On and with effect from 22 July 2014, the Commission de Surveillance du Secteur Financier (CSSF) has published a circular that confirms, and provides clarifications on, the long-standing regulatory practice in relation to material changes to the terms of open-ended collective investment undertakings governed by the law of 17 December 2010 relating to collective investment undertakings (UCITS).
CSSF Circular 14/591 (Circular) sets out the process to be followed in case of “material changes” to the interests of unit holders of a UCITS, and requires that such investors are provided with sufficient time to make an informed decision on the proposed changes and are allowed to exit or convert their holding, without charge, should they not agree to the proposed changes. In considering what constitutes a “material change” for these purposes, the entity in question must consider: (i) whether there is a substantial likelihood that an investor would reconsider its investment in the UCITS in light of the proposed changes and (ii) the investor’s interest or situation before and after the proposed changes.
UCITS are obliged to submit to the CSSF a description of the proposed changes, together with an appropriate explanation, “well in advance” of the proposed changes becoming effective, so that the CSSF can assess the scope and impact of such changes. The CSSF reserves the right to assess whether a change should be deemed material and, if so, to require a notification to investors. The CSSF can also require that additional measures are taken to protect the interests of investors. The proposed changes may, in principle, not be implemented until after the expiration of the notification period that, in line with the CSSF's administrative practice, should be one month. During this period, investors have the right to request, free of charge, the redemption or conversion of their units in the UCITS.
Notwithstanding the foregoing, the CSSF may nevertheless agree, pursuant to a duly supported request for derogation to be made in advance, not to require prior investor notification or the ability of investors to redeem or convert their interests – for example, in cases where all of the investors in the UCITS agree to the contemplated changes.
The obligations in relation to the notification period referred to in the Circular are without prejudice to notice period(s) required by law for investors to pre-approve relevant changes and to specific requirements of other competent authorities in jurisdictions where the UCITS is registered for distribution.
CSSF Sets Forth Rules for UCITS Depositaries and Clarifies Luxembourg Depositary Regimes
By Patrick Goebel and Edouard Albaret
The Luxembourg financial regulator, the CSSF, released on 11 July 2014 circular 14/587 on UCITS depositaries (Circular). The Circular sets forth rules that apply to depositaries of UCITS, as well as to UCITS and their management companies in their relationships with depositaries.
The Circular will enter into force on 31 December 2015, subject to transitional provisions under UCITS V1 that must be transposed into the laws of the EU Member States by 18 March 2016. Luxembourg depositaries should start an internal assessment to prepare for compliance with the requirements of the Circular.
Background
Alongside applicable provisions in the UCI Law,2 the SIF Law,3 the SICAR Law4 and, more recently, the AIFM Law5 completed by Commission Delegated Regulation,6 chapter E of IML circular 91/75 dated 21 January 1991 was the main source of guidance on the functions and duties of depositaries. While this circular indicates that safe-keeping of assets essentially involves a supervisory obligation with respect to assets, the Circular does not provide guidance as to many important areas under AIFMD7 and UCITS V – such as segregation of assets, due diligence of sub-custodians and conflicts of interests – and will be outdated for UCITS on other points once UCITS V is implemented.
Different Depositary Regimes
The Circular clarifies that there will be three depositary regimes in Luxembourg:
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The UCITS depositary regime governed by part I of the UCI Law and the Circular. The Circular must be read in conjunction with additional guidelines issued by ESMA and delegated acts to be taken by the European Commission in the context of UCITS V.
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The full AIF depositary regime governed by article 19 of the AIFM Law and the Commission Delegated Regulation. The Circular anticipates a certain level of harmonisation of the depositary regimes for UCITS and AIFs, and therefore intends to align both regimes, where possible. As a result, the Circular may become an important source to assess the CSSF’s view on certain obligations of depositaries for AIFs that invest in financial instruments.
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The depositary regime for specialised investment funds (SIFs) and investment companies in risk capital (SICARs) that are either managed under the lighter regime of the AIFM Law or do not qualify as AIFs under the AIFM Law. Chapter E of IML Circular 91/75 will continue to apply to those SIFs and SICARs.
