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Hedge Fund Due Diligence
Our Customers Hannah and her team are experts in their field of offshore funds. The expertise and care to think ahead of all the specific issues I might have as a client are greatly appreciated. Capital Management Services Group applies a no-nonsense and straight forward business approach to a complex maze of international rules and regulations. I'm pleased to have them on my team and certainly recommend them to any professional looking for guidance in the hedge fund industry.Andre Voskuil, DutchOracle Capital Ltd. December 28, 2011
Due Diligence on My Hedge Fund? As a hedge fund manager, you expect to be inspected by potential investors prior to their investing in your hedge fund. You hope that your presentation of yourself and your trading track record will attract investors. But could your efforts be undermined by errors in your former employment or regulatory records? What would your past paper trail tell someone who does not know you? There is a much external information about you and you must make sure that it is correct.
How can you control this element of your business? Put yourself under review. Find out how potential investors will see you by performing a ?dry run.? Let us perform due diligence on you and then review the results. Why not use our professionals to investigate you and your hedge fund before "bad paper" turns investors away?
New to Hedge Fund Management? As a new hedge fund, you may not have yet experienced a due diligence review. Understandably, you may feel daunted by the comprehensive nature of the due diligence process. By hiring qualified professionals, you can get a good look at what due diligence would produce on your background. Our third-party, objective due-diligence services, coupled with our industry-leading legal services, can help you get some perspective on your overall appeal as a hedge fund manager.
The Meaning of Due Diligence Due Diligence refers to a comprehensive investigation and/or audit of a potential investment that serves to confirm, as much as possible, all material facts in regard to a purchase or sale. Generally, due diligence refers to the care a reasonable person should take to obtain all the material facts before entering into an agreement or transaction with another party.
Due diligence provides an investor some security in an otherwise risky environment. You can do little to control market forces, politics, regional instability, and global economic conditions when you invest. However, there is something you can do to keep from being a victim of deception: check the qualifications and background of a hedge fund manager before giving him your money. Fraud is often the reason a hedge fund goes under. As history shows, investors have all often entrusted their money to hedge fund managers who are irresponsible or even criminal. Before explaining how due diligence can reduce the risk of fraud, let's revisit a few common scenarios. Hedge Fund Manager Covers up Losses In this situation, suppose that the hedge fund manager has a clean record. He is reputable and has set up the fund to industry standards, with all the appropriate documentation and disclosures. He accepts client funds and begins investing the capital responsibly, according to his duties. However, an over-leveraged trade or overly concentrated investment goes south. The hedge fund manager fears that if he dutifully reports such losses his investors will leave. So he devises a plan to earn the money back with future trades.
Until such returns are realized, he will produce false financial statements. Of course, he has to use a higher leverage ratio because of the lower investment balance, and the trades are highly risky. They too, perform poorly. But because of the forged statements, you as an investor feel satisfied. Naturally, one would assume that a legitimate request for a withdrawal of funds would expose the cash-strapped operation. Not necessarily. Due to a false positive performance record, the hedge fund manager attracts new investors and simply pays a withdrawal request with new investors' money.
Will you be holding the bag when the operation falls?
Hedge Fund Manager Supports Lavish Lifestyle with Investors' Money In this situation, a hedge fund manager with a shady financial past sets up a hedge fund based on a "stellar career" in the investing world. He sets up the fund according to industry standards and convinces investors that he can generate excellent returns. He never invests the funds, and instead he withdraws money for personal use, living a lavish lifestyle. Statements are faked to show positive earnings. The manager promises a strictly monitored and audited operation. However, the audits are never done or are done under an unknown auditor's name. Worse yet, the investors never ask for audited financials. Eventually, the fund is exposed . Hindsight reveals the shady past of the manager--the securities violations, bankruptcy, and open judgments. It turns out that the "stellar career" never existed as he simply worked entry-level positions and was fired. This is all easily revealed during the investigation and legal process that follows.
