William Yonge, partner at Morgan Lewis & Bockius, examines the regulatory and compensation issues relating to ESMA's consultation on new guidelines for how alternative investment fund managers should be compensated.
On 28 June 2012, the European Securities and Markets Authority ("ESMA") published a consultation paper on their proposed guidelines on the remuneration requirements under the EU Alternative Investment Fund Managers Directive ("AIFMD"). These requirements will be entirely novel for some AIFMs, in particular many private equity and real estate fund managers.
AIFMs are required to establish and design remuneration policies and practices for certain senior staff, to promote sound and effective risk management and not to encourage risk taking which is inconsistent with their risk profiles, rules or instruments of incorporation.
Annex II to AIFMD enumerates the principles AIFMs must follow when determining the substance of their own remuneration policies and practices, including restrictions on the structure and form of pay packages.
The regime will be applied in accordance with the proportionality principle, by which AIFMs may follow the requirements in different ways and to differing extents, according to their size, internal organisation and the complexity of the activities undertaken.
A main concern for AIFMs will be whether the risk alignment provisions require changes to their pay packages. ESMA has indicated that co-investment is not subject to the requirements and has suggested that "fund-as-a whole" carried interest aligns the interests of AIFM staff with AIF investors and therefore would not require adjustment.
However, other models of carry will need careful analysis and further guidance from ESMA or national regulators. ESMA has not addressed the treatment of AIFM staff who are owner-managers, many of whom only receive a profit share; perhaps ESMA intends to leave that challenge to national regulators.
Further clarification on this is needed, as this issue is significant in the UK, where the LLP owner-manager structure is the entity of choice for AIFMs.
The AIFMD remuneration regime applies to:
- EU AIFMs which manage one or more AIFs, whether EU or non-EU based;
- non-EU AIFMs which manage one or more EU AIFs; and
- non-EU AIFMs which market one or more AIFs in the EU whether EU or non-EU.