C. Mandatory Delegation

This covers the situation where the unit trust deed directs the appointment of agents or delegates in certain circumstances and the trustee or the manager is given no discretion. In some offshore unit trusts, the appointment of a custodian or investment adviser in certain markets or abroad may be made mandatory by the trust deed. Sometimes, an investment adviser’s contract may have been entered into prior to units being offered to the public. Thus, a property manager may have been appointed for a property trust. It is also very common for advisers to be appointed for futures and options funds, country funds, and trusts of specialized sectors.

It is obvious that this so-called delegation is an indirect way of splitting the conventional trustees’ responsibilities. In some sense, this is also a further sharing of the manager’s responsibilities. As in other situations the trustee’s duties are measured in terms of both selection and supervision of the agent. If the trustee is given no discretion in the appointment, as where a direction is laid down in the unit trust deed, there is no reason why the trustee will have liability in such matters.

FundsIt seems that provisions that purport to give mandatory directions to the trustee will be construed strictly by the courts. The cases on directions to trustees334 demonstrate that the court jealously guards the discretion of the trustee. One implication of this is that in matters where the trustee is considered to retain a discretion, it will incur liability for its wrongful exercise or non-exercise. For example, a unit trust deed may direct the trustee to appoint a custodian in shares traded in particular overseas stock markets. Under this provision, whenever the trustee buys shares in those overseas markets, it must engage an overseas custodian. It cannot direct the overseas broker to arrange for the securities documents to be registered in its name. However, this provision will not be construed as denying the trustee the power to choose a custodian. If it has a discretion to choose a custodian, it will remain liable for selecting someone not qualified to act as a custodian.335

D. Secret Delegation

Units in unit trusts are securities per se. Thus, if so authorized by the unit trust constitution,337 the manager may direct the trustee to invest in units of another unit trust. As an extreme example, if the manager directs the trustee to use all the unitholders’ money to acquire units of another unit trust with same or similar investment objectives, the manager does not have to make any investment decision, which it is under an obligation to make. In effect, the manager secretly delegates all investment decisions to the manager of the unit trust in which it has directed the trustee to invest.

The end result is that the manager receives the agreed management fees without having to make any decision. In fact, this form of malpractice is sometimes used to earn ‘double’ fees by investing in unit trusts managed by the same manager or its associates as the manager will also receive management charges in the unit trusts to be invested. Of course, such malpractice will not take this extreme form but will be disguised by investing in a number of different unit trusts or other collective investment schemes. For an authorized unit trust, this form of inflating the management charges by cross-investment in group schemes is not possible. Regulation 5.15 requires the scheme to be invested to state that its investment will be restricted to a particular geographic area or economic sector and the constitution of the investing scheme and scheme particulars to state that the property of the investing scheme may include such units. The manager is also required to pay back to the investing scheme all manager’s charges of the scheme to be invested.338 While this regulation protects unitholders of the investing scheme in financial terms, it does not prevent the managers of group schemes from boosting their fund sizes by cross-investment. This may be done under the motive of protecting the group’s goodwill where for some reason a particular fund is under- invested.

It is submitted that the propriety of this form of ‘secret delegation‘ is not a question of interpretation of the power of delegation. It is a question of fiduciary duty in the exercise of investment powers. If the investment in unit trusts is within the express terms of an investment clause, the question is whether there is a breach of fiduciary duty of care and duty of loyalty since the manager is acting under a motive other than acting in the best interest of the unitholders. Thus analysed, the validity of secret delegation can be resolved according to established fiduciary principles.

Possibly related posts: (automatically generated)
Unit Trust Delegation Must Know part C & D