Hedge Fund Loses Large Percentage of Capital; Closes Operations In this final scenario, everything is handled in a generally legitimate manner. Statements are accurate and sent out in a timely fashion. The only problem is that they paint a gloomy picture. Investors receive informal promises and indications that the market is looking good, or that the strategy is expected to pan out. Instead, more money is lost, investors lose confidence and withdraw, and the fund closes operations. Most of your money has disappeared, and you have little or no legal recourse. You relied upon a colleague's advice as well as the fact that a well-known investor had a position in the fund. You had confidence in the manager from what you had heard, but later find out that the manager had little to prove that he could invest wisely. You learn, too late, that a significant percentage of all executives misrepresent accomplishments on their resumes. Often they omit various positions (as opposed to embellishing them). Sometimes they include a degree from an unaccredited on-line school.
Could this have been found out before investing?
Offers to purchase or invest in an asset are usually dependent upon the results of the due diligence investigation. The investigation includes reviewing all financial records, plus anything else deemed material to the sale. Sellers also perform a due diligence analysis on the buyer. Items that may be considered include the buyer's ability to purchase and other issues that may affect the purchased entity or the seller after the sale has been completed. Due diligence is a way of avoiding, as much as possible, any surprises that could unnecessarily harm either party involved in the transaction.
Customer Testimonial I had a tremendous experience with Hannah and the Capital Management Group. They were timely, courteous, and extremely knowledgeable; and, if Hannah was busy, Michelle made quick work to resolve my problems. I will invariably use CMSG in the future for all my hedge fund needs! I can't thank Hannah enough for making my dream of a hedge fund come to fruition. William B Hoagland, Trend Discovery Capital Management. July 06, 2011
Hedge Fund Due Diligence Is there a way to sniff out fraud before it is too late? The problem is that those who are good at deception know how to appear honest. Fortunately, there is a way to discover fraud. With expertise and access to records and information, you can uncover the past of a hedge fund manager. You can employ a background check firm, a private investigator, or perform your own record checks online. These tools may reveal information on the background of the hedge fund manager. But is that enough? Even honest hedge fund managers fail. And the signs of failure are often clear in advance. But these signs may not be clear to a general background check firm, to a private investigator, or to anyone who is not an expert on hedge funds.
This is where we come in. We are a well-known industry leader in the areas of hedge fund development, compliance, operations, and tax. We know how a hedge fund should be set up. We know who should be registered and with what authority. We know what hedge fund managers can and cannot do?and what they should be doing. To put it plainly, we are fully equipped and knowledgeable in every aspect of a hedge fund operation. We can provide you with a complete due diligence package that goes well beyond a simple background check. We know what to look for and can help you avoid large losses. We can help before you invest, or after. We know how to uncover inconsistencies that are signs of trouble. Hedge funds that turn into frauds cannot bear the scrutiny of our due diligence process. Your investment is too valuable to see it squandered by unsavory individuals. Due diligence is a small price to pay to avoid the substantial loss and suffering that can result from fraud. A little due diligence goes a long way. Click Here for a Free Consult
Customer Testimonial I wanted to thank you and your staff for the professional and timely services that you provided in setting up a CTA business. As an individual trader for almost 20 years I have a full grasp of markets but had very little knowledge in setting up a trading business for clients. Everyone at your firm was extremely friendlyand helpful in giving me guidance in this new startup. Your prices were fair and while I looked at different firms to handle the process yours was head and shoulders above the rest. Thanks so much, Sxxx Sxxxr Managing Partner Sxxxxx Capital Management LLC. June 18, 2010.
Due Diligence for Investment Funds Fiduciaries, investors and other parties involved in financial transactions with a Fund (e.g., prime brokers, fund administrators, and auditors) have a duty to perform due diligence to ensure that the fund's investment decisions are sound and consistent with their client's risk profiles. Due diligence research, at a minimum, should include a questionnaire that is designed to elicit extensive information covering every major aspect of the fund's organization, operation and management. Due diligence checks should also include a face-to-face meeting with the fund's manager and other key personnel.
