The market for open-end and closed-end ordinary or alternative funds—Undertakings for Collective Investment in Transferable Securities (UCITS) and Alternative Investment Funds (AIFs)—has significantly grown in the US and, later, in Europe since the 1990s. One notable development in this market has been the offer of various classes of shares or units providing the investors with different rights. This practice, however, raises the issue of fair treatment of all unit- or shareholders. In the paper ‘Share Classes in Investment Funds and Fair Treatment of All Investors’, I discuss this issue and provide arguments in favour of preferential treatment in specific circumstances.
After reviewing the US and EU debate on share classes or preferential treatments in investment funds, the article focuses on the case—emerged in the Italian practice—of reserved AIFs issuing Class A and Class B shares, where Class A are granted preferential rights in the form of non-exposure to risk of losses (seniority privilege) and/or of a guaranteed minimum interest related to the nominal value of contributions (minimum interest privilege). In more detail, the seniority privilege implies that, if the net asset value (NAV) of the fund at T1 is lower than at T0, this will only impact on Class B shares aggregate value. Thanks to the minimum interest privilege, if the fund at T1 has yielded no returns (or a return lower than the minimum interest), the aggregate value of Class A shares will nevertheless increase by an amount equal to the minimum interest (eg 10% of the value of the contributions to the fund). In either case, the aggregate value of Class B shares is correspondingly reduced.
The paper analyses such preferential rights under the ‘non-contagion’ principle, according to which features specific to one share class shall not have a potentially adverse impact on other share classes of the same fund. According to ESMA (as well as IOSCO), such a principle is an expression of the broader fairness standard.
Applying the framework developed in earlier work of mine on equal treatment of shareholders, the paper argues that preferential treatment shall be permitted as long as it has the effect of increasing the overall welfare of the relevant fund’s investors: preferential treatment resulting in a wealth shift from one investor or class to another run against the ‘non-contagion’ principle and are therefore unfair. It follows that the two privileges are contrary to the non-contagion principle and hence, under Italian law, void (as contrasting with a mandatory provision of EU law).
Nicola de Luca is Associate Professor of Business Law at Università degli Studi della Campania - Luigi Vanvitelli, Faculty of Law and Adjunct Professor of European Business Law at LUISS Guido Carli University, Faculty of Law.