Chapter 4 Collective Investment Scheme PDF

CHAPTER FOUR Collective Investment Scheme  DISCLAIMER □ Brunei Darussalam Central Bank (BDCB) is not responsible for the results of any action taken on the basis of information in this licensing examination study manual or any errors or omission; □...

CHAPTER FOUR Collective Investment Scheme  DISCLAIMER □ Brunei Darussalam Central Bank (BDCB) is not responsible for the results of any action taken on the basis of information in this licensing examination study manual or any errors or omission; □ BDCB expressly disclaim all and any liability to any person in respect of anything and of the consequences of anything done or omitted by a person in reliance, whether whole or partial, upon the whole or any part of the contents of this licensing examination study manual; and □ BDCB do not purport to provide legal or other expert advice in this licensing examination study manual and if any legal or other expert advice is required, the services of a competent professional person should be sought.  ABBREVIATIONS AMBD Autoriti Monetari Brunei Darussalam AAOIFI Accounting and Auditing Organisation for Islamic Financial Institutions BDCB Brunei Darussalam Central Bank BDCBO Brunei Darussalam Central Bank Order, 2010 BOD Board of Directors CMSL Capital Markets Services Licence CMSRL Capital Markets Services Representative’s Licence CIS Collective Investment Scheme CFD Contracts for Differences CSD Central Securities Depository ECF Equity Based Crowdfunding FCA Financial Conduct Authority FIMM Federation of Investment Managers Malaysia FinTech Financial Technology IOSCO International Organization of Securities Commissions IFRS International Financial Reporting Standards IMF International Monetary Fund ISAF Internal Syariah Audit Framework ICM Islamic Capital Market MMOU Multilateral Memorandum of Understanding OTC Over the Counter P2P Peer-to-Peer SMO, 2013 Securities Markets Order, 2013 SMR, 2015 Securities Markets Regulations, 2015 SFSB Syariah Financial Supervisory Board SFSBO Syariah Financial Supervisory Board Order, 2006 SRO Self-Regulating Organisation SAB Syariah Advisory Body SGF Syariah Governance Framework SPV Special Purpose Vehicle Contents CHAPTER 4 – COLLECTIVE INVESTMENT SCHEME.....................................................................2 Learning Goals........................................................................................................................2 Overview................................................................................................................................2 4.1 CIS: Types of Setups and Offering....................................................................................5 4.1.1 Licensed Collective Investment Scheme vs Recognised Collective Investment Scheme...............................................................................................................................5 4.1.2 Public Collective Investment Scheme vs Private Collective Investment Scheme...7 4.2 Constitution.....................................................................................................................9 4.3 Marketing....................................................................................................................... 10 4.4 Prospectus...................................................................................................................... 10 4.4.1 CIS............................................................................................................................ 10 4.4.2 Foreign CIS.............................................................................................................. 12 4.5 Specialist funds.............................................................................................................. 12 4.6 General Duties of a Public CIS Operator........................................................................ 13 4.7 Oversight functions........................................................................................................ 14 4.8 Ongoing obligations and administration...................................................................... 17 4.8.1 Marketing and Transactions................................................................................... 17 4.8.2 Administration........................................................................................................ 17 4.8.3 Reporting requirements......................................................................................... 18 4.8.4 Operation and administration............................................................................... 21 4.8.5 Delegation and outsourcing................................................................................... 24 4.8.6 Charges and expenses............................................................................................. 26 4.9 Revocation and suspension of licensed and recognised CIS........................................ 27 4.9.1 Revocation.............................................................................................................. 27 4.9.2 Suspension.............................................................................................................. 28 4.9.3 Winding up............................................................................................................. 29 Summary.............................................................................................................................. 29 Looking ahead...................................................................................................................... 30 Questions............................................................................................................................. 30 Additional Recommended Reading.................................................................................... 