Second Annual Operational Due Diligence Survey (Deutsche Bank)

July 2013

KEYWORDS: due diligence, Institutional Investors, assets under management, AUM, MF Global, Survey, risk management, Volatility, transparency, startup capital, emerging managers, European, Asia Pacific, operational due diligence, Hedge Fund Regulation, due diligence questionnaire

Authors:

Deutsche Bank

Organizations:
  • Deutsche Bank

Summary:

Key Highlights

The importance of ODD in the investment decision process is increasing. Over 70% of ODD teams now have explicit veto authority, which was exercised in almost 10% of the manager reviews conducted by our respondents last year. Furthermore, 63% of investor respondents will not reconsider investing in a fund that their ODD team has previously vetoed.

New and changing regulatory requirements will influence ODD reviews. 74% of ODD teams ranked a fund’s compliance and regulatory framework as a top focus area for 2013 and 55% of investors expect to review a fund’s Form PF as part of the ODD process.

Investors are placing greater emphasis on the depth and breadth of their ODD team. Respondents on average conduct 50 manager reviews a year, and almost 80% of respondents have dedicated ODD teams. 64% of those have teams of four or more people. Teams predominantly consist of operations and accounting experts; however, we expect to see allocators increasingly looking for legal and compliance backgrounds in the future as they place the spotlight on a fund’s regulatory framework.

Managers can expect a thorough review of daily operations during the site-visit. Many investors have indicated a “trust but verify” approach to validating what managers represent in their documentation during the ODD review. Almost 60% of respondents state that they observe daily operations as part of a typical ODD review and we expect this percentage to increase significantly in the coming years.

Start-up managers need to invest in people and process. Investment in human capital and proper segregation of duties were ranked as the top two operational recommendations for start-up and emerging managers.

Investors are increasingly focused on fund expenses. The majority of respondents have little or no tolerance for certain expenses being charged to the fund, such as non research-related travel and employee compensation. However, over 40% of respondents feel that it is acceptable to charge regulatory reporting to the fund, provided that it is disclosed appropriately.

Independent governance is expected. The majority of respondents prefer at least three directors on the board including two independent directors. Furthermore, nearly a quarter of respondents have vetoed an investment due to lack of independent governance.

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