Operational due diligence may have gained greater attention in the post-Madoff era, but Rory Kennedy believes this non-investment function deserves a more influential role: namely the power of veto in an investment committee.
“In the past, operational due diligence was an after-thought or a rubber-stamp part of investing in hedge funds, as investors spent 75% of the time on investment due diligence and risk management before the Lehman Brothers crisis,” recalls the chief operating officer of Tokyo-based fund-of-funds firm Rogers Investment Advisors.
But Kennedy says operational issues are at the heart of 50% of all hedge fund failures now. Part of the problem with start-ups, he notes, is that their founders have almost all been successful in their previous profession. It is the one common denominator.
“Their prior career success is what gives them confidence that they know how to run a business,” he says. “But the reality is that you could be extremely smart in investing, but you could still end up overpaying your service providers.”
Kennedy is well placed to comment. He worked on the sell-side before spending seven years as a COO in Asia, the past four advising start-ups and established hedge funds for Rogers IA.
Together he and Ed Rogers, CEO and CIO, perform due diligence on more than 100 hedge funds a year, from emerging market start-ups to global, institutionalised firms that need help with operational challenges. He can also be called on to advise commercial banks running hedge fund portfolios.
Kennedy believes the COO role is underrated, but essential – even at the start-up stage. It is often a COO who performs crucial, non-investment functions throughout a fund’s lifecycle, controlling costs and overseeing compliance of risk limits, he notes.
“New fund managers often struggle with where to allocate their limited resources, and there is a trade-off with where they want to spend [on staffing],” he notes. “Many think it is more important to have a salesperson or analyst than an experienced COO. Unfortunately, many managers don’t realise they were wrong until it’s too late.”
A full interview with Rory Kennedy appears in the March issue of AsianInvestor magazine.