Offers to a wholesale audience – FMA steps in

In recent weeks the FMA’s concern about wholesale investment vehicles have crystallised into the issue of an ‘interim stop order regarding an offer in relation to a fund (imaginatively named ‘The One in Longhorn Partnership Fund’) that was established apparently as the conduit funding vehicle for a property development in South Auckland.

In keeping with a number of similar funding vehicles, the promoter of the offer was seeking capital for the development via a dogleg route – rather than directly into the development itself.  That is, investors were being offered interests in a limited partnership in return for a “guaranteed” pre-tax return.

The offer was structured to take advantage of one of the hard-wired exceptions to the FMC Act disclosure regime – by being restricted to ‘wholesale’ investors.  As well as limiting the level of disclosure, a wholesale offer avoids the need for licensing and supervision (as a managed investment scheme) – and content requirements for its governing documents.

The FMA’s reasons for issuing the interim stop order as being desirable in the public interest noted that:

“The FMA considers that making this Order is desirable in the public interest as significant financial harm to investors could result from investing in units of the Fund in reliance on restricted communications that may be false or misleading, or likely to mislead or confuse in respect of the returns payable to investors and the level of risks in the investment, being material particulars. “

There are a series of technical and macroeconomic reasons why the market is experiencing an uptick in such ‘wholesale’ offers.  In addition to the usual suspects of seeking to reduce the compliance burden and cost associated with raising development capital, the low interest rate environment, coupled with constraints (real or otherwise) on access to bank funding for some property development and working capital expansion has made the (relatively) unregulated sector an attractive destination for a growing spread of businesses both old and new. 

Nonetheless, it is important to be reminded access to a wholesale market is not a free lunch and even the hard-wired exclusions from the FMC Act disclosure regime come with some compliance obligations, particularly at the front end in terms of:

• health warnings for would-be investors;
• conduct requirements – under the general heading of ‘fair dealing’ – particularly those aimed at preventing or penalising misleading or deceptive conduct.

I doubt that Longhorn will be the last example of the FMA stepping in.  And the next steps taken by the FMA will be worth watching.  But the reported nature of Longhorn’s advertising would suggest that its promoters did a lot to make sure that they came to the attention of the authorities. 

The FMA has a new CEO, Samantha Barras, whose first public outing has signalled new priorities for the FMA.  To date, she said that the FMA will be focused on issues of investor vulnerability and outcomes – and the conduct of participants in the financial sector.  This, she has said, quite clearly includes the wholesale market (which she described as being on the edge of the FMA’s regulatory remit).  Clearly, the FMA wants to understand who is investing in the wholesale market and the level of risk for investors.  This includes seeking to understand to people who are, actually, retail investors are accessing wholesale markets (and thereby exposing themselves to risk).

As always, there is no substitute for good advice in the capital markets matters.  Just because the development next door was able to tap into a wholesale audience does not necessarily mean that an entire slew of development can be funded in the same manner.  With issues such as the Reserve Bank’s recently disclosed warnings about debt serviceability risks, the prospect that decisions and advice are revisited after a failure, rather than being intercepted ahead of investment by the FMA issuing a stop order, mean that anyone seeking to raise capital in the wholesale market should take then time and effort to ensure that they do qualify.  And any temptation to indulge in bait advertising that might attract would-be investors who are not able to make properly informed investment decisions without a much higher level of mandated disclosure and protection mechanisms should be strenuously resisted.

For more information about offers to a wholesale audience – please contact me.