Both the Undertakings for the Collective Investment of Transferable Securities (UCITS) and the Alternative Investment Fund Managers Directive (AIFM) today require that most types of investment funds domiciled in any member state of the EU must appoint a management company. A management company is, generally speaking, responsible for the portfolio management, fund administration, the distribution and other activities of an investment fund.
The management company very often delegates all, or some, of these tasks to professional third parties, thus concentrating its activities on providing risk management, operational risk oversight, checks and controls over the delegated functions, reporting to the investment fund’s board of directors, liaising with the various parties, etc.
This role is necessary, since an investment fund, by definition, does not have its own employees, but a large variety of different people or entities in numerous countries carrying out tasks from portfolio management to fund accounting. The management company ensures that all players act within the law, the boundaries of the rules outlined in the fund documents and ultimately in the best interest of investors. The need for management companies was recognised by the EU in the UCITS III Directive, which took effect in 2003, requiring substance in the fund’s country of domicile. Since then the responsibilities and range of duties of a management company have increased steadily and continue to do so.
The management company can also be viewed as the right arm of the board of directors of an investment fund and/or the fund’s initiator. As such, it reports to the board and highlights any potential problems guiding the board in its decision-making process.
Your own versus a third party management company
When launching a fund and regularly during its lifetime, a fund initiator must decide how best to structure its investment fund. With regard to the management company function, the initiator can choose between two options: create and operate its own management company, or nominate and appoint a third party management company.
In order to fulfil its duties and responsibilities and in order to get the required licence, a management company must have a compliance officer, a risk officer, conducting officers managing the daily business, an administration officer, adequate risk management systems, secured IT facilities with back-up solutions, internal and external audit, legal support and premises etc. In addition, when managing your own management company, the fund initiator also carries the full responsibility for its activities, must implement all regulatory changes in its operational business model, and must ultimately manage a group company that may exercise a different activity than what the initiator wants to do. Setting-up and running a management company is, therefore, complex and cost intensive.
As a consequence, in recent years, the trend has clearly been for many fund initiators to delegate the management company function to a specialised third party provider. The advantages of such a solution are numerous. You have a specialised partner, you delegate the responsibility, the quality of work received is typically better than compared to an in-house solution, in case of regulatory changes you do not have to intervene and take action. Furthermore, you have specialists in the fund’s domicile equipped with the required local knowledge for help and support, you do not need to manage a subsidiary in Luxembourg and spend the respective management time and resources to do so, and, finally, it is typically cheaper. The fund initiator can, therefore, concentrate on its core activities, namely the portfolio management and the distribution of its products. The fund initiator also keeps the control over the fund via the fund’s board of directors and in case the initiator is no longer satisfied with the service quality of the appointed third party management company, the initiator can easily choose another one.
As a conclusion, for most fund initiators, the outsourcing of the management company function is the better, more efficient and more cost-effective solution.
How to choose the right partner?
So what are the most important criteria for selecting the adequate third party management company? A number of factors are important and must be considered. As already highlighted above, the responsibilities of a management company are very broad. Therefore, a management company must have a certain size, it must have staff with a high level of education and experience in their particular area of expertise, it must understand your investment objectives and its structures. It must also deploy a proper database and risk management system in order to comply with its duties, it must have an electronic interface with the fund administrators, it must understand the fund initiator’s business model and it must be proactive and help and support clients in the various tasks to be fulfilled. A management company should also be well connected with the different service providers, namely the depositary banks, the administrators, the lawyers and auditors. It is essential for the management company to have an automated interface with the fund administrator in order to carry out its duties and obligations in a professional and correct manner. Finally, since a management company is supervising its delegates, it should be completely independent from any other service provider within the fund structure.
How has MDO become a leading player in Luxembourg?
MDO was established in 2003 and we have always believed that being independent from the major service providers, depository banks and administrators, as well as their clients and asset managers, is a prerequisite to providing adequate oversight and governance, meaning that independence is key to our business model. We also believe in a strong risk management culture and that it is important to have highly qualified staff to ensure that our clients receive an excellent service and that we add value. This has enabled MDO to grow continuously over the past 14 years to become one of the largest independent management companies in Luxembourg today. MDO has recently established a branch in Ireland and now also offers third party management company services to investment funds domiciled in Ireland.
MDO currently manages over 23bn euros, it employs 55 staff, supports clients from around the globe, ranging from smaller asset management firms to mid and large sized banks. Furthermore, MDO is actively engaged in various national and international industry groups. MDO also has a sister company, The Directors’ Office, a company with 16 independent partners, providing independent board director and conducting officer services.