Listing Hedge Funds On The Irish Stock Exchange
Good afternoon Ladies and Gentlemen
First, I should explain that I am not Patrick OSullivan and I work for Custom House Administration and Corporate Service Ltd not Custom House Capital.
Patrick, who couldnt make it today, has asked to talk to you today on the subject of Stock Exchange listings for funds.
As I am no Daniel keen to enter the Lions Den, I will not presume to discuss listing funds on the Luxembourg Stock Exchange and will, therefore, restrict my comments to listing funds on The Irish Stock Exchange.
This has been a growth industry in itself in Dublin, since the International Financial Services Centre (IFSC) was launched in the late 1980s. Since then, some 4,000 funds have been listed on the Irish Stock Exchange, many of them traditional Mutual Funds and UCITs, domiciled in Ireland, but also a very large number of hedge funds, of which the majority are not domiciled in Ireland indeed, they are, for the most part, domiciled in jurisdictions such as the Cayman Islands, Bermuda, Bahamas and the British Virgin Islands (BVI).
The first thing one should realize about most funds that are listed in the Irish Stock Exchange is that listing is just that, a listing. It generally does not provide liquidity, because, generally, there are no market-makers appointed to trade in the funds shares. In the case of hedge funds, they are, for the most part, bought and sold on a monthly basis and on the basis of the Net Asset Value or NAV per Share. Of course, there are many Mutual Funds, Unit Trusts and UCITSs listed on the Irish Stock Exchange and, for the most part, they would be Irish domiciled funds. Because Irish domiciled funds are regulated by IFSRA (which was formerly the Central Bank of Ireland and still is a department of that organization), in accordance with EU Directives. As such, the Irish Stock Exchange Listing Committee will, pretty much, approve a listing application for the shares or units of such a fund with little or no comment. This is not the case for hedge funds, or other funds domiciled in the offshore jurisdictions, such as the BVI, Bahamas, Bermuda, Cayman Islands.
Before getting into detail of what is required to obtain a listing, I thought I would briefly comment on the reasons why people go to the effort and expense of listing their shares on a stock exchange, when that process does not provide any additional liquidity for the fund in question. The primary reasons for listing a fund on the Irish Stock Exchange (and this will, I presume, apply to the Luxembourg Stock Exchange as well) are, basically, marketing reasons.
Firstly, there is no doubt that investors draw comfort from the fact that bureaucratic organizations, such as the Listing Committee of the Irish Stock Exchange has reviewed the Offering Memorandum and has confirmed that it complies with the relevant rules and regulations, which, in the case of the Irish Stock Exchange, I referred to as the Green Book. Furthermore, the Irish Stock Exchange is an EU Stock Exchange and, therefore, complies with the relevant EU Directives. Of course, investors must be made aware, in the offering document of the fund in question, that the Irish Stock Exchange is not recommending, or in any way endorsing, the fund, but merely approving its listing and thereby confirming that it is in compliance with the relevant regulations, which I will discuss in a few minutes.
Secondly, there are a number of institutional and Professional investors, such as some Pension Funds, Family Trusts, Endowments and the like, that have restrictions on the percentage of their assets that they can invest in unlisted securities. These restrictions can range from 0% to 15-20% and, as such, the promoter of the hedge fund is, therefore, limited to targeting anything from 20% to zero of an investors assets, whereas, if the fund was listed, the investor would not be so restricted. I presume that these restrictions were put in order to provide liquidity for the assets of the investing entity and, of course, the original concept was that, if any companys shares were listed on a Stock Exchange they would be more or less liquid. Therefore, this advantage of listing the shares of a fund on an Exchange is the result of form, rather than substance but, be that as it may be, that is how the world works.
Thirdly, there are some jurisdictions, including France, which prohibits French Funds of Funds, for example, from investing in offshore funds (in this context, offshore means outside France and probably outside the EU), unless those funds are listed on an approved Stock Exchange, which would include an EU Stock Exchange, such as Ireland or Luxembourg.
Finally, there are some corporate investors I can think of one French corporation in particular - who are only permitted to include the value of their hedge fund investments in their account, on the basis of cost, or lower, if they have declined in value, or at the liquidation (sale) value. However they can include the value at current NAV if the shares are listed on a Stock Exchange.
Thus, you can see that there are marketing advantages to listing a funds shares on a Stock Exchange and, as I say, the Irish Stock Exchange has led the way with regard to hedge funds.
The question that the Manager or Promoter now has to answer, is whether the benefits that I have just described justify the cost, both financially and in resources that have to be applied to ensure that the Directors comply with the ongoing obligations relating to the listing.
So what is involved
As I have always said, I am going to discuss this in the context of offshore hedge funds listing on the Irish Stock Exchange, largely because that is where my experience lies.
First of all, the actual listing process follows several clear steps.
