AUTH App 2
Meaning of open-ended investment company
AUTH App 2.1
Application and Purpose
- 01/12/2004
Application
AUTH App 2.1.1
See Notes
This appendix applies to persons who need to know
whether a body corporate is
an open-ended investment
company as defined in section 236 of the Act (Open-ended investment companies). This
would mean that it is a collective
investment scheme.
- 01/10/2002
Purpose
AUTH App 2.1.2
See Notes
The purpose of this guidance is to outline the circumstances
in which a body corporate will
be an open-ended investment
company and, in so doing, to:
(1) give an overview of the definition (see AUTH App 2.3 (The definition)) and
describe its three main elements:
(a) an open-ended
investment company must be a collective investment scheme (see AUTH App 2.4 (Collective investment
scheme (section 235 of the Act)));
(b) it must satisfy the 'property' condition
in section 236(2) of the Act (see AUTH App 2.5 (The property condition
(section 236(2) of the Act))); and
(c) it must satisfy the 'investment' condition
in section 236(3) of the Act (see AUTH App 2.6 (The investment condition
(section 236(3) of the Act): general) to AUTH App 2.9 (The
investment condition: the 'satisfaction test' (section 236(3)(b) of the Act)));
and
(2) outline the implications for a body corporate if it does,
or does not, fall within the definition of an open-ended investment company (see AUTH App 2.10 (Significance of being
an open-ended investment company)).
- 01/10/2002
Effect of guidance
AUTH App 2.1.3
See Notes
This guidance is issued under section 157 of the Act (Guidance). It is designed
to throw light on particular aspects of regulatory requirements, not to be
an exhaustive description of a person's obligations.
If a person acts
in line with the guidance in
the circumstances it contemplates, the FSA will
proceed on the footing that the person has
complied with aspects of the requirement to which the guidance relates. Rights conferred on third
parties cannot be affected by guidance given
by the FSA.
This guidance represents
the FSA's view,
and does not bind the courts. For example, it would not bind the courts in
relation to an action for damages brought by a private person for breach of a rule (see section 150
of the Act (Action
for damages)), or in relation to the enforceability of a contract where there
has been a breach of the general
prohibition on carrying on a regulated activity in the United Kingdom without authorisation (see sections 26 to 29 of the Act (Enforceability of
agreements)). A person may
need to seek his own legal advice. Anyone reading this guidance should refer to the Act and to the various
Orders that are referred to in this guidance.
These should be used to find out the precise scope and effect of any particular
provision referred to in this guidance.
- 01/10/2002
Other guidance that may be relevant
AUTH App 2.1.4
See Notes
The only kind of body corporate of an open-ended kind that
may currently be formed under the law of the United Kingdom is one that is authorised
by the FSA.
A person intending
to form an open-ended body
corporate that has its head office in Great Britain should refer
to the Open-ended Investment Companies Regulations 2001 (SI 2001/1228). Bodies corporate formed
under these Regulations are referred to in the Handbook as investment companies with variable capital (or
'ICVCs'). COLL
2 (Authorised fund applications) and CIS 16 (Application and notification) contains rules and guidance on forming such bodies corporate. The Northern Ireland Assembly
was in September 2002 considering a Bill to enable the establishment of open-ended bodies corporate whose
head office is in Northern Ireland.
- 01/04/2004
AUTH App 2.1.5
See Notes
Open-ended
investment companies constituted in other EEA States which are seeking to exercise
rights conferred by the UCITS
Directive should refer to COLL 9 (Recognised schemes)
and CIS 17 (Recognised Schemes) for guidance on the requirements of section 264
of the Act (Schemes
constituted in other EEA States).
- 01/04/2004
AUTH App 2.1.6
See Notes
Electronic
commerce activities carried on by, or in relation to, any open-ended investment company will
be subject to the provisions of the E-Commerce
Directive. Guidance on
the carrying on of electronic
commerce activities is contained in the E-Commerce Directive
sourcebook (ECO).
- 01/10/2002
AUTH App 2.2
Introduction
- 01/12/2004
AUTH App 2.2.1
See Notes
The nature of many bodies corporate means that they will, in
most if not all circumstances, come within the definition of collective investment scheme in
section 235(1) to (3) of the Act (Collective
investment schemes). The property concerned will generally be managed as a
whole under the control of the directors of the body corporate or some other person for the purpose
of running its business. The idea underlying the investment is that the investors
will participate in or receive profits or income arising from the operation
of the body corporate's business.
- 01/10/2002
AUTH App 2.2.2
See Notes
However, there are a number of exclusions
that apply to prevent certain arrangements from being a collective investment scheme. These are in
the Schedule to the Financial Services and Markets Act 2000 (Collective Investment
Schemes) Order 2001 (SI 2001/1062) (Arrangements not amounting to a collective
investment scheme). The exclusion in paragraph 21 of the Schedule to that
Order is of particular significance for bodies
corporate. It excludes from being a collective investment scheme certain specified bodies corporate (such
as building societies and friendly societies) as
well as any other body
corporate except a limited
liability partnership or an open-ended investment company. This means
that if a body corporate is
an open-ended investment
company it will not be excluded from the definition in section
235(1) to (3) of the Act.
So it will be a collective
investment scheme. Of course, it may be that other exclusions
in the Schedule to the Order are available but this will depend on the circumstances
of a particular body corporate (see AUTH
App 2.4.5 G (Collective investment
scheme (section 235 of the Act))).
- 01/10/2002
AUTH App 2.2.3
See Notes
Certain consequences flow according to
whether or not a body corporate is
an open-ended investment
company. Different requirements apply to the marketing of the
shares or securities issued by a body
corporate which is an open-ended
investment company, compared with one that is not (see AUTH
App 2.10.1 G to AUTH
App 2.10.6 G (Marketing of shares or securities issued
by a body corporate)). In addition, the regulated
activities that require permission may
differ (see AUTH App 2.10.7G to AUTH
App 2.10.10G (Implications for regulated activities)).
