Financial services regulators in the United Arab Emirates (UAE)1 and the Kingdom of Saudi Arabia (KSA) have recently made – independently of each other – extensive changes to the rules governing the regulation and distribution of investment funds in their respective jurisdictions. Some of the changes facilitate market access, while others restrict it further. This article provides a broad overview of the impact of these new regimes on the marketing and placement of foreign funds in the UAE and KSA, respectively.
United Arab Emirates
The Securities and Commodities Authority (SCA) has issued Board Decision No. 9 of 2016 Concerning the Regulations as to Mutual Funds (2016 Regulations), which repeals the prior mutual fund regulations (2012 Regulations)2. Set out below are some of the key changes resulting from the 2016 Regulations.
Definition of Foreign Fund
The definition of a “mutual fund” under the 2016 Regulations is largely unchanged from the 2012 Regulations – it still has at its core the concept of pooling of assets from multiple persons (whether natural or corporate) for investment purposes against which units are issued to such persons.
However, the definition of “foreign fund” has been expanded. It now covers not only mutual funds that are established “out[side] of the State [of the UAE]” but also funds that are established in one of the financial free zones that exist within the geographic borders of the UAE, such as the Dubai International Financial Centre (DIFC) and the Abu Dhabi Global Market. While this may appear to be a material change, in practice the SCA has been treating DIFC funds as foreign funds for some time and even issued guidance under the 2012 Regulations confirming the same.
Placement of Foreign Funds
Foreign funds may be placed in the UAE either with the prior approval of the SCA or pursuant to an available exemption. While this was also the case under the 2012 Regulations, the approval process has now been revised and both the number and scope of the exemptions has been tightened.
Exemptions; Reverse Solicitation
Private placements of foreign funds were exempted under the 2012 Regulations if seeking investment from:
- Financial portfolios owned by federal or local governmental agencies;
- Companies, institutions or entities whose main purpose, or one of their purposes, was to invest in securities, provided that dealing with such companies, institutions or entities was restricted to their own financial portfolios and not the portfolios of their clients; or
- Investment managers licenced by the SCA, provided that the authority to make and execute investment decisions was vested with such investment manager.
Pursuant to the 2016 Regulations, the only categories of investor to which a foreign fund may be promoted and distributed without the prior consent of the SCA are:
- Funds established by federal or local governmental agencies; and
- Companies wholly owned by such funds or agencies.
While the SCA has not issued any guidance on the matter, it is expected that “federal or local governmental agencies” will be construed to mean only those agencies established by federal or legal decree, as was the case under the 2012 Regulations. This would mean that not all sovereign wealth funds and their subsidiaries will be captured by these exemptions.
However, more helpfully, the 2016 Regulations have also codified the practice of reverse solicitation (which was previously understood as falling outside of the scope of the 2012 Regulations and therefore tolerated, albeit unofficially, by the SCA). Furthermore, the 2016 Regulations have expressly identified reverse solicitation as an exemption. In order to take advantage of this exemption:
- The investor in question must have made an application – on its own initiative – to offer or buy specific units in foreign funds outside of the UAE;
- The fund must not have been promoted to the investor in question by the fund or its promotors or distributors; and
- There must be documentation to support the above.
While this codification does little more than reflect the parameters of the practice that was previously tolerated by the SCA, having the exemption formalised in this way removes the risk that was inherent in relying upon mere custom.
It is worth noting that the exemptions under the 2012 Regulations were actually introduced by way of an amendment issued in 2013 rather than included in the original draft of the regulations. Consequently, the list and scope of exemptions under the 2016 Regulations may well be expanded in the coming years.
Registration and Renewal
Unless an exemption is available, a foreign fund may be distributed in the UAE only in accordance with Article 35 of the 2016 Regulations, which requires that the fund (i) be registered with the SCA and (ii) appoint an SCA-licensed promoter in respect of the placement of units.
The registration process involves submitting an application form to the SCA accompanied by: a number of pro-forma declarations; the fund’s prospectus (or equivalent); the fund’s investment policy; and the application fee. The SCA then has 30 business days to approve or reject the application.
While this appears to mirror the process under the 2012 Regulations, the following represent material departures from the previous requirements:
- The 2016 Regulations state that the application is to be made by a “legal representative” of the fund, whereas the 2012 Regulations required all liaison with the SCA to be handled by an SCA-licensed promoter;
- The registration is valid only for a period of up to one year – each registration expires at the end of December in the year in which the approval is given – meaning that registration is to be renewed annually; and
- The renewal application must be submitted at least one month prior to the expiration of each registration.
At present, it is not clear where this leaves foreign funds that are already registered with the SCA. However, in the absence of any indications (whether official or otherwise) to the contrary from the SCA, it is generally expected that, for 2017 and thereafter, such funds will need to renew their registration in line with the 2016 Regulations.
The current application and renewal fees are as follows:
- Application / initial registration: AED 35,000 (approximately US$ 9,500); and
- Annual renewal: AED 7,500 (approximately US$ 2,000).
The fees are payable per fund, regardless of the number of promoters appointed in respect of each fund. For such purposes, each sub-fund of an umbrella fund is to be treated as a fund separate from not only each other sub-fund but from the umbrella fund itself.
One welcome change under the 2016 Regulations is the abolition of the distinction between public and private placements in the context of foreign funds – Article 35 applies equally to all placements. A by-product of this abolition is the deletion of the detailed provisions relating to investor eligibility and the manner in which investors may be targeted. Further, the 2012 Regulations imposed extensive obligations on the promoters of foreign funds, which also no longer apply. Theoretically, this should reduce promoters’ operating costs, and thus could translate into lower fees charged to clients.
