The recent market turmoil has created challenges for funds, including non-listed institutional and private investor property funds.
It has exposed inadequate protections provided by fund structures and the need for greater investor scrutiny.
Investors considering commitments in property funds are increasingly risk averse.
They are now imposing heavier obligations on managers, resulting in the following trends.
Tax and regulatory flight to safety
Funds have been operating within a globalised competitive network, ‘jurisdiction shopping’ for tax efficiency and regulatory flexibility.
Investors will have a greater focus on tax risks, such as transfer pricing, management and control, recognising that tax leakage on returns can be significant.
In contrast to regulated retail funds, institutional and private investor property funds are often described as ‘unregulated’ – a misnomer because an element of regulation applies to these funds.
There will be greater investor preference for the UK and other regulatory regimes that demand stricter compliance requirements.
Greater corporate governance
Investors invariably represent pension funds and other stakeholders that will expect the investors to monitor or exercise control over the key decision making of a fund. There are certain principles that the fund should apply, which were summarised in integrated guidelines launched last year by the European Association for Investors in Non-listed Real Estate Vehicles, and include:
- Fund management with due skill, care, diligence and integrity and adequate levels of financial, operational and human resources.
- Accountability as well as transparency. Fund information should be clear, fair, complete and timely. Transparency includes identifying fund-level and property-specific expenses, as well as explaining side letters and similar investor agreements.
- Funds run in the interests of investors, and any conflicts of interest managed fairly.
- Non-public information about funds and investors’ interests in funds treated confidentially.
NAV and unit-pricing clarity
Property funds experience a continuing conundrum, compared with other asset classes: their underlying investments are relatively – and, during the recent turmoil, actually – illiquid, yet valuations assume a theoretical sale of those investments.
Property valuations, known as net asset value (NAV), drive fund performance, and management fees are often linked to NAV.
NAV is also invariably used for pricing fund units.
Managers need to explain the basis on which they calculate NAV and use NAV in pricing units.
As the market hopefully stabilises and property yields become more attractive, investors may consider property fund commitments and support their entrepreneurial managers. However, for many, commitments will only be formalised once they are satisfied with investor protections within the fund structure itself.
This article appeared in Property Week on 23rd January 2009