Typical areas of investigation include: Volatility (examines whether the fund's annual return was earned evenly over the year or by clustered gains); Market Breadth (i.e., examines whether fund was profitable on the average or based on a few trades; examines concentration of exposures and any exposure limits, e.g., a possible limit might be no more than five percent (5%) in any particular holding and no more than ten percent (10%) in any particular industry); Repetition (examines whether the fund's strategy is capable of being repeated); Risk Controls (examines whether the fund hedges against currency, risks interest rate exposure and whether contingency and business continuity plans are in place should its key trader die); Leverage (examines the use of leverage and whether it is limited); Fund Reporting (examines custody of fund money; prime brokerage arrangements); Administration (examines whether a third party is used to calculate monthly returns; frequency and detail of information given to investors; copies of the fund's recent correspondence to investors, e.g., quarterly letters); Fees (examines compensation and incentive arrangements); and Auditor (examines whether the fund uses a third party auditor; examines the quality of the fund's audited and unaudited financial statements, e.g., balance sheet, etc.; and examines methods used to value portfolio holdings, including illiquid holdings).
Fund managers should be prepared for an in-depth audit when it comes to attracting new investors. Prospective investors ("prospects") may request information beyond that provided in the fund's offering documents. When dealing with prospects, it is helpful for fund managers to be familiar with the due diligence process. To minimize disclosure problems, fund managers should be aware of the kind of questions and concerns prospects are likely to raise.
Customer Testimonial Hannah, Your article on starting an offshore fund gave me some great insight on the subject and connected the dots very quickly for me. Just wanted to say thanks! Bxxxx Lxxxxx January 28, 2009
Organizational Issues What is the fund's mailing address? Physical address? If there are multiple addresses for the fund or if the fund shares an address or office space with another fund or another business or company, require an explanation and obtain document (written contract) that enables sharing.
Is the fund registered with the SEC? The state? Request a copy of Form D, as filed with SEC and relevant states. Verify the Form D or state regulatory equivalent filings in all states.
Is the fund domestic or offshore? If offshore, determine whether the manager and/or fund are subject to local regulatory oversight and, if so, obtain regulatory filings. Ask about the prime broker or other custodian(s), and administrator(s).
In what state is the fund organized? Most domestic funds are organized in Delaware, although some are organized in Nevada, and, occasionally, in another state.
What is the form of organization? Domestic funds are typically organized either as a limited partnership (in which the manager is the general partner and the investors are limited partners) or as a limited liability company in which the manager is the managing member and the investors are non-managing members). Obtain fund formation documents (e.g., Articles of Organization or Articles of Association). Request a State Certificate of Good Standing from the fund. This may also be obtained from the state of formation. Contact the state to verify the certificate’s status, and request that the certificate be mailed directly to you.
Is the fund reputable? Find out where the funds and securities are kept. If not New York, London, or some other major financial center, this may be a warning sign. Inquire about the lawyers and the accountants; there is a limited universe of professionals in each offshore jurisdiction, and use of professionals who are not well-known raises concerns.
Operational Concerns What are the terms of the Fund; performance fees, withdrawal restrictions? Does the manager have the right to more than 20% of the profits regardless of performance? If so, think twice about investing. Does the manager's right to profits require that it first exceed a stated return to the investors (termed a hurdle rate)? If not, think twice about investing.
Does the agreement have a high water mark? If not, it is probably inadvisable to invest since this may indicate unfairness on the part of the manager.
Is it a fund of funds? If so, there are special considerations; the most important of which concerns fees and compensation to the two levels of managers. Obtain a copy of the Investment Advisory Agreement between the fund and the investment adviser. Verify that it conforms to the stated purpose in the fund's Offering Memorandum.
Does the agreement permit an investor to withdraw all or part of its capital? If so, on what conditions must the investor give written notice (such as 90 days or 180 days), and how often in each year can an investor withdraw? Industry standards vary. In some cases, withdrawal four times a year is permitted, in other cases, only on December 31, after giving notice 90 days in advance. If the agreement contains very restrictive withdrawal rights, think twice about investing.
Does the fund have an Engagement Letter with an attorney on file? Obtain a copy and contact the attorney to verify the client relationship.
