Hedge fund directors should sit on fewer boards and be paid more, according to industry experts

Feb 10, 2011 by Charles Gubert

Capping the number of hedge fund boards directors can sit on while simultaneously increasing their remuneration could significantly improve corporate governance standards in the alternatives space, according to industry experts.

Some institutional investors have become alarmed about the number of boards offshore directors sit on. There have even allegedly been a few rare reported instances of directors sitting on more than 1,000 fund boards.

Such investor concerns have prompted the Cayman Islands Monetary Authority (CIMA) to review the situation. Prompted by its own banking crisis, a working group in Ireland which includes the Irish Funds Industry Association (IFIA) and the Central Bank are also drafting a white paper discussing corporate governance structure. It is due to be released shortly.

Pierre Emmanuel Crama, head of operational due diligence at Signet Group, a multi-strategy fund of hedge funds (FoHF), believes directors should not sit on more than 20 funds’ boards. “As shareholders, we think the existing offshore model offered by the Cayman Islands whereby some directors sit on ridiculous numbers of funds’ boards needs to be broken,” he said.

Forcing directors to sit on fewer fund boards could help managers and their underlying investors. If such a policy were implemented, directors in theory would give more attention to individual funds and their operations. Furthermore, in the event of a mass blow up like in 2008, the directors sitting on fewer fund boards would probably be better placed to deal with a raft of potential redemptions and liquidations. However, there would need to be an incentive for directors to comply with this.

Luke Dixon, portfolio manager for absolute return strategies at the Universities Superannuation Scheme (USS) acknowledged directors are typically not paid much. Most directors will generally receive between $5,000 to $7,500 per fund.

“If you limit them (directors) to 20 or 30 directorships, it is essential that you pay them more – especially if you want to attract high-calibre people to the profession and if you want them to do more work. Minimising director expense is a false economy – even tripling the amount you pay the right individuals could be a reasonable cost to bear to ensure better fund governance,” added Dixon.

However, this could prove problematic for some funds. Assets under management, after three years of decline, do seem to be rising and look set to surpass the $1.93 trillion peak set in the second quarter of 2008, according to the latest data from Hedge Fund Research. Nevertheless, many funds are still struggling and not all have recovered from the chaos of 2008.

Regulation now emanating from both the US and European Union is having a detrimental effect on the finances of these funds. Compliance costs are certainly going to rise exponentially as supervisory authorities become more demanding about what needs to be done in the hedge fund industry. Insisting managers pay more for their directors could also disproportionally impact the smaller funds.

Peter Astleford, partner at law firm Dechert, is sympathetic to the plight this may cause to smaller funds. “If there is a $20 million start-up fund with five directors each taking $20,000, these combined costs are going to be a heavy drag on the fund,” he said.

However, he has come up with a rather novel solution to this predicament. He suggested start-up fund managers with fewer assets should structure a deal with the directors whereby they are initially paid, say $5,000. “Once that fund passes a net asset value (NAV) threshold, the directors should be paid more. For example, when the fund reaches $250 million, directors could be paid something along the lines of $20,000,” Astleford added.

Whether or not hedge funds feel this will be an economically sustainable option remains to be seen though.

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