ASIC updates disclosure requirements for unlisted property funds

In September 2008, the Australian Securities and Investments Commission issued Regulatory Guide 46 Unlisted property schemes: Improving disclosure for retail investors. RG 46 set out 8 disclosure principles which ASIC considered issuers of unlisted property schemes should disclose against (in product disclosure statements and on an ongoing basis) to help retail investors understand the risks associated with unlisted property schemes.

Following a review by ASIC of PDSs for unlisted property schemes and a consultation process in late 2011, ASIC released on 28 March 2012 an updated version of RG 46. The revised RG 46 includes updates to the eight disclosure principles and requires product issuers to disclose against six new benchmarks on an 'if not, why not' basis - consistent with ASIC's increasing use of benchmark disclosure (for example, as currently used for debentures, agri schemes, mortgage schemes and infrastructure entities).

Importantly, the revised disclosure principles make it clear that ASIC considers that the key terms of a scheme's financing, including loan-to-valuation and interest cover covenants (in addition to interest rate and hedging details) must be disclosed in the PDS and updated on an ongoing basis.

ASIC expects the industry to comply with the new disclosure principles and disclosure benchmarks from 1 November 2012. ASIC states in RG 46 that, in relation to any PDSs that pre-date 1 November and are still in-use at that time, the issuer generally can rely on Class Order 03/237 and place disclosure on the issuer's website rather than in supplementary or replacement PDS.

Six new 'disclosure benchmarks'

RG 46 sets out 6 new disclosure benchmarks that issuers should disclose against on an 'if not, why not' basis; that is, if the scheme does not comply with the benchmark, the PDS should explain why not. The six benchmarks are:

1. Gearing policy benchmark: The responsible entity maintains and complies with a written policy that governs the level of gearing at an individual credit facility
   ASIC's response to submissions on the proposed benchmarks indicate that this benchmark is targeted at the gearing level for each credit facility, as determined by reference to the assets that are attributed to (and presumably used to secure) that facility. This disclosure is in addition to the general disclosure principle that the responsible entity should disclose the scheme's overall gearing. ASIC considers that if the responsible entity meets this benchmark, the PDS should disclose the gearing policy and whether the scheme currently complies with the policy.     
2. Interest cover policy benchmark: The responsible entity maintains and complies with a written policy that governs the level of interest cover at an individual credit facility
   ASIC's response to submissions on the proposed benchmarks indicate that this benchmark is targeted at the interest cover provided by the properties that are attributed (and presumably used to secure) the individual credit facility. This disclosure in addition to the general disclosure principle that the responsible entity should disclose the scheme's overall interest cover ratio. ASIC considers that if the responsible entity meets this benchmark, the PDS should disclose the interest cover policy and whether the scheme currently complies with the policy.  
3. Interest capitalisation benchmark: The interest expense of the scheme is not capitalised
   ASIC considers that if the responsible entity does not meet this benchmark, the PDS should explain why not, disclose the risks associated with the capitalisation of interest and provide details about how the responsible entity intends to meet repayment obligations for any scheme borrowings.
4. Valuation policy benchmark: The responsible entity maintains and complies with a written valuation policy that requires:
   

   (a)   a valuer to:

   (i)         be registered or licensed in the relevant state, territory or overseas jurisdiction in which the property is located (where a registration or licensing regime exists), or otherwise be a member of an appropriate professional body in that jurisdiction; and

   (ii)        be independent;

   (b)   procedures to be followed for dealing with any conflicts of interest;

   (c)   rotation and diversity of valuers;

   (d)   valuations to be obtained in accordance with a set timetable; and

   (e)   for each property, an independent valuation to be obtained:

   (i)         before the property is purchased:

   (A)     for a development property, on an 'as is' and 'as if complete' basis; and

   (B)     for all other property, on an 'as is' basis; and

   (ii)        within two months after the directors form a view that there is a likelihood that there has been a material change in the value of the property.

