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Recap of San Francisco CFA Hedge Fund Event

SF Managers Talk About Starting a Hedge Fund

On September 16, members of the San Francisco investment management community gathered at the Ritz-Carlton to listen to four hedge fund managers talk about their experiences starting a hedge fund. The event was sponsored by the San Francisco CFA society. The event sold out prior to the event and the attendees seemed to be mostly CFA charterholders and other future hedge fund managers. The moderaters, two CFA charterholders, asked pre-prepared questions to the managers and opened the panel up to questions from the audience at the end.

The following are some of my notes from the event. Each bullet point is a talking point from an individual manager who I have chosen not to identify as I do not have their direct permission. Since these are notes, I am paraphrasing the thoughts of the managers and I may have modified the comments slightly so they make sense in the context of this post. Many of the points below are quite good and focus on the business and operational matters of running a fund which are very important.

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Is there a certain background that is helpful to be a hedge fund manager?

MBA and CFA charterholder are good designations to have, but it is also about experience and attitude – being able to jump into a new and difficult situation is important.
Being a manager is about differentiation and having a distinct strategegy. Whatever is different in your background is what you should emphasize (e.g. Ph.D). You should put out your qualifications and background.
A CFA is not a necessity, but you should differentiate yourself because there are so many funds out there.
A manager does not need to have a cookie-cutter background. Managers should emphasize what will help them to outperform other managers.

It is common for successful hedge fund managers to start at a large firm, build a reputation and then start a fund – what are your thoughts?

It does help to go that route because investors know the manager and have worked with the manager previously.
Most people who are very successful do come from large firms. However, launching a hedge fund now is different than it was in the 90s post market crash and Madoff.

What motivated you to start your own hedge fund? Was it the glamour, money, challenge?

Professional challenge – liked the work but thought that “I could do better.” It is also fun to run a company and be an entrepreneur. Glamour is irrelevant.
Glamour is irrelevant. The personal challenge is a central part. Being able to make your own schedule and be your own boss is important. Being able to determine the course that the fund will take is important.
There is no glamor in being a start-up fund manager. Motivation came from knowing that you can offer something to investors that they can’t get from other groups.
The motivation was that it is intellectually challenging and it is rewarding to run your own business.

How do you transition from being an employee to being an employer?

For one manager, it was easy because they cam from a small firm (6-7 people). The key is that you need to be the master of everything – trading, researching, marketing, etc.
For another manager who came from a larger firm, he had a range of duties at the previous firm so it was a relatively easy transition.

What is your investment process, edge and benchmark?

Long/short absolute returns. Don’t benchmark.
Benchmark against the HFR Long-short equity index. However, the index is not always a good indicator because of survivorship bias. The HFR is also usually long-biased.
Benchmarks usually provide an idea of what would be a low-cost beta for investors. For the particular stategy, it would be the Goldman Commodities Index.

Did you go it alone as a manager or do you have a team?

It really depends on your situation. For us (team with 2 principals), we worked together for 10 years and liked working together so it was natural to start the fund together. We started as two persons at my house planning things out. We slowly started hiring people we knew previously and gradually built out the team. We needed help on the business and operations side.
I went alone by choice. Other people didn’t have the capital to go 2-3 years without a salary. You need to know if you can afford to be in a start-up.
I went out on my own because of the investment process – it is systematic so there is not a need to have other people. About 9 months in, I had to hire someone to do marketing and investor relations.
I stated on my own and then hired people. You have to hire people you like and want to work with. Other hires came later and for various reasons.

With respect to compensation – how do you divide profits with the team?

There is a certain percentage which is devoted to profit-share with the employees. Profits outside of that are divided by the two principals of the management company 50/50.
It is difficult to figure out the compensation because the principal is the one who really puts everything on the line. Generally you would give a small portion of the management company to employees and then let that grow over time.
Compensation depends on the facts of the situation. Each negotiation is different.

