Originally posted in the May 2012 edition of Corgentum Consulting's Operational Due Diligence Insights.

1. Transparency versus US GAAP
During the operational due diligence process, one of the core documents investors commonly collect
and review is fund audited financial statements. Reviewing these statements can often provide
valuable insights into the operational risks associated with funds under review. Investors that
conduct such reviews may however become frustrated when attempting to dig below the surface of
such disclosures due in part to the limited nature of information required to be contained in the
audited financial statements of funds such as hedge funds and private equity funds.
A good example of this relates to fund expenses. Generally, details of fund expenses can be found in
multiple areas of a fund's audited financials including the Statement of Operations, which is also
sometimes called the Income Statement, and the financial statement notes, including the financial
highlights. In reviewing the information contained on the Statement of Operations of most fund
managers investors may often come across an expense category referred to as Other Expenses.
These catch-all categories are perfectly acceptable under US GAAP, however, the notion of such
catch-all categories is in direct odds with the goals of an investor seeking to perform operational due
diligence.
Operational due diligence seeks to diagnose, analyze and mitigate investor's exposure to towards
operational risk. Transparency is a key element in gathering the data to perform this analysis. Catch-
all categories in financial statements do not facilitate this transparency. The goal of US GAAP, as well
as other accounting standards, is not necessarily to assist investors in performing an operational
assessment of a fund manager. Instead, standards like GAAP seek, in part, to create a uniform
method for presenting financial statements. It is up to investors to utilize the tools afforded to them
and execute their own operational assessment.
Employing financial statement analysis techniques can facilitate an investor's analysis of audits and
can in some instances help investors garner more information than was seemingly available at first
glance. However, as our example illustrates, financial statements should not be viewed in isolation.
When presented with such catch-call categories, particularly in the area of fund expenses, investors
should conduct further due diligence. This can be accomplished in part through discussions with the
fund manager themselves in regards to what expenses are charged to the funds and an analysis of
other fund documents such as the offering memoranda which may provide further details on fund
expenses. Furthermore, comparing the ratios of fund expenses on a year-over-year basis can also
provide useful guidance in this regard.
Investors tend to gravitate towards certain accounting standards such as US GAAP when reviewing
audited financial statements of funds. Such standards should be viewed as merely a standard to
facilitate a further analysis. While embracing the benefits of standards such as GAAP, investors
should also be conscious of the weaknesses present in different account standards and not let the
standard itself limit the operational due diligence process.
Originally posted in the February 2012 edition of Corgentum Consulting's Operational
Due Diligence Insights.
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2. About Corgentum Consulting:
Corgentum Consulting is a specialist consulting firm which performs operational due diligence
reviews of fund managers. The firm works with investors including fund of funds, pensions,
endowments, banks ultra-high net-worth individuals, and family offices to conduct the industry's
most comprehensive operational due diligence reviews. Corgentum's work covers all fund
strategies globally including hedge funds, private equity, real estate funds, and traditional funds.
The firm's sole focus on operational due diligence, veteran experience, innovative original
research and fundamental bottom up approach to due diligence allows Corgentum to ensure
that the firm's clients avoid unnecessary operational risks. Corgentum is headquartered at 26
Journal Square, Suite 1005 in Jersey City, New Jersey, 07306. Phone 201-360-2430. For more
information visit, www.Corgentum.com or follow us on Twitter @Corgentum
© 2011 Corgentum Consulting, LLC