Unregulated AIFs managed under the lighter regime of the AIFM Law, as well as non-AIFs that are neither formed as SIFs or SICARs (e.g., holding companies), are not required to entrust their assets to a depositary. No specific depositary regime is therefore mandated for them.
Key Points Under the Circular
The CSSF outlines the importance of certain aspects of the Circular that are to be considered as essential regarding the depositary function.
Segregation of Assets to be Ensured Throughout Chain of Custody
The depositary and its sub-custodians must differentiate and segregate UCITS assets from: (i) assets that are not collectively managed and (ii) assets owned by the depositary or its sub-custodian. A specific omnibus account opened with a sub-custodian for a UCITS cannot be used for assets of the depositary’s clients that are not collectively managed or for the assets of the depositary.
While an agent of the sub-custodian is not under the same obligation in terms of segregation of assets, the depositary must require its sub-custodian to ensure that assets of the UCITS are protected, to the extent feasible, against the default of the sub-custodian’s agent.
Delegation of Safe-Keeping Subject to Specific Conditions
Any delegation of safe-keeping obligations by the depositary to a sub-custodian must be justified by an objective reason, and the selection of the sub-custodian must be subject to initial and on-going due diligence. In this regard, the depositary must implement and apply an appropriate due diligence procedure. The Circular sets forth elements that must be covered by such procedure, including, among others: verifying segregation of assets, reviewing procedures and internal control mechanisms, and assessing operational capacities of the sub-custodian.
The Circular clarifies that the holding of securities through securities settlement systems is not considered to be a delegation of safe-keeping obligations.
Depository to be Independent
The depositary must act in an independent manner and solely in the interest of the UCITS and its investors. The depository must organise its activities with a view to minimising conflicts of interest.
Portfolio management or risk management cannot be delegated to the depositary or to one of its sub-custodians. However, the depositary or one of its sub-custodians can be entrusted with specific tasks in relation to risk management.
Where a depositary provides brokerage, administration, reporting or collateral management for a UCITS, it must ensure the existence of a functional, hierarchal and contractual separation between these services and the depositary services, and must appropriately disclose the potential risk of conflicts of interests.
Persons entrusted with the conduct of daily management of a UCITS or its management company cannot be employed by the depositary of the UCITS.
Depositary to have Cash Accounting and Monitoring Responsibilities
The depositary is responsible for proper accounting and monitoring of cash flows, relevant reconciliation processes and identification of inconsistencies.
The depositary must have a complete understanding of the UCITS’ assets and liquidities. To this end, no cash account can be opened in relation to the UCITS’ activities without the depositary’s consent and unless the depositary is provided with full access to information in connection with such cash account.
The depositary must ensure proper payments for and by the UCITS, as well as proper booking of cash flows and liquidities. Clearing procedures must be reviewed to assess whether they are appropriate for each UCITS on the basis of its nature, size and complexity.
Depositary Liability Regime
The Circular does not provide guidance on the liability regime applicable to depositaries of UCITS – this continues to be determined by the UCI Law and the general rules on civil liability. Since the UCI Law will be amended in this regard by the transposition of UCITS V into Luxembourg law, these changes were not anticipated to be reflected in the Circular.
The transposition of UCITS V into Luxembourg law will introduce a liability regime inspired by the AIFM Law. The depositary’s restitution obligation with respect to financial instruments that are under its safe-keeping will be a strict obligation – the burden of proof with respect to this liability is upon the depositary. Thus, the depositary will be liable for the loss of assets unless it can prove that the loss has arisen as a result of an external event beyond its reasonable control. Contrary to the provisions of the AIFM Law, a depositary servicing UCITS cannot limit or exclude this liability by contractual arrangements.
The obligations in relation to the notification period referred to in the Circular are without prejudice to notice period(s) required by law for investors to pre-approve relevant changes and to specific requirements of other competent authorities in jurisdictions where the UCITS is registered for distribution.
1) Directive 2014/91/EU of the European Parliament and of the Council of 23 July 2014 amending Directive 2009/65/EC on the coordination of laws, regulations and administrative provisions relating to undertakings for collective investment in transferable securities (UCITS) as regards depositary functions, remuneration policies and sanctions, published in the Official Journal of the European Union on 28 August 2014.
2) Luxembourg law of 17 December 2010 on undertakings for collective investment, as amended.
