Under section 83 of the Financial Services Act 1986, a manager of an authorized unit trust is not permitted to engage in activities other than acting as a manager of a unit trust, an open-ended investment company, a `body corporate whose business consists of investing its funds with the aim of spreading investment risk and giving its members the benefit of the results of the management of its funds‘,” or a collective investment scheme. The Act does not restrict the activities of the trustee of a unit trust and its position is governed by equitable principles above discussed.

As noted earlier, dealing in units is the contractual right of the manager. Any gain by the manager from issuing and redeeming units is not a secret profit and therefore is not accountable to anyone. This is the position of the manager of an authorized unit trust if it discloses prominently in the scheme particulars a statement to this effect.

FundsFurther, in the exercise of the manager’s investment power, the manager must not invest or dispose of units in another collective investment scheme managed by the manager or its associates unless the manager reimburses the unit trust with any charge or mark-up arising on the issue or redemption of units in those schemes. This provision therefore claws back into the trust the ’secret profit’ in the form of charges payable to the manager (or its associate) in its capacity of a manager of the scheme to be invested.

The main provision supplementing the loyalty duty is regulation 7.16 of the Financial Services (Regulated Schemes) Regulations 1991 which imposes on the manager and the trustee of an authorized unit trust the obligation to take reasonable steps to ensure that ‘affected persons’, i.e., the manager, the trustee, an investment adviser, and their respective associates, will comply with that regulation.

An affected person may not accept deposit from or make loan to the unit trust unless it is an eligible institution and the deposit or loan satisfies the arm’s length requirement. Any stock-lending transaction entered into with an affected person and any service contract by associates of the manager, the trustee or an investment adviser have to satisfy the arm’s length requirement as well. The arm’s length requirement is that the arrangement must be ‘at least as favourable’ as that effected ‘on commercial terms negotiated at arm’s length between two independent parties’.

An affected person may not sell property to or purchase property”‘ from the unit trust scheme unless an independent valuation has been obtained and the trustee is of the opinion that the terms of the transaction are not likely to result in any material prejudice to unitholders. In the case of an approved security or an approved derivative, the transaction is also valid if there is best execution through a member of the relevant exchange under the rules of the exchange. Where an independent valuation cannot reasonably be obtained, the transaction is valid if the trustee has reliable evidence that the transaction satisfies the arm’s length requirement.

This regulation extends the duties of the trustee and the manager to cover activities of their associates. The manager and the trustee may be vicariously liable for breaches of this regulation by their associates unless it can be proved that ‘reasonable steps’ have been taken to ensure compliance. Under the Financial Services Glossary 1991, in relation to a person, an associate means (a) an undertaking in the same group as that person; (b) an appointed representative of the first person or of any undertaking in the same group; or (c) any other person whose business or domestic relationship with the first person or its associate might reasonably be expected to give rise to a community of interests between them which may involve a conflict of interest in dealings with third parties. A group is, in turn, defined in the Act to include ‘a body corporate in which a member of the group holds a qualifying capital interest‘, which is ‘an interest in the relevant shares of the body corporate which the member holds on a long-term basis for the purpose of securing a contribution to its own activities by the exercise of control or influence arising from that interese. A holding of 20 per cent or more of the nominal value of the voting shares of the body corporate is presumed to be a qualifying capital interest. Thus, the reach of the regulation is very extensive.

At the same time, regulation 7.16 lessens the strictness of the equitable rules by validating transactions that are effected on arm’s length terms, by best execution on exchange or with independent valuation.

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