Did you invest your own capital in your fund?

Yes
Yes. Also had investments in the beginning from the father and father-in-law.
Most start-up manager have their own capital invested in the fund in addition to family and friends.
Yes – about 70% of non-retirement assets in the fund.

Who do you get to invest in your fund at the beginning?

Friends and family; those who know you well and trust you are more likely to invest. Also, people in the industry who know you and your background are usually good groups to help.
People who you have worked with in the past. Also, talk to everyone including capital raisers.

How do you get high net worth investors to invest in your fund?

There are two routes – (1) find large institutions to invest large amounts or (2) be really good at shaking hands and developing personal relationships. If you can develop good personal relationships this is great because the money is usually sticky. Institutions are tough – you’re checking boxes, on phone calls, etc. Also, the people who work at institutions move from allocator to allocator so you can get into the situation where you are talking to an institution for a while and then you essentially get dropped because your point person moves jobs. One reason LinkedIn is such a good tool is that you can always keep up with where a person goes.

How do you get in front of investors?

Beg, plead, try to get others to vouch for you, cold call.

Follow-up: what is the batting average for cold calls?

Very low – 1 out of 50. If you do get money, it is a process. My two biggest clients came from short meetings with the right people. It was serendipitous, but perseverance is key.

How much time do you spend trying to raise assets?

30 to 35% of the time.
It is tough to do everything. Portfolio management takes say 60%, sales and marketing takes 60% of your time. Now I hired a marketer to take weight off. There are a ton of investors out there – probably 100 people in Silicon Valley with a million or more – but not all will invest…
Maybe 20% of the time is devoted to fundraising.

What about 3rd party marketers?

You should be aware of the selling agreement. You want to be careful with respect to scope – you don’t want them to send you a phone book of potential investors.
3rd party marketers are good because they are doing something that I cannot do or do not have the time to do.
With respect to how much you pay these groups, it will usually be 20% of all revenues that are attributable to the assets they bring in – it is better to get 80% of something instead of 100% of nothing.
I’ve had both good and bad experiences with these groups.

The common statement is that if an investor doesn’t bite in 2 days then they won’t invest – is this true?

No, I’ve had a group that has been receiving my monthly statements for a long time but eventually they invested.
Some institutional investment cycles take years. If you are a new firm they are not just going to invest right away. It is worth it to keep up the communications with these groups.
Sometimes you have investors who say they will invest and then get sidelined. Sometimes you have someone who pops up out of the blue.

What is the length of the investment cycle for a high net worth investor versus an institutional investor?

Yes, high net worth investors will likely invest sooner. RFP (request for proposal) – if you don’t know what this means – learn it.
With respect to institutions, they look not only at return risks, but the persons who make the investment decisions are also concerned about losing their job. There is an asymmetrical risk-reward system for these people. No one gets fired for buying IBM and this is why some managers will continue to get money (e.g. the guys from LTCM and Brian Hunter).

Dedicated sales person?

I am not a good salesperson so I needed someone who could do this for me – I took it too personally.

Do you have thoughts on seed money?

We thought about it and in this environment, it is helpful. Right now you are competing for capital with funds which are now open (and which have traditionally been closed to new capital). Having a seed investor allows you to get on the radar and the seeder can be a reference, provide credibility and also do initial due diligence (which will also be completed by institutional investors). It is similar to ventural capital where it is worth giving up some economics for a change in the trajectory of your group. With respect to fees, it will really depends on the facts of your situation and there are no standard terms. Some seed deals range from 20-30% of revenue.
Different seeders have different economics.
Generally a good rule of thumb will be 1% (of the management company equity) for each million they invest in the fund, but again it depends.
The market is in the seeder’s favor, not the manager’s.

What is the hardest question you’ve been asked when raising money?

The big issue that many managers have when raising money is that their presentation is too long – manager’s need to sharpen their focus.

Where are you domiciled, what are your fees?