30 1  CHAPTER 4 – COLLECTIVE INVESTMENT SCHEME Learning Goals LG1. To describe the key types and features of a collective investment scheme (CIS) LG2. To differentiate between a licensed and recognised CIS LG3. To outline the key requirements for operating and distributing a CIS LG4. To outline the requirements of a prospectus for a public and a private CIS LG5. To describe the events which may lead the Authority to revoke a CIS licence. LG6. To describe the process of revocation and suspension of licensed and recognised CIS status Overview A collective investment scheme (CIS) is an investment arrangement which allows several investors to collectively participate in a scheme to share profits out of the investment. The profits or income that the participants receive arise from the CIS’s assets or property. This may be in the form of recurring income from the holding or sale of the CIS’s property. The property must be managed by a professional manager where the CIS participants do not have day-to-day control over the management of the CIS’s property. A CIS (also known as mutual funds in certain jurisdictions) shall be set up in one of three forms: a unit trust scheme, an investment company or a partnership. A unit trust scheme pools together monies from participants who wish to invest in stocks, bonds, or other securities. Meanwhile, an investment company is a special purpose company established to invest in various financial securities. Finally, a CIS can also be established in the form of a partnership. Unlike a company, it may not have a separate legal entity. Instead, it is where two (2) or more people set up and run a business together. At present, most CIS offered in Brunei Darussalam are established based on a unit trust scheme. 2 A CIS may take one of three (3) forms, as follows: (1) An open-ended scheme: a. If a participant wishes to redeem (or sell) his units, the CIS is obliged to accept what the participant sells and subsequently pays cash to this participant; b. This payment is based on the property’s net asset value; and c. The redemption is allowed at least twice a month at regular intervals. (2) A closed-ended scheme: a. It raises a fixed amount of funds from the participants; b. It subsequently becomes publicly traded; and c. Hence, if a participant wishes to redeem his securities, he is subject to market forces; the CIS is not obliged to redeem the participant’s holdings. (3) An interval undertaking: a. If a participant wishes to redeem his securities, the CIS is obliged to redeem the participant’s holdings at a price related to the property’s net asset value; and b. The redemption is allowed at least twice a year, i.e. less frequent than an open- ended scheme. A CIS can be offered as a private or public CIS. A CIS offered as a public offering may be offered to retail investors. A CIS can be classified as a private CIS if it fulfils certain conditions within the regulation. This is further discussed in Section 4.1.2 of this Chapter. In order to set up, manage or offer a CIS in Brunei Darussalam, one needs to obtain a CMSL from the Authority. Please see Chapter 3: Capital Markets Services Licence and Capital Markets Services Representative’s Licence for more details. Another way of offering a CIS is through a recognised regime. The Authority may, under certain conditions, grant recognition to a CIS which is already authorised, licensed or regulated in a foreign country. We will this discuss in more detail in section 4.1. 3 Note: This is a generic diagram of a CIS framework. Figure 1: Presents an overview of the CIS, its key players and their respective roles. Note: This is a generic diagram of a CIS framework. Figure 1. CIS overview 4 4.1 CIS: Types of Setups and Offering This section discusses: (1) The regulatory regimes on CIS offered in Brunei Darussalam, i.e. as a Licensed CIS or Recognised CIS; and (2) The two types of CIS offerings in Brunei Darussalam i.e. as a public or private CIS 4.1.1 Licensed Collective Investment Scheme vs Recognised Collective Investment Scheme Licensed Collective Investment Scheme An application for a CIS licence must be made by the scheme’s operator and custodian. Before granting a CIS licence, the Authority under section 210 requires that, among others, the CIS must: (1) Comply with the regulations on CIS; (2) Provide a copy of the trust deed (if the CIS is structured as a trust) and a certificate signed by a lawyer that states that the CIS complies with the requirements of the Securities Market Order (SMO) regulations and CIS’s constitution; (3) Have different and independent persons as an operator and a custodian; and (4) Have an operator and a custodian each be incorporated in Brunei Darussalam. In addition, the Authority must decide on the licence application within four (4) months from the receipt of the completed application. If the Authority proposes to refuse a licence application, it must warn the applicant. If the Authority decides to refuse the licence application, it must notify the applicant. Finally, the Financial Markets Services Panel has the authority to hear and decide on appeals pertaining to the Authority’s refusal of the licence application. A CIS operator would be a licensed corporate director of an investment company, the management company of a unit trust or a general partner in a partnership. A custodian is a person who is entrusted to safekeep the CIS’ property. 