- 01/10/2002
AUTH App 2.2.4
See Notes
Guidance on
the application of the definition in particular circumstances is in AUTH App 2.11 (Frequently asked questions)).
- 01/10/2002
AUTH App 2.3
The definition
- 01/12/2004
AUTH App 2.3.1
See Notes
For a body corporate to be an open-ended investment company, as defined
in section 236(1) of the Act:
(1) it must be a collective investment scheme;
(2) it must satisfy the property condition
in section 236(2); and
(3) it must satisfy the investment condition
in section 236(3).
- 01/10/2002
AUTH App 2.3.2
See Notes
Each of these aspects of the definition
is considered in greater detail in AUTH App 2.4 (Collective
investment scheme (section 235 of the Act)) to AUTH App 2.9 (The investment condition: the 'satisfaction
test' (section 236(3)(b) of the Act)). Although the definition has a number
of elements, the FSA considers
that it requires an overall view to be taken of the body corporate. This is of particular importance
in relation to the investment condition (see AUTH
App 2.6.3 G and AUTH
App 2.6.4 G (The investment condition
(section 236(3) of the Act: general))).
- 01/10/2002
AUTH App 2.3.3
See Notes
An open-ended
investment company may be described, in general terms, as a body corporate, most or
all of the shares in, or securities of, which can be realised within a reasonable
period. Realisation will typically involve the redemption or repurchase of
shares in, or securities of, the body
corporate. This realisation must be on the basis of the value
of the property that the body
corporate holds (that is, the net asset value).
- 01/10/2002
AUTH App 2.3.4
See Notes
In the FSA's view,
all of the elements of the definition are clearly objective tests. In applying
the definition to any particular case, a person would
need to have regard to all the circumstances. This includes any changes in
the way that the body corporate operates.
- 01/10/2002
AUTH App 2.3.5
See Notes
The FSA understands
that the aim of the definition in section 236 of the Act is to include any body corporate which, looked at as a whole,
functions as an open-ended investment vehicle. The definition operates against
a background that there is a wide range of different circumstances in which
any particular body corporate can
be established and operated. For example, the definition applies to bodies corporate wherever
they are formed. So, in the application of the definition to different cases,
the law applicable to, and the detailed corporate form of, particular bodies corporate may differ
considerably.
- 01/10/2002
AUTH App 2.3.6
See Notes
For a body corporate formed outside the United Kingdom, there
is an additional issue as to how the applicable corporate law and the definition
of open-ended investment
company in the Act relate
to one another. The FSA understands
this to operate as follows. The term 'body corporate' is defined in section
417(1) of the Act (Interpretation)
as including 'a body corporate constituted under the law of a country or territory
outside the United Kingdom'. So, whether or not any particular overseas person is a body corporate will depend
on the law applicable in the country or territory in which it is constituted.
But if it is a body corporate under
that law, the question whether it is an open-ended
investment company is determined, as a matter of United Kingdom law, by
the definition in section 236 of the Act.
This is regardless of whether or not the body
corporate would be considered to be open-ended under the laws
of the country or territory in which it is constituted.
- 01/10/2002
AUTH App 2.4
Collective investment scheme (section 235 of the Act)
- 01/12/2004
AUTH App 2.4.1
See Notes
The first element of the definition is
that open-ended investment
companies are a corporate form of collective investment scheme. This means
that they must have the features in section 235 of the Act.
- 01/10/2002
AUTH App 2.4.2
See Notes
Section 235(1) states that a collective investment scheme means
any arrangements with respect to property of any description. The purpose
or effect of the arrangements must be to enable the persons taking part in them to participate
in or receive profits or income arising from the acquisition, holding, management
or disposal of the property or sums paid out of such profits or income. The
participants must not have day-to-day control over the management of the property
(section 235(2)) and the arrangements must provide:
(1) for the contributions of the participants
and the profits or income to be pooled (section 235(3)(a)); or
(2) for the property to be managed as a whole
by or on behalf of the operator of the scheme (section 235(3)(b)); or
(3) for both (1) and (2).
- 01/10/2002
AUTH App 2.4.3
See Notes
In the FSA's view, it is the very existence of the body corporate that is
the collective investment
scheme. There are a number of statutory references that support
this view. For example, it is clear that paragraph 21 of the Schedule to the
Financial Services and Markets Act 2000 (Collective Investment Schemes) Order
2001 (SI 2001/1062) (Arrangements not amounting to a collective investment
scheme) is drafted on the basis that it is the body corporate itself that is (or would be)
the collective investment
scheme. This provision states that 'no body corporate' other
than an open-ended investment company, amounts to a 'collective investment
scheme'. So, any particular body
corporate is either an open-ended
investment company or it is not. It cannot be both at the same
time, although it may change from one to the other over time (see AUTH
App 2.7.5 G (The investment condition:
the 'reasonable investor') for further guidance on
this point).
- 01/10/2002
AUTH App 2.4.4
See Notes
Analysing a typical corporate structure
in terms of the definition of a collective
investment scheme, money will be paid to the body corporate in exchange for shares or
securities issued by it. The body
corporate becomes the beneficial owner of that money in exchange
for rights against the legal entity that is the body corporate. The body corporate then has its own duties and
rights that are distinct from those of the holders of its shares or securities.
Such arrangements will, in the FSA's view,
qualify as arrangements of the kind described in AUTH
App 2.4.2 G. The holders of the shares or securities
in the body corporate do
not have day-to-day control over the management of the property (as specified
in section 235(2) of the Act)
and the property is managed as a whole by or on behalf of the body corporate (as specified
in section 235(3) of the Act).
