ILA & PwC Fund Day "Second session"

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ILA & PwC Annual Fund Day 2022 - Second Session 

The second half of the ILA & PwC Annual Fund Day 2022 had to be held online on 8th March due to Covid, following the first section also held virtually on 18th January. Andrea Montresori, Partner, PwC Luxembourg was in the chair, and he began by introducing ILA chair Carine Feipel, whose main message related to director’s responsibilities in the wake of Russia’s invasion of Ukraine. While expressing the institutes shock and sadness at events, she welcomed action taken by members who are working to mitigate the crisis. 

Carine also drew attention to the message from the European Confederation of Directors’ Associations, calling on members to “reassess the mandates that they have. Notably of Russian and Belarusian companies, and to think about the way we do business in our companies, the investment strategies, the counterparties we have.” Regarding funds, she noted the concerns about liquidity, valuations and redemptions, as well as the heightened risk of cyber attacks. She said ILA would be organising events in the near future to help members adapt.

ESG challenges and opportunities facing fund boards

This is a significant year as the funds industry embraces the ESG revolution, not just the taxonomy and SFDR, but related amendments to MiFID and UCITS. “These may have some profound implications in areas such as risk management, operations and indeed fund strategy and product design,” commented Andrew McDowell, partner with PwC Luxembourg who chaired a panel on this topic.

“There is a pervasive misconception,” noted Nathalie Dogniez, also a partner with PwC. “SFDR is a disclosure regulation, it is a transparency regulation, not about fund classification.” Denise Voss, a fund director and chairwoman of ESG labelling agency LuxFLAG agreed. “SFDR is a baseline, whereas a label actually provides clarity to investors about what the fund is doing,” she said, noting that LuxFLAG’s work is about actively testing the portfolio against the ESG criteria a fund discloses in its prospectus and policies. 

Nathalie pointed to a couple of areas of greenwashing risk related to annual report publication. “Making claims that are not necessarily backed up by article eight or article nine processes of disclosure, and secondly, publishing data that may not be as rigorous and as accurate as board members think it is,” she said.

She warned that funds with no explicit ESG goal can think they can declare themselves as coming under article 6 of the SFDR but then still report freely on individual actions of ESG compliance. “This is terribly risky, because SFDR requires that as soon as you start promoting environmental and social characteristics, transparency should be in alignment with SFDR rules,” she said.

As for data, care should be taken “as many of these are estimates based on peer reviews. The risk to you as a director, is that these figures would be reported with their importance inflated,” she said. Michael Maldener, CEO, Sustaide, an ESG consultancy to businesses, suggested that investors want to see tangible information about action, such as “how is corporate strategy integrated into these products?”

Natalie forecast that it wouldn’t be until 2025 or 2026 before reliable centralised databases will be in place. In the meantime, caution is needed. “Data vendors are not magicians, they themselves are struggling to get this data from companies or from public sources,” she said. Process and systems need to be in place to manage this uncertainty.

“Don't underestimate how complex this topic is, and we all need to take advantage of opportunities to learn about sustainable finance,” said Denise. As a starting point, she advised ensuring everyone understands the basic terminology “as otherwise it's very difficult to have a meaningful, useful conversation.” For example, terms such as impact investing and ESG integration need to be clear for all. 

Distributors also need to be closely involved in this conversation, the panel advised. “Until now the industry has focused on financial metrics, but with ESG it becomes much more complex, it becomes much more qualitative,” Michael noted. This is all the more so as ESG considerations are being integrated into the up-coming revision of MiFID.

Related to this, Nathalie highlighted the debates around the European ESG template which is helping to exchange information between product manufacturers and distributors. Care still has to be taken, and there are questions of responsibility regarding what data can be channelled through this process. Should this just feature information that is reflected in a prospectus, or could it go further?

Impact of ESG on real estate fund strategy

The implications of “green” investing in the real estate sector were explored in a conversation between Keith Burman and Duncan Owen (CEO of Immobel Capital Partners ), both specialists in this area and non-executive directors. “There’s been a change when investing in real assets, from trying to avoid doing harm and having minimum safeguards, towards the desire to quickly contributing positively towards sustainability,” Duncan said. He characterised many earlier actions as being largely driven by presentational, marketing concerns, but now substantial ESG contributions are being sought by investors, managers and occupiers.

However with this swift change can come unintended consequences. “People have begun to sell assets that they think are “brown”, or where it’s not economically viable for them to reach the right certification criteria, while seeking to buy top-rated new buildings” Duncan noted. The problem being that, on average, the carbon embodied in a new construction is the equivalent to 50 years use of an existing building. “There is often more of a positive sustainability impact by improving the energy performance of existing properties than in building new properties,” he said, “but the current focus on certification needs to evolve to support this”

That said, he sees a way forward, with good value to be had as some buildings are being written down and sold off increasingly quickly. “This churn could end up with the wrong sorts of absentee owners, or alternatively investors could step in with enough capital to actually improve their environmental standing,” Duncan added, “ if they receive appropriate recognition for such efforts”.

Asked how boards can help drive change, Duncan said he sees “a very close correlation between incentives and achievement. Give people the right environmental and social objectives and reward them if they are met.” He also recommended that boards take a generally supportive, if critical role. “There is a lot said about the need to challenge executives, but actually, during rapid periods of change, the emphasis could be more on being constructive and offering support,” he said. 

Duncan also recommended treating occupiers more like customers, working with them to deliver their environmental and social goals. “You're most likely then to get both economic success, as well as success on the environmental and social criteria you're aiming for.” 

As for investors, Duncan is finding that sustainability criteria have risen in some markets from being a top ten concern to being all of the top three now. There’s increased attention paid to building infrastructure, materials used and the rest. “This does not necessarily imply a compromise on financial returns in many markets,” he said, particularly in northern Europe and regions like California in North America.