5 The process of application for a CIS licence can be found in AMBD (2017), Guideline No. CMU/G-2/2017/2 Guideline on Licensing and Recognition Applications for Collective Investment Schemes. Among the key requirements are as follows: (1) The applicant must submit the CIS’s prospectus which is prepared according to paragraph six (6) of the above Guideline and other relevant SMO requirements. (2) If the CIS operator intends to appoint a CIS administrator, it needs to clearly state in its draft delegation agreement the functions that the administrator will perform. (3) If the CIS operator appoints a third party to distribute the units of the CIS, the operator should notify the Authority upon application and submit the draft distribution agreement. (4) The applicant should immediately inform the Authority of key changes or developments in circumstances: a. That may affect the Authority’s consideration of the application b. Relating to the application occurring after the application (5) In applying for an Islamic or Syariah-compliant CIS licence or recognition, the applicant needs to obtain prior approval from the Syariah Financial Supervisory Board (SFSB) as stipulated under the SFSB Order, 2006. Further information on this is provided in Chapter six (6). Recognized Collective Investment Scheme (CIS) A foreign CIS can be offered in Brunei Darussalam provided that it is recognised by the Authority. In recognising the CIS, the following criteria must be met: (1) The Authority by way of an order has designated the country concerned; and (2) The CIS’s operator and custodian have applied to the Authority for recognition of the CIS For the purpose of designating the country, it must be ensured that: (1) The CIS is authorised or licensed in its home country; 6 (2) There is an equivalence of law governing the CIS between the home country and Brunei Darussalam; and (3) There is an adequate arrangement for cooperation between authorities in both countries for ease of supervising the CIS. The process of application of recognition for a CIS can also be found in AMBD (2017), Guideline No. CMU/G-2/2017/2 Guideline on Licensing and Recognition Applications for Collective Investment Schemes. Among the key requirements is that a foreign CIS’s prospectus must prominently state the following: (1) The applicable foreign jurisdiction and legislation; (2) The name of its pertinent financial services regulator; (3) The regulatory status accorded by its pertinent financial services regulator; (4) The name and address of the local representative of the foreign CIS in Brunei Darussalam; and (5) Includes a warning which in essence states that: a. the foreign CIS is not subject to the Authority’s (AMBD) domestic regulation b. the Authority is not responsible for reviewing/verifying/approving the foreign CIS’s prospectus or other documents c. the foreign CIS’s units may be illiquid or contain resale restrictions 4.1.2 Public Collective Investment Scheme vs Private Collective Investment Scheme Public Collective Investment Scheme (CIS) An application for a public CIS must be supported by the public CIS’s legal advisers to the effect that the constitution and prospectus comply with the SMO and SMR. If it is a foreign CIS, the legal advisers’ certification is to the effect that the constitution and prospectus have been considered by a foreign regulatory authority. Should there be material changes after the filing of the licence/recognition application, the operator and trustee must immediately inform the Authority. 7 The Authority may grant a licence if the public CIS satisfies the following: (1) It takes one of the following legal structures: investment company/partnership/trust; (2) It is incorporated under the written laws of Brunei Darussalam; (3) It has appointed an operator who is licensed by the Authority to carry on the regulated activity of operating a CIS; (4) If it is constituted as an investment trust, the public CIS has a licensed trustee; (5) The operator has arranged to have oversight and delegation of its custody services; (6) Its name is not undesirable or misleading; and (7) The operator has appointed an auditor. Likewise, in the case of a foreign public CIS, the Authority may recognise the CIS if the CIS satisfies the following: (1) The Authority has designated that country or territory in which the public CIS is established; and (2) The CIS’s operator and custodian has written to the Authority to ask for the CIS to be recognised. Private Collective Investment Scheme (CIS) A private CIS must fulfil the following conditions: (1) Its units are only offered for sale or issue through a private placement with specific investor classes; (2) The maximum number of unit holders is 50; (3) Similar to a public CIS, it must be constituted as an investment company/partnership/trust; and (4) Its operator is licensed by the Authority to conduct the regulated activity. 8 When submitting an application which seeks approval for offering a private CIS, its operator must include: (1) A general description of the CIS including the nature of its investments and the intended size of the CIS; (2) If it is a hedge fund and has a prime broker: the prime broker’s identity and its regulator; and (3) A legal certification that all requirements relating to the use of prime brokers have been fully complied with. 4.2 Constitution Regulation 89 of the SMR requires each CIS licence application to include a written constitution which specifies the CIS’s legal form and the provisions relating to the CIS’s operations or management. This requirement is imposed on a CIS operator. If the CIS is structured as an investment trust, the operator and trustee are responsible for maintaining the constitution and amending it in accordance with written laws. If the CIS is a public property CIS, the constitution must cover: (1) How the CIS units are issued and redeemed to ensure that the CIS is closed-ended; and (2) If applicable, the situations in which private placements may be made. Under Section 217 of the SMO, if a licensed CIS proposes to alter its constitution or replace its operator or custodian, it must serve a written notice to the Authority. This notice is not effective unless: (1) The Authority approves the proposal; or (2) One (1) month after the CIS’s written notice has lapsed and the CIS does not receive the Authority’s warning notice (to refuse approval of the CIS’s proposal). 9 4.3 Marketing Section 208 of the SMO restricts the promotion of CIS in Brunei Darussalam. A CIS may only be promoted in Brunei Darussalam if it is: (1) a licensed CIS; (2) a recognised CIS; or (3) exempted by the Authority by a regulation. 