As detailed in a previous edition of Private Equity Comment, there are still many unresolved questions surrounding the Alternative Investment Fund Managers Directive (AIFMD), and perhaps none is more important than the application of the remuneration rules to private equity fund managers. Initially, there were serious concerns that the traditional incentive structure – despite being well-aligned
with the interests of investors – would not conform to rules requiring deferral of a proportion of "variable remuneration", and requiring it to be paid as interests in the fund rather than in cash. However, the principle of proportionality – the application of which is explained in regulatory guidance at both European and member state level – has allowed some fund managers to disapply in full certain provisions relating to the payment of variable remuneration, when it is appropriate to do so. In
the UK, guidance from the regulator allows disapplication (in appropriate cases) for managers with less than £5bn (€6.8bn) of assets under management where the funds are not leveraged and investors are locked in for at least five years.
But, just as fund managers thought that the matter was settled, regulators continued to debate remuneration policies in other areas of financial services. The European Banking Authority, while considering remuneration requirements in the banking sector under the Fourth Capital Requirements Directive (CRD IV), suggested that "the principle of proportionality cannot lead to the non-application of remuneration rules", leading to fears that this view would need to be adopted in other sectors. And although
ESMA, the pan-European regulator, indicated last year that it was unwilling to follow this approach, it asked for feedback from fund managers on this issue as part of a consultation launched in October, leading to some concern in the industry that it may change its view.
ESMA's final report was released at the end of last month, and confirmed that it remains of the view that full disapplication of certain requirements should be permitted in certain circumstances under the AIFMD (and the UCITS Directive). That was welcomed by the industry, as was the fact that the AIFMD guidelines have been left
as they stand for now. However, ESMA has also written to EU lawmakers suggesting that further clarification is needed, possibly through amendments to the AIFMD itself. That means that this issue is still not finally settled, and (if the policy-makers disagree with ESMA) there is still the prospect of amendments to the Directive, potentially changing the way in which
the principle of proportionality has to be applied by fund managers. (For a more detailed review of the issues raised in the report, please click here.)
One area in which ESMA did provide some clarification was for those managers subject to the AIFMD who are part of a group, where other entities are subject to different remuneration rules – such as a fund manager within a banking group where other entities may be subject to CRD IV. In this case, the AIFMD remuneration rules will continue to apply to the fund manager, but some individuals within the AIFM who have group-level responsibilities or impact may be subject to the more stringent CRD IV
So, even if there is some continuing uncertainty, at least for now fund managers can continue to apply proportionality under the AIFMD rules in the same way as they have done for the past few years. And the fact that ESMA has yet again been clear that it believes full disapplication of certain rules is appropriate for some fund managers in certain circumstances, despite coming under some pressure from other regulators to change its view, could be taken as an indication that drastic change in the approach
to proportionality for AIFMs is unlikely.