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Consultation paper Guidelines on sound remuneration policies under the AIFMD 28 June 2012 | ESMA/2012/406 Date: 28 June 2012 ESMA/2012/406 Responding to this consultation paper ESMA invites comments on all matters in this paper and in particular on the specific questions summarised in Annex V. Comments are most helpful if they: • indicate the specific question to which the comment relates and respond to the question stated; • contain a clear rationale, clearly stating the costs and benefits; and • describe any alternatives ESMA should consider. ESMA will consider all comments received by 27 September 2012. All contributions should be submitted online at www.esma.europa.eu under the heading ‘Your input Consultations’. Publication of responses All contributions received will be published following the close of the consultation, unless you request otherwise. Please clearly and prominently indicate in your submission any part you do not wish to be publically disclosed. A standard confidentiality statement in an email message will not be treated as a request for non-disclosure. A confidential response may be requested from us in accordance with ESMA’s rules on access to documents. We may consult you if we receive such a request. Any decision we make not to disclose the response is reviewable by ESMA’s Board of Appeal and the European Ombudsman. Data protection Information on data protection can be found at www.esma.europa.eu under the heading ‘Legal Notice’. Who should read this paper? This document will be of interest to asset management companies and trade associations of asset management companies managing funds falling in the scope of the Alternative Investment Fund Managers Directive and investors investing into such funds. ESMA • 103 rue de Grenelle • 75007 Paris • France • Tel. +33 (0) 1 58 36 43 21 • www.esma.europa.eu Contents I. II. III. IV. IV.I. IV.II. IV.III. V. V.I. V.II. V.III. VI. VII. VIII. VIII.I. A. B. C. D. VIII.II. A. B. C. D. VIII.III. A. B. IX. IX.I. A. B. IX.II. A. B. X. X.I. X.II. A. B. 36 a. b. c. d. C. D. a. b. X.III. A. Executive Summary ___________________________________________________ 6 Background _________________________________________________________ 8 Structure of the Guidelines ______________________________________________ 10 Scope of the Guidelines _________________________________________________ 12 Which remuneration?_____________________________________________ 12 Which entities and which staff to be identified? ___________________________ 14 Timing of entry into force of these Guidelines_____________________________ 17 Proportionality principle ________________________________________________ 17 Proportionality in general__________________________________________ 17 Proportionality with respect to the different characteristics of AIFMs_____________ 18 Proportionality with respect of the different categories of staff__________________19 AIFMs being part of a group ____________________________________________ 20 Financial situation of the AIFM (Annex II, paragraph 1(o) of the AIFMD) _______________ 21 Governance of remuneration _____________________________________________ 22 Management body (Annex II, paragraph (1)(b), (c) and (d) of the AIFMD)__________22 Design, approval and oversight of the remuneration policy____________________ 22 Remuneration of members of the management and supervisory function__________ 24 Shareholders’ involvement_________________________________________ 24 Review of the implementation of the remuneration policy____________________ 25 Remuneration Committee (Annex II, paragraph (3) of the AIFMD)______________ 25 Setting up a remuneration committee__________________________________ 26 Composition__________________________________________________ 26 Role________________________________________________________ 27 Process and reporting lines_________________________________________ 28 Control functions (Annex II, paragraph (1)(e) and (f) of the AIFMD)_____________ 28 Roles of control functions__________________________________________ 29 Remuneration of control functions____________________________________ 29 General requirements on risk alignment ____________________________________ 30 The basic principle of risk alignment (Annex II, paragraph (1)(a), (b) and (p) of the AIFMD)_____________________________________________________ 30 The general remuneration policy, including the pension policy_________________ 31 Discretionary pension benefits_______________________________________ 31 General prohibitions_____________________________________________ 32 Severance pay (Annex II, paragraph (1)(k), of the AIFMD)____________________ 32 Personal hedging (Annex II, paragraph (1)(q), of the AIFMD)__________________ 33 Specific requirements on risk