4.4 Prospectus 4.4.1 CIS A prospectus is a document which contains the relevant and required information regarding the securities which an issuer intends to sell or offer for sale to the public. Regulation 128 of the SMR mandates every CIS to produce a prospectus. Any person who issues false, deceptive or misleading statements and makes omissions in the prospectus is guilty of an offence. The responsibility for the prospectus extends beyond the operator as follows: (1) If the CIS is a body corporate, each director is also responsible; (2) If the CIS is an investment undertaking, the directors, general partners or members of the board of directors are also responsible; (3) Any person who accepts or deemed to accept responsibility for the prospectus (be it fully or partially); and (4) Any person who has authorised the prospectus contents (be it fully or partially). 10 When a regulated person offers a CIS unit for issue or sale to a client, it must make available to that client a copy of the most recent prospectus at the time of the offer or before effecting the transaction. However, a regulated person does not need to provide a copy of the prospectus when undertaking one of the following actions: (1) An execution-only transaction such as the regulated person executes a transaction based on the client’s specific instructions; and no offer was made by the regulated person (2) A transaction purely for a discretionary portfolio management agreement. the client entrusts the regulated person fully to make investment decisions (3) A transaction with the CIS operator to redeem a unit of that CIS. Regulation 159 of the SMR specifies the requisite information which includes, among others, the following: (1) Material information which: a. Is within the operator’s knowledge; and b. Directors or partners, prospective unit holders and professional advisers would reasonably know or obtain. (2) The prospectus must not have provisions that are unfairly prejudicial to the interests of the unit holders or any class thereof. (3) The prospectus expires within twelve (12) months after the prospectus date. (4) If a supplementary prospectus is issued as a replacement, the operator must clearly state that it replaces the earlier prospectus and identify the earlier prospectus. 11 4.4.2 Foreign CIS In terms of a foreign CIS, this can be offered only if: (1) The CIS meets the criteria for a recognised CIS; and (2) Where the transaction is with a retail client, the CIS units satisfy the requirements that govern the sale of such units. Similar to the case of a CIS in section 4.4.1, the regulated person must make available to his client a copy of the most recent prospectus if he offers a unit of a foreign CIS for issue or sale to a client. The three exceptions are similar to those mentioned in section 4.4.1. 4.5 Specialist funds Part VI, Chapter XII of the SMR deals with six (6) specialist funds as follows: (1) Fund of funds (2) Feeder fund (3) Private equity fund (4) Property CIS (5) Real estate investment fund (6) Hedge fund Of these six (6) funds, we discuss one example, namely the fund of funds. A fund of funds does not invest directly in securities such as stocks or bonds. Instead, a fund of funds invests in a portfolio of shares of other funds. It aims to diversify risks. Division I, Regulation 136 of the SMR prohibits a fund of funds from investing in any of the following: (1) Another fund of funds; (2) A feeder fund; (3) Any CIS which invests in several CIS, a single CIS or a single investment trust; (4) Any sub-CIS of an umbrella CIS; and (5) Sub-CIS of any other CIS which is equivalent to items one (1) to three (3) above. 12 In line with the diversification requirement, regulation 136 (3) says that the amount invested in the units of any one CIS must not exceed 25% of the CIS property value. 4.6 General Duties of a Public CIS Operator A public CIS operator must endeavour to ensure that the CIS property provides a spread of risks that are in line with the CIS’s investment objectives and policy, as stated in the most recently published prospectus. The operator should also avoid the CIS property being used or invested contrary to the SMR provisions. If the operator knows of any breach, he should immediately rectify that breach unless: (1) It is not in the unit holders’ best interests; or (2) The persons providing oversight functions agree to delay. A public CIS may invest in units of another CIS if the operator has taken reasonable care to ensure that this other CIS: (1) Has undergone an independent annual audit which is in line with the International Financial Reporting Standards; (2) If the other CIS is an Islamic CIS, it must be audited annually in line with the Accounting and Auditing Organisation for Islamic Financial Institutions or such other international standards as the Authority may determine; (3) Has mechanisms in place to enable unit holders to redeem their units; and (4) Prohibited from having more than 20 per cent of its value in the units of CIS’s. 13 4.7 Oversight functions Table 1 shows the permitted oversight arrangements for a public CIS which is run as an investment company, investment partnership and investment trust respectively. Table 1. Permitted oversight arrangements for each permitted structure Investment company Investment partnership Investment trust (1) a panel comprising (1) a committee comprising (1) the trustee independent non- at least two limited (2) having a majority of executive directors partners where each of independent directors (2) a supervisory board these partners is not a on the operator’s board comprising general partner and is independent non- independent of the executive directors who operator supervise the board of (2) a custodian directors’ activities (3) a custodian In terms of a panel or In terms of a committee, In all two structures, supervisory board the number of independent “independent” means not arrangement, the number limited partners must having a material interest in of non-executive board exceed the number of the operator or the body members must form a general partners. corporate. simple majority. 