Standard fee structure and organizational structure.
Started with a stepped or graduated performance fee where the investors benefit, but it was too complicated. The investor actually wanted something standard.
We went with a standard fee structure and have a Cayman master-feeder. Terms are standard. Managers sometimes spend too much time with structure – just go with the standard.
In addition to a fairly standard structure, the manager also does separately managed accounts (SMAs) for investors who want increased liquidity and transparency. The common saying is that the manager will charge what the market can bear.

Audience Questions

Would you be affected if Congress changes the tax rate on the carried interest?

For us it is not a big deal because we do not have long term capital gains in our structure.
For our program (futures/commodities), there is 60/40 taxation so tax on the carried interest is not really an issue.

With respect to due diligence, has it changed recently?

People take due diligence seriously and it can take a long time to complete.
Watch out for the “toxic allocator” that asks for way too much information. Be careful with your time and ask yourself if what is being requested is reasonable or just wasting your time.
The allocators who say that they “meet with everyone” are probably not worth your time. Many institutions require the person who is making investment decisions to meet with a certain amount of managers – many times these persons know who they are going to allocate to, but need to meet their meeting quota.
One good issue that was discussed during the due diligence process was the succession plan. For a one-man management company, having a succession plan in place makes good business sense and makes investors comfortable.

What is the minimum amount you take in a separately managed account?

5 million. You’ve got to take into account the hassle associated with SMAs and your bandwidth. Other institutions will also ask you how many SMAs you are managing.
Smaller amount, but that is because economics and business are different.

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Obama Moves Forward with Hedge Fund Registration Legislation

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Bart Mallon, Esq.
http://www.hedgefundlawblog.com

Treasury Announces New “Private Fund Investment Advisers Registration Act of 2009”

After much discussion in the press over the last 8 to 10 months abut the possibility for hedge fund registration, the Treasury today announced the Obama Administration’s bill which requires managers to “private funds” to register with the SEC. This registration requirement would apply to managers of all funds relying on the Section 3(c)(1) or Section 3(c)(7) which includes managers to private equity and venture capital funds. Additionally, all registered managers would need to provide the SEC with certain reports on the funds which they manage.

The Treasury release is below and can be found here. We will post the text of the new act shortly. [Update: we have just published the text of the Private Fund Investment Advisers Registration Act of 2009.]

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Fact Sheet: Administration’s Regulatory Reform Agenda Moves Forward: Legislation for the Registration of Hedge Funds Delivered to Capitol Hill

Continuing its push to establish new rules of the road and make the financial system more fair across the board, the Administration today delivered proposed legislation to Capitol Hill to require all advisers to hedge funds and other private pools of capital, including private equity and venture capital funds, to register with the Securities and Exchange Commission (SEC). In recent years, the United States has seen explosive growth in a variety of privately-owned investment funds, including hedge funds, private equity funds, and venture capital funds. At various points in the financial crisis, de-leveraging by such funds contributed to the strain on financial markets. Because these funds were not required to register with regulators, the government lacked the reliable, comprehensive data necessary to monitor funds’ activity and assess potential risks in the market. The Administration’s legislation would help protect investors from fraud and abuse, provide increased transparency, and provide the information necessary to assess whether risks in the aggregate or risks in any particular fund pose a threat to our overall financial stability.

Protect Investors From Fraud And Abuse

Require Advisers To Private Investment Funds to Register With The SEC. Although some advisers to hedge funds and other private investment funds are required to register with the Commodity Futures Trading Commission (CFTC), and some register voluntarily with the SEC, current law generally does not require private fund advisers to register with any federal financial regulator. The Administration’s legislation would, for the first time, require that all investment advisers with more than $30 million of assets under management to register with the SEC. Once registered with the SEC, investment advisers to private funds will be subject to important requirements such as:

Substantial regulatory reporting requirements with respect to the assets, leverage, and off-balance sheet exposure of their advised private funds
Disclosure requirements to investors, creditors, and counterparties of their advised private funds
Strong conflict-of-interest and anti-fraud prohibitions
Robust SEC examination and enforcement authority and recordkeeping requirements
Requirements to establish a comprehensive compliance program

Require Increased Disclosure Requirements. The Administration’s legislation would require that all investment funds advised by an SEC-registered investment adviser be subject to recordkeeping requirements; requirements with respect to disclosures to investors, creditors, and counterparties; and regulatory reporting requirements.