alignment _____________________________________ 33 Fully flexible policy on variable remuneration (Annex II, paragraph 1(j) of the AIFMD)_33 Risk alignment of variable remuneration________________________________ 34 Risk alignment process (Annex II, paragraph 1(g), (h) and (l) of the AIFMD)________ 34 Common requirements for the risk alignment process_______________________ Time horizon__________________________________________________ 36 Levels of risk and performance measurement_____________________________ 36 Quantitative and qualitative measures_________________________________ 36 Judgmental measures____________________________________________ 37 Risk measurement_______________________________________________ 37 Performance measurement (Annex II, paragraph 1(g) of the AIFMD)_____________ 38 Qualitative/Quantitative measures____________________________________ 38 Relative/absolute and internal/external measures_________________________ 39 Award process_________________________________________________ 39 Setting and allocation of pools_______________________________________ 40 3 B. a. b. X.IV. A. a. b. c. d. B. a. b. c. C. a. b. 48 c. X.V. XI. XI.I. A. B. XI.II. The risk adjustment in the award process (Annex II, paragraph 1(l) and(o) of the AIFMD) ___________________________________________________________ 40 Quantitative ex ante risk adjustment__________________________________ 40 Qualitative measures for ex-ante risk adjustment__________________________ 41 Pay-out process _________________________________________________ 41 Non-deferred and deferred remuneration (Annex II, paragraph 1(h) and (n) of the AIFMD)______________________________________________________ 41 Time horizon and vesting__________________________________________ 42 Vesting point__________________________________________________ 42 Proportion to be deferred__________________________________________ 42 Time span between end of accrual and vesting of deferred amount______________ 43 Cash vs. instruments (Annex II, paragraph 1(m) of the AIFMD)________________ 43 Types of instruments_____________________________________________ 43 Retention policy________________________________________________ 44 Minimum portion of instruments and their distribution over time_______________ 45 Ex post incorporation of risk for variable remuneration (Annex II, paragraph 1(o) of the AIFMD)______________________________________________________ 46 Explicit ex-post risk adjustments_____________________________________ 46 Implicit adjustments_____________________________________________ Possibility of upward revisions______________________________________ 48 Compliance of certain remuneration structures with the requirements on risk alignment of variable remuneration, award and pay-out process_________________________ 48 Disclosure __________________________________________________________49 External disclosure______________________________________________ 49 Specific and general requirements on disclosure __________________________ 51 Policy and practices______________________________________________ 51 Internal disclosure_______________________________________________ 52 Annex I Concepts_________________________________________________________ 53 Annex II Mapping of the remuneration principles included in the AIFMD___________________ 53 Annex III Schematic overview of some deferral mechanisms_____________________________ 59 Annex IV Correlation table Recommendation/AIFMD ________________________________ 53 Annex V List of questions____________________________________________________ 53 Annex VI Cost-benefit analysis_________________________________________________ 67 Annex VII Draft guidelines____________________________________________________ 76 4 Acronyms AIF Alternative Investment Fund AIFM Alternative Investment Fund Manager AIFMD Directive 2011/61/EC of the European Parliament and of the Council of 8 June 2011 on Alternative Investment Fund Managers and amending Directives 2003/41/EC and 2009/65/EC and Regulations (EC) No 1060/2009 and (EU) No 1095/20101 EBA European Banking Authority ESMA European Securities and Markets Authority UCITS Undertakings for Collective Investment in Transferable Securities UCITS Directive Directive 2009/65/EC of the European Parliament and of the Council of 13 July 2009 on the coordination of laws, regulations and administrative provisions relating to undertakings for collective investment in transferable securities (UCITS) (recast)2 1 2 http://eur-lex.europa.eu/LexUriServ/LexUriServ.do?uri=OJ:L:2011:174:0001:0073:EN:PDF. http://eur-lex.europa.eu/LexUriServ/LexUriServ.do?uri=OJ:L:2009:302:0032:0096:EN:PDF 5 I. Executive Summary Reasons for publication Annex II of the AIFMD establishes a set of rules (largely inspired from the provisions of Directive 2006/48/EC, the “CRD”) with which AIFMs have to comply when establishing and applying the remuneration policies for certain categories of their staff. Article 13(2) of the AIFMD requires ESMA to develop guidelines on sound remuneration policies which comply with Annex II of the AIFMD. This consultation paper represents the first step in the elaboration of the guidelines on remuneration policies required by the AIFMD and sets out ESMA’s formal proposals for these guidelines. Contents Section II explains the background to our proposals, while Section III explains the structure of the guidelines. Section IV sets out the proposed scope of the guidelines and timing of their entry into force. Section V describes the proposed guidance on the application of the proportionality principle as regards remuneration policies. Section VI sets out our proposals on the treatment of AIFMs that are part of a group. Section VII contains our guidance on the consideration to be given to the financial situation of the AIFM when establishing the remuneration policies. Section VIII introduces our proposals on the governance of remuneration. Section IX covers the general requirements on risk alignment. Section X describes our proposals on the specific requirements on risk alignment. Section XI sets out our proposals on the remuneration disclosure requirements. Annex I provides definitions of certain concepts used in this paper. Annex II provides for a mapping of the remuneration principles included in the AIFMD. Annex III gives a schematic overview of some deferral mechanisms. Annex IV contains a correlation table between the provisions of Recommendation 2009/384/EC and those of Annex II of the AIFMD. Annex V sets out the list of questions contained in this paper. Annex VI contains the full text of the draft guidelines. Next steps 6 Responses to this consultation paper will be taken into account by ESMA in finalising the guidelines on sound remuneration policies under the AIFMD. In finalising the guidelines, ESMA will also take into account the development of its work on the separate set of guidelines, which will be complementary to the CEBS Guidelines, focused on remuneration policies of investment firms from an investor protection point of view, for which a separate consultation paper will be published at the end of Q3 2012. ESMA aims to adopt the final text of the guidelines on sound remuneration policies under the AIFMD in Q4 2012. 7 II. Background 1. Article 13(1) of the AIFMD introduces a basic principle for the remuneration policies and practices of certain categories of staff of the AIFMs insofar as it provides that “Member States shall require AIFMs to have remuneration policies and practices for those categories of staff, including senior management, risk takers, control functions, and any employees receiving total remuneration that takes them into the same remuneration bracket as senior management and risk takers, whose professional activities have a material impact on the risk profiles of the AIFMs or of the AIFs they manage, that are consistent with and promote sound and effective risk management and do not encourage risk-taking which is inconsistent with the risk profiles, rules or instruments of incorporation of the AIFs they manage”. 2. Annex II of the AIFMD sets out further details on the principles that AIFMs have to comply with when establishing and applying the total remuneration policies for certain categories of their staff. 3. Article 22(2)(e) and (f) of the AIFMD also provides for some specific minimum disclosures on remuneration in the annual report of the AIF and Box 107 of ESMA's technical advice to the European Commission on possible implementing measures of the AIFMD (“AIFMD advice”) clarified the content and format of the remuneration disclosure.3 4. Article 13(2) of the AIFMD requires ESMA to issue guidelines on sound remuneration policies (“Guidelines”) which shall comply with Annex II of the AIFMD. This article provides for some specific requirements when elaborating the Guidelines: • ESMA shall take into account the principles on sound remuneration policies set out in Recommendation 2009/384/EC (“Recommendation”); 5. • ESMA shall take into account the proportionality principle; and • ESMA shall cooperate closely with EBA.4 The Recommendation sets out general principles applicable to remuneration policy in the financial sector and applies to all financial undertakings operating in the financial services industry. It provides under its Section II for some general principles on the remuneration policy and some principles on the structure of the remuneration policy, performance measurement and governance which are broadly reflected under Annex II of the AIFMD and, therefore, covered in the sections of these Guidelines relating to the governance requirements and the general and specific requirements on risk alignment.5 Furthermore, it provides for rules on disclosure (Section III), which are not reflected in the AIFMD, but are developed under Section XI (Disclosure) of these Guidelines, and for some principles applying to competent authorities (Section IV). 