Killing Investor Appetite – The European Commission’s Proposal for a Harmonized Pre-Marketing Definition

The European Commission’s recent proposal for a pre-marketing definition both in the AIFMD and EuVECA-Regulation is a cause for concern. Not only is the definition too restrictive, thus conflicting with current market standards, it also leaves key aspects open to interpretation and, therefore, provokes legal uncertainty. This post is a short, critical analysis of the current debate and references, in particular, the opinions of the European Economic and Social Committee and the European Fund and Asset Management Association.

Quick Read

It is hard to see the need for a harmonized pre-marketing definition implemented via the AIFMD or the EuVECA-Regulation, since the member states’ authorities already provide and can continue to develop guidelines. Such a trial-and-error method provides a far more flexible solution than rigid legislation.
The proposed definition will cause, rather than remove legal uncertainty and administrative hurdles, thus counteracting it’s own objective.
As already indicated both by the EESC and the EFAMA, a soft harmonization by providing more ESMA guidance is the preferable approach.

I. Introduction to the Current Discussion

The European Commission‘s recent proposals for an amendment of the Alternative Investment Fund Manager Directive (AIFMD) as well as the EuVECA-Regulation issued on 12 March 2018[1], have already been subject to harsh criticism. In particular, the Commission’s approach to a rather narrow definition of „pre-marketing“ activities (which do not trigger an obligation of the AIFM/ EuVECA manager to submit a formal notification to the competent national authority) by adding a new point (aea) to Article 4(1), a new Article 30a AIFMD, as well as a new point (o) to Article 3 and a new Article 4a in the EuVECA-Regulation is seen as a worrisome development.

It should be noted that even in the internal discussion, the proposal encounters strong skepticism. The European Economic and Social Committee (EESC) „fears that the present proposal could lead to further fragmentation of the single market by encouraging national interpretations“ since it lacks „legal purity and consistency“.[2] The EESC prefers a practical „non-legislative“ approach to the issue. The European Fund and Asset Management Association (EFAMA) takes the similar view that the proposed pre-marketing definition „will substantially limit managers‘ ability to informally explore institutional investors‘ appetite for new AIFs“ and thwart the objective of a Single Market by making cross-border marketing more difficult, instead of reducing barriers.[3] These and similar critical views have also been expressed by a range of different law firms and in recent legal literature.[4]

II. Background and Development of the Proposal

Up until now, „pre-marketing“ is not defined in the AIFMD or the EuVECA-Regulation. Instead, only a definition of „marketing“ exists and is the basis for notification requirements for AIFM/ EuVECA. Before marketing a fund to (potential) investors, an AIFM or EuVECA manager is obliged to notify the competent member state authority.

According to Article 4(1)(x) AIFMD (Article 3(i) EuVECA-Regulation is quite similar), marketing:

„means a direct or indirect offering or placement at the initiative of the AIFM or on behalf of the AIFM of units or shares of an AIF […] to or with investors“.

The competent authorities of the different member states have adopted different interpretations as to which activities may be qualified as marketing and, therefore, trigger a notification obligation. The German Federal Financial Supervisory Authority (BaFin), for example, only qualifies – roughly speaking – AIFM activities as marketing, if reference is made to an existing AIF or at least an AIF, which is ready for quote, i.e. where the investment conditions are complete.[5] According to the EFAMA, the competent authorities of the member states provide rough guidelines „instead of rigid legal definitions“ in order to differentiate notifiable marketing activities from mere pre-marketing and are, furthermore, relying on positive and negative examples.

The proposed amendment of the AIFMD – even in its compromise proposal form, issued by the General Secretariat of the Council on 15 June 2018 – defines pre-marketing as:

„direct or indirect provision of information or communication on investment strategies or investment ideas by an EU AIFM or on its behalf to professional investors […] to test their interest in an AIF or a compartment of an AIF, which is not yet established or which is established, but not yet notified for marketing“.

The additional proposal for a new Article 30a sets out further conditions for pre-marketing, in particular, that the member states shall implement the new definition by ensuring that an AIFM may not – without notification – give information to potential investors that:

„enables investors to commit to acquiring unites or shares of a particular AIF“ or

„amounts to subscription forms or similar documents whether in a draft or a final form“ or

„amounts to constitutional documents, a prospectus or offering documents of a not-yet-established AIF in a final form.“

Very similarly, Article 4a of the EuVECA-Regulation – in its Presidency compromise version – would provide that pre-marketing does not apply (i.e. a formal notification is required) when the information provided:

“enables investors to commit to acquiring units or shares of particular qualifying venture capital funds” or

“amounts to subscription forms or similar documents whether in a draft or a final form”.