14 An operator must take reasonable steps to ensure that the persons who provide the oversight functions are: (1) Independent of the operator; and (2) Not subject to conflict of interest in relation to the operator. If the above two conditions are compromised, an operator must inform the Authority. Furthermore, if the CIS is structured as an investment trust, the operator must also inform the trustee. In terms of the CIS’ investment and borrowing activities, the persons providing the oversight functions must ensure on a continuing basis that: (1) The operator uses or invests the CIS in accordance with the SMR covering investment and borrowing (2) The operator ensures restoration of compliance with the SMR soonest possible having regard to the unit holders’ interests (3) The CIS is managed without contravening the constitution or prospectus There are six (6) principles for the oversight function including independent directors: (1) Integrity: one must have high standards of integrity and deal fairly and disclose any pecuniary interest which may conflict with his proper performance of duties. (2) Due skill, care and diligence: one must act with due skill, care and diligence in performing each oversight function. (3) Market conduct: one must follow proper standards of conduct in financial markets. (4) Relations with Authority: one must deal with the Authority in an open and co-operative way and disclose any information that the Authority may expect. (5) Management, systems and control: a person who is appointed chairman of the panel, committee or supervisory board must ensure that the oversight of the operator is organised to facilitate effective management and control. 15 (6) Compliance: a person who is appointed chairman of the panel, committee or supervisory board must ensure that he and the others perform their duties and functions under the SMO and SMR. The persons appointed to perform oversight functions must report to the operator on whether the systems and controls for oversight are appropriate and effective at least quarterly. If a custodian or a trustee has been appointed, the operator must provide the custodian, trustee and directors with the CIS’s internal audit report and compliance report. The operator should ensure that the person appointed to oversee the CIS’ operation is at all times continue to be: (1) Suitably qualified; (2) Fit and proper; and (3) Independent. In assessing a prospective appointee’s competence, the operator must: (1) Get the details of the person’s knowledge and skills; (2) Take reasonable steps to verify the information is relevant, accurate and authentic; and (3) Ascertain the person’s relevant qualifications and relevant experience. A CIS operator must ensure that there is a written agreement appointing any custodian or any person to carry out oversight roles. 16 4.8 Ongoing obligations and administration This section discusses some key aspects of the CIS’s reporting obligations and administrative matters at various phases, as specified in the SMR. 4.8.1 Marketing and Transactions A CIS must submit to the Authority within three months from its financial year end, a report on any offer or transaction involving a unit of a CIS which was made in the preceding financial year. The report must state: (1) The CIS’s name and its operator; and (2) The foreign jurisdiction in which the CIS is licensed (if it is a recognised CIS in Brunei Darussalam). 4.8.2 Administration Part VI, Chapter III of the SMR relates to a CIS administrator and not to an operator or trustee. In particular, it looks at the following three (3) areas: (1) Compliance with anti-money laundering requirements a. The administrator must comply with written laws relating to anti-money laundering; and b. Written laws which refer to “customer” apply to “unit holders” or “prospective unit holders”. (2) Handling of clients’ money and assets a. In general, the administrator must not hold or control the clients’ monies or assets. b. but the administrator is allowed to hold/control the clients’ monies/assets in the following situations and conditions: i. Hold Cheques These cheques are to be credited into the CIS’s bank account or returned to the cheque’s drawer; and Note that the administrator must safely hold these cheques for a maximum of three (3) business days only. 17  ii. Payments Where the administrator has a mandate over a CIS’s or other clients’ bank accounts; and the bank agrees in writing on this mandate; The mandate restricts payment instructions according to the invoiced amounts and the payments which are in line with the CIS’s constitution and prospectus; and The payment must not be sent to the administrator’s account unless explicitly instructed by the CIS operator. (3) Delegation and service agreements a. The administrator must have a delegation agreement with the operator or trustee in accordance with the SMR requirements on outsourcing. b. This delegation agreement must: i. specify the activities and functions covered ii. ensure that the administrator cannot further delegate the activities and functions delegated to it by the operator/trustee (unless the operator approves the sub-delegation) iii. require the administrator to keep relevant documents pertaining to the delegated activities and functions in the event that the operator/trustee terminates the contract 4.8.3 Reporting requirements The key periodic reports required are specified in Part VI, Chapter VIII of the SMR, as follows: (1) Annual and interim reports (2) Operator’s report (3) Comparative table for public CIS (4) Oversight report (5) Auditor’s report 18 Items two (2), three (3) and four (4) are incorporated in the annual report. The following headers discuss the key elements of items (1) ‘annual and interim reports’, and (4) ‘oversight report’. For further details, please see Part VI, Chapter VIII of the SMR. Annual and interim reports: The operator must produce one annual report and one interim report for each CIS it operates. These reports must be filed with the Authority within: (1) Three (3) months after the end of each annual accounting