Protect Financial System From Systemic Risk

Monitor Hedge Funds For Potential Systemic Risk. Under the Administration’s legislation, the regulatory requirements mentioned above would include confidential reporting of amount of assets under management, borrowings, off-balance sheet exposures, counterparty credit risk exposures, trading and investment positions, and other important information relevant to determining potential systemic risk and potential threats to our overall financial stability. The legislation would require the SEC to conduct regular examinations of such funds to monitor compliance with these requirements and assess potential risk. In addition, the SEC would share the disclosure reports received from funds with the Federal Reserve and the Financial Services Oversight Council. This information would help determine whether systemic risk is building up among hedge funds and other private pools of capital, and could be used if any of the funds or fund families are so large, highly leveraged, and interconnected that they pose a threat to our overall financial stability and should therefore be supervised and regulated as Tier 1 Financial Holding Companies.

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Bart Mallon, Esq. runs hedge fund law blog and has written most all of the articles which appear on this website. Mr. Mallon’s legal practice is devoted to helping emerging and start up hedge fund managers successfully launch a hedge fund. Mallon P.C. helps hedge fund managers to register as investment advisors with the SEC or the state securities divisions. If you are a hedge fund manager who is looking to start a hedge fund or register as an investment advisor, please contact us or call Mr. Mallon directly at 415-296-8510. Other related hedge fund law articles include:

Hedge Fund Law Blog Statistics | June 2009

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Most Read Hedge Fund Law Articles for June

I wanted to take a little time to thank all of the people who read this blog and who take the time to comment on articles or send me questions – your interaction helps make this site more informative and a better resource for everyone. If you have any questions related to any of the articles, I ask you send them to me through the contact form. If you have an RSS reader, please consider subscribing to the hedge fund law RSS feed to stay up to date on the new content posted in this site.

Hedge Fund Visitors for June 2009

According to Google Analytics, the following is the information on the number and people who have visited the website during the past month:

Visits – 14,744 (of these 10,472 were new visitors)
Absolute Unique Visitors – 11,415
Pageviews – 33,031
Top Nations – United States, United Kingdom, India, Canada, Hong Kong, Switzerland, France, Australia, Singapore, Germany

Top 10 Hedge Fund Law Stories for June 2009

According to Google Analytics, the following is a list of the most popular hedge fund articles for the month of June:

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Hedge Fund Incubating and Seeding

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Syndicated Post on Hedge Fund Seeding

As I mentioned in a previous article about hedge fund compensation, I have recently come across a very good blog called Ten Seconds Into the Future by Bryan Goh of First Avenue Partners, a hedge fund seeder. Bryan’s posts are very insightful and I recommend all managers take a look at his writings.

The post below discusses hedge fund incubating and seeding platforms which offer managers a turn-key solution to getting a fund up and running. As I point out in this blog from time to time, many managers neglect to really create a detailed business plan which addresses many of the business aspects of running a fund. In this respect incubation and seeding programs are often good places for a manager who is looking to just focus on the trading. The article below discusses some of the aspects of these programs and includes considerations for managers contemplating such an arrangement.

Please feel free to comment below or contact me if you have any questions or would like more information on starting a hedge fund. The original post can be found here (ephasis and bolding in the original).

