Prior to entering into a relationship with a hedge fund manager, it is obviously important for the investors and service providers to conduct due diligence with regard to the managers background and current operation. The outline provided below is an overview of various issues that should be reviewed prior to entering into a relationship with a hedge fund manager. This outline is general in nature and does not purport to be complete or tailored to the circumstances of any specific manager or client. Prior to adopting any specific course of action in reliance on this article, we suggest that you contact legal counsel.

Understand the Structure of the Organization

• Determine who controls the General Partner/Investment Manager - Look through the corporate entities to the individuals
• Determine other vehicles managed by the General Partner/Investment Manager and/or the individuals involved
• Ascertain what, if any, conflicts of interest the General Partner/Investment Manager and/or the individuals involved have (e.g. transactions with affiliates)

Meet the Principals, Control Persons and Key Employees

• Understand operating, shareholder or employment agreements in effect
• Determine whether control persons or key employees are properly compensated or if there are restrictions as to their leaving to manage money elsewhere
• Determine the age, health and experience of principals, control persons and key employees

Analyze Risk Management System

• Determine the pricing sources
• Ascertain the frequency of the portfolio being marked to market
• Understand how volatility is managed
• Determine the manager's risk objective
• Ascertain whether the manager assesses counterparty risk
• Review the manager's maximum exposure to any one counterparty
• Understand diversification percentages and the criteria behind them
• Determine the average number of positions in the portfolio, including its largest position in any one issuer and in any sector
• Determine the maximum percentage of the portfolio invested in any one position
• Determine the manager's cash positions, minimum and maximum amounts, minimum and maximum percentage of the portfolio and the average position
• Request detailed information concerning manager's use of leverage and understand how leverage is calculated (e.g. use of derivative instruments)
• Determine the maximum amount of leverage employed, the ranges and average leverage used
• Understand the instruments used for hedging
• Analyze the liquidity of the portfolio and determine whether there were liquidity problems in the past
• Determine information available from the manager on an ongoing basis (performance, portfolio of securities) and the frequency that such information will be provided (daily, weekly, monthly)
• Determine whether information provided by the manager is verified from independent sources (e.g. transparency of portfolio)
• Review the manager's use of soft dollars, historical and pro forma
• Analyze past performance (identify return drivers)
• Determine investment style (past, present and future)
• Review assets under management - Determine managers ability to handle continued growth or determine the cause if there was a dramatic decrease in assets

Review Relationships with Existing and Former Limited Partners/Shareholders

• Determine number of limited partners/shareholders
• Determine length of limited partners/shareholders
investment in the fund and if possible, learn of the relationship between the limited partners/shareholders and the General Partner/Investment Manager and/or individuals involved (e.g. family members, employees, principals assets)
• Determine type of limited partners/shareholders (institutional or individual)
• Ascertain terms concerning seed investor agreements or side agreements

Review Legal Documents

• Form ADV, Parts I and II (if applicable) - Determine educational background, past violations or deficiencies and how business is conducted and client accounts reviewed
• Confidential Private Placement Memorandum - Requires careful review. DO NOT ASSUME THAT THE INFORMATION CONTAINED IN THE PLACEMENT MEMORANDUM IS COMPLETE OR NOT MISLEADING. Compare the offering materials to interviews with principals, control persons and key employees (e.g. key employee disclosure, use of soft dollars, conflicts of interest). Look at when the documents were drafted and whether the business has evolved since that date.
• Limited Partnership Agreement/Investment Management Agreement
• Custodial Agreement
• Request a list of all licenses received and dates conferred (Such information is also provided in the Form ADV)

Review various professional relationships

• Custodian/Broker Dealer
• Administrator
• Auditor/Accounting Firm
• Legal Counsel
• Third Party Marketers
• Consultants

Ongoing responsibilities after making an initial investment - Conduct a periodic review of existing products and look for warning signs

• Style Drift
• Delays in Client Reporting
• Employee Turnover
• Regularly Changes Service Providers (Custodian, Prime Broker, Lawyer, Administrator and Auditor)
• Lifestyle (e.g. divorce, housing, luxury items)

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