- 01/10/2002
AUTH App 2.4.5
See Notes
Where a body corporate does come within the definition
of a collective investment
scheme in section 235(1) to (3), the only relevant issue is
to determine whether or not it is excluded. As AUTH
App 2.2.2 G (Introduction) explains, the exclusions
are in the Schedule to the Financial Services and Markets Act 2000 (Collective
Investment Schemes) Order 2001 (SI 2001/1062) (Arrangements not amounting
to a collective investment scheme). If a body
corporate satisfies any of the exclusions in paragraphs 1 to
20 of the Schedule to the Order it will not be a collective investment scheme. This means
that it will not then be necessary to consider whether or not it is an open-ended investment company.
In any other case, it will be necessary to consider whether the body corporate is an open-ended investment company to
see whether the exclusion in paragraph 21 of the Schedule to the Order (Bodies
corporate) for bodies corporate other
than open-ended investment
companies and limited
liability partnerships applies.
- 01/10/2002
AUTH App 2.4.6
See Notes
In the FSA's view,
the question of what constitutes a single scheme in line with section 235(4)
of the Act does
not arise in relation to a body
corporate. This is simply because the body corporate is itself a collective investment scheme (and so is a
single scheme). Section 235(4) contemplates a 'separate' pooling of parts
of the property that is subject to the arrangements referred to in section
235(1). But to analyse a body
corporate in this way requires looking through its corporate
personality and ignoring the legal entity that exists separately from the
holders of shares or securities and their rights. As a corporate entity, it
cannot be broken up into component parts in this way. This is so even though
a body corporate may
issue shares or securities of deferred classes or of classes carrying different
rights.
- 01/10/2002
AUTH App 2.5
The property condition (section 236(2) of the Act)
- 01/12/2004
AUTH App 2.5.1
See Notes
If a particular body corporate ('BC') comes within the definition
of a collective investment
scheme, the second element in the definition is whether the
property to which the scheme relates meets the property condition. This condition
is that the property must belong beneficially to, and be managed by or on
behalf of, BC. In addition, BC must have as its purpose the investment of
its funds to:
(1) spread investment risk; and
(2) give its members the benefit of the results
of the management of those funds by or on behalf of BC.
- 01/10/2002
AUTH App 2.5.2
See Notes
The property belonging to BC may be property
of any description, including money. For example, the arrangements may relate
to real estate, works of art or a particular enterprise or rural activity.
It must, of course, be possible to value the property if the requirements
of the investment condition concerned with the link to net asset value are
to be met (see AUTH App 2.9 (The
investment condition: the 'satisfaction test' (section 236(3)(b) of the Act))).
- 01/10/2002
AUTH App 2.5.3
See Notes
The property of the collective investment scheme must belong
beneficially to BC, although the legal title to it may be held by a third
party. However, the holders of shares or securities issued by BC may not have
a beneficial interest in that property. In exchange for their contributions,
they will only have rights against BC.
- 01/10/2002
AUTH App 2.5.4
See Notes
The purpose of BC will need to be determined
bearing in mind its constitutional instruments and any other relevant material:
for example, material in a prospectus or offer document or other promotional
material. The prevailing law may also be relevant.
- 01/10/2002
AUTH App 2.5.5
See Notes
In the FSA's view, the question of whether funds
are invested by BC with the aim of spreading investment risk is not affected
by the levels of risk involved in particular investments. What matters for
these purposes is that the aim is to spread the risk, whatever it may be.
For example, the value of each of BC's investments, if taken separately, might
be subject to a high level of risk. However, this would not itself result
in BC failing to satisfy the property condition as long as it could be said
that the range of different investments demonstrated that the aim was to spread
investment risk.
- 01/10/2002
AUTH App 2.6
The investment condition (section 236(3) of the Act): general
- 01/12/2004
AUTH App 2.6.1
See Notes
If BC comes within the definition of
a collective investment
scheme, the third element in determining whether it is an open-ended investment company is
whether the 'investment condition' is satisfied. This condition is that, in
relation to BC, a reasonable investor would, if he were to participate in
the scheme:
(1) expect that he would be able to realise
his investment in the scheme, within a period appearing to him to be reasonable;
his investment would be represented, at any given time, by the value of the
shares in, or securities of, BC held by him as a participant in the scheme;
and
(2) be satisfied that his investment would
be realised on a basis calculated wholly or mainly by reference to the value
of the property for which the scheme makes arrangements.
- 01/10/2002
AUTH App 2.6.2
See Notes
Under the investment condition, the reasonable
investor is looking to satisfy two criteria. Both of these are fundamental
to his decision to invest. But the thresholds referred to in AUTH App 2.6.1 G (1) and AUTH App 2.6.1 G (2) are different. In the FSA's
view, a person expects
something where he regards it as likely to happen or anticipates that events
will turn out in a particular way. A person is
satisfied of something where he has made up his mind or is persuaded that
it is the case. The first of these criteria is referred to in this guidance as the 'expectation
test' and the second as the 'satisfaction test'.
- 01/10/2002
AUTH App 2.6.3
See Notes
Section 236(3) of the Act states clearly that the investment condition
must be met 'in relation to BC'. In the FSA's view,
this means that the investment condition should not be applied rigidly in
relation to specific events such as particular issues of shares or securities
or in relation to particular points in time. The requirements of the investment
condition must be satisfied in relation to the overall impression of the body corporate itself,
having regard to all the circumstances.
- 01/10/2002
AUTH App 2.6.4
See Notes
In the FSA's view,
and within limits, the investment condition allows for the possibility that
a body corporate that
is an open-ended investment
company may issue shares or securities with different characteristics.