period; and (2) Two (2) months after the end of each interim accounting period, respectively. The interim accounting period covers the six months after the financial year- end. If the CIS is an umbrella CIS, the operator need not prepare an interim report for the umbrella CIS as a whole; it merely needs to report for each sub-CIS. The annual report and interim report must contain the following information pertaining to the CIS or sub-CIS: (1) Name, its investment objectives, the policy of achieving these objectives and brief risk profile assessment (2) Review of investment activities and performance (3) Where the portfolio is invested at period-end and the extent of change over the period (4) Other key information to help the unit holders make an informed judgment on the CIS’s activities and results (5) For the annual report of a non-umbrella CIS: a. The full audited accounts; b. Auditor’s report; c. Operator’s report; d. If it is a public CIS: 19  i. Comparative table (of its unit’s highest and lowest price over a five-year period; net income distributed/allocated; net asset value; director’s report; events materially affecting the CIS size; changes in investment objectives); and ii. Oversight report. e. If it is a private CIS: a statement on the CIS performance in accordance with the constitution and prospectus; f. If it is an Islamic CIS: the Syariah advisory body report; and g. If it is an investment trust: the trustee’s report. (6) For the annual report of an umbrella CIS: a. For each sub-CIS: the items mentioned in (5)(a) to (e) above, for a non-umbrella CIS; and b. An aggregation of the full audited accounts. (7) For all annual reports: a. Investment committee report, if applicable; and b. If the CIS is a hedge fund, the custodian report should be included. (8) For the interim report: a. The reports and matters stated for the non-umbrella CIS annual report; b. Total expense ratio; c. Key issues raised by the custodian and, if applicable, the other persons overseeing the CIS; and d. If applicable, the Syariah interim report by the Syariah advisory body. Oversight report: Those providing CIS oversight (i.e. trustee, custodian and other pertinent persons) must furnish the following to the unit holders in the annual report: (1) Description of their respective oversight duties and in relation to the safekeeping of the CIS property; and (2) A statement on whether there have been material breaches of the following: 20  a. The issue, sale, redemption and cancellation, and calculation of the unit price and application of the CIS income – vis-a-vis the regulations, constitution and prospectus; and b. The investment and borrowing powers and restrictions 4.8.4 Operation and administration A CIS operator’s general management duties include the following: (1) Operate the CIS in line with its constitution, prospectus, the SMO and the SMR; (2) Make decisions on the CIS property which are in line with the investment objectives and policy stated in the prospectus; (3) Set up and maintain risk management systems and controls to identify, assess, mitigate, control and monitor risks; and (4) In the case of a hedge fund – show that there is functional separation and independence between the CIS’s function of valuation and asset price, and the investment management process. In terms of the CIS property: (1) In the case of an investment company or investment partnership: The CIS operator is responsible for the safekeeping of the CIS property. (2) In the case of an investment trust: The trustee is responsible for the safekeeping of the CIS property. (3) In the case of a property CIS: The operator or the trustee may implement alternative arrangements for safekeeping such that: In the case of an investment trust, the trustee continues to control the CIS property; and In all cases, the operator does not have absolute control of the CIS property. 21 A CIS operator (or if it is structured as an investment trust, the trustee) must reasonably ensure that the CIS property dealings do not trigger a conflict of interest. If there is a conflict, the operator (and if appointed, the trustee) must inform the unit holders regarding the nature of the conflict and how the conflict will be managed. A CIS operator needs to ensure that the CIS property is valued regularly as appropriate to the nature of the CIS. Valuation may be suspended in circumstances that are stated in the constitution or prospectus. The operator must also prepare a valuation (and in the case of a public CIS, publish the CIS unit price). The CIS property value is its net value after deducting expenses and debts including capital outstanding on a mortgage of any real property. A CIS operator must ensure that at each valuation point: (1) The number of units in issue of a given class must be at least the number of units registered to that class’ unit holders (2) It does not commit or omit anything that would give itself a benefit or advantage over the unit holders or prospective unit holders. A CIS operator must take all reasonable steps and exercise due diligence to ensure that the CIS’s units are correctly priced in line with the accounting procedures of the International Financial Reporting Standards or the Accounting and Auditing Organisation for Islamic Financial Institutions. The basis of the valuation must be fair and reasonable between unit holders. Should the pricing be incorrect, an operator must immediately rectify any breach and inform the Authority, the trustee and the custodians or others providing oversight. During the dealing day, a public CIS operator must: (1) Be willing to issue and effect the sale of units; and (2) Effect redemption of units. 