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The Great British Break-Off

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Considerations for Financial Services firms seeking to establish a presence in Europe post Brexit

As uncertainty prevails as to whether UK asset managers can continue to sell funds in Europe after the UK leaves the European Union in March 2019, some UK asset management firms are already preparing to relocate part of their operation to Europe or are at least looking into the requirements. Under guidelines issued by ESMA, it is becoming clearer what needs to be done in establishing a firm in Europe to continue to access EU financial markets after the UK withdraws from the EU.

As overseer of European jurisdiction in financial services, ESMA has published details of the requirements that determine how firms seeking to establish a presence in Europe will be governed from the host country. A key ingredient in obtaining acceptance by authorities of any plans to relocate is that there be sufficient 'substance' to the firm's activity in the European host country; this will determine the acceptance criteria for the operating model proposed for the relocated firm.


What constitutes substance?

In its capacity to ensure a consistent supervisory approach to safeguarding investors, the European Securities and Markets Authority (ESMA) has established the Supervisory Coordination Network - a forum to allow national competent authorities (NCAs) to report on and discuss cases of relocating UK market participants. A key principle in its guidance document (1) on the relocation of entities to continue to gain access EU financial markets post Brexit is that NCAs should ensure that substance requirements are met; these comprise, inter alia, internal control functions, IT control infrastructure, risk assessment, compliance functions, key management functions and sector-specific functions.


ESMA has outlined that there is to be no automatic recognition of existing authorisations by EU27 NCAs, and that authorisations granted should be rigorous and efficient.

Establishing permanent local resources

For any financial services firm planning on relocating part or all of their operation to an EU27 country to secure access to EU financial markets post Brexit, a key factor in gaining acceptance by the host authorities is to present a rigorous business plan that clearly sets out the timing of when the firm was established. The business plan must also specify what facilities are to be provided in the host country and demonstrate operational links back to the UK parent firm, as well as interaction with local regulators.

When weighing up the constituents for substance approval, the item that demands the most attention is where the key resources are to be located; these should be based in the relocated office as permanent local resources. The process for recruiting such roles in the host country should also be included in the business plan. It is worth noting that any merging of roles or duties may make it more difficult to find suitable candidates who can fulfil the attributes of required roles.

Finding the right blend of skilled resources can present a difficult challenge for any firm. As the financial services industry increases its focus on risk and compliance, skilled resources who can fulfil specialist roles may not be so easy to source. Firms who have suitable cover in place in the host country will facilitate decision-making by authorities when determining whether to accept a firm's plans to relocate.

The extent to which resources will be required to manage funds, distribution, oversight, compliance and risk should not be underestimated. The business plan will need to clarify what resources are being deployed in establishing a fully-fledged firm to operate funds from Europe; this goes beyond any shortcuts such as 'letter box' entities.

Outsourced activity will need to be managed from the EU host country

Any delegated activities such as register, transfer agency, fund administration and custody will need to reside in the host country, administered by parties recognised by the local regulator in which the funds are registered. Oversight of delegated activities must also reside in the same country, so that there can be a clear understanding of the regulatory needs of the jurisdiction and how those regulations should be applied.

The services provided from the host country may be part of a wider global relationship with the UK firm; however, the host firm must still be able to demonstrate that it can execute the agreements and manage ongoing relationships for the outsourced activity.

The Depositary role has similar oversight responsibility; this should also be sourced locally to enable ease of access and understanding of outsourced activities performed in the host country.

Weighing up different jurisdictions

One of the major challenges facing asset managers in preparation for the UK leaving the EU is likely to be where to locate their fund management operation. When choosing a European hub in which to relocate, the most likely candidates to consider are Luxembourg and Dublin; both are established fund administration centres with access to all providers and able to provide facilities for establishing a firm with the correct amount of substance. This does however challenge an already over-stretched market.

The result of saturation in established financial centres such as Luxembourg and Dublin may be that alternatives grow their status and offer incentives to establish firms under their own regulator. While there is no material indication of this happening so far, other EU financial centres such as Frankfurt, Amsterdam, Paris and Brussels may well ramp up to attract companies looking to establish a presence in Europe.

