Friday Letter: Sanity prevails

The private equity community breathed a sigh of relief as the European Parliament passed language allowing for the much debated passport rules to be included in the AIFM directive.  However, some key challenges remain.  

“Sanity prevailed.” That's how one fund formation lawyer summed up the Alternative Investment Fund Managers directive developments this week.

The European Parliament and Council compromised Tuesday on language over the controversial AIFM directive's “passport” rules, a provision that would allow third-party fund managers to market private equity funds to European Union member states.

Passports will be available to private equity managers from outside the EU provided they and the countries where they are based meet certain criteria including disclosures on pay structures. Non-EU countries would also need to sign common rules that will be set by the incoming European Securities and Markets Authority (ESMA), which will be based in Paris as of January 2011. The agreement determined that ESMA will have emergency powers to shut down a fund after a decision by the EU finance minister decides it poses a threat to the stability of the financial system.

While many of the incoming requirements will be onerous for private equity firms depending on their size and structure, it could have been much worse.

The current agreement is “a major improvement on what it might have been,” said Simon Walker, chief executive of the BVCA, in a statement. However, the directive is “defective” and many sections in the agreed text are “ambiguous, inconsistent or incoherent,” added Walker.

“We will need to keep a close eye on ESMA and the European Commission to make sure they do not overburden the EU passport with too much costly red tape or try to restrict funds from being marketed in the EU,” said Syed Kamall, Conservative MEP for London and European Conservatives and Reformists group chief negotiator on the directive, in a statement.

“This is not a perfect proposal but hopefully we can all live with it,” added Kamall.

Once passed, the directive would take effect early next year and have to be implemented by all 27 EU member states by early 2013, with passport rules coming into effect in 2015.

The agreed text is set to be voted into law in mid-November during a plenary session of parliament.

However, while passport access is being granted, there are a host of issues that must be sorted, including registration and disclosure issues, as well as increased capital requirements.

Additionally, the role of ESMA will be new territory for managers in what is essentially an added layer of red tape.

And under the rules, the new national regimes will expire in 2018. What then?

It's been a long process getting here and there is much still to be decided. But on the important issue of the passport, the private equity industry now has its answer. Europe is open for business.