22 An operator (or trustee in the case of an investment trust) must maintain a register of unit holders which must contain: (1) Each unit holder’s name and address; (2) The number of units of each class held by each unit holder; and (3) The unit holder’s registration date in the register for the units. A CIS’s board of directors should meet at least twice in a year from when it registered with the Authority. In subsequent twelve (12)-month periods, there must be an annual meeting of unit holders. The unit holders may also request the operator to call for a meeting. This request may be done if it is signed by the unit holders who represent at least 10% of the value of all units in the CIS. For a private CIS, its constitution must set out the procedures for holding its unit holders’ meeting, and the conduct of such meetings. This may include items such as: (1) Voting rights; (2) Right to demand a poll; (3) Proxies: (4) Minutes; and (5) Variation of class rights and class meetings. For a public CIS, the operator must produce and maintain a procedure manual for its unit holders meeting. The items are the same as the five (5) listed for a private CIS. If a CIS’s capital has reached the minimum (as per its constitution) or falls below the minimum, the operator must immediately inform the Authority. This notice must: (1) State the operator’s reasons for believing that the CIS is still viable, and its purpose may still be achieved; (2) Be accompanied by the relevant unit holders’ resolution; and (3) State the action the operator has taken or will take to wind up the CIS. 23 4.8.5 Delegation and outsourcing If an operator or trustee delegates investment activities or outsources any functions, the operator or trustee continue to be answerable to the unit holders. An operator of an investment company or investment partnership must delegate the custody activity to a custodian. This requirement does not apply to: (1) A real property CIS; or (2) A private equity CIS. where the operator has made alternative arrangements. An operator may delegate the provision of administration and/or custody activities to another person whom the Authority has licensed for the administration or safekeeping of assets. Besides the SMR, the Notice and Guideline on Outsourcing for CMSL holders provide more granular guidance. See AMBD (2020), Notice on Outsourcing for Capital Markets Services Licence Holders, Notice No. CMA/N-1/2020/15 and AMBD (2020), Guideline on Outsourcing for Capital Markets Services Licence Holders, Guideline No. CMU/G-1/2020/8 for more details. The following paragraphs outline some key points. The operator must inform the Authority of its intention to outsource at least thirty (30) days in advance. Besides, the operator must submit the outsourcing register to the Authority within three (3) months after the financial year-end. The operator may outsource only to the following persons: (1) Back-office function to a service provider; (2) Internal audit function to its group or an external auditor; and (3) Risk management and compliance function to its group (under Section 18 of the SMO, group refers to a parent, a subsidiary, a subsidiary of a parent, a parent of a subsidiary). 24 The service provider cannot further sub-contract unless the CMSL holder (or CIS operator) agrees. Moreover, the internal audit, risk management or compliance function cannot be further sub-contracted. The three (3) key principles for outsourcing arrangements are: (1) Due skill, care and diligence in the selection process The operator should consider and act in the clients’ interests when appointing a service provider or approving a sub-contractor. The operator should also consider the following in relation to the provider or sub-contractor: a. Ability to employ a high standard of care in performing the important operational function and meet regulatory standards; b. Ability to comply with outsourcing agreements; c. Adequacy of resources and ability to efficiently conduct the function, especially when doing so for various CMSL holders; d. Adequacy of security and control environment; e. Policies and procedures to prevent a breach of clients’ confidentiality and abuse of clients’ confidential information; f. Business continuity plan; g. Ability to identify and effectively manage risk and conflict of interest; and h. Legal proceedings, both current and potential, which may affect the provider’s ability to perform its functions effectively. i. If the service provider is based overseas, the following are some further considerations: 1) Country conditions such as its economic, legal and political environments; 2) If the Authority cannot access information quickly from that country, refrain from engaging that service provider; and 3) Inform the Authority if any foreign regulatory authority were to seek access to clients’ information. 25 (2) Continuous monitoring mechanism a. The operator must continuously monitor the service provider’s level of service delivery, performance reliability and processing capacity. b. For sub-contracting arrangements, the CIS operator should ensure that: i. the outsourcing to a sub-contractor won’t affect the CMSL holder’s (CIS operator’s) ability to comply with SMO; ii. the terms don’t contradict the initial outsourcing agreement between the CIS operator and the service provider; and iii. service provider’s ability to comply with agreement won’t be impaired. (3) Outsourcing compliance function to group a. The operator should ensure that the service provider: i. Assigns at least one authorised compliance officer who is independent, i.e. he is not involved in any daily business functions; and ii. Provides compliance reports regularly to Board and senior management. 4.8.6 Charges and expenses Charges made and expenses incurred must be in line with the constitution and prospectus. Examples of such charges and expenses include the following: (1) Charge or levy relating to the issue or sale of units. (2) Preliminary or redemption charge: a. These charges must be stated either as a fixed amount or as a percentage of a unit’s price; and b. The preliminary charge must not exceed the amount or rate stated in the prospectus. (3) Remuneration and reimbursement of expenses for oversight functions: a. Remuneration paid must be in accordance with what is stated in the prospectus, e.g. the actual amount or rate and the maximum or how these are determined, the periods covered, how the remuneration is to accrue and when it is to be paid; and b. Reimbursement of expenses which are properly incurred. 