3) Luxembourg law of 13 February 2007 on specialised investment funds, as amended.
4) Luxembourg law of 15 June 2004 on investment companies in risk capital, as amended.
5) Luxembourg law of 12 July 2013 on alternative investment fund managers.
6) Commission Delegated Regulation (EU) No 231/2013 of 19 December 2013, supplementing Directive 2011/61/EU of the European Parliament and of the Council with regard to exemptions, general operating conditions, depositaries, leverage, transparency and supervision.
7) Directive 2011/61/EU of the European Parliament and of the Council on alternative investment fund managers.
Luxembourg AIFM Update
By Patrick Goebel
As of 20 September 2014, 126 AIFMs had been registered on the official list of AIFMs in Luxembourg, and 11 of these AIFMs are authorised to provide investment management services to entities other than AIFs or to provide so-called “non-core” services. There is an even greater number of AIFMs as to which the CSSF has granted authorisation, since not all AIFMs authorised by the CSSF have yet been registered on the official list of AIFMs.
According to the CSSF,1 151 AIFMs out of 215 applications had been authorised at the end of the 22 July 2014 transitional period. Approximately half of these applications were submitted by existing UCITS management companies.
The CSSF updated the FAQs on AIFMD2 most recently on 18 July 2014. Among other matters, the FAQs clarify that non-EU AIFMs are allowed to market AIFs to professional investors in Luxembourg without passport, if the conditions of article 45 of the AIFM Law3 are fulfilled. However, before marketing these AIFs, the non-EU AIFMs must notify the CSSF.4 The marketing can start as of the notification date. Further, the CSSF must be informed when these marketing activities cease.
For such time as the passport regime is not available to non-EU AIFMs, the reporting5 is limited to the data of those AIFs that are marketed in Luxembourg. Once the passport regime becomes available, a non-EU AIFM will be required to report to the supervisory authority of the EU Member State where that non-EU AIFM was authorised as an AIFM.
In addition, non-EU AIFMs must comply with the section on disclosure in ESMA’s guidelines on sound remuneration policies under the AIFMD.
The above-mentioned notification to the CSSF is also required if the AIF marketed by a non-EU AIFM is a regulated Luxembourg AIF (e.g., SIF or SICAR) or a non-regulated Luxembourg AIF.
1) CSSF press release 14/40.
2) The Frequently Asked Questions are regularly updated by the CSSF.
3) Article 45 of the AIFM Law replicates without additional conditions article 42 of the AIFMD. The non-EU AIFM must comply with reporting requirements under the AIFM Law and be located in a country where appropriate cooperation agreements between supervisory authorities are in place and which is not on the FATF list of Non-Cooperative Countries and Territories.
4) This notification is made by completing and submitting to the CSSF a template, available here.
5) Reporting is based on article 22 of the AIFM Law (article 24 of the AIFMD).
Changes to the Luxembourg Bearer Shares/Units Regime
By Marc Seimetz and Jean-Louis Frognet
Luxembourg enacted a new law on the “immobilisation” of bearer shares and units (Law) on 28 July 2014. The Law entered into force on 18 August 2014 (Effective Date) – thereafter, units and shares issued or to be issued in bearer form by a Luxembourg entity must be deposited with a professional depositary appointed by the board of directors. References hereafter to bearer shares will be deemed to include bearer units.
The Law’s aim is to adapt the Luxembourg legal provisions to the requirements of the Financial Action Task Force (FATF) and the Global Forum on Transparency and Exchange of Information for Tax Purposes, as to the identification of holders of bearer shares. Indeed, the anonymity of the holders of bearer shares has raised difficulties with respect to the fight against illegal behaviours, as well as taxation.
Bearer Shares in Luxembourg
According to the Luxembourg law dated 10 August 1915 on commercial companies, as amended, shares issued by Luxembourg public companies limited by shares (sociétés anonymes or SAs) or Luxembourg corporate partnerships limited by shares (sociétés en commandite par actions or SCAs) are in registered, bearer1 or dematerialised2 form. Under the new regime established by the Law, these types of Luxembourg companies continue to be authorised to issue shares in bearer form; however, the ownership, transfer and exercise of the rights attached to such shares will be subject to new rules.
