With the recent implementation of the Alternative Investment Fund Managers (AIFM) directive, private equity managers are challenged with complex transparency and risk management pressures, and must meet the necessary documentation requirements of the AIFM directive to receive their “passport” for cross-border business. The importance of organizing documents of an asset may be considered an obvious obligation, but the necessity is often underestimated and overlooked.
Under the directive, the depositary bank, third party valuation specialists, target firms, advisers or the regulators themselves have the authority to review and use documents as a long term reference point for an asset. As a result, private equity managers will need to ensure that the right documents are produced at the right time, as well as be consistent with all other documentation over the course of the fund. The documents will also need to be safely stored for years for later review and audits.
In order to begin the process of preparing the documents for an asset, several parties will give input and review the documents before creating a structure (many of them being legal and financial advisers). GPs need to ensure that documents subject to the directive need to be consistent with each other. This is a challenging task, as these particular documents cover various topics, such as investment strategy, legal setup and capital requirements, which partially depend on each other. As a result, there is a major risk of different versions of the same document being used by multiple people.
There is a major risk of different versions of the same document being used by multiple people
After the initial preparation of filing, which can also be compared to a certification process – there is an on-going flow of periodic reporting and documentation. The reporting will always reference back to the initial application and again, ensuring consistency is key. Within a few quarters, the reporting process will generate over 1,000 documents that need to be managed. This can quickly get to a point where documents can be unmanageable. To ensure that this will not happen, GPs can prevent these coordination problems by centrally storing documents once and giving access to third-parties on a need-to-know basis. This will ensure that they can access the documents they need quickly and efficiently.
For private equity firms, the relationship to the target company and the target company´s stakeholders can be particularly sensitive as an investment by a private equity firm is not necessarily appreciated by every stakeholder in a business. That is why GPs need to close all potential gaps for future legal disputes that could be triggered by inconsistent, undocumented or badly timed information. With the right tools, all documentation can be managed in detail and offer maximum protection for GPs. Proof of activities can also be provided by third parties and reduce the risks to the GP. Managing the information relative to an investment is effective for holding legal evidence of activities which can be produced years after the documentation has been distributed.
The depositary bank also has a duty to review documentation related to investments and is running a liability of risks if there are legal issues. Specifically, the alternative investment fund has to submit constant data to the depositary which will build up over time as the fund evolves. The AIFM directive is changing the way deals are being executed, and there is increased demand for complete transparency. As a result, it is in the interest of all participants to create a process that is as smooth as possible to keep costs (and margins) under control. The regulatory requirements of the directive may be granular and specific, but they need to be managed as smoothly as possible for GPs to focus on their core-business – generation value for their investors.
Jan Hoffmeister is co-founder of Drooms, a software provider of data room services.