Intro to role of offshore hedge fund director (jul 2011)

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Intro to role of offshore hedge fund director (jul 2011)

  1. 1. role of a hedge fund director (intro)By: Alric Lindsay, Cayman Director, Cayman Counsel www.cidirector.com
  2. 2. Summary www.cidirector.comDISCUSSION POINTS 1 Typical (Offshore) Hedge Fund Structure 2 Reasons for Cayman as a Domicile 3 (Offshore) Director’s Role Generally and Delegation of Responsibilities 4 Failure to Monitor/Supervise Delegates 5 Q&A
  3. 3. Typical (Offshore) Hedge Fund StructureMaster-Feeder Structure This chart illustrates a common •US Domestic Feeder which •Cayman Offshore feeder accepts subscriptions from which accepts master-feeder structure. US taxable investors subscriptions from US tax •Typically, a Delaware exempt investors (usually, entity is used for this pension plans) and Non-US As the chart shows, a US entity may purpose investors be set up to take in US taxable investors. A Cayman offshore fund is Onshore Offshore formed to take in Non-US investors Feeder Feeder and US Tax Exempt Investors. Both entities then invest in a Cayman master fund, which makes the •Cayman Offshore master actual investments for the fund into which both structure. feeders invest Offshore Masterwww.cidirector.com
  4. 4. Reasons for Choosing Cayman (THE WORLD’S #1 DOMICILE)• No Direct Income or Corporate Tax • Good Legal System Based On or Tax on Capital Gains or Other English Law Income • Excellent Infrastructure• Stable Government and Close Ties To United Kingdom• Proximity to North America and Other Financial Centres• Available Pool of Professionals With Hedge Fund and Financial Services Experiencewww.cidirector.com
  5. 5. Reasons for Choosing Cayman(THE WORLD’S #1 DOMICILE) Pre-Financial Crisis, Cayman was said to be the jurisdiction of choice for a large percentage of hedge funds 60% other other otherwww.cidirector.com
  6. 6. (Offshore) Director’s Role Generally As a director cannot usually perform all Director aspects of the hedge fund’s business alone, for example, the completion of accounting and fund administration,• Overall responsibility for fund lies with board of directors auditing at year-end and daily trading and• Board may delegate responsibilities to service providers below decision-making, a director will cause the• However, Board remains ultimately responsible for monitoring and supervision of delegates hedge fund to enter into various contracts with service providers. The terms of such agreements will specify the responsibilities Administrator that a director delegates to such service providers, including administrators and investment managers. Any person that is• Board delegates calculation of fund’s NAV to administrator appointed as director must be intimate• Administrator processes subscriptions, redemptions and transfers of shares/units/interests in the fund with the roles of these parties.• Administrator may maintain the register of shareholders of the fund Investment Management Entity•Board delegates daily investment decision-making to the investment manager•Manager may earn a management and/or performance fee Other Service Providers•Other service providers include bankers, custodians, prime brokers www.cidirector.com
  7. 7. (Offshore) Director’s Role GenerallyDelegation (continued): Common Misconceptions • A Director Can Take a “Hands-Off” Approach: WRONG. THE BOARD MUST HOLD SUCH MEETINGS AS REQUIRED FOR THE PARTICULAR FUND AND ENSURE THAT THE ADMINISTRATOR, INVESTMENT ADVISER AND OTHER SERVICE PROVIDERS REPORT TO THE BOARD ON A PERIODIC BASIS • Delegation Removes A Director’s Liability: WRONG. ULTIMATELY ACCOUNTABILITY AND RESPONSIBILITY LIES WITH THE BOARD. A DIRECTOR MAY BE FOUND LIABLE FOR PROVEN BREACHES OF HIS DUTIESwww.cidirector.com
  8. 8. (Offshore) Director’s Role Generally Delegation (Continued): Proper Understanding of Functions• In order to minimize the • Misconceptions held by fund occurrence of problems, a director directors may lead to issues. must ensure that he understands the terms of each agreement that a fund enters into with a service provider, including the specific responsibilities that are being delegated. He must also ensure that service providers are properly carrying out their duties by monitoring and supervision as discussed above.www.cidirector.com
  9. 9. Failure To Supervise DelegatesIssues that may arise www.cidirector.com Example 1: • Fund’s offering document states that the fund may not invest more than 5% of the fund’s assets in real estate. • Director fails to complete a timely review of periodic accounts or net asset value reports issued by the investment manager or administrator. • Due to this omission, it goes unnoticed that 50% of the fund’s assets are actually invested in real estate. • Value of real estate investment falls to zero. Fund incurs significant losses of assets. • A prudent director would have noticed the breach of investment restrictions, drawn it to the attention of the investment manager and ensured that the manager corrected the position.
  10. 10. Failure To Supervise Delegates Issues that may arise Example 2: • Investment manager claims to be investing the assets of the fund, but over several fiscal periods, he fails to invest any assets of the fund. Falsified statements are sent to investors, supporting the manager’s false claims • Directors fail to do a periodic check with the independent custodian of the fund’s assets to determine if such investments actually exist. • Fraud goes undetected and manager depletes the fund’s entire assets • A prudent director would complete a random or periodic check with the fund’s custodian • Waiting for this to be caught by the auditors during the annual audit of the fund is too late to discover that the no investments exist and that the entire structure was a ponzi schemewww.cidirector.com
