ICQ Log - Funds:  

CP86 Fund Management Company Guidance & Effectiveness

Last Updated: 29 March 2021

Laura Wadding, Partner, Risk Advisory at Deloitte LLP, discusses CP86 Fund Management Company Guidance & Effectiveness. 

CP86 has remained on the Central Bank of Ireland’s agenda since finalised in 2016. The Central Bank has maintained its focus on fund governance and has raised the bar with regard to substance and governance, most notably for new applicants setting up an Irish fund management company as a result of Brexit. 

Ireland has a long and well established reputation as a fund friendly domicile. Its pragmatic regulatory environment benefits from the passports available under the UCITS Directive and AIFMD. These frameworks allow funds to be sold and marketed into the EU and beyond under various regulatory regimes, while the portfolio management can be performed outside of Ireland in jurisdictions such as the UK, US and Asia.

The introduction of AIFMD in July 2013 started a process of change in relation to managing the business affairs of the funds under management. Unlike the UCITS regime, which is largely a product directive but also enshrines principles around the management of UCITS, AIFMD focuses on the regulation and ongoing supervision of the Alternative Investment Fund Manager (AIFM). Although AIFMD permits both an internally managed Alternative Investment Fund (AIF) structure, as well as the appointment of an external AIFM, the rules around governance, supervision and the extent to which an AIFM can delegate duties were far more prescriptive than the UCITS regime. This made the concept of an internally managed AIF (similar to the SMIC model under the UCITS regime) far more challenging.

Furthermore, Article 82(1)(d) of the Level 2 AIFM Directive sets out in significant detail the rules around delegation and includes both quantitative and qualitative criteria around what can be delegated and what can be retained. Article 82(2) also provides that the EU Commission may review AIFMD delegation models to ensure that the AIFM does not become a ‘letter-box entity’. Article 82(3) further provides that the European Securities and Markets Authority (ESMA) may issue guidelines to ensure a consistent assessment of delegation structures across the EU. This prompted the CBI to consider the effectiveness of the delegation structures by Irish management companies.

The first consultation on fund management company effectiveness in Ireland, CP86, was published in July 2014. The resulting feedback was accompanied by a mini consultation in 2015 and it was then decided to use CP86 in relation to the third consultation in June 2016. The Central Bank published its Guidance in December 2016, concluding a three-part CP86 consultation process. Existing FMCs were expected to comply with the relevant provisions introduced under CP86 by 1 July 2018. At that point, the Central Bank signalled to industry that it would carry out a body of work to assess implementation of the requirements and the Guidance by FMCs.

Other jurisdictions followed suit, mostly notably Luxembourg produced CSSF Circular 698 in 2018 which include much of the same principles as CP86.

CP86 has remained on the CBIs agenda since finalised in 2016. The CBI has maintained its focus on fund governance and has raised the bar with regard to substance and governance, most notably for new applicants setting up an Irish fund management company as a result of Brexit. In 2019, the CBI began a thematic review of the implementation of CP86. This concluded in 2020 and resulted in a “Dear Chair” letter, dated 20 October 2020. The Central Bank expects all FMCs to critically assess their day to day operational, resourcing and governance arrangements against all relevant rules and guidance. The analysis should be completed and an action plan discussed and approved by the Board by the end of Q1 2021.

Overview of the Fund Management Company Guidance

The objective of CP86 was to introduce initiatives “designed to underpin the achievement of substantive control by FMCs, acting on behalf of funds, over the activities of their delegates.” The guidance applies to UCITS management companies (“ManCos”), authorised Alternative Investment Fund Managers (“AIFMs”), self-managed UCITS and internally managed Alternative Investment Funds (“AIFs”) that are authorised as AIFMs.