(Article 3(o) of the EuVECA-Regulation contains a similar definition to the proposed definition in the AIFMD.)

In particular by qualifying the draft documents (subscription forms, constitutional documents, prospectuses) as information that, if provided to potential investors, constitutes marketing, the proposed definition substantially narrows the scope of “unregulated” pre-marketing

III. Consequences

The proposed definition of pre-marketing substantially limits the possibilities of AIFM and EuVECA managers to engage in pre-marketing activities without triggering the notification requirement. The definitions are not only open to interpretation (by the member states), causing legal uncertainty for managers, but may very well also lead to a rise of administrative efforts.[6] In order to remain on the safe side of regulatory law, managers might notify the competent national authority of each new status of negotiations, as the fund documentation develops. This is because according to the proposal – as opposed to for example the current view of the BaFin – even an incomplete documentation (i.e. „drafts“) can trigger the notification requirement when distributed to potential investors. It remains to be seen, however, whether the different member state authorities will accept incomplete documents at all. Consequently, there may be a „blackout-period“ between the drafting and the marketing phase.[7] In contrast, the EFAMA stresses the „importance of preliminary documentation“ during a pre-marketing phase.[8]

The EESC points out that, from a broader regulatory perspective, the „present proposal could lead to further fragmentation of the single market by encouraging national interpretations.“[9] This assessment is more than realistic, since the wording of the proposed definition of Article 30a AIFMD and Article 4a of the EuVECA-Regulation is, indeed, very wide. It is absolutely unclear, in which individual cases the information provided to an investor enables said investor to “commit” to the acquisition of shares of an AIF or EuVECA. The individual willingness to commit depends on a broad range of circumstances, such as the relative economic significance of a transaction for an investor. Given that the EESC comprises – more or less pari-passu – representatives of workers‘ and employers‘ organizations as well as other interest groups and seeks to promote a „dialogue with organized civil society“ as well as a „participatory democracy“[10], the voiced concerns are far from market-specific, i.e. “biased”.

Beyond that, the „investor appetite“ can hardly be tested thoroughly, if even a fragmented form of fund documentation may not be distributed in the pre-marketing phase. This restrictiveness is far from the current commercial standards. The EESC, accordingly, promotes a more investor-friendly approach by leaving „room for creativity to the originators and vendors of investment products“ and also stresses the „systematic financial education“ i.e. maturity, of investors.[11] The proposed pre-marketing definition in Article 30a AIFMD and Article 4a EuVECA-Regulation, on the other hand, seems to be based on a rather simplistic, not to say patronizing, perspective on (potential) investors. Thus, the proposal is a misjudgement of investor interests. The pre-marketing process is highly relevant to the investors, who – quite often – stay in contact with AIFM or EuVECA managers continuously and enquire about new developments beyond their current investments. The proposal adopts an artificial view of the relationship between (potential) investors and investment funds.

IV. Objective of the Proposal

The European Commission states that the proposal is aimed at „reducing regulatory barriers to the cross-border distribution of investment funds in the EU.“[12] This claim does not hold up under thorough examination, as both the EFAMA and the EESC are pointing out. In particular, the danger of a „constant flux of information via continuous notifications“[13] during the drafting process, as already described above, raises the administrative hurdles and, thus, creates new regulatory barriers, instead of reducing (apparent) existing ones.

Not all (national) varieties of the regulatory framework automatically pose risks for the Capital Markets Union. The harmonization or even uniformity of existing legal systems should never be an end in itself but should only be used to further other purposes. With regards to the cross-border distribution of investment funds, harmonizing the existing (national) practice of defining and dealing with pre-marketing activities does not promise to be a fruitful enterprise.

V. Alternatives?

An alternative might be – as both the EFAMA and the EESC suggest – „non-legislative means“ such as strengthening ESMA (European Securities and Markets Authority) guidance for defining pre-marketing (or marketing) activities.[14] By relying on ESMA guidance, a form of soft harmonization might be achieved. This seems to be a more generic, less invasive way to work towards a Capital Markets Union. It also opens up the whole process for a transparent trial-and-error method.[15] The ESMA, as well as national authorities, could always react to certain forms or pre-marketing if need be and publish new guidelines. This does, of course, require AIFM and EuVECA managers to deal with national guidelines of the jurisdictions they want to be active in. However, the current proposal of the European Commission does – due to the possibility of a varying national interpretation – not seem to have any advantage in this respect.