Some shares or securities may clearly satisfy the condition whereas others
may not. The FSA considers
that a reasonable investor contemplating investment in such a body corporate may still
take the view, looking at the body
corporate overall, that the investment condition is satisfied.
In the FSA's view,
a body corporate issuing
a number of different classes of shares or securities on different terms might
be expected to satisfy the investment condition where the overall balance
between those that do and those that do not is strongly in favour of those
that do satisfy the investment condition. The FSA considers that, in any case where there
is a genuine and reasonable doubt as to where the balance between the different
classes lies, it is very likely that the body
corporate would not be an open-ended
investment company. AUTH
App 2.8.8 G (Some
relevant factors in applying the 'expectation test') comments further on this
aspect of the investment condition in the specific context of the 'expectation
test'.
- 01/10/2002
AUTH App 2.6.5
See Notes
Certain matters are to be disregarded
in determining whether the investment condition is satisfied. Section 236(4)
of the Act states
that, for these purposes, no account is to be taken of any actual or potential
redemption or repurchase of shares or securities under:
(1) Chapter VII of Part V of the Companies
Act 1985; or
(2) Chapter VII of Part VI of the Companies
(Northern Ireland) Order 1986; or
(3) corresponding provisions in force in
another EEA State;
or
(4) provisions in force in a country or territory
other than an EEA State which
the Treasury has, by order, designated as corresponding provisions (no orders
have yet been made).
- 01/10/2002
AUTH App 2.6.6
See Notes
The FSA considers
that the reference in AUTH App 2.6.5 G (3) to corresponding provisions in force in another EEA State will include provisions that derive
from the maintenance of capital requirements of the Second Council Directive
on co-ordination of safeguards which, for the protection of the interests
of members and others, are required by Member States of companies (77/91/EEC).
- 01/10/2002
AUTH App 2.6.7
See Notes
The FSA's views
on the following three elements of the investment condition are explained
separately:
(1) the 'reasonable investor' (see AUTH App 2.7 (The investment condition:
the 'reasonable investor'));
(2) the 'expectation' test (see AUTH App 2.8 (The investment condition:
the 'expectation test' (section 236(3)(a) of the Act))); and
(3) the 'satisfaction' test (see AUTH App 2.9 (The investment condition:
the 'satisfaction test' (section 236(3)(b) of the Act)).
- 01/10/2002
AUTH App 2.7
The investment condition: the 'reasonable investor'
- 01/12/2004
AUTH App 2.7.1
See Notes
The investor is specifically a reasonable
investor and not just a reasonable person.
This simply means that the objective standard to be applied is that of the
reasonable investor. In all other respects the test is the same as any other
objective test applying the standards of the reasonable person.
- 01/10/2002
AUTH App 2.7.2
See Notes
The characteristics that a reasonable
investor can be expected to have will inform the use of judgment required
by the 'expectation test' and the 'satisfaction test'. These tests relate
to the investor's ability to realise an investment within a reasonable period
and to do so on the basis of the net value of its assets. In the FSA's view,
the characteristics of the reasonable investor include:
(1) sound judgment based on good sense;
(2) some knowledge of, and possibly experience
in, the field of investment in property of the same kind as that in which
the body corporate is
to invest; and
(3) some knowledge of the characteristic
features of collective investment.
Where investment
in a particular body corporate is
clearly targeted at investors with certain characteristics, the reasonable
investor can be assumed to have those characteristics.- 01/10/2002
AUTH App 2.7.3
See Notes
The reasonable investor is a hypothetical
investor. The implications of this are that the test does not relate to actual
investment by a particular person at
a particular time or in relation to a particular issue of any class of shares
or securities. In the FSA's view,
what underlies the test is what a reasonable investor would think he was getting
into if he were contemplating investment in a particular body corporate. In addition, because the
investor is hypothetical, the investment condition is capable of operating
on a rolling basis over time.
- 01/10/2002
AUTH App 2.7.4
See Notes
In practice, the assessment of the nature
of a particular body corporate will
have to be made by applying the definition whenever an authorised person proposes to communicate an invitation
or inducement to others for them to participate in the body corporate by buying shares or securities
issued by it.
- 01/10/2002
AUTH App 2.7.5
See Notes
After an initial assessment, however,
the FSA's view
is that subsequent applications of the investment condition could produce
a different result, but only if there is a change to the constitution or practice
of the body corporate which
is significant and sustained. For example, this may happen if there is a change
in the body corporate's published
intentions or regular practices. As the Economic Secretary to the Treasury
said in parliamentary debate when commenting on the definition, "It is a test
that can be applied from time to time to allow for the possibility that a
closed-ended company can become open-ended and vice versa, on account of significant
changes to the way in which the operation of the company and its constitution
are structured and which push the company over the boundary between the two
types". (Hansard HC, 5 June 2000 Col 123).
- 01/10/2002
AUTH App 2.7.6
See Notes
Section 236(3) uses the words "the investor
would, if he were to participate in the scheme". This is consistent with the
fact that the reasonable investor is hypothetical. But applying the test at
this early stage makes it clear that there must be objectively justifiable
grounds on which the reasonable investor could base the expectation in section
236(3)(a). And on which he could be satisfied on the matters in section 236(3)(b).
In the FSA's view,
this requires, for example, that there must be something in the nature of
the body corporate or
the law applicable to it to give rise to the required expectation or on which
to satisfy the investor. The established practice of the body corporate may also provide the necessary
grounds.
- 01/10/2002
AUTH App 2.8
The investment condition : the 'expectation test' (section 236(3)(a) of the Act)
- 01/12/2004
AUTH App 2.8.1
See Notes
The test in section 236(3)(a) of the Act is whether the reasonable
investor would expect that, were he to invest, he would be in a position to
realise his investment within a period appearing to him to be reasonable.