The Law applies to bearer shares issued by all types of SAs and SCAs, including regulated investment funds (i.e., investment companies with variable capital or SICAVs, investment companies with fixed capital or SICAFs, and investment companies in risk capital or SICARs), as well as to bearer units issued by contractual co-ownership schemes (fonds commun de placement or FCPs). The Law also applies to bearer shares admitted to trading on a regulated market.
Deposit and Immobilisation of Bearer Shares
According to the Law, bearer shares must be deposited with a depositary appointed by the board of directors. The depositary: cannot be a shareholder of the issuing company; must be established in Luxembourg; and must be one of the professionals listed in the Law as authorised to perform such activity (including, among other professionals, credit institutions, portfolio managers, family offices, domiciliation agents, registrars, lawyers, notaries and auditors).
An extract of the board resolution appointing the depositary must be filed with the Luxembourg trade register and published in the Luxembourg official gazette.
The depositary must maintain in Luxembourg a register of the bearer shares, which includes: (i) the details of each holder of bearer shares, with an indication of the number of its shares; (ii) the date on which the shares were deposited; and (iii) any transfer of these shares or their conversion into registered shares.
The rights attached to bearer shares can be exercised only if they are deposited with the depositary, and proper entries are made in the register of bearer shares.
Ownership and Transfer of Bearer Shares
The depositary holds the bearer shares on behalf of the shareholders (who remain the owners of the shares) and is not authorised to transfer those shares, except to the company (in cases of conversion of the bearer shares into registered shares, share buy-back or capital reduction) or to a successor depositary.
As a change to the previous regime – where the transfer of bearer shares was made by the mere delivery of these shares to the transferee – the Law now provides that the ownership of bearer shares is as set forth in the register of bearer shares, and transfers of bearer shares must be recorded by the depositary in such register.
The Luxembourg law dated 5 August 2005 on financial collateral arrangements has also been amended, to provide that the dispossession (dépossession) necessary for the granting of a pledge over bearer shares is properly implemented by a registration of the pledge in the register of bearer shares.
Liability and Sanctions
The directors of a company are subject to criminal fines (up to EUR 125,000) in case they knowingly fail to appoint a depositary, or deposit bearer shares with the depositary, or if they recognise rights to bearer shares that were not deposited with the depositary or were not properly recorded in the register of bearer shares. The Luxembourg legislator also took the opportunity to provide for similar criminal sanctions for directors who fail to maintain a register of registered shares.
The Law further provides for criminal fines (up to EUR 25,000) for depositaries (or the members of their management board in case the depositary is a legal entity) that knowingly violate their legal obligations as to the maintenance of the bearer shares register and the holding and transfer of the bearer shares. The Law also provides that the civil liability of depositaries for such legal obligations is similar to the civil liability of the directors of a Luxembourg company.
Important Dates – Transitional Provisions
The Law applies not only to bearer shares issued after the Effective Date, but also to bearer shares already in existence and circulation.
Luxembourg companies that issued bearer shares before the Effective Date must appoint a depositary within six months thereafter (i.e., by 17 February 2015).
Bearer shares issued by companies before the Effective Date must be deposited with the depositary within 18 months thereafter (i.e., by 17 February 2016), failing which such shares must be cancelled through a capital reduction.
Voting rights attached to bearer shares not deposited with the depositary within six months of the Effective Date (i.e., by 17 February 2015) must be suspended until such time as these shares are deposited with the depositary – the shares are not taken into account for quorum and majority purposes, and their holders may not be admitted to general meetings. Any distribution with respect to such shares must be postponed until such time as the shares have been deposited with the depositary, subject to prescription, and without a right to interest on the deferred amounts.
The Law is a good example of the maintenance by the Luxembourg legislator of a flexible regime, while eliminating features that have been problematic. Practical problems that could initially arise in relation to the implementation of the Law will, in principle, be resolved in the near future.
1) Other types of companies, such as the Luxembourg private limited liability companies (sociétés à responsabilité limitée or SARLs) or the common limited partnerships (sociétés en commandite simple or SCSs), which are intuitu personae companies, are not authorised to issue shares in bearer form.
2) For further information regarding dematerialised shares, please refer to Luxembourg Law of 6 April 2013 on Dematerialised Securities.
