How To Choose An Administrator
I have been asked today to discuss how you choose an administrator, but before getting into that, I thought I would briefly explain, what an Administrator does.
In simple terms, an Administrator is responsible for ensuring the efficient operation of a fund, whilst at the same time relieving the Investment Manager from having to do all the boring stuff, such as:
- Calculating the NAV and the NAV per share or unit;
- Keeping the accounts;
- Liasing with the Investment Advisor;
- Liasing with the Custodian and the Broker;
- Liasing with prospective investors and sending out the offering documentation;
- Calculating, confirming and arranging payment of all subscriptions, redemptions, fees and expenses;
- Maintaining the statutory books and records;
- Preparing the annual audit file and liasing with the Auditor;
- Arranging for the payment of all dividends or other distributions, if required;
- Often the Administrator will also act as Registrar & Transfer Agent, handling the registration of shares and liasing with shareholders with regard to subscriptions and redemptions; and
- The Administrator may also act as Company Secretary - and will therefore be responsible, amongst other things, for arranging Board Meetings, calling the AGM and preparing Board Minutes.
In summary, as I said, an Administrator should be responsible for making sure everything is done to enable the fund to run efficiently in all aspects, except the management of the assets - that is the Investment Manager's task. Thus an efficient Administrator will enable the Investment Manager to sit in his ivory tower and make pots of money, without distraction.
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So much for what an Administrator does, but how do you (and how should you) go about identifying and selecting the perfect Administrator, who is able to do all this work
First of all, you must have an absolutely clear understanding of your requirements - What do you want - or perhaps more to the point - What do you need
I will come back to that later.
Secondly you should carry out your own due diligence.
It is extraordinary to me that, whereas almost all Investment Managers would expect any sophisticated investor to carry out serious in depth due diligence, on the money manager itself, on the money manger's trading techniques, its past performance, checking references, reviewing systems, in fact delving into everything, yet those same Investment Managers, when acting as promoters of funds, often will not carry out even the simplest due diligence when selecting an Administrator, other than getting a fee quote.
Let me be quite categoric due diligence is essential when choosing an administrator.
As you have heard my time is limited - so I will just give you some pointers to bear in mind.
First of all you should get references and be clear about what the references say - and what they dont say.
I have told this story before, but I think it bears repeating. When I first moved to Ireland, I was looking for someone to work at my home. My lawyer at the time, who was a canny old bird, told me to look out for what was missing from a reference - what was in there may not be quite so relevant.
For example, if the reference didn't say that the person I was considering employing was sober and honest, then that probably meant that he was a drunken thief.
You should look for similar clues.
Sadly I have to say that almost every reference you get, will probably say that the referees does not accept responsibility for what the reference says, but occasionally you may get a reference from somebody saying, directly, or between the lines:
"I wouldnt touch this company with a barge pole" and that is quite useful.
In fact I believe that when getting a reference, it is often better to call the referee, because they may say something "off the record" that they would not commit to writing
Secondly, as a trader, you would normally "check your market". Do the same when selecting an administrator.
That is to say, look at more than one Administrator - hold a beauty parade - find out what they offer.
Thirdly, if you can, you should visit their offices and see what they do and how they do it.
You should, quite soon, have a pretty clear idea whether they are able to offer a personal service and whether you are going to be allocated one named person as your account executive (preferably backed up by another named person), or whether you will be an anonymous account. Remember, if you have a query, you need know you only have to ring up "Joe" to get a quick answer - and not find yourself floating around the ethernet, wandering from extension to extension, ending up with someone saying "I can't help you, because the person who did that last week has gone fishing".
Basically you have got to find out if you are going to be treated as a person or as a number.
Furthermore, talking about phone calls - another thing to register when you first start your enquiries is, how long does it take for your calls, to be returned
Just think this through - if, when you are trying to select an Administrator, it takes two or three days before your calls are returned - and remember that, at this stage, the prospective Administrator is supposed to be selling its services to you - just imagine how long the delay could be before your telephone calls are returned once you are actually a signed-up client.
