“The issue is one of insourcing versus outsourcing,” says Alan Picone, Managing Director at Kinetic Partners (Luxembourg), when discussing which operational model to pursue under AIFMD.
Taking the plunge to become an independent AIFM is a big ask for most managers, both in terms of time and capital resources. It also depends on where the manager is located and how committed they are to capital raising in Europe.
According to Picone, there are a couple of key qualitative and quantitative considerations that hedge fund managers should bear in mind. On the qualitative side, managers must be aware that by outsourcing operations to a third-party management company they are passing a great deal of responsibility on to the AIFM.
“By appointing an external management company, you outsource the responsibility that goes with that. The scope of responsibility extends widely under AIFMD-it’s a lot more than just portfolio management. For asset managers who see their responsibilities widening they won’t necessarily be willing to shoulder the burden because they’ll get no reward for doing so.
“They are used to thinking in terms of risk premia. What is the risk premium to absorbing these extra responsibilities as an AIFM? There isn’t one. They take the added risks and at the same time pay for doing so,” explains Picone.
With respect to quantitative considerations, as an AIFM the manager must ensure they have adequate capital reserves and insurance in place, the right staff, systems and policies and procedures in place; the list goes on. Factor in the capital needed to launch the fund and there are myriad costs that a manager will incur as opposed to entrusting the delivery and operations to a firm like Kinetic Partners.
“We have the scale in place to do this in the most cost-efficient way for clients. For the vast majority of managers, (aside from the very largest) they are not equipped to become AIFMs. They prefer to have visibility on the costs, to have all of the firm’s internal resources focused on generating value for investors.
“So the insourcing versus outsourcing decision comes down to managers assessing where they want to extract and deliver value. If they want to deliver value in their operations yet aren’t sure of the full cost implications of becoming a registered AIFM it makes sense to go with an outsourced model with full cost visibility,” suggests Picone.
Kinetic Partners was one of the first firms to get its management company license approved to support AIFs. This now enables it to operate as a Super ManCo given that it already has a UCITS management company structure in place.
“We understand that in the years to come the need for ManCo substance will increase dramatically. We have some clients joining (the AIFM ManCo) at this very moment. They want to pay the right price to enable them to distribute their products seamlessly and consider the outsourced solution as the best way to do it,” confirms Picone.
Given the fee pressure managers are under, coupled with the need to remain competitive in respect to asset raising, they cannot risk turning their backs on Europe (especially non-EU managers). Admittedly, other options still remain, for now. These include reverse solicitation and using national private placement regimes to market their funds. Long term, however, managers are going to have no choice but to comply with AIFMD.
“The reality is that AIFMD is nothing more than a formalization of what it means for managers to distribute their funds. For non-EU managers, I would say the extent to which they are caught by AIFMD depends on their distribution strategy. Managers are better off accepting the rules of AIFMD as opposed to trying to circumvent them (via reverse solicitation),” concludes Picone.