ILPA and higher diligence standards

Anyone wondering how serious institutional investors have become about due diligence should take a look at the 100-plus-item questionnaires now sent GPs’ way during fundraising.

A lot of time and effort (on the part of both manager and investor) goes into creating, completing and processing these due diligence questionnaires. But when it comes to basic firm information, all of these myriad forms tend to capture the same details. For the CFOs and COOs responsible for filling out all the various questionnaires, across all the different styles and templates, the result is a ton of redundant paperwork. So if there was some way to standardise this process, the reduced administrative burden would be serious cause for celebration. 

Over the past few months the Institutional Limited Partners Association has been working to do exactly that. Having spoken with GPs, LPs, placement agents and consultants, the LP trade body – led by Kathy JeramazLarson – believes that it has created a standard list of due diligence questions that will be met with industry-wide approval. ILPA hopes to post the final questionnaire on its website sometime in the next few weeks, according to our sister title PE Manager.

The theory is that this new template will benefit all stakeholders. GPs are desperate to streamline the process of filling out DDQs; and if it allows them to spend more time on higher value activities, it will be good for LPs too. 

Another advantage is that newer entrants to the private equity asset class, who may not be aware of the level of transparency and detail provided by their more experienced counterparts, will have a model to follow from the outset.

But as with standardised reporting templates, it’s a tall order for any standard questionnaire to cover every LP’s wants and needs. Institutional investors are a heterogeneous bunch, who tend to have different priorities when selecting a fund manager. Some, for instance, may have more questions about a firm’s ESG policies, others might focus on its co-investment policy or operating capabilities. It’s hard to imagine that large, established institutional investors with complex policies of their own would be willing to throw out their existing questionnaires in favour of a generic form. 

So how does ILPA think its DDQ can cater for all LPs’ needs? ILPA managing director Mike Elio, who is spearheading the initiative, insists that it isn’t supposed to. “It’s really a tool that creates a common framework for GPs to begin answering LPs’ due diligence questions,” he says. “If everyone adopted our DDQ, and only added one extra page of questions not already answered in the template, then we’ve achieved greater efficiency in processing them.”

But getting LPs to adopt and accept the template won’t be the only challenge. GPs will need convincing, too. In premarketing and during fundraising periods, many GPs try to anticipate investors’ FAQs by uploading their own DDQs with answered questions into shared data rooms. Doing so gives GPs greater control over what information is readily available to prospective investors, and prevents data fishers – who are not actually serious about making a commitment – from easily accessing sensitive performance figures or budget information. Would some managers not be nervous about releasing all the answers on a standardised form in this fashion? 

Elio says one solution would be to allow GPs control over the timing of the delivery of their answers. “Perhaps 80 percent of questions in the template are answered in round one of due diligence, and the remaining 20 percent of more sensitive questions are answered to more serious investors in round two.” 

Another challenge for ILPA may be the extensive use of ‘yes or no’ questions in its draft questionnaire – 58 of the 155 items in the questionnaire are in this format, without room for explanation. That goes against convention to some extent; when filling out a DDQ, GPs often like to include lengthy explanations around answers they fear may lose points with investors, or they feel are too nuanced to be addressed via a check -box. 

But Elio argues LPs are sophisticated investors, who understand that there are often legitimate reasons behind a ‘No’ answer. “And they’re annoyed by having to read 10 paragraphs of spin before receiving a direct answer to what they feel is a simple question.” 

So there are lots of obstacles still to overcome – but given the potential upside, it has to be worth persevering.