Dematerialised mutual fund sales agreements - ISSA

1 Dematerialised mutual fund sales agreements Initial industry briefing and request for comment Issue 01, revision 01 06 January 2009 Part of a collaborative project by: BlackRock BNP Paribas Brown Brothers Harriman DWS Franklin Templeton fund -F JPMorgan Schroders UBS Dematerialised mutual fund sales agreements , initial industry briefing, issue 01, revision 01, 06 January 2009 Page 2 Important This document is intended only to be used as a preliminary briefing paper. It should be treated as a work-in-progress. It might contain errors and it is subject to change without notice. It is the joint work of the companies named above but they have not yet endorsed it. This project is not presently aligned to any official institution or industry association.

2 This document is limited to certain legal and operational aspects of mutual fund sales agreements . It does not exhaustively address the question of how dematerialisation could be achieved. For example, it does not contain a model for the ownership and governance of the design and it does not explain in detail how the design might be implemented. It also does not consider the commercial and operational benefits of dematerialisation in functions such as fund order routing and commission calculation, reporting and payment. The authors have developed some ideas about these issues and will describe them in the next phase of their work. Please note that the aim of this project is not to restrict the commercial freedom with which companies sell mutual funds.

3 Its aim is to improve the commercialisation of mutual funds by developing a common legal foundation and an adaptable technical framework that is capable of supporting a wide variety of business models. It aims to make the process of selling mutual funds more efficient for all parties involved. This is an open project, which welcomes wide industry participation from promoters, distributors, fund buyers and industry associations. Dematerialised mutual fund sales agreements , initial industry briefing, issue 01, revision 01, 06 January 2009 Page 3 Contents Part 1: Introduction Part 2: Draft master fund sales agreement Part 3: Synoptic chart for commercial terms Part 4: Syntax for commercial terms Part 5: Standard rebate formula Part 6: Detailed specification for commercial terms Part 7: Model appointment document (pro-forma term sheet) Preface This paper is the product of a collaborative project involving BlackRock, BNP Paribas Securities Services, Brown Brothers Harriman, DWS, Franklin Templeton Investments, fund -F, JPMorgan Asset Management, Schroder Investment Management and UBS AG.

4 The project's objective is to make it easier for companies to create sales agreements for mutual funds. In preparation for the next phase of work, the project has invited the following organisations to participate: Association of the Luxembourg fund Industry, Ikano fund Management, International Securities Services Association, Kneip, RBC Dexia Investor Services and SWIFT. Other participants would be welcome. Further information For further information on this document please contact: Noel Fessey, Schroders Luxembourg 2008, 2009 Dematerialised mutual fund sales agreements , initial industry briefing, issue 01, revision 01, 06 January 2009 Page 4 Part 1: Introduction Abstract mutual fund sales agreements and the associated commissions processing activities are some of the least standardised and automated aspects of the world-wide fund industry.

5 It's a commonly-held view that there is little possibility for improvement. This paper argues otherwise, and shows how the development of open standards could be achieved with no loss of flexibility or competitive potential. Current practice In today's mutual fund industry, fund sales agreements are very often customised documents. They are individually written by lawyers using word-processors, printed onto paper and signed with ink by each party. When firms talk about "standardisation" as a means to avoid the expense and delay of the customised process, they invariably mean using their own standard form of an agreement . That is clearly not equivalent to an industry standard, as every firm of significant size, whether on the sell-side or the buy-side, has developed its own "standard" fund sales agreement .

6 The first step to contracting most agreements is therefore a "battle of forms", in which the parties involved decide whose preferred form they will use as the basis for their agreement and how much modification will be necessary to make it acceptable to both sides. This is essentially a zero-sum effort: each party reviews / negotiates the other's agreement (s) to ensure that the other's preferred form is acceptable to it. However, this rarely achieves more than ensure that the agreement is reasonable from the perspective of both parties and that it conforms to some basic legal principles, which are commonplace in the mutual fund industry throughout the world. Figure 1: current practice paper, ink, expense and delay PromoterLawyerCommissions payableAgentLawyerCommissions receivablePromoter salesmanAgent( distributor)AgreementAgreements slow to contract, expensive, non-standard ( battle of forms ), difficult to store, track & maintain.

7 Process misuses scarce lawyers and paralegals, adds no value2 agreements made quickly in principle1 Little STP in commission calculation, notification & payment between counterparts; many non-standard processes between each party and sometimes hundreds of counterparties4 Internal communication manual, expensive, prone to error and omission3 PromoterLawyerPromoterLawyerCommissions payableAgentLawyerAgentLawyerCommissions receivablePromoter salesmanAgent( distributor)AgreementAgreements slow to contract, expensive, non-standard ( battle of forms ), difficult to store, track & maintain. Process misuses scarce lawyers and paralegals, adds no value2 agreements slow to contract, expensive, non-standard ( battle of forms ), difficult to store, track & maintain.

8 Process misuses scarce lawyers and paralegals, adds no value2 agreements made quickly in principle1 agreements made quickly in principle1 Little STP in commission calculation, notification & payment between counterparts; many non-standard processes between each party and sometimes hundreds of counterparties4 Little STP in commission calculation, notification & payment between counterparts; many non-standard processes between each party and sometimes hundreds of counterparties4 Internal communication manual, expensive, prone to error and omission3 Internal communication manual, expensive, prone to error and omission3 This practice presents the fund industry with several problems (see also Figure 1 above): Expense fund sales agreements are expensive to implement because they need lawyers or paralegals to Dematerialised mutual fund sales agreements , initial industry briefing, issue 01, revision 01, 06 January 2009 Page 5 draft them and each amendment must be explained, considered and debated, often in writing between the parties, before it is accepted.

9 For what are often not much more than a collection of commonplace legal principles committed to paper, such agreements are poor value for money, and firms should be able to contract a satisfactory agreement at a much lower cost. Misuse of legal resource There is a shortage of legal skills within the mutual fund industry and time spent on fund sales agreements cannot be spent on higher value professional work, such as the design of new products. Constraint on growth There are limits to the legal resources that firms can employ on fund sales agreements , which constrain their ability to build and maintain distribution networks. Consequently, distribution networks are smaller than they otherwise could be and are not easily maintained as the promoter develops its product range (in fact, few distribution networks are maintained as actively as they ought to be).

10 In effect, neither the promoter nor the distributor can realise the full economic potential of the distribution network. Poor communication Precedent agreements do not always ensure or enable the complete and accurate transfer of information between sales representatives, lawyers, commission calculation agents, transfer agents and other service providers. This means that the terms of business provided for in the finished agreement might only be an approximation of what the sales representatives agreed and, notwithstanding any omission or transcription error that might arise as the agreement is implemented in the back office, often contain insufficient information for the commission calculation agent and transfer agent to allow for clear interpretation and implementation of the agreement .