   ASIC considers that if the responsible entity meets this benchmark, the PDS should disclose a summary of the valuation policy, that the scheme currently complies with this policy and where an investor can obtain a copy of the full valuation policy.

5. Related party transactions benchmark: The responsible entity maintains and complies with a written policy on related party transactions, including the assessment and approval process for such transactions and arrangements to manage conflicts of interest. ASIC considers that if the responsible entity meets this benchmark, the PDS should disclose that it complies with its policy and include a summary of the key elements of the policy (including how compliance is measured). The responsible entity should also disclose where an investor can obtain more detail on the related party transactions policy and procedures.
6. Distribution practices benchmark: The scheme will only pay distributions from its cash from operations (excluding borrowings) available for distribution.
   ASIC considers that if the responsible entity meets this benchmark, the PDS should specify that it does.

If the responsible entity does not meet any of these benchmarks, the PDS should explain why not and disclose the risks associated with the approach that the responsible entity has adopted. In the case of the Distribution practices benchmark, the sources of funds the responsible entity intends to use to meet distributions (and the risks of using such sources) must also be disclosed.

Updates to the eight 'disclosure principles'

The original RG 46 included eight disclosure principles which set out matters which ASIC considered responsible entities should provide disclosure on both in the PDS for the scheme and in ongoing disclosure to scheme members. The disclosure principles covered, amongst other things, matters such as disclosure of gearing ratios and interest cover rations and details about scheme borrowings, portfolio diversification and distribution practices.

The updated RG 46 provides more detailed guidance in relation to 7 of the original disclosure principles, removes the eighth original disclosure principle and replaces it with a new one. Accordingly, pursuant to the updated RG 46, the matters described below (in addition to the guidance in the original RG 46 that continues to apply) should be addressed when making disclosure in accordance with the eight revised disclosure principles.

ASIC recognises, however, that in some circumstances, applying a disclosure principle to a particular unlisted property scheme may be likely to mislead investors or otherwise be clearly inappropriate. In those circumstances, the disclosure should not be made, however, ASIC considers that the responsible entity should disclose that the information has been omitted and explain why it would be misleading or inappropriate to include the information. Responsible entities should also consider whether they can disclose other information to help investors assess the relevant risk factor.

1. Gearing ratio: In relation to the gearing ratio disclosure, responsible entities should now also:

• disclose the source(s) and date of information used to calculate gearing ratio(s) where that information is not taken from the latest financial statements for the scheme;
• explain to investors the risks associated with the level of gearing of the scheme and the implications of the gearing; and
• where the responsible entity is unable to calculate the gearing ratio and/or the 'look through' gearing ratio, this should be disclosed with the reasons why the ratio(s) cannot be calculated, an explanation of the risks and impact of being unable to calculate the ratio(s), and the steps being undertaken by the responsible entity to address these risks.

2. Interest cover ratio: In relation to the interest cover ratio disclosure, responsible entities should now also:

• disclose the source(s) and date of information used to calculate the interest cover ratio(s) where that information is not taken from the latest financial statements for the scheme;
• explain to investors not only what an interest cover ratio is, but also address the relationship between the income received by the scheme and the amounts required to be paid under the terms of any relevant finance facility, and any other financial obligations the scheme has; and
• where the responsible entity is unable to calculate the interest cover ratio, it should disclose the reasons why it is unable to calculate the ratio and provide an explanation of the arrangements it has entered into to meet the payment obligations related to the facility and the risks associated with these arrangements

3. Scheme borrowings: In relation to disclosure about the scheme's borrowings, responsible entities should now also disclose:

• the amount (expressed as a percentage) by which either the operating cash flow or the value of the asset(s) used as security for a facility must fall, before the scheme will breach any covenants in any credit facility; and
• further details about each credit facility including details about the assets to which each facility relates, the loan-to-valuation and interest cover covenants under the terms of each facility, the interest rate of the facility, whether the facility is hedged and details of any terms within the facility that may be invoked as a result of scheme members exercising their rights under the scheme constitution. Some of these terms may be treated as confidentialby responsible entities and their financiers. Accordingly, responsible entities and financiers should now bear in mind the revised disclosure requirements when negotiating finance facilities and should review the confidentiality regimes in their existing finance agreements to ensure that there are appropriate carve-outs to allow disclosure of this information.