Prompt and efficient (and polite) response to 'phone calls is important and especially so when you remember that the Administrator is going to be the "front man" for your fund, i.e. the contact between the fund and your investors or prospective investors.
Ask the Administrator how many clients they have in total and, more importantly, how many clients do they have that invest in the same asset classes, sectors or disciplines as you do.
If you are dealing in an exotic instrument, and the Administrator has never handled that instrument, then you must ensure that it is capable of doing so. The fact that it hasnt handled the instrument doesnt mean it can't, although it would be added comfort if you know, from day one, that the Administrator has other accounts that deal in the same instruments as you do.
If there is a foreign language involved, make sure that there are clear and accurate translations and that you are both working off the same page.
Review the administrators standard agreement and get a detailed procedures manual - a term sheet if you like - to explain exactly what the Administrator is going to do and (and this is very important) who is responsible, in which office, for each specific task.
Find out what are the qualifications of the Administrators' staff - how many professionals do they have - previous employment history etc.
You should be aware that the Administrator also has certain fiduciary responsibilities to investors, for example overseeing and verifying valuations and being able to justify them. Find out if they are capable of carrying out esoteric valuations if required.
The Administrator has similar responsibilities with regard to ensuring compliance, by the fund and the Board of Directors, with relevant regulations and, particularly, anti- money laundering regulations. Find out how they handle this.
You need to consider the matter of transparency.
Following the recent market turmoil, there has been an increasing demand for transparency, which means, amongst other things, that many investors will want to be able to see what is going on, on a more regular basis than hitherto.
I think it is likely that funds, that are only open, for subscriptions and redemptions, once
every three, six or twelve months will become less acceptable. They have always been
fairly unacceptable in Europe, but I think they will become even less acceptable and, indeed, sophisticated and institutional investors will be wanting more than just monthly valuations. Therefore, I expect that more funds will be moving to weekly, or even daily valuations and you need to know whether your Administrator is able to produce a weekly or daily valuation and whether it is necessary for those to be full valuations, or whether estimates will be acceptable.
This will depend on whether you actually want to deal (accept subscriptions and/or redemptions) on a daily, or weekly basis, or whether you only want to deal on a monthly basis, but still provide valuations (or estimated valuations) more often.
Then there is the vexed question of equalisation.
"Equalisation" is the term used to describe the calculation of incentive fees on the basis of individual shareholders' holdings, rather than on the fund as a whole. This concept was originally introduced in order to prevent investors, who may buy into a fund after a decline in the NAV, from having a "free ride" until the NAV has climbed back up to the last "high-water" mark. Let me explain:
Let us imagine that the NAV per share of a new fund has risen from US$100 to US$120, and an incentive fee of 20% is paid at that point. Subsequently the price declines from US$116 (i.e. $120 net of 20% incentive) to US$90 and a new investor buys into the fund. Without an equalisation structure, that investor would get a free ride on any rise from US$90 up to the high water mark atUS$120, and the Investment Manager will not earn its rightful incentive fee on that particular shareholder's gain.
In fact there is also a problem with the equitable distribution of the incentive fee, if a new shareholder buys in at the high-water mark, before the subsequent decline to US$90 - but I won't bore you with explaining the mathematics now. Please take it as read
There are a number of ways of handling this problem. The four most common are:
(i) Issuing a different series of shares every time shareholders subscribe; or using what is called
(ii) The Equalisation Share method; or
(iii) The Equalisation and Depreciation Deposit method; or
(iv) The Equalisation-Adjustment method.
I am not going to attempt to describe these methods in any detail today, because I dont think I could do it in the time I have been allocated for this complete presentation. Suffice it to say all of these methods work, more or less, and are effective, more or less - but, unfortunately, they all have one and the same major drawback - they are extremely complex and, frankly, it is difficult to explain to investors how any equalisation procedure works without their eyes glazing over.
