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Virtual Operational Due Diligence Here To Stay…Mostly

The lockdowns brought in by governments around the world to combat the spread of Covid-19 have meant that, for investors wanting a piece of the latest and greatest new hedge or private equity fund, their due diligence has been conducted digitally, through a system like Zoom, Webex, or similar.

The current state of play is likely to continue well into next year, given that many countries are implementing stronger measures to combat an increase in the number of daily cases of Covid-19 and that the most optimistic estimate at the timeframe for an approved vaccine isn’t until Q1 2021, let alone the time it will take to vaccinate an entire population.

Despite the challenges that the lack of an in-person due diligence review might throw up, for investors who have approved a virtual due diligence process, six months in to the ‘new normal’, things really aren’t that bad, according to Vincent Molino, Head of Operational Risk Management Solutions, part of Front Office Solutions at Northern Trust.

“Based on early indications, managers and investors seem to be pleased with the virtual model. Because of technology, I think that people are better equipped now to operate in a virtual environment,” he said.

It wasn’t all plain sailing in March and April, of course. Teething troubles beset the due diligence process, with many hedge fund and private equity fund managers being unequipped to engage in the due diligence process due to compliance reasons.

“Generally, when we conduct these reviews, we ask for sensitive information,” said Molino. “We’re reviewing regulatory materials that are mandated by the SEC in the US, or the FCA in the UK, for example. These documents were only permitted by the manager to be viewed onsite.”

In the past few months, as managers and investors have become more familiar with conducting the due diligence process via digital means, some managers have relaxed their approach.

“Almost all managers still aren’t comfortable sending documents by email, but we have begun to sign NDAs with some managers, and they then let us review the information virtually, by pulling up what we need to see on the screen,” said Molino.

Juxtaposed with the challenges of conducting virtual due diligence reviews are certain benefits, however. There is no travel, which means that investors can conduct their due diligence at a lower cost, and Molino says that the responsiveness of both the manager and their service providers to potential new investors has sped up. Furthermore, investors are getting more from their digital ‘meetings’ with managers, due to the fact that all of the meetings don’t have to be crammed into one day.

“Now, we get more time with the CEO, CFO and COO,” said Molino. “Previously, we would not have had as much time with them and likely would have needed a good amount of follow up – emails, phone calls etc. We’re getting more time with each individual now because we can schedule the meetings more conveniently and we can do multiple calls across multiple days with someone if we need to.”

Not everyone’s a winner. As always, the smaller, newer manager is up against it versus the larger, more established players. Molino says that the former is seeing potential investors push the pause button because they need to be able to see that the manager has an institutional infrastructure, which, in a remote environment, can’t be done effectively. Larger managers not only have been able to adapt more quickly to meeting the numerous compliance requirements in a working from home environment, but in cases where the investor knows the manager, familiarity breeds comfort, enabling the process to continue.

Regardless of when the Covid-19 pandemic eases and people start going back to the office in meaningful numbers, the future of operational due diligence seems to be a hybrid model.

“A number of our clients have said they want to operate a virtual due diligence process on a continuing basis, because of the cost savings and the increased responsiveness,” said Molino. “But we’ll provide optionality. If the client wants us to diligence a manager onsite, we will. But going forward, virtual will play a large part. It’s looking like a new normal.”


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