In the FSA's view,
this is an objective test with the appropriate objective judgment to be applied
being that of the hypothetical reasonable investor with qualities such as
those mentioned in AUTH
App 2.7.2 G (The
investment condition: the 'reasonable investor').
- 01/10/2002
'Realisation' of investment
AUTH App 2.8.2
See Notes
In the FSA's view, the 'realisation' of an investment
means converting an asset into cash or money. The FSA does not consider that 'in specie' redemptions
(in the sense of exchanging shares or securities of BC with other shares or
securities) will generally count as realisation. Section 236(3)(a) refers
to the realisation of an investment, the investment being represented by the
'value' of shares or securities held in BC. In the FSA's view, there is no realisation of value
where shares or securities are simply replaced by other shares or securities.
However, an 'in specie' redemption might, in limited circumstances, satisfy
the expectation test. This is where shares or securities are exchanged for
other shares or securities in the same body
corporate and those replacement shares or securities can be
converted into cash or money within a period which, for both transactions
taken together, can be said to be 'reasonable'. This involves looking through
the series of transactions and considering whether their overall effect would
satisfy the expectation test.
- 01/10/2002
AUTH App 2.8.3
See Notes
The most typical means of realising BC's
shares or securities will be by their being redeemed or repurchased, whether
by BC or otherwise. There are, of course, other ways in which a realisation
may occur. However, the FSA considers
that these will often not satisfy all the elements of the definition of an open-ended investment company considered
together. For example, the mere fact that shares or securities may be realised
on a market will not meet the requirements of the 'satisfaction test' for
the reasons given in AUTH
App 2.9.4 G to AUTH
App 2.9.6 G (Effect of realisation
on a market).
- 01/10/2002
AUTH App 2.8.4
See Notes
An investor in a body corporate may be able to realise part,
but not all, of his investment. The FSA considers
that the fact that partial realisations may take place at different times
does not prevent the body
corporate coming within the definition of an open-ended investment company. But, in any
particular case, the 'expectation test' will only be met if the overall period
for realising the whole of the investment can be considered to be reasonable.
Apart from this, the simple fact that an investor has the opportunity to realise
part of his investment at pre-determined times would not itself make a body corporate open-ended.
- 01/10/2002
Illustrations of 'expectation'
AUTH App 2.8.5
See Notes
The use of an expectation test ensures
that the definition of an open-ended
investment company is not limited to a situation where a holder
of shares in, or securities of, a body
corporate has an entitlement or an option to realise his investment.
It is enough if, on the facts of any particular case, the reasonable investor
would expect that he would be able to realise the investment. The following
are examples of circumstances in which the FSA considers that a reasonable investor
may have such an expectation:
(1) where a body corporate, in practice, regularly redeems
or repurchases its shares or securities;
(2) where a body corporate has a declared policy of redeeming
or repurchasing its shares or securities; even if it is possible for the body corporate to change
its policy, the FSA takes
the view that the body
corporate is open-ended unless and until it does so. In such
cases it would, however, be necessary for the change of policy to be documented
and for there to be a public statement or other public evidence of the change;
(3) where a body corporate makes a public announcement
that it will redeem or repurchase its shares or securities on a number of
pre-arranged occasions that are identified at the time of the announcement.
The issue here is whether there is a demonstrable intention to redeem or repurchase
the whole of a person's investment.
If there is, then a body
corporate may be an open-ended
investment company even before it has carried out any actual
redemption or repurchase. This is provided that the redemption or repurchase
can take place within a reasonable period. In contrast, a body corporate that simply offers the possibility
that it may, at some stage, decide to offer redemption, or partial redemption,
at certain specified times would not, in the FSA's view, give rise to the expectation
required by section 236(3)(a).
- 01/10/2002
AUTH App 2.8.6
See Notes
However, a reasonable investor's expectation
of being able to realise his investment is not displaced simply because, in
certain circumstances, no active steps need to be taken to realise the investment.
This might happen where a redemption or repurchase of shares or securities
may become compulsory as a result of some aspect of the applicable law.
- 01/10/2002
Some relevant factors in applying the 'expectation test'
AUTH App 2.8.7
See Notes
In the FSA's view, the fact that a person may invest in the
period shortly before a redemption date would not cause a body corporate, that would not otherwise
be regarded as such, to be open-ended. This is because the investment condition
must be applied in relation to BC as a whole (see AUTH
App 2.6.3 G (The investment condition (section 236(3)
of the Act): general).
- 01/10/2002
AUTH App 2.8.8
See Notes
Similarly, if BC issues shares or securities
on different terms as to the period within which they are to be redeemed or
repurchased (see AUTH
App 2.6.4 G (The
investment condition (section 236(3) of the Act): general), BC must be considered
as a whole. Whether or not the expectation test is satisfied in relation to
a particular body corporate is
bound to involve taking account of the terms on which its shares or securities,
or classes of shares or securities, are issued. But this is only one of a
number of factors to be taken into account. It is subject to any indications
there may be in the other relevant factors (such as those in AUTH
App 2.8.9 G).