Therefore what it comes down to is: You have got to decide what sort of equalisation procedures, if any, you wish the fund to follow and you have got to find out whether the Administrator is capable of working with your particular chosen equalisation method.
This comes on to systems. You must check whether the Administrators' systems are effective and efficient.
You must find out if they are fully Y2K compliant. Has the Administrator instigated a Y2K programme Such a programme should both review and test their in-house systems and ensure, on an ongoing basis, that both their own and the fund's third party suppliers (including the Investment Manager) are Y2K compliant.
Again this is a whole other subject which would take two or three workshops on its own - suffice it to say, it is very very important
If you are dealing in a Euro currency, or in investments that are Euro related, then you need to find out if the Administrator has geared up for the introduction of the Euro.
When I started I said that you should have a clear idea of your requirements but, of course, Investment Managers, who are setting up their first fund have no idea what their requirements are - and indeed why should they Presumably that is why you are attending this workshop.
Therefore you need to feel comfortable that the prospective Administrator is going to be proactive, rather than reactive; i.e. hold you hand.
I thought I should give you some examples of what you may, or may not, want done and, which you should clarify with the Administrator, before entering into any agreement or starting to work together.
The first example is when calculating the NAV, do you need the Administrator to re-post every transaction, in order to value the portfolio
This is the traditional way of maintaining the books and records of equity, or bond accounts, but it is arguably a totally unnecessary expense for a futures, commodities or currency fund, or indeed any classic hedge fund using a Clearing Broker or Prime Broker. The reason that it is an unnecessary expense is that, for the most part, the Administrator will be relying, for the valuation of the portfolio, on the statements issued by the Prime Broker
Let us assume that we act as an Administrator for a fund that is using Bear Stearns, and all of the assets, not held at the Custodian Bank, are held at Bear Stearns, there would be little or no added value in re-posting all of the transactions, and calculating the value of these assets - the portfolio - because we would be using the same information and the same prices from the same source, that Bear Stearns is using.
Therefore, providing that the Investment Manager confirms that every transaction that was executed during the accounting period is shown in the Bear Stearns statements, then we, as Administrator, would take the Bear Stearns portfolio valuation as the basis of our NAV calculation. We would then compute in the accruals and other fees and expenses.
Having said that there will be some funds where re-posting of the transactions is both desirable and necessary.
Also some emerging Investment Managers may require the Administrator to effectively provide their back office. Can the Administrators handle this
Will you be paying commissions, or fee rebates to introducers If so, will you, as the Investment Manager, calculate what is to be paid, or will you want the Administrator to do that
Will you be sending monthly, or quarterly investment reports to investors Will this be done by the Administrator or will you do it
Do you plan to accept US Investors Is the Administrator aware of and capable of handling the accounting and reporting requirements of US investors
You need to make a decision as to Price Discovery for the fund. Which data and media services do you wish information on the fund to be given to and will you or the Administrator do that
Is the fund going to be listed on a stock exchange If so, you will presumably want the Administrator to ensure compliance, by the fund and by the directors, with the Continuing Obligations of the relevant Stock Exchange. Can and will the Administrator do this
Is the Administrator internet friendly
Presumably:- but not necessarily. You would imagine in this day and age that all Administrators have e-mail, however one of our clients rejected a prospective administrator in the Caribbean, because they didnt - and that was this summer.
Apart from e-mail, does your Administrator have the capacity to interface
electronically with other service providers, such as brokers, or banks.
Finally when you have done all of this - finished the beauty parade - dont go for the cheapest, go for value.
Remember an Administrator should add value, to a fund, and the more you want your Administrator to do, then the more it will cost. Even in today's high-tech environment, administration is a labour intensive business and everywhere that Administrators operate, labour costs are rising.
There is a great tendency to assume that Administration is a simple book-keeping task and that the Administrator that can do it cheapest, is the one you want. Rest assured that this will almost inevitably turn out to be a totally false economy
Dont forget that old clich - if you pay peanuts, you get monkeys.