These rules could require material changes to the way that fund managers remunerate their staff and the governance around remuneration. We are actively discussing with firms the extent to which these requirements affect fund managers and which aspects of their existing remuneration policies and practices need to be considered to comply in time.
ESMA’s final report follows an intense period of consultation following the release of their draft report on remuneration guidelines. Find out more on our summary of the key principles set out in ESMA’s draft report
Partners and shareholders
ESMA recognise that employee shareholders or partners in the AIFM may receive dividends or similar distributions as owners of an AIFM.
Such payments are excluded from the scope of ESMA’s guidelines, but only to the extent they do not circumvent them (whether intentionally or not).
ESMA offers little indication of what constitutes “circumvention”, other than general wording emphasising that structuring aimed at “artificially evading” the AIFMD remuneration guidelines will not be effective.
All remuneration requirements have effectively been extended to entities to which portfolio or risk management have been delegated.
AIFMs must ensure that the delegated entity either has to be subject to regulatory requirements that are “equally as effective” as under the AIFMD, or should effectively be subject to the same requirements by way of contractual arrangements put in place between the AIFM and the delegated entity.
There is further guidance on proportionality within the guidelines and, in particular, ESMA have clarified that applying proportionality could lead to certain requirements being disapplied entirely. This is a positive development.
Requirements that can be disapplied entirely could include establishing a Remuneration Committee, delivering at least 50% of variable remuneration in the form of fund units and the deferral, retention and malus/clawback requirements.
ESMA have clarified that, whilst these features can be disapplied, they may only be disapplied in their entirety. It is not possible to apply lower thresholds based on proportionality (e.g. deferral of 20% of variable remuneration).
Disapplication cannot happen automatically and AIFMs should be able to provide regulatory authorities with a detailed explanation why such requirements have been disapplied. This will depend upon the size of the AIFM, the AIFs it manages, its internal organisation and the nature, scope and complexity of its activities.
ESMA has confirmed that an owner-managed AIFM, partnership or LLP is not necessarily excluded from requiring a Remuneration Committee (RemCo) under the guidelines. They will be subject to the proportionality principle like all other firms.
They have also updated their examples on AIFMs which may not need to establish a RemCo:
- AIFMs managing AIFs of EUR 1.25bn (in aggregate) or less and with 50 employees or less (including employees dedicated to other relevant activities, including management of UCITS funds).
- Firms with existing RemCos, provided the existing one is governed by equivalent principles to those of ESMA and is responsible for monitoring the compliance of ESMA’s AIFMD remuneration principles. The types of firms this applies to has been extended from solely “credit institutions” to AIFMs which are part of banking groups, insurance groups, investment groups or financial conglomerates.
ESMA has clarified that the general remuneration requirements should be applied only to identified staff, although voluntary application to all AIFM staff is strongly recommended.
ESMA has also explained that, although heads of business units (including administration) will be considered identified staff, staff members within such teams such as administrative or logistical support staff will not necessarily be considered as such.
In spite of representations made arguing to the contrary, ESMA has confirmed their original position that certain co-investment arrangements, funded by loan arrangements, will still be considered “remuneration” for the purposes of their guidelines.
The form in which variable remuneration is delivered to staff in control functions has been slightly relaxed, as ESMA now allow for some of their variable pay to be determined by reference to AIFM-wide (presumably also including fund) performance although it cannot be exclusively based on this element.
Multiple funds under management
For AIFMs managing multiple funds, staff were previously required to receive instruments related only to the AIFs in relation to which they perform activities. However, ESMA have now reworded their guidelines such that identified staff should receive instruments related mainly to the AIFs in relation to which they perform activities.
Given the feedback received, ESMA clarified that the disclosure of detailed information regarding remuneration policies and practices does not necessarily have to be public. Public disclosure may still be required under other EU and national rules.
Now that ESMA has issued its final report on remuneration, affected firms should be considering their existing arrangements and the extent to which changes, if any, will need to be implemented. In particular, firms will want to consider the extent to which the proportionality principle applies to them.
In the UK, the FSA has already issued its draft AIFM Remuneration Code and this will need to be reviewed in the light of ESMA’s final report. In particular UK firms will welcome further clarity from the FSA in relation to proportionality. Find out more on our previous alert on the FSA draft AIFMD Remuneration Code