- 01/10/2002
AUTH App 2.8.9
See Notes
As indicated in AUTH
App 2.3.5 G(G) (The definition), the potential for variation
in the form and operation of a body
corporate is considerable. So, it is only possible in general guidance to give examples
of the factors that the FSA considers
may affect any particular judgment. These should be read bearing in mind any
specific points considered elsewhere in the guidance. Such factors include:
(1) the terms of the body corporate's constitution;
(2) the applicable law;
(3) any public representations that have
been made by or on behalf of the body
corporate;
(4) the actual behaviour of the body corporate or of a person acting on its behalf
in relation to investors seeking to realise their investment in it;
(5) whether investors in the body corporate are in
a position to take advantage of fluctuations in property value in the particular
market in which the body
corporate invests;
(6) the existence of a guarantee, which may
mean that a longer period may appear reasonable than would be the case without
the guarantee;
(7) where the underlying property in which
the body corporate invests
is relatively illiquid; in this case, the period within which realisation
of an investment may be regarded as reasonable may be longer than it would
be for property which has greater liquidity;
(8) the levels of disclosure of the terms
on which investment is made;
(9) the nature of the investment objectives
or policy of the body corporate;
and
(10) the appropriateness of the name of the body corporate.
- 01/10/2002
AUTH App 2.9
The investment condition : the 'satisfaction test' (section 236(3)(b) of the Act)
- 01/12/2004
AUTH App 2.9.1
See Notes
The test in section 236(3)(b) of the Act is whether the reasonable
investor would, before he makes a decision to invest, be satisfied that the
value of his investment would be realised on a basis calculated wholly or
mainly by reference to the value of the property belonging to BC.
- 01/10/2002
AUTH App 2.9.2
See Notes
In the FSA's view, this means that the reasonable
investor must be satisfied that what he will get when he realises his investment
is his proportionate share in the value of BC's underlying assets, less any
dealing costs. In other words, that he is satisfied he will get net asset
value. The investment condition focuses on the way the body corporate operates over time, and not
by reference to particular issues of shares or securities (see AUTH
App 2.6.3 G (The investment condition (section 236(3)
of the Act): general)). This means that this part of the investment condition
looks to the general method used to calculate the value of the investment.
- 01/10/2002
AUTH App 2.9.3
See Notes
For the 'satisfaction test' to be met,
there must be objectively justifiable grounds on which the reasonable investor
could form a view. He must be satisfied that the value of BC's property will
be the basis of a calculation used for the whole, or substantially the whole,
of his investment. The FSA considers
that the circumstances, or combination of circumstances, in which a reasonable
investor would be in a position to form this view include:
(1) where the basis of net asset valuation
is stated in constitutional documents of BC;
(2) where there is a separate agreement or
arrangement made outside BC's constitution under which a person other than BC undertakes:
(a) to redeem or repurchase any shares or
securities issued by BC; or
(b) to take steps to ensure that the market
value of the shares or securities reflects the value of BC' s property (see AUTH
App 2.9.4 G (Effect of realisation
on a market)); and
(3) where an undertaking to intervene in
the market to support the price of the shares or securities at net asset value
has been made publicly known by BC or by another person (see AUTH
App 2.9.4 G (Effect
of realisation on a market)).
- 01/10/2002
Effect of realisation on a market
AUTH App 2.9.4
See Notes
AUTH App 2.9.3 G (2) and AUTH App 2.9.3 G (3) refer to circumstances where the reasonable investor may be satisfied
that he can realise his investment at net asset value because of arrangements
made to ensure that the shares or securities trade at net asset value on a
market. There may, for example, be cases of market dealing where the price
of shares or securities will not depend on the market. An example is where
BC or a third party undertakes to ensure that the market value reflects the
value of BC's property. This includes taking steps such as intervening in
the market. In this case, it seems to the FSA that such an undertaking will constitute
the necessary objective grounds on which an investor can be satisfied as to
the basis on which the value of his investment will be realised. Unless arrangements
of this kind exist, the FSA considers
that the satisfaction test will not be met if the primary means for realising
any investment in BC is on a market.
- 01/10/2002
AUTH App 2.9.5
See Notes
However, where there is a market, the FSA does not consider
that the test in section 236(3)(b) would be met if the price the investor
receives for his investment is wholly dependent on the market rather than
specifically on net asset value. In the FSA's view,
typical market pricing mechanisms introduce too many uncertainties to be able
to form a basis for calculating the value of an investment (linked to net
asset value) of the kind contemplated by the satisfaction test. As a result,
the FSA takes
the view that, subject to AUTH
App 2.9.4 G,
market dealings or facilities relating to the shares in, or securities of,
BC will generally not be relevant in assessing whether or not BC comes within
the definition of an open-ended
investment company.
- 01/10/2002
AUTH App 2.9.6
See Notes
The fact that the definition must be
applied to BC as a whole (see AUTH
App 2.6.3 G (The
investment condition (section 236(3) of the Act): general)) is also relevant
here. So, for example, in a take-over situation the fact that a bidder may
be willing to provide an exit route for an investment at net asset value will
be irrelevant within the context of the definition. This is so even if an
investor invests in particular shares or securities in the knowledge or expectation
or in anticipation of such an offer being made. In the FSA's opinion,
this is not a typical situation and does not affect the nature of BC as a
whole or the manner in which it functions characteristically.
- 01/10/2002
'Wholly or mainly'
AUTH App 2.9.7
See Notes
The expression 'wholly or mainly' in
section 236(3)(b) determines the extent of the permissible departure from
the link between the price of BC's shares or securities and the value of its
net assets. The word 'mainly' introduces some flexibility to the process to
allow for limited account to be taken of factors other than the value of BC's
assets that may result in the sum realised failing to reflect the true net
asset value. Such factors may include:
(1) the payment by the investor of charges;
or
(2) the payment by the investor of an early
redemption penalty; or
(3) a discount on a repayment or repurchase
of the shares or securities to reflect the payment by or on behalf of BC of
the charges required to fund payment from a source other than BC's assets;
for example, this might be a loan that is to be repaid from BC's assets once
they are available.
