Direct Action
Ben Blackett-Ord
03-Feb-08
How does MiFID affect Business Angel Networks? Ben Blackett-Ord of Bovell – an FSA regulatory agency – explains.
MiFID, or more correctly the Markets in Financial Instruments Directive, took eff ect in the UK on 1st November last year. MiFID is the latest part of the EU’s Financial Services Action Plan and takes the measures set out in the Investment Services Directive (which it replaces) a number of stages further.
MiFID, aims to do a number of things. Firstly, it extends the scope of services, activities and financial instruments that are subject to a pan European regulatory system, in some instances this has meant a widening of activities caught by the financial services regulatory regime in the UK. It extends the ‘passporting’ measures introduced by the ISD in line with the wider range of services and activities caught and, for the first time, allows appointed representatives of ‘MiFID firms’ to provide services in other member states on a passported basis.
MiFID has resulted in a fairly significant re-writing of the rules by the FSA. The purpose of this was not only to implement specific requirements of MiFID but also, where the opportunity arose, to simplify the rule book in line with the FSA’s move to more principles based regulation. The net result has been simplification in some areas and increased complexity in others. The principle reasons for the increase in complexity in some areas has been the FSA’s desire not to ‘gold plate’ MiFID, with the result that some of the new requirements only apply to ‘MiFID business’. Determining what is and what is not MiFID business is not always straightforward.
In order for a financial services firm to fall within MiFID it must undertake MiFID activities or services in respect of MiFID investment types.
Business angel networks operating without the need for FSA authorisation
As mentioned above MiFID extends the range of regulated activities in the UK by introducing a new specified activity of operating a Multilateral Trading Facility (‘MTF’) and also by extending the range of derivatives caught by regulation. Whilst these extensions of scope will bring a number of firms within the regulatory umbrella for the first time they are unlikely to impact Business Angel Networks that currently operate without requiring FSA authorisation.
Business angel networks operating without FSA authorisation are either not undertaking regulated activities by way of business or are an appointed representative of an FSA authorised firm (the principal). MiFID allows such appointed representatives (know as Tied Agents in MiFID parlance) to operate on a cross border basis on the back of their principal’s FSA authorisation.
Business angel networks that do not undertake regulated activities requiring FSA authorisation are, nonetheless, quite likely to be communicating financial promotions. Broadly speaking a financial promotion is an invitation or inducement to enter into investment activities. Firms that communicate financial promotions need to be authorised by the FSA but there are a wide range of exemptions available and some of these are specifically aimed at business angels. (See articles 48, 50 and 50a of the FPO).
MiFID has no eff ect on the way in which unauthorised firms can use the exemptions set in the Financial Promotions Order. Indeed, in some circumstances, they could find themselves at an advantage to authorised firms who may find that the exemptions available in respect of promotions to business angels are restricted.
The principle issue for Business Angel Networks that are authorised by the FSA to consider is whether or not their activities are caught by MiFID. There are three main implications of this. The first is that firms subject to MiFID are also subject to the Capital Requirements Directive (‘CRD’) and this may lead to an increase in regulatory capital; secondly, firms that undertake MiFID business must follow the FSA’s MiFID-imposed conduct of business requirements; and thirdly, MiFID firms undertaking MiFID activities are not able to use the exemptions set out in the Financial Promotion Order.
How do I know if my firm is a MiFID firm or whether my activities are MiFID activities?
In essence, a MiFID firm is one that undertakes MiFID activities (see Figure 1 above). However, there is some scope under the Article 3 Exemption for firms that undertake a limited range of MiFID activities to fall outside MiFID.
Under Article 3 of MiFID Member States have the option of disapplying MiFID to firms that do not hold client money or securities and that can only undertake the MiFID activities of providing advice and receiving and transmitting orders in securities and units in collective investment undertakings. However, in order to be able to fall outside MiFID, such transmission of orders must be only to the following types of entity:
- Investment firms that are subject to MiFID.
- Credit institutions.
- Branches of the above.
- Collective investment undertakings authorised to market units to the public and the managers (operators) of such entities.
- Certain types of investment company with fixed capital.
When determining whether they are subject to MiFID, firms also need to consider their marketing activities, and specifically whether a communication that they make is part of a MiFID service.
This is not always straightforward, and the following points should be considered:
- Communicating a financial promotion is not of itself an investment service, but if a firm communicates a promotion, the firm will be doing MiFID business if it is preparatory to the provision of an investment service or activity and would be considered an integral part of that service or activity. In that case the client categorisation regime and financial promotion rules applicable to MiFID business will apply in relation to the promotion.
- Approving a financial promotion to be communicated by another person is not a MiFID activity.
- Communicating a financial promotion to a person who is not a ‘client’ (as defined by the rules) is not a MiFID activity.
Implications of being a MiFID or a non-MiFID firm
Non-MiFID firms are not able to transmit orders to other non-MiFID firms or entities. This means that a non-MiFID business angel network is not able to receive an order relating to an investment in an unlisted company and transmit such an order to the company concerned, as such an activity would be MiFID business. Depending on your business model, this may eff ectively preclude you from taking advantage of the Article 3 Exemption.
Where a promotion is being made as part of a MiFID service, for example where the promotion is accompanied by the provision of advice, or where the promotion envisages that the promoter will also receive and transmit orders, MiFID firms cannot use the exemptions set out in FPO. The reason for this is that the FSA is not able to opt out of the financial promotion requirements which are imposed by MiFID. The effect is that where the promotion is being made as part of a MiFID service, firms must comply with the promotion content requirements set out in the FSA’s COBS rules.
MiFID firms are also subject to the CRD and therefore typically are subject to a higher capital requirement than non-MiFID firms.
A Business Angel Network whose MiFID activities are limited to the provision of advice and the receiving and transmitting of orders will be an Exempt CAD Firm with a capital requirements of €50,000, a prescribed level of Professional Indemnity Insurance, or a combination of the two.
Business Angel Networks that are MiFID firms will have to meet the MiFID-derived Conduct of Business rules which in some instances are more onerous than their non- MiFID equivalents. For example, stricter criteria that must be met by a retail client to be ‘opted up’ to elective professional client status.
The subject of MiFID as it applies to Business Angel Networks is complex. Firms need to consider whether their current activities bring them within MiFID’s scope, whether they wish to take advantage of the Article 3 Exemption, and the resulting implications. Their MiFID status may trigger a requirement for firms to submit a Variation of Permission to the FSA.
Ben is a director of Bovill, an FSA regulatory consultancy.
Bovill Limited, 82 Blackfriars Road, London SE1 8HA
Tel: +44 (0)20 7620 8440
