Pray for the Council version

Two versions of the controversial AIFM ‘third country’ rule are being considered in the EU. Neither are good news for US and other non-EU fundraisers, but one version is a real dead end.

The tale of the “third-country rule” is actually two dueling European sagas. But any private equity firms outside of the EU that would ever hope to raise capital there should pay close attention to both.

On 17 May, the EU Parliament’s Economic and Monetary Affairs Committee (ECON) approved a version of the Alternative Investment Fund Manager directive, and on 18 May the Council of Ministers, which has representatives from each member state, approved its own version of the AIFM directive.

There are significant differences between the two versions that could impact fundraising in Europe.

“The Council draft basically says that [a US private equity fund] could sell units in Europe provided that they comply with European rules dealing with disclosure and regulation,” said Simon Gleeson, a London-based partner at Clifford Chance.

Notably, the Council of Ministers’ version of the directive leaves the question of the third country rules open to further analysis and debate.

The rules would prohibit foreign fund managers from marketing within the EU unless they can demonstrate that they are subject to a regulatory regime in their home country. But exactly how this would work is not yet specified.

The ECON committee’s version, however, adopts the third country rules as previously written and is unfavourable to US managers. “It’s a bloody mess right now,” said Gleeson.

According  to text from ECON’s committee version, “A professional investor domiciled in a member state shall not invest in shares or units of an Alternative Investment Fund domiciled in a third country [a non-EU country] if any of the conditions in Article 35 are not satisfied in relation to that third country.”

The conditions in Article 35 include that:

• a cooperation agreement between the authorities of that member state and the supervisor of the AIFM, which ensures an efficient exchange of all information that are relevant for monitoring the potential implications of the activities of the Alternative Investment Fund

• the third country grants EU fund managers effective market access comparable to that granted by the EU to fund managers from that third country

• a signed agreement with each relevant EU member state which ensures an effective exchange of information in tax matters

“According to the [ECON] version, a fund would effectively be unable to raise money in Europe,” said Gleeson. “In the current state of play, if you were dealing with a US manager, you wouldn’t have a cooperation agreement. That manager would be locked out of Europe,” said Gleeson.

The EU market would essentially be closed to non-EU funds and managers.

“It is very disappointing that ECON has voted for this 'investor ban' which would effectively ban EU investors from investing outside Europe. This will have negative social consequences across the EU because it will be European institutional investors like pension funds who will be affected,” said Andrew Baker, chief executive of the Alternative Investment Fund Managers Association, in a statement.

Resolution of the two versions will have to wait until July, at the earliest.

Negotiations will now take place between MEPs and the Council of Ministers ahead of the first reading vote by the full European Parliament which is scheduled for July 2010.

Gleeson, for one, is optimistic.

“The smart money is on the Council’s draft getting through in the end. The US managers’ funds could be offered to investors in Europe, provided they are regulated and comply with the rules,” said Gleeson. “And you have to remember that selling hedge fund units is completely banned in most parts of Europe and it doesn’t stop them from making a lot of money.”