The first is to appoint a Sponsor. Sponsors used to be limited to member firms of the Irish Stock Exchange, but as the practice of listing funds has become more widespread, so many attorneys and, in some cases, accountancy firms have become sponsors. All applications must be presented through a Sponsor that is registered with the Irish Stock Exchange. That Sponsor is responsible for all dealings, with the Stock Exchange or all matters relating to the application. It is also obliged to ensure the suitability of the applicant fund and its management. Thus, the Sponsor, to a certain extent, carries out the due diligence required by the Stock Exchange.
The Sponsor must also be comfortable that the fund and its Promoters and Directors will meet the Stock Exchanges conditions and it is sometimes helpful to get pre-approval from the Stock Exchange, if the Sponsor has any concerns.
The next step is to submit the Listing Particulars, which, for a new fund, usually duplicates the Prospectus or Offering Memorandum.
The Stock Exchange will want to see specific disclosures and statements in this document, which I will describe in a minute and will want to see that the document shows that the fund is in compliance with the Stock Exchanges Listing conditions. The next step is, of course, the Stock Exchanges approval of the fund, at which time, her Directors and Sponsor must sign off on the document. This must then be submitted to the Stock Exchange at least 48 hours before the fund is due to list, together with all other agreements, contracts, Directors questionnaires, etc.
The next step is to issue shares, or units, in the fund and, as soon as they have been issued, shares can be listed whenever the Board of the fund wishes to do so.
Once the fund is listed, then the fund, or more accurately, its Board of Directors, must comply with the ongoing obligations imposed by the Stock Exchange, which I will also discuss in a minute.
So what are the Listing conditions
* In simple terms, the fund must be a passive investor and may not take legal or management control of any company in which it is investing.
* It must comply with the Stock Exchanges diversification or risk spreading requirements, which include a limit of 20% of its gross asset value (before deducting borrowed money) being invested in any one issuer or exposed to any one counterparty. An exception to this is any fund that is a Fund of Fund or multi-manager fund, which may invest up to 40% with any one fund or Manager.
* The fund may not invest more than 10% of its gross asset value, directly into real estate i.e. property - or commodities. Note the word directly the fund can obviously invest up to 20% of its gross assets into shares of listed property companies. Also, the property restriction does not apply in the case of property funds. However, they have their own restrictions and there are very few of those I believe, less than the fingers of one hand that have been listed on the Irish Stock Exchange.
* Unless the fund is regulated by a regulatory authority acceptable to the Stock Exchange, the fund must have a minimum subscription level per investor of US$100,000, or currency equivalent.
* If the fund has started trading, then it must provide an audited statement of net assets, if it is within its first year of operation. If it has been operating for more than a year, then it must provide an unqualified audited financial report.
* The fund must appoint a Custodian.
* The fund must adhere to the distribution policies of the Stock Exchange.
* If the fund is a company, then it must have at least two Independent Directors. In this context, independent means independent of the Investment Manager and/or the Investment Advisor and/or their affiliated companies i.e. the Independent Directors are not allowed to be involved in either the management of the funds assets or in promoting the shares of the fund.
* For hedge funds, the prime broker appointed by the fund must meet certain credit rating standards, as imposed by the Stock Exchange.
* The Directors of the fund must:
o Collectively show that they have the appropriate and relevant expertise and experience;
o They must take full responsibility for the Listing Particulars i.e. individually; and
o Directors may not be corporate entities.
* The Investment Manager of the fund must be able to show that it has the appropriate experience and expertise to manage the fund. As with everything else in the world, money talks, therefore the Stock Exchange will accept that any Investment Manager, who has at least US$100 million, or currency equivalent, of client funds under discretionary management will be deemed to be both expert and experienced.
There are, of course, requirements relating to the Custodian, Auditor and all other service providers, but all of these are fairly obvious and not particularly intrusive. The Stock Exchange will also require that all potential conflicts of interest must be disclosed and, if any such conflict arises, then there must be a method of resolving them in a manner that will not prejudice the fund.
The next questions, which are in fact, normally asked before finding out about the listing requirements are how much and how long. Although the cost will depend, to a certain extent, upon the Sponsor, on the whole, the all-in cost of listing on the Irish Stock Exchange will be somewhere between 10,000 and 15,000 to include the application fees. After that, the annual fees are around 2,000, depending upon whether they are EU or non-EU funds per fund or sub-fund up to five funds. Over five and up to ten funds, that drops to approximately 1,200 per fund and over ten funds, it drops to approximately 800.
Recently, the Stock Exchange introduced a Fast Track Application Service, which is available for an additional 5,000 per application. For that fee, the Stock Exchange will guarantee to halve the turnaround times, which, anyway, are not that long. The standard turnaround time for documents submitted to the Stock Exchange is supposed to be 5 days for the initial submission and then 2 days for any subsequent drafts, so the Fast Track service reduces this to 2 and 1 day each.
