The Plight of the Emerging Manager – S1E1 (Registration)

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Written by James Burron

Starting an alternative strategy or asset management company can be a perilous affair. It requires registration with the local regulator (which have varying degrees of proficiency and capital requirements, length of application process, and on-going compliance audits), amassing the initial investment portfolio and working capital, staffing up, and gaining access to the next level(s) of investment money.

This series of articles will detail the steps required to build a sustainable alternative asset management company in Canada, but can be applied to many markets.

In Canada, the regulatory environment is complex and compliance with it is obligatory. For Portfolio Managers coming from a prop or more established asset management company’s (AMC’s) desk, the seemingly unending requirements are daunting and, in many cases, frustrating. The process can be completed as quickly as three months (in that case, the Portfolio Manager was previously regulated and had a great deal of track with the regulator that was utilized during the process) and as long as one year or more (which is the norm for managers who are not as prepared for their registration submission). The actual time a regulator might take in reviewing a submission is 4-5 months, which is the timeline that most managers assume for the entire process but the pre-submission period might be 6 months, depending on one’s readiness. (A later article will delve into this process in more detail.)

Triumvirate of registration categories
Although there are exceptions, most asset management companies in Canada register in three categories: as a Portfolio Manager, an Investment Fund Manager, and an Exempt Market Dealer. One would register with their home/provincial regulator and (more or less) passport this registration to other Canadian jurisdictions where one might do business.

All registrations must be in place before any marketing, in the case of registration on one’s home province. For further clarification, the act of engaging in activities that are deemed to be registrable, and one can see this as being rather broad…because it is, requires one to either: (i) register under the appropriate category, or (ii) rely an exemption from the relevant regulator (these are very few and far between).

Portfolio Manager
A Portfolio Manager (PM) designation is required for anyone managing money as a professional: to become an “advising representative” one needs to hold the CFA charter and to be an “associate advising representative”, just the CFA Level I. One must also provide evidence to the regulator that they have the requisite education, training, and experience otherwise expected of someone in such a position. Having been in a similarly-registered role immediately prior or recent to the registration submission is best and less cut-and-dry situations might require more explanation and perhaps an explanatory submission and exemptive relief (in more extreme cases).

In addition to an individual having a PM registration, the AMC needs to have the same. Individual PMs would be housed under the corporate PM license with the corporation responsible for their actions and also hiring and putting in place appropriate compliance and governance structures and procedures.

Investment Fund Manager
For any AMCs that manage a fund (either as an LP, trust, or other entity, but excluding managed account structures), an IFM license is required. This corporate license has its own list of requirements relating to running a fund.

Exempt Market Dealer
The EMD registration is also corporate and allows the AMC to sell funds offered by Offering Memorandum to Accredited Investors (more OMs and AIs in a later edition) and not to retail investors, although a salesperson can ‘wholesale’ the fund to Investment Advisors who would sell it on to their clients (the IA can then only sell to AIs, since the offering is OM – only prospectus mutual funds can be sold to retail). It may seem odd to require an asset manager to have an AMC get a separate registration to sell its own fund, but the idea is that the act of managing money (and the trading processes and controls) is distinct from that of selling units of a fund (where sales compliance is paramount). Thankfully, most AMC registration applications include PM, IFM, and EMD categories so a great deal more work is not required.

Salespeople under the EMD of the AMC must comply with proficiency requirements (e.g., successful completion of the Canadian Securities Course, among others) and be formally registered in the National Registration Database (NRD). For solicitation and/or trade settlement outside of one’s home province, registration with the relevant securities commission (and filings on the NRD) may be needed prior to any solicitation. (For the avoidance of doubt, solicitation is defined as activities in furtherance of a trade…emails, phone calls, meetings: anything that is defined by the regulator as an action that moves ahead a trade in funds or securities is defined under this.)

Policies & Procedures Manual
In addition to the registration categories, AMCs need to create a Policies & Procedures Manual (PPM) which describes and dictates how the PMs trade securities, how the back-office settle trades, compliance with regulatory requirements, KYC and suitability, conflicts of interest, and how the salespeople sell the fund. It would also detail cyber-security protections and preparations as well as redundant facilities in case of loss of operation at the main location. While one can pull a sample off the shelf and amend it to their situation, the mindset should be that of starting from scratch and envisioning how these processes will be performed on a consistent basis and in accordance with industry norms and regulatory requirements.

New managers who take this stage of their initial development seriously would have internalized a ‘culture of compliance’ and creates a positive ‘tone from the top’ that can make the difference at initial registration and subsequent compliance audits (more on these in a later edition also). The PPM is one of the most important and time-consuming parts of registration as it touches all areas of sales, trading, and settlement and shows the regulator how developed and AMC’s staff’s thinking might be.

Business Plan
While not explicitly required by all jurisdictions in Canada, having a business plan is a good idea for registration purposes and essential for anyone starting a new venture. The business plan would detail the personnel, target markets, P&L scenarios, and timeline/milestones for success.

Personnel
Regulators understand that new AMCs will not necessarily have a full complement of staff from day one. They do need to have an Ultimate Designated Person (UDP), CCO (Chief Compliance Officer), PM(s) (as applicable), and salesperson (under the EMD, as applicable). One person may perform more than one role but investors may raise eyebrows if the PM or salesperson is also the CCO. These roles’ activities may be performed by more than one person in the company also, but one person (e.g., the CCO) must be responsible in a regulatory capacity.

Target Markets
Canada’s major investor categories, which will be the topic of a future article, are similar to others’: institutional investors such as pension plans, Sovereign Wealth Funds, foundations, and endowments; Accredited Investors, which might include single and multiple family offices as well as high net worth individuals; and retail investors such as ‘mom and pop’ or ‘Johnny Lunchbucket’ who have modest means and a need for retirement planning and savings. Each of these (and to some degree their sub-markets) are distinct in terms of number and size, investment and due diligence acumen, and regulatory definition (and subsequent investor protections and filing requirements).

Defining one’s target market dictates the use and type of salespeople, structure of fund(s) offered, pricing, sales cycle, selling structure (in-house vs external salespeople), diligence process, and branding and messaging employed. Without choosing a type of investor to target can show a lack of experience and understanding of the industry that can lead to a longer than optimal ramp-up period.

Financial Statements Projections
Of course, a key output from any business is its P&L and evidence thereof. That the AMC is a going concern and able to make good on its obligations to creditors and clients is of upmost importance and the elementary act of creating a detailed budget that takes into account contingencies and delays is sometimes lost on those used to more of a trading desk structure where business and its related infrastructure was taken care of.

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