  11. 11. Questions & Answers1Q: How Should A Director Manage Strategy “Drift” ? (investors are chasing increasing returns, manager feels pressure to produce alpha and goes outside the fund’s investment objective and strategy to achieve investor’s wishes)www.cidirector.com
  12. 12. Questions & Answers1• A: “Strategy Drift” may occur from time to time. Although it may seem that the manager is outside the investment objective & strategy (i) the offering document may contain a disclosure that it is not an exhaustive list of strategies and/or (ii) the manager may actually be acting within a discretion contained in the terms of the fund documentation. Therefore, a strategy drift may not be a drift at all.• The fund’s director or lawyer must review the fund documentation to determine if the perceived departure from the strategy or discretion is an actual departure. Investors should be given an opportunity to redeem in cases of actual breach.www.cidirector.com
  13. 13. Questions & Answers2• Q: Are All Hedge Funds Required To Have Directors?www.cidirector.com
  14. 14. Questions & Answers2• A: Due to various hedge fund scandals and for other reasons, a need has arisen for independent parties in a hedge fund structure. Therefore, the need for an independent Cayman director on the boards of Cayman hedge funds. If there were no independent parties and board members were all representatives of the investment manager, then the manager would be left to do as he pleases (which may not be in line with the wishes of investors). Independent directors must therefore be appointed to act as watchdogs for investors. At least one director is required for a Cayman fund which is not registered with the regulator. A registered fund requires two directors.www.cidirector.com
  15. 15. Questions & Answers3• Q: Do Directors Have Their Own Stake/Investment In The Fund Or Are They Completely Third Parties And Have No Ties To The Fund?www.cidirector.com
  16. 16. Questions & Answers3• A: By way of background, from a Cayman point of view, there is no legal requirement for a director to make any investment in a fund. However, where a director is also a representative of the investment manager, that director may decide to invest in the fund. In return, such director is typically issued shares with special terms (e.g. no performance fee or management fee is applicable to such shares)www.cidirector.com
  17. 17. Questions & Answers4• Q: It Is Understood That A Director Must Supervise All of The Relevant Parties, But How Much Contact Must A Director Have With Service Providers In Order To Monitor And Supervise These Parties?www.cidirector.com
  18. 18. Questions & Answers4• A: The amount of time that a director spends on any particular fund depends upon (among other things) how much activity the fund has (monthly vs. quarterly NAV, frequency of board meetings, etc) and the particular director’s model. One suggestion is for a director to link the amount of contact to the frequency of the NAV calculation. For example, if the fund is subject to a monthly NAV, then the director should contact the administrator or the investment manager at that time to discuss the reasons for any unusual changes in NAV and to confirm whether such changes are due to a departure from strategy or performance of the market.www.cidirector.com
  19. 19. Questions & Answers5• Q: What Are The Advantages For A Start-Up Hedge Fund To Domicile Somewhere Other Than The Caymans?www.cidirector.com
  20. 20. Questions & Answers5• A: Choice of a hedge fund domicile is usually influenced by the jurisdiction that a client is coming from. Cayman is preferred due to better regulation, infrastructure and the good attitude towards the protection of investors’ interests.• Cayman also offers products for start-up managers. For example, start-up platforms are available whereby a new manager would be responsible for running a portfolio of an existing segregated portfolio company structure. The manager uses this portfolio to build a track record and build capital. At the relevant time, he exits the platform and, hopefully, starts his own stand-alone fund.www.cidirector.com
  21. 21. Questions & Answers6Q: Does Jersey, Luxembourg, Or Mauritius Have A Strategic Advantage Or A Niche For A Certain Type Of Manager?www.cidirector.com
  22. 22. Questions & Answers6A: Many of the so-called strategic advantages of using jurisdictions outside Cayman are simply clever “marketing” and based on misleading “perceptions”. One misleading perception is that Cayman does not have proper legislation and laws. However, the fact is that the Cayman Islands has had to implement strict laws and regulations in response to pressure from international bodies and large countries. As a result, the Cayman Islands has higher standards than many other countries, especially in the area of anti-money laundering. Some parties may select a European domicile because managers who want to market to European investors feel forced by the EU Directive to domicile in Europe (there is no particular value added by this choice and a domicile in Europe may not necessarily result in better protection for investors or better performance)• As a result of the foregoing, it is important that stakeholders distinguish between “perceived” advantages and “actual” advantages.• Obviously, bigger countries market “perceived” advantages in order to attract new capital following the global financial crisis and as a tactic to keep existing capital within their jurisdiction.• Upon researching the facts, investors will see that Cayman is a better , non-misleading choice.www.cidirector.com
  23. 23. End of Presentation By: Alric Lindsay alric.lindsay@cidirector.com www.cidirector.com Twitter: CaymanFundGuy

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