The other questions that tend to be asked are What sort of legal entity can be listed. The simplest is, of course, a company, issuing shares, but the Stock Exchange will also list units for Units Trusts, Limited Partnerships or any other legal entity, providing it has limited liability. Furthermore, the types of funds that can be listed have been broadened to included, inter alia Feeder Funds, Futures Funds, Property Funds, Venture Capital Funds and Index Tracker Funds, each of which have their own specific requirements, depending on precisely what type of fund they are.
Recognition of commercial reality also occurs with regard to imposing restrictions on the transfer of shares. As a matter of policy, the Stock Exchange requires that listed shares or units must be freely transferable. However they will accept that restrictions may be imposed where the transfer to an investor in a particular jurisdiction might cause some regulatory or financial (tax) problems for the fund and its shareholders. For example, accepting US ERISA money, can, in some circumstances, cause problems for the Investment Manager, who might then have to register as an ERISA plan manager. Similarly, accepting US tax-paying investors, usually means that the fund would have to provide K1s and maintain its books and records as a partnership. And, again, as a result of a recent change in the SEC regulations, any Manager who manages money for more than 15 US persons, including managing a fund that has 15 US shareholders, now has to register as an Investment Advisor, under US regulations.
On other matters, the Stock Exchange is fairly relaxed with regard to hedge funds that are offered to Sophisticated Investors, as is the case with all offshore funds with a minimum investment of US$100,000. For example, there are almost no restrictions on the type of investment that the fund can make, with the exception of the property and commodities, which I have already discussed, providing that the diversification rules are followed. Furthermore, the Stock Exchange has no restrictions on the amount the fund may borrow or how much it may be leveraged, providing this is fully disclosed in the offering documentation. In addition, there are no requirements for a fund to have been established for any length of time or on the size of the fund when it is launched, although, obviously, the Promoter should be concerned with regard to the size, purely on an economic basis.
Next, I will briefly discuss what should be included in the document.
* Firstly, all service providers and persons responsible for the document and the management of the assets, as well as the Directors, must be disclosed.
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Furthermore, details of the Directors and their expertise and experience, as well as their responsibility for the document, must be fully demonstrated.
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The Listing Particulars/Offering Memorandum must enclose a statement that an application has been made to list its shares, the date that the listing is expected and details of the rights and provisions relating to the shares.
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And the document must show how the shares will be valued, and conversion, transfer, redemption, rights etc., that are relevant with regard to any shares that are bring offered.
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It is also required to describe the funds legal structure, any regulation that applies and its capital structure and, of course, disclose any litigation, which should not exist with a new fund.
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The investment policy must be described and a commitment to adhere to those objectives must also be made, together with a full disclosure of risk factors and the investment restrictions that will apply to the fund.
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Details of all major service providers i.e. the Custodian, any sub-Custodian, Investment Manager and Investment Advisors, Auditors and Administrator should be provided, together with a summary of the provisions of all material contracts.
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The document should also disclose any service contracts that any Directors may have, as well as capital investments, loans or other transactions between the Directors and the fund.
Furthermore, the Investment Manager must disclose any holding it may have in the fund.
That is a brief summary of the main requirements of the documentation, although, if anyone is considering a listing on the Stock Exchange, I would recommend that they go to the Stock Exchange website, which is www.ise.ie, where you will find that, not only have I plagiarized a lot of their statements in making this presentation, but that they have much more full and detailed information.
That information will also describe the Ongoing Obligations for the fund and its Directors, which include, inter alia:
* The fund must send interim accounts within 4 months of the end of the relevant period and annual audited accounts within 6 months of the relevant period, to both the Stock Exchange and to shareholders.
* There is a broad obligation to disclose any price sensitive information, including information on new developments or operational changes or material difference in performance or financial position.
* New Issues of debt securities, changes in the rights attached to listed units or issues affecting commercial rights or any alteration to capital structure must be notified to the Stock Exchange.
* Furthermore, information relating to controlling shareholders, Directors interests or Investment Managers interests must be advised to the Stock Exchange.
* Any holdings of more than 10% of the capital of a closed-end fund must also be advised.
* The Stock Exchange requires that all shareholders, in the same class of share in a fund, or unit holders in a Unit Trust, must be treated equally and there is a requirement that any proposed variations to the rights must be submitted to the Stock Exchange for prior notification and, in some circumstances, prior approval must be obtained, before those rights are varied.
It is extremely important that the Directors take on board these obligations, particularly with regard to the audited financial statements, because failure to comply may lead to the shares or units being delisted.
As I said at the outset, this is only supposed to be a brief introduction to listing on the Irish Stock Exchange and, primarily, in the context of hedge funds. If you have any questions, please feel free to ask me and I will endeavor to answer them.
Thank you.