ESMA’s supervisory briefing on supervisory expectations in relation to firms using tied agents in the MiFID II framework will be interesting, if not important, reading for UK investment managers looking to access EU investors. ESMA’s briefing sets out its supervisory expectations of firms using tied agents and should serve as a useful, if not alarming guide for UK managers. In October 2021, we wrote about how firms’ post-Brexit marketing models are under regulatory threat. ESMA’s briefing indicates that it is Brexit that has driven ESMA’s scrutiny of tied agent arrangements to check whether third country firms’ interaction with EU-based clients is done in a way that is compliant with MiFIR and MiFID II, especially their third country provisions. The result of ESMA’s findings is a “no”, with some firms' practices when using tied agents described as “a potential source of circumvention of the MiFID II framework.”
For UK asset managers and investment firms, ESMA’s specific reference to the interaction between tied agents with third country entities, e.g. the EU based tied agent with links to a UK manager, are eye-catching. In clear terms, ESMA takes aim at tied agents without sufficient substance in the EU who mainly rely on resources based outside of the EU. Its expectation that member state national competent authorities scrutinise and require firms appointing tied agents to scrutinise the tied agents’ dependencies with third country entities may, in some cases, require UK managers to rethink their approach to marketing and distribution in the EU, one of the more burning regulatory issues since Brexit.
Some background: a tied agent arrangement permits a firm “A” to perform regulated services by becoming the “tied agent” of an authorised investment firm thereby relieving “A” of the need to be authorised. Alongside other provisions governing tied agents, Article 29(2) of MiFID II is important in setting out the responsibilities of the authorised investment firm. It makes it clear that when a firm decides to appoint a tied agent it remains fully and unconditionally responsible for the tied agent’s acts or omissions when acting on behalf of the firm and requires the firm to monitor the activities of their tied agents to ensure that they continue to comply with MiFID II. Article 34 of MiFID II also highlights one of the prime advantages of a tied agent arrangement: the right of a tied agent established in one member state to provide services in other member states – the so-called “tied agent passport”.
The supervisory briefing sets out detailed commentary on supervisory expectations when firms appoint tied agents and on the use of tied agents in the firm’s ongoing activities. Much of the commentary is expected and includes guidance on:
- the need for a proper assessment of tied agents and proper arrangements for monitoring;
- the need for the tied agent to have sufficient expertise and resources;
- expectations on levels of the tied agent’s business;
- the robustness of contractual arrangements between the firm and the tied agent; and
- the effectiveness of the monitoring processes which the firm has in place.
For UK and other third country managers, ESMA’s views specific views on a tied agent’s and appointing firm’s interaction with third countries are noteworthy.
- Member state authorities will need to be satisfied that firms can properly asses the activities of tied agents with close links with other entities, including non-EU entities, that could “exercise inappropriate influence” over a tied agent that could prevent the firm from effectively monitoring the activities of their tied agent (e.g. cases in which the tied agent is a legal person and is owned or controlled or has close links to a third-country entity that is itself involved in activities concerning manufacturing or distribution of financial instruments).
- In assessing whether a tied agent has sufficient people to offer the services, an appointing firm should assess the place from which a tied agent’s employees or contractors are made available to the tied agent how they are monitored. ESMA would expect an appointing firm not to hold that a tied agent does not have sufficient people to offer its services if the tied agent has “no sufficient substance in the EU or if a tied agent mainly relies on resources based outside the EU”.
- ESMA unpacks the “sufficient substance” principle by directing member state authorities to scrutinise carefully the cases in which firms have a business model that mainly consists of (and their remuneration mainly comes from) appointing tied agents which are legal persons with close links to other entities, especially to third-country entities.
- It reinforces this direction by saying that a firm should not appoint a tied agent whose employees involved in the provision of the activities on behalf of the firm (e.g. sale staff) are also at the disposal or under the control of other entities, including third-country entities. ESMA’s view is that these entities could exercise inappropriate influence over the way in which a tied agent carries out its activities or prevent the appointing firm from effectively monitoring the activities of the tied agent (e.g. cases in which the tied agent is a legal person and is owned or controlled or has close links with a third-country entity that is itself involved in activities concerning manufacturing or distribution of financial instruments).
- ESMA specifically draws out arrangements with another entity such as staff sharing agreements or secondment saying that it believes that allowing a tied agent to use mainly the resources of another entity, especially a third-country entity, constitutes a serious impediment to the firm’s compliance with its MiFID II duties, specifically the duty to monitor tied agents. The upshot of this is ESMA’s expectation that “tied agents have sufficient substance in the EU and do not mainly rely on resources based outside of the EU in the provision of activities on behalf of the appointing firm”.