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Hedge Fund Incubation and Seeding. A perspective for 2009.

by Bryan Goh

In the interest of full disclosure, First Avenue Partners of which I am a partner, runs a hedge fund seeding and incubation business. I generally don’t talk my own book and I don’t intend to start now, but I will speak generally about the industry without specific reference to what we do. So please read this with a skeptical eye, and if seeding sounds like it makes sense, there are a range of seeders besides FAP out there. Talk to as many of them as you can, and please feel free to tell me if I am out of my mind. With that out of the way, let’s begin:

In 2006 if someone suggested that it was a good idea to be seeding and incubating hedge funds, I would have been highly skeptical. Managers who were any good were raising large amounts of capital on their own on day one, mediocre managers were able to start with credible amounts of day one capital and even managers who while talented had no idea how to run an investment management business could get into business. The hedge fund seeder faced insurmountable adverse selection problems.

Hedge fund managers willing to give away either a share in their management company or a share of their fees tended to be of lower quality. You didn’t want to be seeding them.

Hedge fund managers of good quality but who understood the business development support role of a seeder and were happy to work with one were labelled as poorer quality and found it difficult to raise capital, so also were from a business perspective, less attractive to a seeder.

Seeding was simply a negative signal to the market all around.

In fact, seeders play an important part in the hedge fund industry. They provide all kinds of support that the fledgling hedge fund manager simply doesn’t want to bother with such as infrastructure, business development and marketing, a stable base of capital, corporate governance, risk management and a host of intangibles such as a sounding board for trade or business ideas.

Of course until the adverse selection problem was resolved, none of this really mattered. And well it should be. The adverse selection up until the middle of 2007 was severe.

2008/2009. What’s changed? Investors risk appetite has been drastically reduced. The number of new funds starting up is down drastically, the number of fund closures is up drastically. The size of the hedge fund industry has halved in size by assets under management according to several of the usual industry sources such as HFR, Eurekahedge and surveys conducted by the major prime brokers. Hedge funds which were previously closed to new investment with multiples of billions of assets under management are reopening their funds (after losing big chunks in losses and redemptions) and finding it hard to raise new capital. This it should be said, in an industry which managed to lose 20% in 2008 while the long only world lost double, and only in the second half of the year when regulated banks failed and regulators decided it was a good idea to ban short selling.

Investors are more discerning. Quality of the hedge fund manager matters. Quality of the strategy, idea generation, execution and trading, mid and back office, systems, counterparty management, liability management, corporate governance, investor management, all matter and matter more than they ever did 2 years ago when investors were happy to fund a business plan with two phone lines and a credit line.

That’s a lot of considerations for a hedge fund manager striking out on his own. What is my strategy? Will it sell? How do I represent it? Who should my counterparties be? Ditto service providers. Who should be on the board of the fund? My best mate’s uncle or an industry professional? Who are my potential investors beyond my partners and I, our best mates’ uncles and aunts? Should there be lock ups, gates, side pockets, NAV suspension rights, what are the right terms? And how do we divide the spoils?

A seeder can help. There are different seeding models to suit different manager objectives and immediate needs. Do I give up fees? Do I give up equity? What control does the seeder have? What services beyond capital can the seeder provide? Often the advice and structuring are worth as much as the capital. And if I brought all this in-house, what would be the cost of it all? Would it be cheaper than a seeder?

The raison d’etre of a seeder has never before been clearer; the value that the seeder brings never been greater.

2009 and beyond: For the prospective investor in a seeding fund, what is the opportunity?

First of all, the investor must want to invest in hedge funds. No amount of incubation economics can make up for a bad investment. Over the last 10 years, hedge funds have done better than long only equities (MSCI World), bonds (Barcap Global Bonds, the old Lehman bond index), commodities (CRB), and real estate (UK IPD all sectors) for example. In 2008, hedge funds lost less money than real estate, equities and commodities. In fixed income, depending on credit quality, you would have lost as much in credit (high yield) as in equities, or lost low single digits if you were in guvvies.