Infrastructure will need to support increasing demand for services

Luxembourg has invested in additional transportation links with the launch of the LuxTram in December 2017; this signals a move to attract firms from wider areas and for businesses to relocate. The LuxTram should relieve pressure on a gridlocked road network and ease travel between business districts. Further links from the airport to the Cloche d'Or business district are targeted for development by 2021. Firms with offices near a LuxTram stop are likely to command a premium, being able to offer greater mobility for business and employees. An expanding skyline of construction cranes is evidence of Luxembourg's commitment to expanding its fund administration centre to attract more firms.

Weighing up operational risk

Firms looking to adapt their operating model to set up in Europe face permanent constraints such as the need to drive down cost yet maintain quality of services; this is in addition to assessing operational risks and impact on functional processes. When considering relocating to countries such as Luxembourg (see below) or Switzerland, particular consideration needs to be given to the governance requirements under the local jurisdiction.

Assessment of UCIs under Luxembourg legislation

In Luxemburg, the CSSF has implemented Circular 02/81(2), an audit report that focuses on the organisation of a firm's annual accounting assessment of undertakings for collective investments (UCIs). It covers:

  • operational procedures on functions performed locally
  • the IT-systems utilised and how supported
  • reconciliation of cash accounts and assets
  • the relationship with the parent management company and how it is governed
  • oversight of intermediaries and what evidence is provided, including suitable due diligence prior to agreement execution
  • controls for the application of anti-money laundering rules
  • valuation methods and how the customer is kept informed
  • method used for the publication of NAV
  • external audit of the risk management system
  • financial reporting of assets and liabilities as well as profit and loss account
  • specific fund audits or themed visits from regulators

Switzerland's regulator FINMA have issued Circular 18/3 - Outsourcing banks and insurers (4), which contains statements on expected levels of oversight, record keeping and ongoing assessment of the risks of outsourcing.

Oversight of operational and distribution functions

In recent years, the CSSF has maintained autonomy in authorising the level of substance required of firms seeking to relocate. Increasingly, ESMA is adopting greater risk oversight of operational and distribution functions, with greater emphasis being placed on ensuring adequate resource levels are maintained to mitigate risk of firms undercooking their operating model.

The regulator's call for more efficient supervision of UCITS and demand for robust investor protection warrants extra attention. This responsibility extends beyond the management company to functions delegated to other intermediaries. It should be expected that the level of oversight promoted following the "Dear CEO letter" (3) by the FCA in December 2012 be accomplished by firms when demonstrating oversight of service providers.

Although intermediates are required to have an entity located in the Member State, processes will be subject to the offshoring model for these operations in the UK. Oversight of outsourced services thus become more critical as it extends to 'centres of excellence', which provide multiple services from a single location to all firms within a particular country. In centralising outsourced activities, greater reliance is placed on a global model. However, this is widely accepted as necessary in offering practical and cost-efficient services for the financial services industry; it is also accepted by regulators concerned that sufficient oversight takes place within the jurisdiction for a significant part of the year. That said, any outsourced activity will remain the risk of the firm.


The UK asset management industry supports 1% of Growth Domestic Product (GDP) in the UK. As a major contributor to the financial strength of the UK, it can be expected that every effort will be made to protect the domestic asset management sector.


Despite the FCA issuing a paper promoting support for UK asset management, there is some speculation from European quarters and in particular from Paris, that asset management firms seeking to sell funds in Europe post March 2019 should be based in the location in which the funds are registered. While this might be considered a European-centric view in which European firms may be looking to take a slice of the fund investment market away from the UK, the UK has in the region of £8 trillion assets under management, with millions of customers globally; that would present a greater risk were such speculation to gain credence beyond 'French fancy'.

While support from the FCA is welcomed by UK asset managers, the crux is that ESMA will have the final say on equivalency and what can be passported throughout Europe.

As firms attempt to plan for every eventuality before the UK leaves the EU, UK asset managers continue to maintain a watching brief on how funds may be traded in Europe post March 2019. With ESMA increasing its oversight of firms seeking to relocate to EU member states, a degree of optimism prevails that more specific details will be revealed sooner than later. Whether the UK will see an exodus of asset management firms relocating to Europe as the Brexit deadline approaches remains to be seen.


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