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Investing in Investment TrustsTrusts face tougher listing requirements
The UK Listing Authority (UKLA), the Aim team and the London Stock Exchange all published new rules and guidance specifically relating to investment companies.
New UKLA guidance considers investment companies’ eligibility for premium listing and focuses on the need to spread investment risk and the prohibition from conducting significant trading activity. The UKLA is keen to ensure investment companies are not simply holding companies of commercial groups that should more properly be subject to other parts of the listing rules.
The need to spread risk leads to the requirement for an investment policy that provides information on asset allocation, risk diversification and gearing. The UKLA considers investment policies carefully, and will engage with the applicant’s sponsor where it considers that risk diversification may not be achieved.
In assessing whether an applicant should be regarded as a trading company or an investment company, the UKLA will consider a number of factors. Of particular interest is the UKLA’s attitude to financing arrangements.
Secured debt at issuer level or covering multiple assets may compromise the spread of risk. An exception is made for secured pools in real-estate funds.
In its original consultation, the UKLA suggested that overdrafts were more suggestive of a commercial company than an investment company.
Following consultation responses, however, it acknowledged that overdrafts have a role in the financing of investment companies, but would wish to engage with the fund’s sponsor to fully understand the arrangements.
| The specialist fund market – Catering for niche players |
The Specialist Fund Market (SFM) is the London Stock Exchange’s dedicated market for specialist closed-ended investment funds targeting institutional, professional and knowledgeable investors. In a factsheet on the SFM, the LSE notes: “By working with market participants, the Specialist Fund Market has been designed to suit a range of highly specialised funds, including: private equity funds; feeder funds; hedge funds, both single- and multi-strategy; specialist geographical funds; funds with sophisticated structures or security types; specialist property funds; infrastructure funds; sovereign wealth funds and single strategy funds.” |
Many readers will be aware of infrastructure and renewables funds coming to market with a ‘pipeline agreement’ in place that enables them to source investments from the investment manager’s group without those acquisitions being classified under the related party rules.
Draft UKLA guidance now suggests that in future this will only be permitted where the fund can point to “structural characteristics” in the sector it invests in that mean the fund can only provide investors with exposure by buying from the party in question.
Even where a pipeline agreement is the only viable option, the fund must demonstrate it is able to effectively process such purchases and manage any conflicts of interest that may arise.
The UKLA has highlighted a concern regarding investment management agreements that contain unusually onerous provisions on the fund, such as provisions for continuation in perpetuity or an exceptionally long period of time, termination costs that are essentially prohibitive, or termination only with shareholder approval.
| Independence of the board – Can it dismiss the manager? |
In November 2015 the UKLA published a technical note on investment management agreements and the independence of boards. The UKLA revealed a consultation on amending rules relating to the fact the board of a premium-listed, closed-ended investment fund “must be able to effectively monitor and manage the performance of its key service providers, such as the investment manager, both at admission and on an ongoing basis” had highlighted some issues. It stated: “Traditionally, the board ultimately had the ability to terminate the management agreement and appoint a new manager if the performance of the existing manager was found to be unacceptable. “However, we have seen new applicants with investment management agreements that: • Only allow the fund’s board to terminate the agreement if the fund is wound up at the same time; • Continue in perpetuity or for a period of time that is unusually long compared to other funds with similar investment policies; • Have termination fees or other significant termination penalties that are essentially prohibitive. “Clearly, the challenge provided by an independent board will only lead to the dismissal of an investment manager in the most extreme cases.” In spite of the findings, the UKLA confirmed the technical note “does not prescribe specific provisions for investment management agreements; generally, we would not seek to involve ourselves in what we regard as essentially a commercial contract that needs to be appropriate for a particular fund”. However, it did add: “Boards should be mindful of whether the terms of an agreement are such that their ability to act independently and provide appropriate challenge could be fettered. In the case of a new applicant, we would expect the fund’s sponsor to be able to articulate how the board is able to meet the requirements of [the listing rules] in light of termination provisions in the investment management agreement that are particularly onerous or unusual in the context of the fund’s investment policy.” |
UKLA guidance invites the fund’s independent board to consider whether such terms restrict its ability to act independently and provide appropriate challenge. In such cases, the fund’s proposed sponsor can also expect to have to engage in discussions with the UKLA.
The London Stock Exchange (LSE) has made changes to the Aim Rules for Companies and Note for Investing Companies.
An applicant seeking admission as an investing company must raise at least £6m in cash (increased from £3m) via an equity fundraising on, or immediately before, admission. This must usually be satisfied by independent fundraising and not by funds raised from related parties.
An Aim company that becomes a cash shell following a fundamental disposal of its business/assets will be regarded as an ‘Aim Rule 15 cash shell’ rather than being automatically treated as an investing company. It must then either undertake a reverse takeover or obtain shareholder approval to cancel its admission, and return remaining funds to shareholders.
The LSE has consulted on proposed amendments designed to make the admission and disclosure standards easier to use.
The proposed amendments include renaming the Specialist Fund Market as the Specialist Fund Segment (SFS) to clarify that the SFS is a segment of the LSE’s regulated market rather than a separate listed market. New admission conditions are also proposed:
• The applicant must disclose post-issue free float.
• There must be a sufficient number of registered holders of the securities to be admitted to provide an orderly market in the securities following admission.
Cathy Pitt is funds partner at law firm CMS
