Rules for Undertaking Fund Activiti

Following the amendment of Article 41 of the Capital Market Law No. 95 of 1992 (the “CML”) by virtue of Law No. 17 of 2018 allowing for the first time certain financial companies (other than banks and insurance companies) to undertake fund activities alone or jointly with others, the Financial Regulatory Authority (“FRA”), has issued the rules and regulations to undertake such activity. Most importantly, the FRA permitted re-insurance companies, micro-finance companies and companies that establish other companies or participate in capital increases to carry out investment fund activities by themselves or jointly with others. The rest of the regulations stated in this decision remain similar to the regulations applicable to regular investment funds.

Background

Since the issuance of the CML in 1992, banks and insurance companies have been authorized to undertake fund activities after obtaining the approval of their relevant regulator and a license from the FRA. In doing so, banks and insurance companies were required to comply with all the rules and regulations stated in the CML and its executive regulations to the extent that such rules and regulations did not contradict the nature of this special arrangement. Prior to its amendment, Article 41 of the CML stated that the executive regulations were going to include all the rules on the licensing and operation of funds. After its amendment, the FRA has been made the competent entity for issuing these rules and regulations. In application of this, the FRA issued its decision No. 58 of 2018 regarding the rules, regulations and procedures to license banks and some companies undertaking non-banking financial activities to carry out investment fund activities alone or jointly with others (“Decision 58/2018”).[1]

The New FRA Decision

Decision 58/2018 was issued following the approval of the FRA’s board of directors on 26 April 2018 and was published in the Egyptian Gazette on 11 June 2018. It came into force on 12 June 2018.

• Companies Benefiting from the Decision

According to the CML and Decision 58/2018, banks licensed by the Central Bank of Egypt and authorized by the FRA and insurance companies authorized by the FRA may carry out investment fund activities by themselves. Decision 58/2018 adds that re-insurance companies as well as micro-finance companies and companies that establish other companies or participate in capital increases may carry out investment funds by themselves – like banks – subject to specific rules, or jointly with any of the following companies: (i) Arab, regional or foreign financial companies or institutions provided they have representation in Egypt and that the companies are subject to governmental supervision by an entity similar to the FRA or the Central Bank of Egypt (this is in addition to other requirements mentioned in Decision 58/2018); (ii) public entities, if their purpose includes investment; (iii) pension funds or private insurance funds; (iv) the post authority; (v) financial leasing companies; (vi) real estate financing companies; and (vii) factoring companies. Companies – as opposed to banks – seeking an authorization to carry out investment fund activities by themselves have to demonstrate fulfilment of a number of conditions, including – but not limited to: (i) having carried out the licensed activity for at least three years; (ii) that the net equity rights are not be less than 50 million Egyptian pounds; (iii) the company sets aside an amount equivalent to the minimum capital required to carry out investment fund activities (5 million Egyptian pounds to be used in subscribing to investment certificates issued by their own fund), in addition to the minimum capital required for carrying out other licensed activity; (iv) that the FRA did not initiate criminal lawsuits against the company or any of its main shareholders or board members within the three years preceding the submission of the license request; (v) that the company was not subject to pre-emptive measures or administrative penalties within the three years preceding the submission of the license request.

• Rules for Undertaking Investment Fund Activities

The entities described above are entitled to establish all kinds of investment fund activities except for real estate funds. The fund could also be open or closed and it may be listed on the stock exchange as per the rules of the exchange in this regard. Funds established by these entities must (i) be managed by a licensed fund manager, (ii) deposit the securities in which they invest with a custodian, (iii) appoint a management services company as required by the relevant FRA decision, and (iv) appoint two auditors. Entities establishing the funds are required to have separate accounts for these funds and to separate the monies of the fund from those of the company. The fund must have independent financial statements and is required to have a supervision committee composed of five members at most. Each of the founding entities will have one representative on this board and the remaining members shall be independent experts as per Article 5 of FRA Decision No. 125 of 2015 on the expertise requirements of those undertaking the management of securities companies. The supervision committee shall have the powers and competencies of boards of directors of funds established as joint stock companies.

• Conflict of Interest

Funds established in accordance with this decision are also required to comply with a number of disclosure and conflict of interest rules that are similar to those applicable to regular funds, including the requirement to disclose material events immediately to the FRA and submission of weekly reports by the management services companies and the internal auditor of the fund manager and financial statements for each quarter to the FRA. Most importantly, all parties are required to avoid conflicts of interest including investment by the fund in any other funds owned or managed by a related party, except for money market funds and investments by holding funds in their subsidiary funds.

• Procedures to Obtain the License and Approval to Issue Investment Certificates

Entities seeking to obtain a license to carry out investment fund activities are required to submit a license request to the FRA along with all the required documents. The FRA is to then make its final decision within five business days from the date of submission of all documents. After obtaining the license, the licensee is required to submit another request to the FRA to establish the fund and issue investment certificates, which should include a draft prospectus or information memorandum prepared in accordance with the template issued by the FRA. The FRA then issues its approval/rejection of the prospectus/information memorandum within another five business days from the date of submission of all required documents. Article 6 of Decision 58/2018 provides that subscription to the investment fund certificates shall constitute an approval of the fund’s bylaws. This means that even investment fund activities which are not separate entities will also have bylaws.

Conclusion

Investment fund activities carried out as a business through existing companies without having a separate legal personality for such funds are already uncommon in international practice. The amendment to the CML and consequently Decision 58/2018 will lead to the increase of this uncommon structure. There are also a number of issues that remain unclear including the requirement to have bylaws when such funds are not separate entities. If certain companies can undertake this activity with others, how will this be implemented other than through a new company structure; and in this case, why would this be different from the normal procedures for establishing a fund and why have two parallel regulations for the founding shareholders of investment funds (please see FRA Decision No. 51 of 2014 regarding the requirements for shareholders and founders of investment funds and its amendment by virtue of FRA Decision No. 108 of 2016 as well as the ELU Issue for Week 1 of November 2016 covering these decisions).   [1] FRA Board of Directors Decision No. 58/2018 on the new rules and regulations for banks and certain financial companies to undertake fund activities alone or jointly with others, Egyptian Gazette, Issue No. 134, 11 June 2018.