VI. Conclusion

The proposal to implement a (narrow) definition of „pre-marketing“ activities into the AIFMD and the EuVECA-Regulation seems like a rush job. It can be doubted, whether an urge for harmonization does exist at the moment at all. Furthermore, the proposed definition restricts pre-marketing excessively, even worse, creates more administrative hurdles and poses a risk of varying national interpretations, thereby counteracting its own objective of reducing (administrative) barriers of cross-border distribution of investment funds. Should the proposal develop into a (final) amendment, the provisions of the Directive would be effective within (typically) 2 years at the latest. Since the proposals are already being discussed within the European Council’s preparatory bodies, the amendments seem to be looming quite near.

David graduated from Bucerius Law School and studied at Oxford University. He is currently a PhD Student at Bucerius Law School and an Associate at Schnittker Möllmann Partners, focusing on PE and VC Funds with an emphasis on tax aspects.

[1] Proposal, March 12 2018, COM/2018/092 final – 2018/041 (COD), https://eur-lex.europa.eu/legal-content/EN/ALL/?uri=COM:2018:0092:FIN; Compromise Proposal, 15 June 2018, 2018/0041 (COD), https://eur-lex.europa.eu/legal-content/EN/HIS/?uri=COM:2018:0092:FIN; Proposal, March 12 2018, COM/2018/0110 final – 2018/045 (COD) https://eur-lex.europa.eu/legal-content/en/TXT/?uri=CELEX:52018PC0110; Presidency Compromise, 1 June 2018, ST 9583 2018 INIT, https://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CONSIL:ST_9583_2018_INIT&from=EN.

[2] Opinion of the EESC, 25 Jul 2018, 2018/0041 (COD), 2018 0044 (COD), 2018 0045 (COD), Comment 5.4, https://eur-lex.europa.eu/legal-content/EN/HIS/?uri=COM:2018:0092:FIN.

[3] EFAMA Position Paper, 30 May 2018, p. 3, https://www.efama.org/Publications/Public/EFAMA_PP_EC_proposal_facilitate_cross-border_fund_distribution.pdf.

[4] See, for example, Simmons & Simmons elexica, 13 March 2018, http://www.elexica.com/en/legal-topics/asset-management/120318-crossborder-marketing-of-aifs-and-ucits; SMP Fund Briefing, 14 March 2018, https://www.smp.law/DE/Briefing/Fund_Briefing_EU_Commission_proposal.php; Debevoise In Depth, March 15 2018, https://www.debevoise.com/insights/publications/2018/03/european-commission-proposes-harmonised; Felcht/Glander, RdF 2018, 203 (German only).

[5] BaFin Häufige Fragen zum Vertrieb und Erwerb von Investmentvermögen nach dem KAGB [FAQs], 16 March 2018, https://www.bafin.de/SharedDocs/Veroeffentlichungen/DE/FAQ/faq_kagb_vertrieb_erwerb_130604.html?nn=8900498 (German only).

[6] EFAMA, Position Paper, 30 May 2018, p. 4.

[7] Felcht/Glander, RdF 2018, 203 (206).

[8] EFAMA Position Paper, 30 May 2018, p. 4.

[9] Opinion of the EESC, 25 Jul 2018, 2018/0041 (COD), 2018 0044 (COD), 2018 0045 (COD), Comment 5.4.

[10] EESC Mission Statement, https://www.eesc.europa.eu/en/about.

[11] Opinion of the EESC, 25 Jul 2018, 2018/0041 (COD), 2018 0044 (COD), 2018 0045 (COD), Comment 4.3.

[12] Proposal, March 12 2018, COM/2018/092 final – 2018/041 (COD), Explanatory Memorandum.

[13] EFAMA, Position Paper, 30 May 2018, p. 4.

[14] Opinion of the EESC, 25 Jul 2018, 2018/0041 (COD), 2018 0044 (COD), 2018 0045 (COD), Comment 4.1; EFAMA, Position Paper, 30 May 2018, p. 2.

[15] For further reference cf. Ullrich, The Evolution of European Competition Law: Whose Regulation, Which Competition?, 2006, p. 252: „Applying a unitary regulation concept in the European Union may serve the purpose of better integrating formerly closed national markets. But such a unitary approach may (1) conflict with country-specific features […] and (2) foreclose opportunities to learn from experience with different regulatory approaches.“.