The Capital Markets Authority of Saudi Arabia (CMA) has adopted new Investment Funds Regulations3 (New IFRs), which have amended the Investment Funds Regulations issued in 2006 (Former IFRs)4.
The Former Investment Funds Regulations
In practice, the promotion and distribution of foreign funds pursuant to the Former IFRs relied upon an uneasy combination of the express provisions of the regulations and the practices that were generally tolerated by the CMA. For example, Article 16 of the Former IFRs (the only provision that expressly referred to foreign funds and their distribution) provided that no foreign fund could be offered within KSA without the consent of the CMA, the process for the seeking of which was set out in Article 5. However, since Article 5 related to public offers of KSA funds, it was generally understood (and accepted by the CMA in practice) that the Article 5 procedure would not apply to foreign funds unless a public offer of such funds was involved. Instead, foreign funds took advantage of the lighter-touch private placement regime set out in Article 4, despite the absence of a statutory basis for this practice.
The New Investment Funds Regulations
The New IFRs (which are considerably longer than the Former IFRs) seek to simplify matters through a consolidation and clarification of all relevant rules. The foreign fund rules are set out in Part 6 of the New IFRs.
Pursuant to Article 93 of the New IFRs, a foreign fund (i.e., an investment fund established in any jurisdiction other than KSA) may be offered within KSA only if:
- The offer is made through a distributor authorised by the CMA to conduct “dealing as agent” activities;
- The offer is made solely by way of private placement; and
- The fund manager of the foreign fund is authorised in a jurisdiction that has regulatory standards and requirements that are at least equivalent to those of the CMA.
Private Placement; Sophisticated Investors
A private placement is defined as an offer of units that is either: (i) made exclusively to sophisticated investors; or (ii) subject to a minimum investment amount per offeree of not less than 1 million Saudi Riyals (or its equivalent in another currency)5.
The definition of “sophisticated investors” generally follows the comparable concept in the Former IFRs, and includes (among others): CMA-licensed entities acting for their own accounts; the government of KSA; supranational authorities recognised by the CMA; and institutions with assets of not less than 50 million Saudi Riyals acting for their own account. The New IFRs further provide, as a welcome addition, that the definition includes: professional investors6; and clients of CMA-licenced entities that have been contractually engaged to manage, on a fully discretionary basis, securities belonging to a third party7.
Notifying the CMA
Part 6 of the New IFRs sets forth a CMA notification procedure that combines elements from both Articles 4 and 5 of the Former IFRs. Broadly, the process involves:
- Notification to the CMA regarding an offer at least 15 business days prior to the proposed offer date;
- Submission of the following to the CMA (together with the notification): the fund’s offering documents; copies of the key information (in Arabic); a pro-forma declaration from the distributor that the offer complies with Part 6; and (if requested by the CMA) the results of the distributor’s comprehensive review of the fund and its manager; and
- Payment of the registration fees.
CMA Powers in Connection with Notification
As with the Former IFRs, the CMA has the right to prohibit an offer (by either notifying the distributor or issuing a public notice) if it would result in a violation of applicable law or regulation. However, under the Former IFRs, the CMA also had a very broad power to prevent an offer where the CMA determined (subjectively) that it was “not in the interests of investors in the Kingdom”. This has now been replaced with a slightly more tempered power to prohibit an offer only where the CMA determines that it “may not be commensurate with the distributor’s ability”.
Restrictions on Resale
The Former IFRs imposed significant resale restrictions on funds offered by way of private placement (and therefore, by convention, foreign funds). Although the New IFRs also impose restrictions on transfers, the new rules are more flexible and allow: transfers subject to a minimum sales price of 1 million Saudi Riyals (or equivalent); and transfers to existing investors and other sophisticated investors, in either case without any minimum sale price requirements.
Unfortunately, one (traditionally controversial) topic not addressed in the New IFRs is reverse solicitation, which was generally considered to fall outside the scope of the Former IFRs (and therefore not trigger any of the licensing or registration provisions that would otherwise apply). However, in practice reverse solicitation was tolerated by the CMA, provided that the investor was an exempt person (as defined in the CMA’s Securities Business Regulations of 2005)8 and either (i) had received permission from the CMA to invest in a foreign fund that was not being offered by a CMA-licensed person or (ii) had initiated the request on its own initiative from outside KSA.
To confuse matters further, the FAQ page of the CMA’s website suggests a different position. In its answer to Question 41, the CMA indicates that a fund manager licensed in a foreign jurisdiction with comparable regulatory standards to the KSA may conduct securities business activities (which would include offering units in a foreign fund) with a client in KSA, as long as: (i) the client can be classified as an investment company, or is a natural person making an investment in excess of 50 million Saudi Riyals or who owns net assets worth not less than 50 million Saudi Riyals; and (ii) the transaction has been initiated by the client, there has been no direct marketing to the client and the transaction does not involve any securities issued or listed in KSA.
The position is arguably no clearer under the New IFRs. Consequently, it is advisable to continue exercising caution if seeking to rely on the reverse solicitation route.
Given the relatively recent issuances of both the 2016 Regulations in the UAE and the New IFRs in KSA, it remains to be seen how they will be implemented in practice. However, both sets of rules are welcome attempts at simplifying and regulating regimes that previously have been fraught by an uneasy relationship between statutory texts and market conventions.
The upshot in both cases is a need for fund managers and distributors to take a fresh look at their placement activities in both the UAE and KSA, not only to ensure compliance with the revised rules but also to take advantage of new benefits, where available.