Fund administration is the performance of tasks and activities needed for the operation of a mutual fund, hedge fund or any other type of investment that pools resources. Fund administration tasks include preparing financial statements, calculating the Net Asset Value (NAV), calculating the performance of the fund, and maintaining the books.
The preparation of financial statements refers to drawing up the statement of comprehensive income (an accounting of sales, expenses and net profit for a given period), statement of financial position (the assets and liabilities of a company, to determine its net worth) and cash flow statement (refers to a company’s inflows and outflows during an operating period, in terms of operating, investing and financial activities). These statements are a written report which quantitatively describes the position of the company.
The Net Asset Value (NAV) of a fund is the total assets of the fund, less the total liabilities of the fund, to determine the net worth of a fund as a part of portfolio management. However, the calculation of the NAV for a fund is difficult because the fund’s assets are usually securities which are susceptible to change depending on the market. Hedge Fund Marketing Alliance (2011) suggests that a good fund administrator should have the ability to do a full-service daily NAV calculation, as opposed to just the month-end. The determining of the NAV is important for investors as it allows them to compare a fund’s performance with an industry benchmark. However, Investing Answers (2013) suggests that a fund’s long-term changes in NAV are not as meaningful in comparison to long-term changes in its share price because funds periodically distribute capital gains to their fund holders, thus reducing a fund’s NAV.
In determining the performance of a fund, fund administrators must analyse the results of the activities or investments of the fund over a given period to determine which areas need to be improved and which areas are currently doing well. The maintenance aspect of maintaining books refers to either cash and/or securities (which are tradable assets of any kind), deposited into a brokerage account to fulfil margin requirements of the brokerage.
A fund administrator must be able to evaluate risk and performance analytics to demonstrate and describe to fund managers where in their business portfolio they excelled financially, where the risk was taken, what short-falls the company encountered, and what areas can improve. A fund administrator may also provide a manager with anti-money laundering techniques, subscription processing, and back office operations such as clearance transactions and wire transfers (electronic transfer of funds from one bank account to another). The key points in selecting a fund administrator are expertise, scalability, chemistry and infrastructure according to Hedge Fund Marketing Alliance (2011).
Expertise refers to the experience and knowledge of the fund administrator. It is important that the fund administrator is not only qualified but well versed in the hedge fund industry, and is capable of understanding hedge fund operations and compliance. Compliance in this regard refers to the rules and regulations required by authorities in the country that the fund is operating.
Scalability is known as the potential of a business to grow as its size increases. A scalable company can maintain or improve its profit margins with its sales volumes. Therefore, a fund administrator must have the capability to perform and cope with an increasing or expanding workload.
Chemistry in this regard refers to the relationship between the fund administrator and the fund manager. The fund administrator needs to share the philosophy and communication style of the fund.
The infrastructure element refers to the technology used by the fund administrator and not property. It is important to note, that fund administration differs from asset management. Asset management is the tasks involved in managing a portfolio of assets from the date of investment to the date the property is sold. The infrastructure system used by the fund administrator needs to be both stable in its ability to handle complex algorithms for analysing the fund, as well as, simple enough for the fund manager to be able to understand the evaluation done through the infrastructure. It is important to ensure potential investors that the risk of outage due to technical failure is lower than other funds.
Regarding gaining potential investors, due diligence is a critical component. As hedge fund administrators are meant to be third-party firms, they try to make hedge funds more transparent for investors. Transparency ensures that trades occur, the Net Asset Value (NAV) of the fund is accurate, and the hedge fund has ownership over the assets it claims to own. It is sometimes difficult for a fund administrator to verify the details of transactions and assets under management. Thus, the fund administration adopts a two-prong strategy to verify information; the fund administrator obtains what information it can from various 3rd party databases available as well as collecting market data from the hedge fund’s prime broker. Any other information is obtained from the hedge fund itself.
Another factor potential investors look at is performance, differentiation and tax treatment. Fund administrators can help fund managers with performance, differentiation and tax treatment. Differentiation is of utmost importance as it is what separates a company from the others; a fund administrator may evaluate the fund’s performance and highlight the areas that the fund excels in, in comparison to other hedge funds. What needs to be determined is what makes the fund’s approach unique and worth the investment. Tax needs to be understood, as investors may want to know what the tax consequences are on their investment.
Without a fund administrator, a hedge fund is unlikely to market the fund to institutional investors or to secure a banker for routine transactions. Moreover, institutional investors are unlikely to consider a hedge fund that does not have the function and organisation in place for a fund administrator. It is important to consider several factors when deciding whom shall take the role of fund administrator. It is critical that the fund makes use of an independent third-party service provider.