October 5, 2015

Central Bank of Ireland seeks to enhance fund governance

Central Bank of Ireland Guidance Note on Fund Management Companies

Recently the Central Bank of Ireland (the “Central Bank”) published a guidance note and feedback statement in respect of fund management companies (“FMCs”). The note provides guidance (draft in the case of delegate oversight) on the following:

  1. General Guidance on FMCs –  Feedback to CP86;
  2. delegate oversight;
  3. organisational effectiveness; and
  4. directors’ time commitments.

There are a number of key areas that the Central Bank is focusing on in its guidance:

  • The separation of the Designated Person (“DP”) role from that of the role of Non- Executive Director (“NED”)
  • The re-organisation of the key managerial functions for UCITS and AIFMs
  • Parameters being placed on the professional and director time commitments for FMC directors in terms of “aggregate professional time commitments”
  • Increased emphasis on oversight of particular management areas including Risk Management and Distribution

The guidance note is detailed (at 42 pages) and reflects the emphasis the Central Bank is now putting on these matters.

What are the implications for Investment Funds which don’t have a management company?

There are a number of areas that boards and promoters will have to consider and address, including:

(i) Managerial Functions – the number of functions will be reduced to six but are much more detailed. Risk represents two of the six items, reflecting its importance – there will be a requirement for a risk appetite statement and a risk framework. Distribution is new and requires analysis and implementation.  The DP for Risk must be different from the DP for investments. The Central Bank requires that the DPs have the skills and time to take on these specific roles and this must be documented. Allocating DP functions may now be more complex than was historically the case. DPs must have demonstrable experience in the areas they are overseeing.

(ii) Designated Person Roles – where a person oversees any of the managerial functions they must have a contract in place (with the FMC) which inter alia describes the role and the amount of time to be dedicated to the role. This will also apply to NEDs who fulfil these roles.

(iii) Composition of the board – there are a number of requirements which will have a direct impact on the composition of a FMC board. These include; the requirement to have an independent director (who is not responsible for any of the six managerial functions) responsible for organisational effectiveness; the requirement to document the rationale for the board’s composition; the capacity, willingness and expertise of directors in taking on DP roles for managerial functions; the clear documentation of directors’ full professional time commitments.

(iv)  Director Time Commitments – Directors with in excess of an annual aggregate professional time commitment (and the Funds they sit on) will come under increased scrutiny by the Central Bank. The Central Bank wants to ensure that the number of directorships any individual has is moderate. Where any director has more than 20 directorships and an aggregate annual time commitment of more than 2,000 hours they will be considered as higher risk. Post 1 January 2016, any investment funds who have directors in this category will be subject to additional regulatory scrutiny and will be prioritised for inclusion in Central Bank thematic reviews. Boards of FMCs will be required to clearly document directors’ aggregate annual time commitments and be satisfied that the director has sufficient time to fulfil his/her role (within the Board).

(v) Risk Management – is now separated into two separate managerial functions, fund risk management and operational risk management. While it is acceptable for a DP to perform more than one managerial function (one individual can perform both fund risk management and operational risk management functions), it is not acceptable for the same person to perform managerial functions in relation to risk and investment management. The guidance also requires that the Board of a FMC should confirm its risk appetite and that of its underlying Funds and identify and mitigate the applicable risks (i.e. develop a risk framework specific to the FMC).  Risk should be appropriate to the Fund, the FMC and the underlying Funds. Risk polices should include clear procedures for reporting to the Board and considering breaches of any limits. Purely relying on the risk management functions of the FMC’s delegates is not enough.

(vi) Distribution – the guidance note requires the Board approve a detailed distribution strategy, and provides further detail on what this should include. These recommendations relate to determining and assigning tasks for the proposed distribution strategy and ensuring an effective control framework is in place to maintain compliance with all legal and regulatory requirements. The guidance note explains that the Board should also receive and be satisfied with regular reports regarding distribution. Boards should examine these reports if there is a perceived conflict with the prospectus. In addition, Boards should examine marketing material where (i) the Board believes that such material contains significant elaborations relating to the investment approach and (ii) if there is a risk that the marketing material conflicts with the prospectus.

Next Steps

The Central Bank will require existing FMCs to update business plans/programmes of operation to reflect the revised managerial functions and organisational effectiveness by 30 June 2016.

Although a year away there is a significant amount of work a board and promoter may need to do in performing a detailed gap analysis of their current governance model and putting in place any revised structural changes.  This process may involve analysis, change identification, identifying new resources, documentation, new procedures and implementation.

As an immediate step the Central Bank, via letters to Board Chairmen, has requested that current Board compositions be reviewed, taking the guidance note into account to ensure that each Director has sufficient time allocated to this important role and that directorship numbers are kept at an acceptable and manageable level and in line with the new guidelines.

What are the implications for Investment Funds which have a management company?

Where an Investment Fund appoints an Irish Management Company (ManCo) all of the above requirements will apply to that entity (the ManCo). It will therefore be substantially easier for the Investment Fund, itself, to comply with the revised requirements through its due diligence and oversight of the ManCo.

The key consideration for the Board is to suitably oversee the work of the ManCo in its substantive role and ensure there is a clear split of responsibilities between the FMC board and the ManCo, namely strategic versus operational considerations.

The Board of the Investment Fund should receive detailed reports from the ManCo outlining how the delegated tasks are being performed. In addition, potential conflicts of interest should be considered and managed.

While the Board of the investment fund should hold the ManCo to the same standards as a FMC should set for a delegate, it does not need to replicate the detailed oversight of delegates.

How can Kudos Recruitment help?

Kudos Recruitment is a specialist Structured Finance and Alternative Investments Recruitment Consultancy, providing recruitment solutions to both Investment Managers and Service providers.

We have an extensive network of candidates and professionals with the skills, knowledge and experience to advise and take control of the issues above.

For more information, please contact Dominic Carthy, Structured Finance and Alternative Investments Recruitment Expert on +353 1 685 4689 or e-mail dcarthy@kudosrecruitment.ie