Second of all, smaller, newer funds tend to do better than the big funds. Its not always true but there are various academic studies that seem to indicate that this might be the case over a large sample of managers across the gamut of strategies. The truth is that in some strategies size is an advantage. Nothing like an 800 pound gorilla of an activist or distressed debt manager. For trading and liquidity constrained strategies, beyond a certain size the fund begins to behave like a beached whale. The real advantage with smaller funds is that they haven’t yet accumulated the arrogance that comes with multi billion dollar success to deny the hapless investor transparency, clarity or airtime. Beyond the transparency necessary for the proper monitoring and risk management of a fund investment, being in constant touch with the manager and being involved with their business and playing a part in their success is a highly rewarding activity. It is certainly why I love it.

If one is to invest in start up and new managers, there are of course additional risks. With less money to manage there is also less money to spend on systems and people. Shorter track records also make an econometric assessment harder to do. Risk of failure is higher than for a large fund, but surpringly lower than for a mid sized fund. Anecdotal and some albeit stale studies have found that while the big multi billion funds may have very low mortality rates, medium sized funds’ mortality rates can be substantially higher than that of small funds. Why is this? Big funds are well resourced and have the financial viability to maintain their resources. Also, big funds often have defined succession planning. The founding portfolio manager rarely abdicates but does take on a Presidential role rather than as lead General of the Campaign. Small funds may be thinner on resources but are likely fuller on resourcefulness and the drive to succeed. Medium sized funds exhibit high mortality probably because of lack of succession planning so that even a great track record may not survive beyond the management of the founder. Whatever it is, investing in small funds needs to be compensated over and above the returns they generate. Some seeders take a stake of equity in the investment management company, some take a share of the fees charged by the fund manager, and some take some combination of both. Some seeders provide only investment capital, some provide working capital as well, and still others provide infrastructure, risk management, marketing or other business advice.

Seeding and incubation, like so many things, is a highly cyclical business. A couple of years ago, the managers entertaining seed deals were mostly those who could not raise day one capital on their own. The number of hedge fund managers cognisant of the complexities of running a hedge fund business and saw the logic of partnering up with a seeder were few and far between. Today the landscape has changed. The pipeline of managers is supplied by both types of managers. Seeders are spoilt for choice. Where once capital went in search of talent which was relatively scarce, the world is relatively well supplied with talent. It is capital which is scarce.

Of course the competitive landscape for seeders has changed as well. The number of seeders has diminished significantly, as has the capital available for seeding. Why? It was a highly cyclical business and it was victim not of the bust but of the boom of the last 5 years. Too much money was chasing too few deals. Manager quality times deal terms equals a constant. In the good times, that constant was rather low. But the pendulum has swung the other way. Many of the deals struck in good times broke and incubation as well as incubated funds performed poorly, not always for lack of talent. More often than not, talent was abundant but non-investment support was not forthcoming or deals were structurally unsound and failed to align interests. As the tide of risk and capital ebbs, it leaves many stranded, but as it flows once more the opportunities in seeding appear brighter than ever.

In that context hedge fund seeding and incubation is a recovery play, one that if structured well, keeps paying for years to come.

Hedge Fund Start Up Presentation

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How to Start a Hedge Fund in 2009

Below is a link to a powerpoint presentation in which I detail the background information a hedge fund manager must have prior to starting the hedge fund formation process. The presentation is designed to familiarize a manager with the process of forming a fund while identifying potential issues which the manager should be aware of during the process.

The presentation is 18 slides long and is about 40 minutes. I will also be posting a video here shortly.

Hedge Fund Presentation with Voice

Starting a hedge fund in 2009 (voice) (voice-over powerpoint)

For more viewing options, please see our Hedge Fund Lawyer youtube profile.

Hedge Fund Presentation without Voice
Starting a Hedge Fund

Thoughts on Hedge Fund Offering Documents

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FAQs on Offering Documents

I recently read an article by a hedge fund administration firm which discussed hedge fund offering documents and start up hedge fund expenses. I thought this was an interesting topic and one which is popular with many of my start up clients. Below I discuss some of the common questions regarding the offering documents and also provide reasons why a start up manager should use my law firm for starting a hedge fund.