26 (4) Promotional payments, performance fees and set up costs: a. Costs of registration, exemption, incorporation, initial offer/issue of units may be amortised over a maximum of five (5) years (5) Allocation of payments to capital or income: a. Those who are in the oversight functions may agree to treat all or part of the permitted payments, charges and expenses as capital expense or income expense b. This is then allocated to the capital account or income account respectively (6) Payments of liabilities on asset transfer: a. If your CIS obtains a transfer of property from a body corporate or from another CIS, you can pay your liabilities out of this CIS property if: i. The CIS’s constitution does not prohibit; and ii. The operator thinks that proper provision was made for meeting such liabilities. 4.9 Revocation and suspension of licensed and recognised CIS 4.9.1 Revocation The Authority reserves the right to revoke a CIS licence on any of the following grounds: (1) Failure to meet one or more of the licensing requirements; (2) The operator or custodian has breached any of the statutory requirements; (3) The operator or custodian has given to the Authority significantly false or misleading information; (4) The CIS has been dormant for twelve (12) months; (5) Any matters assessed by the Authority to be in the interest of protecting participants or potential participants of the CIS; and (6) As requested by the operator or custodian of the CIS. Likewise, the Authority may revoke a CIS recognition order on any of the following grounds: (1) The operator or custodian has breached an SMO requirement; (2) The operator or custodian has given the Authority significantly false or misleading information; 27 (3) At least one (1) requirement for the recognition order is no longer fulfilled; and (4) it is undesirable in the participants’ or potential participants’ interests for the CIS to continue being recognised. 4.9.2 Suspension The SMR allows an operator to suspend the issue, sale and redemption of units in a CIS if it is: (1) Under exceptional circumstances; and (2) In the interest of both current and potential unit holders. If it relates to an investment trust, the trustee’s prior approval is needed. When suspension commences, the operator must immediately inform of the suspension together with the reasons for the suspension, to the following parties: (1) The Authority; (2) The custodian or others appointed to provide oversight of the CIS; and (3) The auditor. The SMR also allows an operator to suspend dealings (in units of the CIS, a sub-CIS or a class) provided the reasons are: (1) Fair and reasonable for all unit holders; and (2) Are specified in the prospectus. In general, the suspension of dealings must end within twenty-eight (28) days from commencement or when it is no longer in the interests of the unit holders. Nonetheless, the Authority may, by written notice, extend the suspension period. This extension may be initiated by the Authority or on the operator’s request. Likewise, once dealings resume, the operator must immediately inform the Authority. 28 4.9.3 Winding up The operator must wind up the CIS and stop the activities of: (1) Issuing, selling, cancelling or redeeming units; or (2) Investing or borrowing when any of the following events occur: (1) The Authority agrees to requests from the operator, trustee or other Board members to remove a CIS from the list of registered CIS; (2) The CIS is not commercially viable or its purpose cannot be achieved; (3) The expiration of a period stated in the constitution; (4) The effective date of a duly approved transfer of the CIS (resulting in the CIS having no property); and (5) In the case of a private CIS, the CIS is failing, or has failed, to fulfil the SMR criteria. Summary This chapter discussed the requirements of a collective investment scheme (CIS). A CIS may be formed as a unit trust scheme, an investment company or a partnership. It may be an open-ended or closed-ended scheme or even an interval undertaking. A CIS may operate only if it is licensed by the Authority. Alternatively, a licensed CIS in a foreign country may apply to operate as a recognised CIS if certain conditions are met. The key conditions are that the country is designated by the Authority by way of an order and these countries have laws and practices which protect the investors at least to an equivalent level and there is adequate cooperation between the regulators of the CIS in the home country and Brunei Darussalam. The Authority may revoke a CIS licence or recognised CIS status if, among others, the operator or custodian has contravened the SMO or has given material false or misleading information. 29 Looking ahead The next chapter discusses regulated market, market operator and infrastructure, and self- regulating organisation. Questions 1. What is a collective investment scheme (CIS)? How can a CIS be structured? 2. What is the difference between a licensed CIS and a recognised CIS? 3. What are the key content requirements of a CIS’s prospectus? 4. What are the oversight functions for a CIS? 5. Under what circumstances would the Authority have the power to intervene in relation to a CIS? 6. Describe some of the ongoing obligations of a CIS operator. Additional Recommended Reading Autoriti Monetari Brunei Darussalam (2013), Securities Markets Order, 2013 – Part IX Autoriti Monetari Brunei Darussalam (2015), Securities Markets Regulations, 2015 – Part VI Autoriti Monetari Brunei Darussalam (2017), Guideline No. CMU/G-2/2017/2 Guideline on Licensing and Recognition Applications for Collective Investment Schemes Autoriti Monetari Brunei Darussalam (2020), Notice on Outsourcing for Capital Markets Services Licence Holders, Notice No. CMA/N-1/2020/15 Autoriti Monetari Brunei Darussalam (2020), Guideline on Outsourcing for Capital Markets Services Licence Holders, Guideline No. CMU/G-1/2020/8 30