Does the fund have an Engagement Letter with an auditor on file? Obtain a copy and verify the client relationship. Obtain copies of the last three years audited financial statements directly from the auditor. Do not accept copies provided by fund. Review them to see whether they agree with what the manager has represented to be the fund's results. Obtain copies of filed tax returns for last two years directly from the fund's accounting firm. Do not accept summaries provided by the fund. Tax returns should include schedules and statements (except Schedule K-1, which discloses each investor's position in the fund). Compare results to audited financials, and reconcile tax results with financials (through unrealized gain/loss). Determine whether for tax purposes the fund is treated as a trader in securities (favorable treatment) or as an investor (unfavorable treatment). If the fund is a fund of funds, does the manager issue its financials and timely tax returns, or are there extensions?
What are the strategies employed by each of the sub-managers in the investee funds, and are they sufficiently diversified to spread risk? Obtain performance reports for the past 5 years. If the PPM gives statistical history, review this and compare to audited financials. If the manager provides historical results, ask if the results follow AIMR (industry association) guidelines.
Does the fund report far superior results to other funds in its investment strategy group? If so, ask for an explanation since there have been a number of frauds involving purportedly excellent results that ran counter to prevailing trends. Review the fund's Offering Memorandum. If there is a Form ADV (there will be if the manager is a registered investment adviser), compare the Form ADV to the PPM and to the one on the FINRA website.
Who are the prime brokers or other custodians for the fund? It is common for a hedge fund to have one or more prime brokers, who track the investments and custody the funds. Use of a prime broker is a positive indication. However, if the fund invests in commodities, that part of the investing cannot be done through a prime broker. Also, very large funds ($500 million and up) do not use a prime broker because it is not cost effective.
Customer Testimonial Hannah Terhune and her associates have provided legal advice and services to me for over a year. She provided initial guidance to help determine the kind of fund most suitable for my goals, created the legal documents that are the framework for my hedge-fund, and assisted with ADV submissions to register my company as an Investment Advisor. I continue to rely on her for ongoing compliance issues in this complex and dynamic industry. I found Ms Terhune and her associates to be extremely knowledgeable and helpful in a very responsive way, with friendly and professional manners. Overall a very good experience. Highly recommended. Marty Cawthon ChipChat Technology Group
Investment Manager Is the investment manager registered as an investment adviser with SEC? If yes, review Form ADV. Review entire form and, in particular, look for number of personnel employed, number of clients, and funds under management. Also, look for whether any advisee clients are SEC registered investment companies or non registered funds, and whether the adviser has had problems with regulators, has other business activities, etc.
Does the investment manager have conflicts of interest with the fund and does the manager have any controls in place to manage those conflicts? Is the investment manager registered with any state regulatory authority as an investment adviser? If so, review forms. If not registered as investment adviser with SEC, or state level, higher level of scrutiny required. Examine the investment manager's Articles of Organization and Certificates of Formation, jurisdiction of organization, location of office, and EIN letter from the IRS. Note that it is very rare for the investment manager of an onshore fund to be organized in a foreign jurisdiction. Examine the Operating Agreement of the investment manager.
What licenses do individuals employed with the investment manager possess? Many management personnel possess a securities license, such as Series 7 (registered representative of a broker-dealer) because the manager is itself registered with the SEC as a broker-dealer. If individuals are investment advisers, they will be required to have the Series 65 or equivalent.
What are the educational and professional credentials of the personnel? Verify credentials listed.
What institutions of higher learning did they attend? Do they have a graduate degree in business or economics; sometimes, engineering, mathematics, medicine? Are they a CFA (Certified Financial Analyst) (the standard industry credential for professional investment managers?).
What are the employment histories of the personnel? Were they employed at other hedge funds? If so, verify employment and review the history of those funds. Were they employed at major financial institutions, and, if so, in what capacity? Examine the investment manager's past performance. Obtain photo identification from the manager (driver's license, passport, etc.). Perform background checks on the manager and the principals of the manager. Useful places to look are Dun & Bradstreet report (credit check) and KnowX.com (background check with information on bankruptcies, liens, lawsuits, judgments, and UCC's). Be sure to obtain permission from each individual to run a background check. Check on court decisions against the manager and its principals. Get state and federal filings on the manager. Do a search on FACTIVA (Dow Jones news retrieval service) or similar service to obtain media articles about the manager and its principals. Get at least three references from the manager: inquire as to who the references are and conduct further due diligence.
