In an effort to help establish a better framework for the hedge fund operational due diligence (ODD) process, professional services firm Rothstein Kass has launched a set of best practice ODD guidelines.
Designed to improve the ODD process for both managers and investors, the guidelines are the result of a two-day working group where investment managers, institutional investors and a team of Rothstein Kass experts engaged in open discussions to identify the inefficiencies in the ODD process and create best practice guidelines for the industry.
The ODD guidelines are the first formal publication from the Rothstein Kass Institute, a thought leadership “think tank” designed to provide actionable information and insights to the alternative investment and broader financial services communities.
“Despite its heightened focus in the last five years, there is still a lot of inefficiency and frustration surrounding operational due diligence for both investment managers and investors,” says Howard Altman, co-managing principal at Rothstein Kass and principal-in-charge of the firm’s financial services practice. “Recently we have seen serious examples of the critical need for thorough operational controls and evaluations, with Hurricane Sandy testing disaster recovery and business continuity plans, and new allegations of insider trading both highlighting the importance of having a ‘culture of compliance’ within a firm. This working group uncovered some of the key disconnects that cause investors and managers the most pain in the operational due diligence process.”
Participants widely agreed that the lack of standardisation, communication and preparation for meetings were major impediments to an efficient ODD process. Investor participants revealed that some investors may be constrained by a lack of resources, which can lead to a fragmented process and redundancies or superfluous work by the managers when they become involved. Another roadblock identified is the difficulty of managing sensitive document requests and disclosures, as both sides struggle with perceived conflicts of interest and materiality.
“Our research and ongoing dialog with clients suggests that the due diligence process timeline continues to lengthen, which can be frustrating to managers and investors alike. Getting both investors and managers to engage in open discussions is critical to recognizing and addressing operational due diligence inefficiencies and streamlining the overall due diligence process,” says Meredith Jones, director, Rothstein Kass Business Advisory Services. “The recommendations that our working group developed are both actionable and practical for managers and investors of almost any size. Furthermore, a manager or investor need not alter their entire process to reap benefits. Adopting one or more of these practices should create immediate incremental improvements in the ODD process, allowing both managers and investors to better leverage their time.”
After uncovering some of the key impediments in the ODD process from both the manager and investor perspectives, the working group identified a set of best practice guidelines to improve communication and meeting preparation procedures used by both investors and managers. Some of the suggested recommendations included:
• Providing a complete and standardised documentation package
• Setting meeting agendas in advance to allow for efficient preparation
• Leveraging available information and composing materials with standard answers to commonly asked questions
• Holding operational due diligence days
• Asking the right question to the right person.