6. Further principles on remuneration have been set out in some specific sectoral legislation. In particular, Article 22 of the CRD, as amended by Directive 2010/76/EU, laid down the fundamental principle ESMA's technical advice to the European Commission on possible implementing measures of the AIFMD is available at: http://www.esma.europa.eu/system/files/2011_379.pdf. 4 In developing this consultation paper, the close cooperation with EBA has been ensured first at working level between ESMA staff and EBA staff and then at the level of EBA’s representative within ESMA’s Board of Supervisors. 5 See Section VIII (Governance of remuneration), Section IX (General requirements on risk alignment) and Section X (Specific requirements on risk alignment). 3 8 for credit institutions (applicable also to investment firms) to ensure that their remuneration policies and practices are consistent with and promote sound and effective risk management. The further remuneration requirements of the CRD are included in Annex V, Section 11 and Annex XII, Part 2, point 15 of the CRD. These requirements may be divided into three categories: governance (Annex V), risk alignment (Annex V) and transparency (Annex XII). The principles on governance and risk alignment set out in Annex V of the CRD are substantially equivalent (with the exception of some adaptations) to those set out under Annex II of the AIFMD. 7. On the basis of these provisions, EBA’s predecessor issued the CEBS Guidelines on Remuneration Policies and Practices on 10 December 2010 (“CEBS Guidelines”). ESMA has placed particular focus on the CEBS Guidelines since the principles on remuneration set out in the CRD are substantially equivalent to those set out in the AIFMD and the latter explicitly requires ESMA to ensure cooperation with EBA when developing the Guidelines. 8. Furthermore, EBA issued Guidelines on Internal Governance (GL 44) on 27 September 2011 (“Guidelines on Internal Governance”).6 Internal governance for credit institutions is covered by the abovementioned Article 22 of the CRD, which requires that “every credit institution has robust governance arrangements, which include a clear organisational structure with well defined, transparent and consistent lines of responsibility, effective processes to identify, manage, monitor and report the risks it is or might be exposed to, adequate internal control mechanisms, including sound administrative and accounting procedures, and remuneration policies and practices that are consistent with and promote sound and effective risk management”. EBA has consolidated the majority of its guidelines regarding general internal governance issues7 in the Guidelines on Internal Governance. These provide, inter alia, the general framework applicable to the governance of the remuneration policy and to the alignment of remuneration with risk profile, whereas specific aspects of remuneration are treated in the CEBS Guidelines. 9. The Commission Directive proposal amending the CRD (2011/0203 (COD)) (“CRD IV”) provides under its Title VII (Prudential supervision), Chapter 2 (Review Processes), Section II (Arrangements, processes and mechanisms of institutions), Sub-Section 3 (Governance) for revised rules on remuneration which are substantially similar to the corresponding CRD provisions. According to Article 90(2) of the CRD IV, EBA shall develop draft regulatory technical standards (i) on the criteria to determine the appropriate ratios between the fixed and the variable component of the total remuneration of certain categories of staff of credit institutions and investment firms and (ii) to specify the classes of instruments that reflect the credit quality of credit institutions and investment firms as a going concern and shall be included in the balance of instruments that shall consist a substantial portion, and in any event at least 50%, of any variable remuneration. 10. According to the Commission’s proposal, the topics to be covered by the abovementioned draft regulatory technical standards to be elaborated by EBA are identical to the ones already covered by the CEBS http://www.eba.europa.eu/cebs/media/Publications/Standards%20and%20Guidelines/2011/EBA-BS-2011-116-final-(EBAGuidelines-on-Internal-Governance)-(2)_1.pdf 7 i.e. the CEBS High Level Principles on Remuneration published in April 2009 (available at: http://www.eba.europa.eu/getdoc/34beb2e0-bdff-4b8e-979a-5115a482a7ba/High-level-principles-for-remuneration-policies.aspx) and the CEBS High Level Principles on Risk Management published in February 2010 (available at: http://www.eba.europa.eu/documents/Publications/Standards---Guidelines/2010/Riskmanagement/HighLevelprinciplesonriskmanagement.aspx). 