1-  Duncan is the Chief Executive Officer at Immobel Capital Partners. ICP is a co-investing manager of specialist strategies in the Office and Residential sectors with a focus on ESG matters and making a positive impact on sustainable cities for people

Cloud regulations: what directors should know

By the middle of this decade nearly every organisation is likely to have cloud-first principles, said Florian Bewig, a managing director at PwC Luxembourg. Infrastructure, platforms and software are increasingly being accessed on a need-only basis from the cloud. This features basic IT tools, HR management, CRM and more, but increasingly key tech infrastructure such as core banking systems.

Florian cited the main reasons for this growth. Costs are controlled by moving from capital expenditure to operating expenses, with no need to have an in-house data centre. Invoicing is easy, with users only paying for what they need, and this is a scalable service, growing with need. Plus is often optimal security investment as the costs of protection for multiple users are mutualised. 

There are risks too, of course. This is an outsourcing arrangement which could potentially go wrong. There is also the risk that the data centre and your links to this could be hacked. “Perform due diligence on this cloud service provider, make a risk assessment, and a solid contract needs to be in place with defined KPIs, with this KPI management being monitored,” Florian said.

Cloud computing rules in Luxembourg began with CSSF circular 17/654, amended in 2019. “The next big step we are waiting for is transposition of guidelines published by the European Banking Authority in 2019 on the topic of outsourcing arrangements, and that circular is supposed to arrive anytime now,” Florian added. This would be applicable to all regulated entities in Luxembourg, and would cover all types of outsourcing, including the cloud. 

“We understand that any new outsourcing arrangement that you will enter into after 31st May will have to comply with the requirements of this new circular,” he said. “With regards to your existing outsourcing arrangements, for which you also need to ensure an alignment with these requirements, that deadline is generally foreseen for the end of this year,” he added. 

Florian said organisers should expect the regulator to use on-site inspections in the future, and this also with entities which are currently not regulated. This would relate to how firms manage financial data, but also personal information is treated.

Cyber attacks: prepare for the worst

The conference was told that they should expect the unexpected when a cyber attack hits their organisation. “Knowing what to do by the book is one thing, but having the experience and living it from the inside is completely different,” said Edith Magyarics, a managing director with PwC Luxembourg. 

She highlighted how this challenge requires teamwork across the organisation, but that even the best plans and certifications can fail to match reality that needs to be lived through. “I can guarantee that your cyber defences will fail at some point. So, obviously, the more work you do upfront, the more preparation you do, the less the impact there will be. So be prepared for the worst,” recommended Simon Petitjean a senior manager at PwC Luxembourg

Central to this is ensuring that back-up procedures are solid, and that your teams have frequent, practical experience of testing how systems and data can be restored. Similarly, relationships with third parties need to be monitored and these links tested frequently. 

Instilling the correct mindset with staff is also key. Often this is a question of reminding them that security procedures are about ensuring that their working environment is resilient, not, as some might believe, about making it harder to do their day-to-day work.

When an attack strikes, the main focus should be on preventing data leaks as systems are restored to working order as soon as possible. As well, openness to the outside world was also strongly recommended. “If you try to hide a breach, you can be sure that eventually this information will leak, and this would do long term harm to trust relationships with providers and clients,” said Simon. 

Regulators, the police, clients, service providers, local cyber protection agencies and service providers all have to be contacted. Edith reminded the conference to keep these contact details in a place that would not be vulnerable to the attack. As well, non-altered records of all investigations need to be taken to prove that all required measures have been taken, both to maintain records and to recover the pre-event situation.  

Directors at a distance: dealing with new ways of working

In-person meetings are starting to return, but probably not to the full extent as pre-pandemic. “For short meetings, these could remain virtual, maybe for dealing with a specific agenda topic or to finish off an area debated off-line,” said Arnold Spruit a non-executive director speaking as part of a panel on board & director organisation and meetings post-pandemic. “Large, longer meetings, especially those with complicated topics that require a lot of discussion, they're moving back to being in-person,” he said. 

While the panel agreed that directors have become more skilled at using virtual meetings and that the technology has improved, the last two years have proved that there is something lacking online. Moreover “company law says that boards must operate in a collegiate fashion, and this means having debate and interaction by coming together to reach a common decision,” added Monique Bachner, also a non-executive director.

Of course, there is the substance angle of ensuring that key decisions are taken in Luxembourg. “The OECD allowed some flexibility cross-border during the COVID period, but eventually we're going to come back to normal with people having to travel to Luxembourg,” said Linda Funck, a partner with Elvinger Hoss Prussen. 

The panel also reminded the audience that meetings are required to build and maintain personal relationships, particularly when integrating new members into a team. They also discussed the basic rules of board meetings which can be more challenging when held virtually. These include ensuring that people get a chance to speak and that group decisions have been understood by all. There was consensus that having video links improves the experience, and that participants should be discouraged from turning off their cameras during discussions. Also, board members should take extra care to engage, as attending from a remote environment can be more distracting than attending in person.

Linda also reminded the audience about the need for directors to ensure confidentiality is maintained. As well as the meeting itself needing to remain private, with only approved guests being present, there should also be secure and limited distribution and storage of board packs and other materials. She also gave some hints of what will feature in an up-coming paper from the ILA Legal Committee regarding e-signatures. She touched on the different advantages and potential pitfalls of the different types of e-signature, the use of which has flourished during the pandemic. 

Regarding the carbon emissions incurred by holding face-to-face meetings, the panel suggested directors should be encouraged to use trains and share car journeys. Holding multiple meetings during a single trip is also an alternative, as are carbon offsets.