When a fund approaches its end, it makes sense to ensure that it is being operated in the optimal way. Michelle Morgan and Christopher Bodden of Harbour explain the options.
Inevitably, a fund will end. Some will reach a natural end of life while others will experience an unfortunate series of events that ultimately results in the decision to terminate. Regardless of the reason, it makes sense to step back and take a fresh look at the fund prior to commencing the wind-down to ensure that it is being operated in the optimal way.
As the focus of the fund’s operators shifts to maximising the return of shareholder capital, operators should look specifically at service provider arrangements and whether they are still the best fit. Here we will discuss how relationships with existing service providers can be adapted as the fund prepares to close.
Directors should remain active and engaged all the way through to formal liquidation but as stated above, there is a shift in focus at this time to asset preservation and ensuring that the fund does not unnecessarily incur ongoing expenses. Having the oversight of an engaged and experienced board is beneficial to ensuring optimal decisions are taken. If the process is going to be complex, it may be beneficial to bring on new directors with greater experience dealing with distressed funds, or partnering with insolvency specialists, to help guide the process.
If, however, the wind-down is expected to be straightforward and non-contentious, there are options relating to the composition of the board that can be considered if ongoing expenses are material versus the assets remaining in the fund. Operators should consider whether shareholders would feel comfortable reducing the number of board members.
If the structure in question is a typical master fund with onshore and offshore feeder funds where one of those feeder funds has already closed, it may be advantageous to consolidate the remaining feeder with the master. It may be worth paying the one-time restructuring fees to increase ongoing efficiency and to reduce the future costs associated with maintaining the former structure. This will of course depend on the legal forms of the entities, expected tail of the wind-down, and jurisdictional requirements.
Administrator service level agreements should be reviewed to ensure they align with the current requirements of the fund, given its new objective. This is particularly the case for funds of funds where all investors are withdrawing, the investment manager has submitted redemption requests for all underlying investments, and both parties are just waiting for proceeds to be distributed over a number of years.
As asset size dwindles, so do fees earned on basis points and a fund’s administrator may be more than happy to change the scope of their work. The responsible parties should look at realigning the services provided and renegotiating fees. At this stage, investors may also be comfortable with switching from monthly net asset value (NAV) production to less frequent valuations.
"Administrator service level agreements should be reviewed to ensure they align with the current requirements of the fund, given its new objective."
If a fund utilises an administrator whose business and pricing models are intended for investment vehicles during periods of normal operation, it may make sense to switch to another provider. It is crucial, however, to ensure that the cost and effort required to change is fully appreciated beforehand. For example, administrators may have different anti-money laundering (AML) requirements either due to their own internal procedures or because of AML legislation in their jurisdiction, so this should all be understood in advance.
If switching administrators also requires opening of new bank accounts, this potentially cumbersome process should also be factored into the decision. Expected ongoing savings should not be outweighed by the additional cost of the new administrator’s onboarding process or the time and efforts required by the operators to oversee the transition.
Investment manager and auditor
Considering again the case of the fund of funds waiting several years to realise its positions, it may make sense to terminate the investment management agreement or restructure fees. The goal of discontinuing the relationship would be to lessen the operational and emotional burden of the investment manager, affording them additional time to devote to their ongoing business.
Terminating this relationship may have the added benefit of reducing unnecessary regulatory burden on the fund that existed solely due to its association with the investment manager. Depending on the jurisdiction, part of this regulatory relief may be that an audit is no longer required. If investors are also in agreement, this can be a significant area of savings.
With an investment management agreement no longer in place, the investment management responsibility falls back to the directors. If there is a chance that portfolio realisation opportunities may arise in the secondary market and there is a desire to have a more specialised provider involved, a liquidating agent can be appointed who can then advise the directors on such opportunities.
This can even be the same party as the intended future liquidator so that there will be an easier transition when the time for voluntary liquidation comes. It is therefore beneficial, if the situation doesn’t result in any conflicts of interest, to find fiduciaries, administrators, and liquidating agents who have worked together effectively in the past, such that their collective capabilities have been proven.
Another option available to the operators and the investment manager is to simply sell the fund’s remaining illiquid positions in the secondary market, either individually or as a basket. The market for such sales has increased significantly over the past several years. Although securities will sell at a significant discount to the value that may be realised over time, a quick sale will facilitate an expedited wind-down that will reduce cost and administrative burden.
These are all proactive steps that should be considered when a fund enters its final phase. Managers should not hesitate to contact their fiduciary, restructuring, or legal service providers to start the conversation. Just because a fund is down and out, does not mean it is not the right time to reevaluate options. In fact, it may be the perfect time to do so.
Michelle Morgan is a senior vice president at The Harbour Trust. She can be contacted at: firstname.lastname@example.org
Christopher Bodden is a senior vice president at The Harbour Trust. He can be contacted at: email@example.com
Michelle Morgan, Christopher Bodden, Harbour, Cayman Islands