Due Diligence for Hedge Funds and their Service Providers Passage of the Dodd-Frank Act will, among other things, require issuers of asset-backed securities to perform due diligence on the underlying financial assets and to disclose the nature of that analysis in their registration statements. The effort to bring regulatory reforms to the financial industry stem, in part, from the problem of having service providers becoming too cozy with large investment company clients that can substantially affect the service provider’s bottom line if the Investment Company ceased doing business with such provider(s). This has lead to situations where the service providers have lost their objectivity through a conflict of interest, thereby contributing to the problems of an investment company by either looking the other way when questionable activity is discovered, or even intentionally participating in fraudulent activity. As a result, it is no longer sufficient to focus only on the Investment Company. A prudent investor should conduct a due diligence investigation of the Company’s service providers. The due diligence investigative process of an Investment Company is similar to that of a particular Fund, only broader. For example, if an Investment Company with no prior history of fraud investigations, enforcement actions or lawsuits, hires a service provider that has such a history, such facts should be known and considered before investing in the Company. Similarly, where a particular individual is known to be ethically challenged, and has moved from one company to another, such an individual may infect the new Company with the same problematic mindset. Auditors and law firms should be included in the due diligence investigation. Indeed, no service provider that provides financial or legal advice is immune from unlawful conduct and/or poor judgment. Consequently, each and every service provider should be included in a comprehensive due diligence investigation.
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CapitalManagementServicesGroup.com is recognized by discriminating fund managers and businessmen as being the foremost tax and legal authority in the business. Attorney Hannah Terhune's education and experience are unsurpassed in the area of hedge funds creation and management platforms, and the complex body of related tax laws. Ms. Terhune's extensive knowledge and experience have made her an indispensable resource for serious hedge fund and business professionals. Ms. Terhune's articles on the subjects have appeared in over 100 publications worldwide. Chances are, if you have read about the above matters, Ms. Terhune has written about them.
Give us the opportunity to use that knowledge and experience for you. We have both regulatory experience and the understanding of the foreign exchange and securities markets. We know how to navigate the compliance with rules and regulations in the United States as well as in regulated jurisdictions such as United Kingdom, Singapore, Hong Kong, Canada and the British Virgin Islands. Each client receives personalized attention from our attorneys and staff. No client is too large or small though because of our boutique size. We pride ourselves in providing personal attention to each client.
CMSG provides the best services and support needed for hedge funds and business projects. No need to coordinate work between different firms--we handle the entire business process from start to finish. We offer accounting, tax planning services, tax return preparation, business consulting, and U.S. and international company formation services. Our professionals provide the highest quality services at competitive rates. But don't take our word for it, give us a call and let us prove what we can do for you. Read our Leading Media Articles, Customer Testimonials and learn more About Us.
Personal Consultations You get answers to your specific questions by speaking directly to Hannah Terhune, an experienced hedge fund and international tax attorney. Ms. Terhune's hard-earned knowledge and experience can be put to work to save you unnecessary steps and costly wasted effort. The consult is an invaluable opportunity to speak to Hannah one-on-one, and learn how to achieve more in less time. As a result, you can anticipate that the return on your investment will far outweigh the costs associated with our unsurpassed services. Ms. Terhune's credentials reflect an invaluable resource that combines a well-informed professional practitioner with sound ethical judgment that cannot be over-estimated. The expertise required to recommend best solutions and provide sound advice should never be taken lightly. We are confident that when you are finished with your consultation, you will be impressed and more informed about your business plans than ever before. Call (307) 213-4732 or Click Here to Request Services. Our Commitment Henry David Thoreau wrote: "Do not hire a man who works for money, but him who does it for love of it." We are committed to your business plans and bringing you the best possible options. We are an established and internationally recognized business that serves and educates our clients throughout the industry. We do this by striving for the best results. Above all, we are a law firm. A lawyer is a philosopher and role model. The ability to improve our clients' lives is a privilege that we do not take lightly. There is tremendous power in being able to effect a positive change in our clients' lives. Our aim is to welcome our clients and to provide a comfortable, warm environment for all. Thanks for visiting our website. We hope to have the opportunity to serve you.