4. Portfolio Diversification: In relation to disclosure about the scheme's portfolio diversification and its development assets, responsible entities should now also:

• disclose whether the scheme's current assets conform to the scheme's investment strategy and explain any significant variance from the strategy;
• disclose, as part of the disclosure about the scheme's direct property investment portfolio, the current value of the development and/or construction assets of the scheme as a percentage of the current value of the total assets of the scheme;
• for each significant development asset, in addition to the disclosures already required (such as development timetables and pre-sale/pre-lease commitments), disclose:
  • a description of the status of the development against the key milestones identified in the disclosed development timetable;
  • a description of the nature of the funding arrangements for the development (including the sources of funding and repayment strategies if borrowing is used to funds the development);
  • whether the loan-to-valuation ratio for the asset under development exceeds 70% of the 'as is' valuation of the asset; and
  • the risks associated with the property development activities being undertaken; and
• clearly identify the scheme as a development and/or construction scheme where the scheme has over 20% of its property assets in development based on an 'as if complete' basis.

RG 46 goes on to explain ASIC's view of what constitutes a development asset and how to determine whether 20% or more of a scheme's property assets are in 'development'. In summary, ASIC's view is that development is the construction of a new building, significant increases in the lettable area of a building, or significant changes to the nature or use of a property. Refurbishment of existing assets is not development for the purposes of RG 46. When determining whether over 20% of the property assets of the scheme are development assets, ASIC considers that, when making this calculation, the developed portion of an existing individual asset that is not entirely developed should not be included.

5. Related party transactions: In relation to disclosure about the responsible entity's related party transactions in relation to the scheme, responsible entities should now focus their disclosure on describing related party arrangements relevant to a member's (or potential member's) investment decision. The description should address in relation to each arrangement:

• the value of any financial benefit;
• the nature of the relationship;
• whether the arrangement is on arms length terms, is reasonable remuneration, or some other exemption from member approval requirements applies (including any ASIC relief that has been granted);
• whether scheme member approval has been sought and, if so, when;
• the risks associated with the related party arrangement; and
• whether (in relation to the relevant related party arrangement), the responsible entity is in compliance with its policies and procedures for entering into related party transactions.      

ASIC notes in RG 46 that the above disclosure should however not be made to the extent that it may confuse investors by dealing with inconsequential matters, or to the extent that investors already have adequate information about the related party transactions as a result of past disclosures.

6. Distribution practices: In relation to disclosure about the scheme's distribution practices, responsible entities should now also disclose, where the scheme is making or forecasts making distributions:

• whether the current or forecast distributions are sustainable over the next 12 months;
• if the current or forecast distribution is not solely sourced from cash from operations (excluding borrowings) available for distribution, the sources of the funding and the reasons for making the distribution from these other sources;
• if the current or forecast distribution is sourced other than from cash from operations (excluding borrowings) available for distribution, whether this is sustainable over the next 12 months; and
• the impact of, and any risks associated with the payment of distributions from the scheme from sources other than cash from operations (excluding borrowings) available for distribution.

7. Withdrawal arrangements: In relation to disclosure about investors' right to withdraw from a scheme, responsible entities should now also disclose:

• whether the scheme's constitution allows investors to withdraw and if so, a description of the circumstances in which investors can withdraw; and
• any significant risk factors or limitations that may affect the unit price at which any withdrawal will be made.      

