Maximising potential through outsourced ACDs
In today’s heavily regulated environment, institutional investors want full assurances that their fund managers are adhering to industry best practices. A failure to demonstrate this could result in managers missing out on lucrative mandates or worse – divestment.
In response, a growing number of asset managers are working with fiduciary and regulatory specialists such as independent authorised corporate directors (ACDs*) in the UK, or management companies (ManCos), as they are known as in the European Union (EU). By doing this, they are ensuring that important fund decisions are made in the best interests of the end investors.
ACDs as an enabler for best practices
The ACD performs a critical fiduciary role, with one of their key responsibilities being to carry out initial and ongoing oversight assessments of the fund, which typically involves monitoring investment management, operational processes, regulatory compliance and service provider performance. “Independent ACDs/ManCos perform a key fiduciary role and ideally they should be entirely independent of the asset manager and the fund distributors to enable them to conduct their oversight role without bias and avoiding conflicts of interest. The sole focus of ACDs is to look after the interests of the investors in the fund,” says Kevin Lavery, CEO for Ireland and COO for Equity Trustees European and UK Fund operations. That the ACD is independent from the manager is very appealing to risk-conscious investors, but so too is their extensive industry-wide expertise.
Historically, the oversight and governance role performed by the ACD was an activity normally carried out by asset managers themselves. Although a number of UK managers have since moved these functions to Independent third party ACDs, some investment firms continue to internalise the process. A lot of in-house ACDs/ManCos simply do not have the correct level of experience while others may not realise the full extent of their responsibilities. In some instances, individuals entrusted with overseeing their fund administrators, auditors, custodians or depositaries may not have the correct qualifications to do so.
In contrast, independent specialist third party ACDs/ManCos can have a lot of experience and industry knowledge.
Incurring savings at asset managers
In addition, the case for outsourcing non-revenue generating activities has never been stronger for asset managers. While total industry assets under management (AuM) grew to $71.8 trillion in 2018, fees have declined by almost 20% over the last five years, whereas spending on regulation, back office and technology now accounts for more than 30% of all costs, according to Casey Quirk and McLagan1. “ACDs/ManCos such as Equity Trustees have strong balance sheets, which can help managers from a capital adequacy perspective. Due to our strong infrastructure and ability to achieve scalability, we can allow asset managers to invest more in the profit-generating parts of their business or redeploy staff traditionally involved in operations into investment management or distribution support roles,” continues Mr Lavery. The heightened costs of running an institutional asset management business have been disproportionately felt by smaller firms and start-ups. Regulations such as the EU’s Alternative Investment Fund Managers Directive (AIFMD), UCITS V, the Markets in Financial Instruments Directive II (MiFID II) and the Packaged Retail Investment and Insurance-based Products rules (PRIIPs) are all making it prohibitively difficult for firms to operate a sustainable business. The costs of meeting some of these governance and oversight requirements is proving incredibly challenging for smaller firms, which is prompting more of them to outsource the oversight duties to Independent specialist ACDs/ManCos. However, Mr Lavery adds a number of the larger asset management houses are also increasingly leveraging independent ACDs/ManCos. One of the principle benefits of EU ManCos is that they can allow non-EU asset managers to obtain a presence inside the Single Market enabling them to distribute their products across all 27 member states without having to invest in bricks and mortar. The same will be true for investment firms looking to distribute in the UK post-Brexit. Lavery says Equity Trustees is especially well-positioned to deal with any Brexit eventuality. “We have a UK ACD company and a Central Bank of Ireland (CBI) approved entity so we – as a group – are well prepared for Brexit. However, when we meet a new client, we do not initially discuss domicile choices. We want to know firstly what the client’s distribution model is and who their target audience is and only once we understand those do we recommend a domicile.”
Recent liquidity events, however, at a high-profile UK UCITS equity fund, have resulted in the Independent ACD model coming under investor and regulatory scrutiny. In essence, the UK’s Financial Conduct Authority (FCA) has begun a formal review of Independent ACDs and is currently assessing whether or not these providers are at risk of conflict of interest, especially if they are being remunerated by the manager whom they are meant to be overseeing. Critics of the Independent ACD structure have implied some providers may be hesitant about interrogating managers in case it jeopardises the commercial relationship2. Lavery says it is crucial that Independent ACDs/ManCos have robust oversight processes in place at all times. “We have strict controls in place. For example, we have been performing liquidity oversight on our managers for a significant number of years now. As a result, we spend a lot of time on product governance matters. If a manager says to us that they want to launch a global long-only large cap equity fund, we will ensure the mandate is restricted accordingly when it is being sold to investors. Moreover, we will also challenge the managers on an ongoing basis to ensure and validate that there has been no style drift,” comments Lavery.
While Independent ACDs are facing regulatory pressure, nearly all industry experts accept the model is best practice and far less vulnerable to conflict of interest risk than, say, an in-house ACD.
As an independent ACD/ManCo provider, I fully welcome the FCA’s thematic review of Independent ACDs. That being said, I do believe the FCA should consider reviewing the ACD market in its entirety, including the in-house ACDs at asset managers.
*ACD: Authorised Corporate Director
(1) Casey Quirk/McLagan (June 25, 2019) Rising non-compensation costs contribute to margin erosion for asset managers.
(2) Financial Times (January 11, 2020) FCA begins probe of asset management’s crucial ACD market.
Kevin has been working in the financial sector since 2003 when he joined GAM Fund Management in Dublin as a Fund Accountant. He subsequently worked with Bank of New York in London before moving to BDO Stoy Hayward Investment Management as a Senior Hedge Fund Accountant. Whilst at BDO, Kevin progressed to become Director of Operations and Head of Operational Due Diligence. Kevin then joined Fund Partners in 2013 and In February 2015 was promoted to Co-CEO sharing overall responsibility for the strategic and operational development of the business with James Gardner. Kevin established Equity Trustees (UK & Europe) in January 2017 and has overall responsibility for the groups Operational and Compliance strategy as well as direct responsibility for Supplier Oversight, Third Party IM Oversight, Portfolio Risk Management, Audit and Corporate Services functions for the Regulated subsidiary businesses.