• • • It provides guidance on seven key areas:
    • The Rationale for Board Composition
    • Directors’ Time Commitments
    • Organisational Effectiveness
    • Six Managerial Functions
    • Delegate Oversight
    • Operational Issues
    • Procedural Matters

Dear Chair Letter

In 2019, the CBI began a thematic review of the implementation of CP86 when it wrote to over 300 Irish management companies (ManCos) and self-managed investment companies (SMICs) asking questions of their governance structures, level of delegate oversight, detailed analysis of director time commitments, and how organisational effectiveness was being achieved. After this industrywide outreach, the CBI began a series of desktop reviews of a sample of FMCs in late 2019. This concluded in 2020 and resulted in a “Dear Chair” letter, dated 20 October 2020. In this letter, the CBI highlighted concerns and recommendations in relation to the following areas:

1.Resourcing

• All FMCs should have a minimum of 3 FTE (suitably qualified and senior) or more depending on the nature, scale and complexity of operations.
• FMCs must appoint locally based persons to act as Designated Persons (DPs) and sufficient staff to fulfil duties including oversight of delegated activity.
• In larger firms DPs are expected to be full time roles.
• All but the smallest FMCs should have a CEO.
• Resourcing to be kept under review as business scale and complexity increases.

2.Designated Persons

• Evidence of constructive challenge and interrogation by DPs as an indicator of good management.
• DPs to commit enough time to carry out their role thoroughly and to a high standard.

3.Delegate Oversight

• Due diligence reviews to be conducted at take on and then annually. If relying on a delegates Policy and Procedure there must be a formal process to review same.
• Documented SLA to be in place in respect of third party arrangements.

4.Risk Management Framework

• Robust, Board approved, entity specific RMF (incl. Risk Register and Risk Appetite Statement).

5.Board approval of new funds

• Evidence of robust discussion and challenge by the Board. Early involvement when formulating strategy of new funds.

6.The role of the Organisational Effectiveness Director

• To fulfil role in monitoring adequacy of resourcing must have meaningful, regular and documented interaction with DPs and Board at least on quarterly basis.
• Report to Board at least annually.
• Ensure Board effectiveness evaluation conducted annually.
• Consider conflicts of interest and personal transactions on an ongoing basis and report to the Board.
• Consider tenure of INEDs & rotation.
• Consider gender diversity.

• Risk Mitigation Programmes

  In addition to the Dear Chair letter, some firms received direct instruction from the CBI in the form of a Risk Mitigation Programme (‘RMP’) and these included specific requirements for action by those entities. In general, these RMPs are consistent with the recommendations outlined by the CBI in the letter, however, some specific requirements have been imposed on firms to undertake certain activities within an agreed timeframe such the following:

  • Complete a board effectiveness review
  • Complete an organisational effectiveness review
  • Review the designated persons time commitments
  • Enhance the risk management framework
  • Develop a risk appetite framework and corresponding risk appetite statements Preparing a Board Approved Plan Regardless of whether an FMC receives a specific risk mitigation requirement or not, the Central Bank expects all FMCs to critically assess their day to day operational, resourcing and governance arrangements against all relevant rules and guidance. The Assessment and Implementation Plan should at a minimum consider the following:
  • The time commitment, skills and expertise of available resources;
  • The FMC’s retained and delegated tasks, including how ongoing independent challenge of all delegates can be ensured;
  • The tasks required by the framework, including those that must be completed on a fund by fund basis;
  • How resources and operational capacity will need to increase to take account of any increase in the nature, scale and complexity of the funds under management since authorisation or the last time the FMC critically assessed its operations;
  • How resources and operational capacity will need to increase to deal with a market and/or operational crisis.

The analysis should be completed and an action plan discussed and approved by the Board by end Q1 2021.

The plan needs to be forward looking to take into account plans for growth or increased complexity in the product range of the FMC. Latest indications from the CBI suggest that plans should not run into 2022, which could be a challenge for many firms, especially if the action required includes applying for an extended or additional licence e.g. where a SMIC intends to establish a Management Company into which it will put the required substance.

The plan itself does not need to be submitted to the CBI, but indications are that the CBI will perform a round of inspections in 2022 which will test the robustness of those plans and the manner in which they have been implemented. So the plan needs to be reasonably detailed, with clear rationale for decisions made, and a clear roadmap for its implementation. It should be accompanied by a risk and issues tracker, with due consideration being given to how to mitigate those risks. In addition to approving the plan, the Board should be kept abreast of its progress on a regular basis. Where an FMC develops a plan for its longer term strategy that flows into 2022, it may need to consider some tactical steps to satisfy the requirements of CP86 in the medium term, but certainly the expectation is that all FMCs will have made significant progress on their plan by the end of 2021.

Author: Laura Wadding

Partner at Deloitte Ireland & Sustainability Market Lead

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ICQ Spring Edition 2021

This article was taken from the ACOI's ICQ Spring Edition 2021