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Offering documents are just boilerplate – why are they so expensive?

This is a common misperception. Offering documents (if done correctly) are not merely boilerplate where the attorney pops in the fund name and the address – offering documents are a tailored to the specific needs of the client based on the client’s investment program and fund structure.

For instance, there are at least 12 different questions related to the management fee and performance fee/ performance allocation. There are at least 22 different questions related to the fund’s contribution periods and withdrawal periods. This level of customization does not come from a boilerplate form. Furthermore, many of these questions or options may have specific implications for the manager’s business either from a legal standpoint or a business standpoint. Many times the lawyer will need to have an in-depth discussion with the manager to help the manager determine which option is right for the fund.

Why are offering documents so long?

Offering documents are long – there is no getting around it. The structure of the offering documents are determined by the federal and state securities laws and thus there is not really any wiggle room. While it is often said that the hedge fund industry is “not regulated” or “lightly regulated” there are many hedge fund laws and regulations which managers must follow. These laws dictate many aspects of the documents and are why offering documents are so long (and also why offering documents from different firms are structured so similarly).

In this prior post, discussing “Prospectus Creep” we discussed the length of offering documents:

4. Is the Prospectus written for the Manager or the Investor?

Castle Hall discusses the interesting phenomenon of “Prospectus Creep” or basically the lengthening of hedge fund offering documents as hedge fund lawyers add more clauses to the documents which are designed to protect the managers. Castle Hall notes that “today’s offering documents are typically drafted to give maximum freedom of action for the manager and often permit unrestricted investment activities. Investors are also faced with offering documents which list every possible risk factor in an attempt to absolve the manager from responsibility under virtually all loss scenarios.”

HFLB: We agree that offering documents can be long and that often they contain a long list of risk factors associated with the investment program. The purpose of the offering documents is to explain the manager’s investment program and if the manager truly has a “kitchen sink” investment program, then all of the disclosures and risk factors are a necessary part of the offering documents. However we also feel that hedge fund offering documents should accurately describe the manager’s proposed investment program and that if the manager has a very specific strategy, he should provide as much detail to the investors as possible.

Can I draft offering documents myself? I have a friend who has some documents I think I can modify.

No. You should never draft offering documents yourself. I have seen countless examples of people who have tried to draft their own offering documents based on another fund. Many times these people will ask me to “check the documents.” Ninety-five percent of the time a brief skim of the documents will reveal major errors that cannot simply be fixed with a 2 hour review. In most all occasions the documents will need to be completely scrapped.

Are all law firm offering documents the same?

No, but law firm documents are all very similar.

It is an interesting phenomenon in the hedge fund legal world that attorneys are always interested in (or obsessed with) reading the other law firms offering documents. As one of those lawyers that is very interested in the differences between the offering documents, I have studied the documents from most all of the major hedge fund law firms including the firms listed below which are considered to be the best in the industry.

Sidley Austin
Shartsis Friese
Seward & Kissel
Kleinberg, Kaplan, Wolff & Cohen
Katten Muchin Rosenman
Schulte Roth & Zabel
Akin Gump Strauss Hauer & Feld
K&L Gates

I have probably read through 500 different offering documents (many from the same large law firms) and have found most documents to be quite similar. For the most part with a name brand firm you are going to get a quality product that is probably pretty equal to another large or name brand law firm. These documents will very likely protect you in all of the necessary ways.

However, that is not to say that all large law firm offering documents are perfect. I have seen offering documents which cost over $70,000 with typos and errors. Many times expensive offering documents are sloppy in certain respects – I expect this is because many large law firms use inexperienced associate attorneys to draft the offering documents.

Does price equal quality?

