The cornerstone of a successful hedge fund is a successful investment strategy. Of course. However, if the managers of the potential hedge fund fail to raise capital, that potential will never be tested or realized. Below are the five key points that we believe hedge fund managers should consider when raising capital for their funds.
# 1 follow the money
It is essential to be “user friendly” (aka “investor friendly”) in your approach to potential investors. This means that the structure of your fund should be designed to meet the tax and other possible concerns of your investors. To do this, first identify the tax jurisdictions of your main investors. Then consult your tax advisor to better understand the tax preferences of potential investors. For example, some types of investors prefer tax transfer structures while others do not. Experienced tax advisers can help you plan a unique structure that can address the seemingly irrelevant concerns of different types of investors. Also consult your legal advisor for any non-tax concerns that your structure should also address.
For example, certain types of investors may prefer to make their investments in entities incorporated in certain jurisdictions. Again, here too, an experienced advisor can plan your fund structure in a way that âfollows the moneyâ in the sense that it will be âfriendlyâ from your investor perspective.
# 2 keep it simple
You should aim to present your fund to your investors in a “user-friendly” manner. This means that the financial and legal terms of your fund should be as simple and common as possible. Think of it this way: your investment strategies, or at least their main principles, are complex enough for your investors to assimilate and understand them. So, keep the rest of your âstoryâ (ie the financial and legal terms of the fund) as simple as possible.
It also means presenting your fund to your potential investors through clear and concise documents. A very clear PowerPoint presentation is essential. It is well worth the effort to make this presentation as excellent as it can be. The presentation should be very “strong” and convincing about your investment strategies, background and biographies. For example, while your background is obviously essential and important to highlight in your presentation, so is the common background of your team. Experienced investors see the cohesion of the management team as a key part of due diligence. The presentation should be followed by a âstatement of conditionsâ or conditions sheet that summarizes the main financial and legal terms of your fund. It is usually around 8 to 12 pages long, presented in a user-friendly table format and prepared by your lawyer.
You don’t need to define all aspects of your fund’s terms at this point. For example, one can be vague about the structure of the fund if you prefer to keep your structuring possibilities open until you “strengthen” your investor base.
After the statement of conditions comes the Private Placement Memorandum (PPM). The preparation of a PPM is optional in Israel. This is the âprivate offerâ version of a prospectus describing your fund. Some funds prepare them and others do not. The cost-benefit considerations involved are beyond the scope of this article. However, we will point out that there are other ways to get the benefits of a PPM without incurring the costs involved (in terms of management attention and fees). For example, you can attach the risk factors associated with investing in your fund (usually presented in the PPM) to other fund documents.
# 3 Get “soft” commitments
When you present your fund to your potential investors, try to get their âsoftâ commitment to invest in your fund. These commitments are considered âsoftâ because they are not legally binding. However, they can give you the assurance that you are making progress in your fundraising efforts and that you are indeed building an investor base that you can count on to ultimately invest in your fund. There are different ways of highlighting âsoftâ commitments. One way is to add a signature block to your PPP or statement of conditions that your potential investors can sign. These two documents are not binding by their terms, although these signatures create a certain level of moral commitment on the part of your potential investors. Just to be clear, the signatures of your potential investors at this point in your capital raising aren’t necessary or mission critical, but they’re nice to have.
You can also target or focus on one to three âanchor investorsâ for your fund to strengthen your investor base. These âpillar investorsâ may require that you share part of the economics of the management team with them. These demands can impact the economy of your leadership team members, so planning for this eventuality can prevent or at least minimize negative effects on your leadership team in the future.
# 4 follow the law
Remember that raising capital for a fund is no different from raising capital for a business. You offer your investors an interest in your fund just like a company offers stocks to its investors. Your fundraising process is in effect an ‘offer of securities’ which not be “covered” by a prospectus approved by the Israel Securities Authority. Therefore, Israeli securities laws will view your capital raising effort as a âprivate offerâ. You must be careful to comply with the restrictions imposed by these laws.
For example, posting an advertisement on the Internet announcing your offer is not a good idea. Also, keep in mind that there are legal restrictions on the number of potential investors you can approach in a 12 month period and on the total number of investors in your fund. Either way, experienced securities advisers can (and should) guide you on the dos and don’ts of this area.
It should be noted that technological developments have also impacted the regulation of âsecurities offersâ. In Israel, fund managers may find regulated crowdfunding platforms an efficient and convenient way to raise funds.
# 5 Be ready with final documents as needed, but not sooner
Your capital raising effort will peak if and when your investors actually invest in your fund. Your investors will need to sign the fund’s formal legal documents. These formal legal documents are usually the limited partnership agreement (or the articles of association / articles if the fund is in the form of a company) which forms the fund and sets its terms, the subscription contract and the investor questionnaires here. -seals who mainly focus on investor representations. , and perhaps cover letters that grant certain investors special rights and benefits. (As mentioned above, your fund may or may not also have a PPM that your investors can review.)
On the one hand, you obviously want these documents to be available as soon as possible in order to âcaptureâ your first committed investors. On the other hand, you may not want to spend your legal budget too early before knowing if you have been successful in building your investor base. Therefore, you can take a modular approach to documenting your fund.
First, prepare the presentation mentioned above. Second, after gaining traction with potential investors, prepare a statement of conditions. Finally, once you’ve all lined up the commitments, go ahead and prepare the full legal brief. This approach allows you to control your spending without risking âmissing outâ investors ready to commit.
We hope you find these five points helpful. Just remember the words of Napoleon Hill: “Plan your work and work your plan”.