Monthly Feature: Hedge fund offering documents

The central reason that beginning hedge fund managers need a lawyer is that the lawyer will prepare the offering documents for the fund. The offering documents are designed to comply with the requirements of the federal securities laws as interests in the fund (whether the fund is a limited partnership or a limited liability company). Specifically the offering documents will most likely be drafted to conform to the requirements of Rule 506 of Regulation D under the Securities Act of 1933.

The offering documents are the necessary paperwork that the manager must give to prospective investors. The offering documents will look very similar to a mutual fund prospectus. The three parts of the offering documents are:

  1. The private placement memorandum (also sometimes called the offering memorandum). The private placement memorandum (also known as the “PPM”), is the main offering document. It provides the prospective investor with information on the structural and business aspects of the fund.
  2. The limited partnership agreement (or, if the fund is an LLC, the operating agreement). The limited partnership agreement (also known as the “LPA”), is the actual governing legal document. It provides a description of the rights of the investors and the manager. When an investor becomes a “partner” in the fund, the investor is executing the limited partnership agreement.
  3. The subscription documents. The subscription documents are the documents which provide the manager with background information on the investor. These documents include assurance and warranties by the potential investor that the potential investor is qualified to invest in the offering. These documements usually include the signature page to the LPA.

A more in depth description of the potential parts of the offering documents follows:

Private Placement Memorandum

While each law firm’s general PPM template is different, they all share many of the same items of information which are included. Below is a non-exhaustive list of some of the major sections of the PPM which you are likely to find in all offering documents.

  • Coverage
  • Legends and securities laws notices
  • Table of contents
  • Summary
  • Use of proceeds
  • Investment Program
  • Risk factors
  • Description of the management company and managers
  • Discussion of fees (Management fees, Performance fees)
  • Manner of valuing the investments
  • Discussion of conflicts of interest
  • Discussion of brokerage
  • Discussion of litigation of the investment manager
  • Discussion of financial statements of the fund
  • A summary of the LPA or Operating Agreement
  • Discussion of service providers
  • Tax disclosures
  • ERISA disclosures
  • Other notices (privacy notice, definition of investors qualified to invest, disclosure on the lack of transferability, etc.)

Limited Partnership Agreement

Like the PPM, each law firm has a different way to draft the LPA. For instance, some law firms will craft a lengthy definition section at the very beginning, other law firms will have definitions attached as an appendix, other firms will define specific terms throughout the document. A very rough guideline of the items which are in the LPA include:

  • Coverpage
  • Table of contents
  • Preamble
  • Defintions
  • Information on formation (business office, registered agent, length of fund, etc.)
  • Capitalization structure (initially and on a going-forward basis)
  • Manner of allocation of profits and losses (including the various tax allocation provisions)
  • Manner of distributions and withdrawals
  • Rights and duties of the management company
  • Rights and duties of the investors
  • Information on accounting, books and records
  • Transfer rights
  • Dissolution of the partnership; winding up
  • Manner of final distributions
  • Grant of power of attorney
  • Miscellaneous provisions (headings, amendments, applicable law, jurisdiction)

Subscription Documents

The subscription documents from one firm to another may differ fairly substantially. Some firms have separate subscription documents for individual investors and for institutional investors. Some firms include the necessary representations with the actual subscription agreement. The basic information included in the subscription documents includes:

  • Coverpage with certain legal disclaimers
  • Directions on how to complete the subscription documents
  • Subscription agreement (including certain acknowledgements, representations and warranties)
  • Investor suitability questions (may be embedded in the subscription agreement) – generally accredited investor, qualified client, or qualified purchaser status
  • LPA investor signature page

If a fund accepts non-accredited investors, the manager will need to make sure that the non-accredited investor meets certain that the non-accredited investor, together if applicable with their purchaser representative, is sufficiently sophisticated to understand the risks of making an investment in the fund. These supplemental representations can be made either in the subscription documents or in a supplement to the subscription documents.

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