8. Net tangible assets: RG 46 includes a new disclosure principle relating to a scheme's net tangible assets. Responsible entities of closed-end schemes should now disclose the value of the net tangible assets of the scheme on a per unit basis in pre-tax dollars. This new disclosure principle was not suggested by ASIC in its initial consultation, however has been adopted by ASIC in response to public submissions which suggested it should be included. The NTA of the scheme should be calculated using the following formula:

NTA =  Net assets - intangible assets +/- an other adjustments
               Number of units in the scheme on issue

RG 46 provides that the NTA should be based on the scheme's latest financial statements. If it is not, the date and source of the information used should be disclosed. If a different formula is used, the responsible entity should disclose the different formula and explain why it has chosen a different method of calculation.

NTA calculations should be made in accordance with applicable accounting standards and the ASIC/APRA unit pricing policy (RG 94).

Disclosure to appear in PDS and ongoing disclosure

RG 46 provides that disclosure against the six benchmarks and the eight disclosure principles should be made in the product disclosure statement for the scheme and in ongoing disclosures.

In relation to ongoing disclosures, ASIC considers that it is good practice for responsible entities to update investors on the status of benchmark and disclosure principle information at least every six months. These updates should include confirmation that there have been no material changes, or an overview of the material changes to the disclosure if there have been any. In any case, ASIC expects responsible entities to provide investors with notice of any material change to a matter, or a significant event that affects a matter, in accordance with the obligations under either Chapter 6CA or section 1017B of the Corporations Act.

New disclosures to apply from 1 November 2012

(a)  New PDS issued from 1 November 2012 - ASIC expects that new PDSs dated 1 November 2012 or later should disclose against the benchmarks and disclosure principles.

(b)  PDS dated pre-1 November 2012 and still in use - ASIC states in RG 46 that any PDSs that pre-date 1 November 2012 and are still in-use at 1 November 2012 time can make use of Class Order 03/237 and place disclosure on the issuer's website rather than in a supplementary or replacement PDS. This must be done by 1 November 2012. Of course, issuers could choose to issue a replacement or supplementary PDS (for example where they were not otherwise able to comply with the conditions of Class Order 03/237).

(c)  Existing schemes - disclosure outside the PDS regime - For existing schemes, ASIC expects responsible entities to provide investors with an update of the benchmark and disclosure principle information by 1 November 2012. This may be done through the responsible entity's normal investor communication channels (such as regular investor updates or by including the information on a website that is used to communicate with investors).

Guidance on clear concise and effective disclosure and inclusion of an investment overview

ASIC has also updated RG 46 to provide guidance on making a PDS clear, concise and effective. RG 46 states that a PDS will generally be clear, concise and effective if it:

• highlights key information (for example, through an investment overview);
• uses plain language;
• is as short as possible;
• explains complex information, including technical terms; and
• is logically ordered and easy to navigate.

ASIC also encourages the use of 'consumer friendly tools' such as tables, diagrams and other comparative features.

RG 46 explains that, as part of clear, concise and effective disclosure, ASIC considers that a PDS should include an investment overview within the first few pages of the PDS. The investment overview should be an introduction to the responsible entity and the offer and should:

• be the first substantive section of the PDS;
• highlight and provide a meaningful summary of information that is key to a retail investor's investment decision, including at least a summary of the benchmark and disclosure principles information; and
• provide balanced disclosure of the benefits and risks.

ASIC's push for the inclusion of an investment overview section would not be something that is new to regular issuers of product disclosure statements and is consistent with ASIC's revised disclosure principles in relation to prospectuses.

Concluding comments

The updates to RG 46, including the introduction of the new benchmark disclosure, is another example of ASIC moving toward seeking to prescribe the content of product disclosure statements, despite the Corporations Act adopting general disclosure tests. However, despite any views that a responsible entity may have of the new disclosure expectations, ASIC has noted in RG 46 that it will be reviewing in-use product disclosure statements and ongoing scheme disclosure to check that adequate disclosure has been made against the benchmarks and disclosure principles.

Responsible entities of unlisted property schemes should now be turning their mind to the likely content of their disclosure against the benchmarks and disclosure principles (whether or not they have a PDS in-use) in order to meet the 1 November 2012 deadline.

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