Not necessarily. While you are less likely to receive white glove service from a document shop, BigLaw does not necessarily equate to fine quality – especially for small and start up managers. In a large law firm you are going to probably initially talk with a partner about your program who will then relay the information to an associate who will be in charge of your project. This means that your offering documents are likely drafted by an overworked associate who has relatively little experience.

I always recommend a start up manager ask the law firm who will be drafting the offering documents and how much experience the person has. Many large law firms will say that an associate will draft the documents but the partner will review prior to finalization. I find it hard to believe that a partner will review offering documents – many times this is not true.

Low cost offering documents – are you getting less quality?

In some cases yes, but in the case of my law firm documents the answer is a resounding NO. While my firm will charge around $13,000 to $18,000 for offering documents (considered to be on the lower end), this does not mean that the quality of my work is less than any other firm.

As I have mentioned before on this site, I have worked with a substantial number of start up hedge funds and have drafted the offering documents or worked on around 150 funds. Also, I have spent a great deal of time dissecting offering documents from a large number of firms. My dedication to completely understanding the offering documents, along with my passion for the industry and helping managers with their business issues makes my services a compelling alternative to other firms which may cost more.

Additionally, I value the client relationship and always strive to return emails and phone calls promptly.

Conclusion

While the offering documents are the tangible item which you receive from your hedge fund lawyer, it is not the only part of the representation. The offering documents are not valuable as objects, but really as a representation of the prior experience of the attorney who prepared those documents for your fund, based on your needs.

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Please contact us if you have any questions or would like to start a hedge fund. Other related hedge fund law articles include:

Bart Mallon, Esq. runs hedge fund law blog and has written most all of the articles which appear on this website. Mr. Mallon’s legal practice is devoted to helping emerging and start up hedge fund managers successfully launch a hedge fund. If you are a hedge fund manager who is looking to start a hedge fund, or if you have questions about becoming registered as a CPO or CTA, please call Mr. Mallon directly at 415-296-8510.

Revising Hedge Fund Offering Documents

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It is very important that hedge fund managers always provide potential investors with hedge fund offering documents which are current and up to date.* Because of certain changes to the various hedge fund laws within the past few months (and because of the increased likelihood of future rules/regulations changes) a hedge fund private placement memorandum which was current 3 months ago will likely need to be revised.

*As always, hedge fund offering documents should only be drafted by a knowledgeable hedge fund attorney.

Specifically, there are two changes which will need to be implemented immediately – the change of the new issue rule (applicable to most funds) and the abolition of Section 409 (applicable to a small number of hedge funds). This article will detail the changes that will need to be made and will discuss how your hedge fund attorney will go about this. Continue reading →

New York Hedge Fund Law

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Starting a Hedge Fund in New York

It is no secret that New York is the center of the investment management universe and the home of a large majority of hedge funds. For both small and large managers New York offers many befits, namely a proximity to Wall Street and many of the investment banks and also an exemption from investment advisor registration (see discussion below). This article discusses the New York investment advisor exemption, the Form 99 filings and New York investment advisor FAQs. Continue reading →

Nevada Hedge Fund Law

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Starting a Hedge Fund in Nevada

While Nevada may be the favorite place for hedge fund managers to spend their money, it is not necessarily a place where hedge fund managers want to be located. The reason is that Nevada requires hedge fund managers with a place of business in Nevada to be registered as an investment advisor with Nevada. If a start up hedge fund manager does not want to register as an investment advisor, they should not establish a place of business within Nevada. Continue reading →

Incubator Hedge Funds

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How to Create an Auditable and Marketable Trackrecord

One of the biggest hurdles that start up hedge fund managers face is the issue of having a marketable track record. Many managers do not have an audited marketable trackrecord for any number of reasons. While it is not strictly necessary to have an audited marketable trackrecord, it will help with the marketing efforts when soliciting investors, especially institutional investors. To solve this problem many start up managers establish incubator hedge funds. Continue reading →