In a continuous effort to raise investors’ confidence and establish itself as an attractive center for the establishment and operation of EU funds and asset management companies, Cyprus has recently updated its current legal framework to adhere to the gold standards set in the sector by regimes such as Luxembourg’s and Ireland’s. Cyprus offers both EU-regulated Undertakings of Collective Investment in Transferable Securities (UCITS) and Alternative Investment Funds (AIFs).
With respect to the applicable Alternative Investment Funds (AIFs) framework, Cyprus has introduced a new piece of legislation in July 2018 with a view to align the jurisdiction with recent EU and international trends. Evidently, the most important aspect of the new legislation was that it has provided a significantly time and cost-efficient means of establishing AIFs in Cyprus through the introduction of Registered AIFs (RAIFs), which offers new benefits such as fast-tracking. In this regard, RAIFs do not require authorisation by the supervising Cyprus Securities and Exchange Commission (CySEC) to commence operations provided they are externally managed by an Alternative Investment Fund Manager (AIFM) based in Cyprus or another EU country whilst they can also be converted into an AIF at a later stage and convert into a regulated vehicle. In addition, the applicable AIF regulatory framework has also been praised for a successful combination of investor protection and freedom of operation for asset managers.
In particular, the delegation of asset management services licensed in the jurisdiction appears to have triggered great interest in the fund community and is running alongside the new fund regime. In accordance with applicable laws, an Alternative Investment Fund Manager (AIFM) is generally allowed to delegate some of its functions to third parties provided that delegation arrangements are premised upon the following basic principles:
(a) the AIFM retains the ultimate and complete liability towards the Alternative Investment Fund (“AIF”) it manages as well as its investors, and;
(b) that the AIFM’s liability towards such parties is not in any way affected by the fact that the AIFM has delegated its functions to a third party.
What regulates the obligations and limitations that the AIFM will need to adhere to in case that delegation arrangements are put in place, is the nature and type of function that will be outsourced.
Subject to the prior notification of the Cyprus Securities and Exchange Commission (“CySEC”), an AIFM established and licensed in the Republic of Cyprus is generally permitted by CySEC to delegate some of its functions to third parties, provided that the following conditions are met:
- The AIFM must be able to justify its entire delegation structure on objective reasons;
- The delegate must dispose of sufficient resources to perform the respective tasks and the persons who effectively conduct the business of the delegate must be of sufficiently good repute and sufficiently experienced;
- The delegation must not prevent the effectiveness of supervision of the AIFM and in particular, must not prevent the AIFM from acting, or the AIF from being managed, in the best interests of the investors;
- The AIFM must be able to demonstrate that the delegate is qualified and capable of undertaking the functions in question and is in a position to monitor the delegated activity, as well as to withdraw the delegation with immediate effect when this is in the interests of investors;
- The services provided by each delegate such be reviewed on an ongoing basis; and
- The AIFM shall not delegate its functions to the extent that it can no longer be considered as the manager of the AIF and is therefore considered as a letter-box entity.
As it becomes evident, an AIFM must not only retain the ultimate responsibility towards the AIFs and their investors but more importantly it must ensure that its regulatory obligations (arising out of the performance of its activities) are not in any way tampered with, by reason of such delegation arrangements.
What is also important to note at this point, is that delegation arrangements must be evidenced by a contract in writing which must specify the following:
- the AIFM ensures that the delegate protects any confidential information relating to the AIFM, the AIF affected by the delegation and the investors in that AIF;
- the AIFM ensures that the delegate establishes, implements and maintains a contingency plan for disaster recovery and periodic testing of backup facilities while taking into account the types of delegated functions;
- that the AIFM will be able to terminate the delegation arrangements with immediate effect; and
- whether any sub-delegation is going to be permitted under their arrangements in its terms.
The delegation of investment management functions under the EU regime has attracted increased scrutiny by EU regulators in the context of Brexit. At the same time, the recently reformed Cyprus fund sector could provide significant support for British-based investment funds and managers in the event of the EU revoking Britain’s passporting rights. As reported, Cyprus can offer British based firms the flexibility to maintain their current operations, without having to relocate staff or operations post-Brexit to a jurisdiction within the EU whilst British managers would have a fully-compliant management platform with a European passport and pre-existing structure to market their funds in the EU.