Setting Up Your Fund for Success All Starts with Your Fund Documents - April 2023
Over the last decade, fund administrators have become the default back-office option for an emerging fund manager working in a lean environment. Fund administrators are responsible for a wide range of activities including onboarding investors and complying with jurisdictional AML/KYC requirements, reporting to investors based on current standards, calculating monthly or quarterly NAVs, applying valuation policies, calculating management and performance fees, calling capital, distributing investment proceeds, assisting with the fund’s treasury function, and working with a fund’s auditor and tax preparer through those annual processes.
One of the most important responsibilities of a fund administrator is to read, interpret, and follow each fund’s legal documents. Let’s dive into why fund documents are so important and how fund administrators can add value to the fund formation process.
Why do fund documents matter?
Each fund’s legal documents detail the rules that govern the operation of the fund. They speak to how the fund will raise capital, how the fund will use that capital to invest and pay expenses, how the investors in the fund will be charged fees and participate in the returns generated by the fund, what reporting the fund will provide to investors, and what rules the people running the fund must follow. Fund legal documents are crucial to the day-to-day operations of fund administrators since they are the rulebook that fund administrators must follow.
How can a fund administrator help during the fund formation process?
While it is possible for funds to be formed and the documentation completed without the involvement of the fund administrator, funds operate better when the fund administrator plays a role in the formation process. Here are a few reasons why that is the case.
Generation of fund documents
Lawyers generate fund documents through conversations with a fund’s sponsor. A fund administrator is responsible for doing the math and accounting for the fund’s operations based on the language in the controlling document – typically a limited partnership agreement or in the case of a limited liability company – making it crucial that the language in the documents is clear regarding how that math should be done. An experienced fund administrator can help make sure that the language in the legal documents written by the lawyer will match the intent of the fund sponsor when translated into the math and accounting that the fund administrator will do.
Accounting and valuation standards
Each fund’s documents will describe the basis of accounting to be used to report to the fund’s investors. Typically in the US, fund accounting will be based on Generally Accepted Accounting Principles (GAAP), but funds from other countries might base their accounting on the International Financial Reporting Standards (IFRS).
The fund documents should also describe the valuation policy that will be used to value the investments the fund makes and holds, consistent with the basis of accounting being adopted. That policy can be detailed in the core fund documents, or those documents can refer to a standalone valuation policy adopted by the fund sponsor.
The fund administrator will need to know what reporting framework the fund will use, GAAP or IFRS, and what the valuation policy will be as investment valuation is the most important component of a fund’s accounting and reporting. Having an opportunity to review that valuation policy and ask questions before it is finalized can help ensure that it is properly applied once the fund commences operations.
Investor information and banking instructions
Fund administrators capture investor information, including tax information and bank details, during the investor onboarding process so that communications with investors are processed correctly, investor capital activity is properly tracked and processed, and all required tax reporting both to regulators and to the investors themselves happens in a timely manner.
That investor information is typically provided in a subscription agreement which is completed by each investor when they apply for admittance to a fund. Fund administrators should review blank subscription agreements to verify that the form asks investors to provide all information needed to allow fund sponsors to admit them and to meet all regulatory and tax reporting requirements once they are in the fund.
Management and performance fees
Typically, fund sponsors are paid to manage a fund through both a periodic management fee and a performance-related fee, which in the case of many fund structures is referred to as carried interest. Those calculations are of the utmost importance both to the investors that pay them and the fund sponsor that receives them. Fund administrators can help ensure that the language detailing those calculations in the fund’s legal documents results in the fee economics intended by the fund sponsor.
Timing of deliverables
Information and dollars flow in both directions between a fund and its investors. Fund documents specify the required timing of those flows. Quarterly and annual reporting from a fund to its investors needs to happen within a certain number of days of the period's end. Hedge fund redemptions are paid out to investors within a certain number of days of the redemption date. Committed capital fund capital calls have to be funded by investors within a certain number of days following the issuance of a notice to the investors.
Experienced fund administrators understand the fund administrator’s and fund sponsor’s workflows around each of those processes and the required interactions between the two and can help ensure that adequate time is provided for in the fund documents.
Oftentimes, fund documents need to be amended and updated as regulations change. As these changes occur, it’s important to ensure the fund administrator, as well as the fund’s audit and tax professionals, are included in the revision process to ensure timely changes to the work they do on behalf of the fund.
The importance of fund documents to all stakeholders
Investment partnerships are formed so that a fund sponsor can use investor capital to execute a strategy that allows both the investors and the fund sponsor to make money. Having fund legal documents that all stakeholders can understand, from the fund sponsor to the investors to the fund’s service providers, is key to giving a fund its best chance to succeed and deliver those returns to its investors and to the fund sponsor. Engaging an experienced fund administrator and allowing them to participate in the fund formation process and drafting of those all-important legal documents can be an important part of your fund’s future success!
Need help with fund administration? Trident Trust is a leading global corporate, fiduciary, and fund administrator with over 40 years of experience. Contact us today