- 01/10/2002
AUTH App 2.10
Significance of being an open-ended investment company
- 01/12/2004
Marketing of shares or securities issued by body corporate
AUTH App 2.10.1
See Notes
A number of controls apply under the Act to the promotion of shares or securities that
are issued by any body
corporate. These controls differ according to whether the person making the promotion
is an unauthorised person (see AUTH
App 2.10.2 G) or an authorised person (see AUTH
App 2.10.3 G to AUTH
App 2.10.6 G). In addition, where a body corporate is not an open-ended investment company:
(1) the requirements of the Public Offers
of Securities Regulations 1995 will apply if its securities are
offered to the public in the United
Kingdom; and
- 01/10/2002
AUTH App 2.10.2
See Notes
The controls under the Act that apply to promotions of shares or securities by unauthorised persons are
in section 21 of the Act (Restrictions
on financial promotion). These controls apply where an unauthorised person makes a financial promotion in,
or from, the United Kingdom that
relates to the shares in
or securities of any body corporate. The same controls apply regardless
of whether the shares or securities being
promoted are issued by a body
corporate that is an open-ended
investment company or one that is not. There are a number of
exemptions from the restriction in section 21 of the Act. These are explained in AUTH App 1 (Financial promotion and related activities).
- 01/10/2002
AUTH App 2.10.3
See Notes
Promotions made by authorised persons in the United Kingdom are generally subject to
the controls in COB 3 (Financial Promotion).
However, in the case of shares in, or securities of, a body corporate which is an open-ended investment company, additional
controls are imposed by Chapter II of Part XVII of the Act (Restrictions on promotion of collective
investment schemes) (see AUTH App 1.20).
Section 238 of the Act (Restrictions
on promotion) prevents an authorised person communicating any
invitation or inducement to buy shares or securities issued by an open-ended investment company.
Section 240 of the Act (Restriction on approval of promotion) prevents an authorised
person approving a financial
promotion to be communicated by
an unauthorised person.
This is if the authorised
person would not be able to promote the share or security himself.
- 01/10/2002
AUTH App 2.10.4
See Notes
The restrictions mentioned in AUTH
App 2.10.3 G are subject to a
number of exemptions. For example, the controls in sections 238 and 240 do
not apply to financial
promotions about certain kinds of collective investment scheme. These are:
(1)
open-ended
investment companies formed in Great Britain and authorised
by the FSA under
the Open-ended Investment Companies Regulations 2001;
(2)
authorised
unit trust schemes; and
(3)
collective
investment schemes that are recognised schemes (see COLL
9 (Recognised schemes) and CIS 17 (Recognised schemes)).
The position
with respect to the promotion by authorised
persons of open-ended
investment companies formed in Northern Ireland will be considered
as part of the implementing process for the relevant Northern Ireland legislation
(see AUTH
App 2.1.4 G (Other guidance that
may be relevant)).- 01/04/2004
AUTH App 2.10.5
See Notes
There are a number of other exemptions
in the Financial Services and Markets Act 2000 (Promotion of Collective Investment
Schemes) (Exemptions) Order 2001 (SI 2001/1060). In general terms, these exemptions
are equivalent to the exemptions from section 21 of the Act that apply to units. There is guidance on those exemptions in AUTH App 1.20.3 G (Additional restriction on the promotion
of collective investment schemes).
- 01/10/2002
AUTH App 2.10.6
See Notes
The FSA has
also made rules under
section 238(5) which allow authorised
persons to communicate or approve a financial promotion for
an open-ended investment
company that is an unregulated
collective investment scheme (that is, one that does not fall
within AUTH
App 2.10.4 G). The circumstances
in which such a communication or approval is
allowed are explained in COB 3 Annex 5 (which
is introduced by COB 3.11).
- 01/10/2002
Implications for regulated activities
AUTH App 2.10.7
See Notes
In the Regulated Activities Order, shares in or
securities of an open-ended
investment company are treated differently from shares in other bodies corporate. They
are treated as units in
a collective investment
scheme under article 81 of the Regulated Activities Order (Units in a collective
investment scheme) rather than shares under
article 76 (Shares etc).
- 01/10/2002
AUTH App 2.10.8
See Notes
A person who
carries on in the United
Kingdom the business of engaging in any regulated activity that relates to units or shares will need to be
an authorised person (see AUTH
2.7 and AUTH
2.8 (Authorisation
and regulated activities).
- 01/10/2002
AUTH App 2.10.9
See Notes
In order to be authorised, a person must have permission to carry on the regulated activities in question. What the permission needs to cover
may differ according to whether the regulated
activity being carried on relates to units or shares. So, for example, a body corporate that is
an open-ended investment
company will need permission if
it carries on the regulated
activity of dealing
as principal or agent, arranging (bringing
about) or making arrangements with a view to
transactions in its own shares or securities in the United Kingdom. This
applies also to a body
corporate that is not an open-ended
investment company except that it will not need permission to issue or
arrange for the issue of its own shares or securities.
- 01/10/2002
AUTH App 2.10.10
See Notes
A person carrying
on the regulated activity of establishing, operating or winding up a collective investment scheme that
is constituted by an open-ended
investment company will need permission for those activities. In line
with section 237(2) of the Act (Other
definitions), the operator of
a collective investment
scheme that is an open-ended
investment company is the company itself.
But where the open-ended
investment company is incorporated outside the United Kingdom, it will
only require permission if
its operation takes place in the United
Kingdom.