6 9 Guidelines, in compliance with the requirements of Article 22(4)(a) and (b) of the CRD.8 There is no equivalent empowerment for ESMA to develop draft regulatory technical standards on remuneration under the AIFMD. 11. Finally, ESMA is also working to develop guidelines on remuneration complementary to the CEBS Guidelines and focused on remuneration policies of investment firms from an investor protection point of view (“MiFID remuneration guidelines”). These MiFID remuneration guidelines, for which a separate consultation paper will be published at the end of Q3 2012 by ESMA, will be based on the MiFID requirements for conflicts of interests and best interests of the client. 12. Given the broad alignment between the provisions of Annex V of the CRD and Annex II of the AIFMD and the need to ensure cooperation with EBA, ESMA sees merit in developing the present Guidelines on the basis of the structure used in the CEBS Guidelines, with due adaptations for the specificities of the asset management sector as compared to the banking sector, on one side, and the differences between the text of the CRD and AIFMD, on the other. Indeed, the specificity of the asset management sector (where assets are managed on behalf of clients/investors) has to be taken into account. In the banking universe, remuneration policies are predominantly directed to address alignment of interests between market operators and their bank employer for financial stability reasons (i.e. to avoid excessive risk taking which could threaten the bank and, subsequently, the financial system). In the asset management universe, remuneration policies should principally address alignment of interests between clients/investors (and so the funds) and portfolio managers who make investment decisions on behalf of the funds. Indeed, in the asset management universe, excessive risk taking may be damaging for the AIF’s investors before there is any impact on the AIFM itself. Q1: Do you agree with the approach suggested above for developing the present Guidelines? If not, please state the reasons for your answer and also suggest an alternative approach. III. Structure of the Guidelines 13. Annex II of the AIFMD sets out the remuneration requirements applicable to AIFMs which are divisible into two parts: governance and risk alignment. A third set of remuneration requirements aimed at strengthening transparency is set out in Article 22(2)(e) and (f) of the AIFMD and in Box 107 of the AIFMD advice.9 Furthermore, transparency requirements are also included in Section III (Disclosure) 8 Article 22(4)(a) and (b) of the CRD provide that “The Committee of European Banking Supervisors shall, inter alia, ensure the existence of guidelines to: (a) set specific criteria to determine the appropriate ratios between the fixed and the variable component of the total remuneration within the meaning of point 23(l) of Annex V; (b) specify instruments that can be eligible as instruments within the meaning of point 23(o)(ii) of Annex V that adequately reflect the credit quality of credit institutions within the meaning of point 23(o) of that Annex”. 9 Par. 25 of the explanatory text under Box 107 of the AIFMD advice mentioned the following in relation with this disclosure: “Further context may be provided by disclosure of the total variable remuneration funded by the AIF through payment by it of performance fees or carried interest, as the case may be. ESMA believes that in addition of remuneration disclosure, it may be appropriate for AIFM to provide information relating to the financial and non-financial criteria of the remuneration policies and practices for relevant categories of staff to enable investors to assess incentives created. In this context, guidance may be provided by ESMA when developing guidelines on remuneration policies as provided by Article 13(2). In addition, the Directive requires disclosure of the aggregate amount of remuneration broken down by senior management and members of staff of the AIFM whose actions have a material impact on the risk profile of the AIF. ESMA suggests that account should be taken of the work undertaken as part of the EBA’s guidelines in relation to the identification and categories of ‘staff whose actions have a material impact on the risk profile’ to ensure consistency in approach, and proportionality. However, ESMA believes that additional tailoring would be required to reflect the specifics of the asset management industry in line with the flexibility needed for the diverse AIF population, an approach already applied in relation to Article 22(4), 23 (6) and elsewhere in the Directive”. 10