- 01/10/2002
AUTH App 2.11
Frequently Asked Questions
- 01/12/2004
AUTH App 2.11.1
See Notes
| There are some frequently asked questions about the application of the definition of an open-ended investment company in the following table. This table belongs to AUTH App 2.2.4 G (Introduction). | ||
| Question | Answer | |
| 1 | Can a body corporate be both open-ended and closed-ended at the same time? | In the FSA's view, the answer to this question is 'no'. The fact that the investment condition is applied to BC (rather than to particular shares in, or securities of, BC) means that a body corporate is either an open-ended investment company as defined in section 236 of the Act or it is not. Where BC is an open-ended investment company, all of its securities would be treated as units of a collective investment scheme for the purpose of the Act. A body corporate formed in another jurisdiction may, however, be regarded as open-ended under the laws of that jurisdiction but not come within the definition of an open-ended investment company in section 236 (and vice versa). |
| 2 | Can an open-ended investment company become closed-ended (or a closed-ended body become open-ended)? | In the FSA's view, the answer to this question is 'yes'. A body corporate may change from open-ended to closed-ended (and vice versa) if, taking an overall view, circumstances change so that a hypothetical reasonable investor would consider that the investment condition is no longer met (or vice versa). This might happen where, for example, an open-ended investment company stops its policy of redeeming shares or securities at regular intervals (so removing the expectation that a reasonable investor would be able to realise his investment within a period appearing to him to be reasonable). See also AUTH App 2.7.5G. |
| 3 | Does the liquidation of a body corporate affect the assessment of whether or not the body is an open-ended investment company? | The FSA considers that the possibility that a body corporate that would otherwise be regarded as closed-ended may be wound up has no effect at all on the nature of the body corporate before the winding up. The fact that, on a winding up, the shares or securities of any investor in the body corporate may be converted into cash or money on the winding up (and so 'realised') would not, in the FSA's view, affect the outcome of applying the expectation test to the body corporate when looked at as a whole. The answer to Question 4 explains that investment in a closed-ended fixed term company shortly before its winding up does not, in the FSA's view, change the closed-ended nature of the company. For companies with no fixed term, the theoretical possibility of a winding up at some uncertain future point is not, in the FSA's view, a matter that would generally carry weight with a reasonable investor in assessing whether he could expect to be able to realise his investment within a reasonable period. |
| 4 | Does a fixed term closed-ended investment company become an open-ended investment company simply because the fixed term will expire? | In the FSA's view, the answer to this is 'no'. The termination of the body corporate is an event that has always been contemplated (and it will appear in the company's constitution). Even as the date of the expiry of the fixed term approaches, there is nothing about the body corporate itself that changes so as to cause a fundamental reassessment of its nature as something other than closed-ended. Addressing this very point in parliamentary debate, the Economic Secretary to the Treasury stated that the "aim and effect [of the definition] is to cover companies that look, to a reasonable investor, like open-ended investment companies". The Minister added that "A reasonable investor's overall expectations of potential investment in a company when its status with respect to the definition is being judged will determine whether it meets the definition. The matter is therefore, definitional rather than one of proximity to liquidation". (Hansard HC, 5 June 2000 col 124). |
| 5 | In what circumstances will a body corporate that issues a mixture of redeemable and non-redeemable shares or securities be an open-ended investment company? | In the FSA's view, the existence of non-redeemable shares or securities will not, of itself, rule out the possibility of a body corporate falling within the definition of an open-ended investment company. All the relevant circumstances will need to be considered (see AUTH App 2.6.4, AUTH App 2.8.8G and AUTH App 2.8.9G). So the following points need to be taken into account.(1) The precise terms of the issue of all the shares or securities will be relevant to the question whether the investment condition is met, as will any arrangements that may exist to allow the investor to realise his investment by other means.(2) The proportions of the different share classes will be relevant to the impression the reasonable investor forms of the body corporate. A body corporate that issues only a minimal amount of redeemable shares or securities will not, in the FSA view, be an open-ended investment company. A body corporate that issues a minimal amount of non-redeemable shares or securities will be likely to be an open-ended investment company. A body corporate that falls within the definition of an open-ended investment company is likely to have (and to be marketed as having) mainly redeemable shares or securities. However, whether or not the body corporate does fall within the definition in any particular case will be subject to any contrary indications there may be in its constitutional documents or otherwise. (3) Where shares or securities are only redeemable after the end of a stated period, this factor will make it more likely that the body corporate is open-ended than if the shares or securities are never redeemable. |
| 6 | Does "realised on a basis calculated wholly or mainly by reference to..." in section 236(3)(b) apply to an investor buying investment trust company shares traded on a recognised investment exchange because of usual market practice that the shares trade at a discount to asset value? | In the FSA's view, the answer is 'no' (for the reasons set out in AUTH App 2.9.4G to AUTH App 2.9.6G). |
| 7 | Does the practice of UK investment trust companies buying back shares result in them becoming open-ended investment companies? | In the FSA's view, it does not, because its actions will comply with company law: see section 236(4) of the Act and AUTH App 2.6.5 G. |
| 8 | Would a body corporate holding out redemption or repurchase of its shares or securities every six months be an open-ended investment company? | In the FSA's view a period of six months would generally be too long to be a reasonable period for a liquid securities fund. A shorter period affording more scope for an investor to take advantage of any profits caused by fluctuations in the market would be more likely to be a reasonable period for the purpose of the realisation of the investment (in the context of the 'expectation' test, see AUTH App 2.8 and, in particular, AUTH App 2.8.9G which sets out the kind of factors that may need to be considered in applying the test). |
| 9 | Would an initial period during which it is not possible to realise investment in a body corporate mean that the body corporate could not satisfy the investment condition? | In the FSA's view, the answer to that question is 'no'. In applying the investment condition, the body corporate must be considered as a whole (see AUTH App 2.6.3G). At the time that the shares or securities in a body corporate are issued, a reasonable investor may expect that he will be able to realise his investment within a reasonable period notwithstanding that there will first be a short-term delay before he can do so. Whether or not the 'expectation test' is satisfied will depend on all the circumstances (see AUTH App 2.8.9G). |
- 01/10/2002