Software Upgrade Cycles

During the operational due diligence process, investors often come across a number of technology related issues that touch either tangentially or directly, a number of different segments of a fund manager's operations. For example, most funds typically employ some sort of order management system, commonly referred to as an OMS, which facilitates the entry, processing and general organization of fund trades. An OMS is a piece of software and therefore, falls within the realm of a fund's larger information technology architecture. Technology which is involved in other areas of the firm's operations is not simply limited to software concerns - hardware also typically plays a role as well. To take a basic example, consider the fact that most portfolio managers execute or log at least a portion of their trades electronically. These electronic executions typically take place via a desktop computer of some sort. This piece of hardware also falls within the arena of the fund's information technology infrastructure. In addition to understanding the role technology plays in each respective area of the firm's operations, during the operational due diligence process, investors should conduct a review of the information technology function itself within a firm. Investors who may not be as familiar with information technology may run the risk of being overwhelmed by system names and technological jargon in this area. Another point of consideration, which may make fund information technology analysis a challenging area is the speed at which information technology evolves. The rate of this change is an area which also presents a number of challenges for fund manager's information technology departments as well. Many funds rely on third-party software applications to perform various functions within their organizations. When a fund manager purchases these third-party applications they are typically purchasing the most recent release version of the application. In order to keep applications fresh and add different, system upgrades third-party vendors often go through series of ongoing software upgrades. These upgrades are typically not automatically pushed out to users of the systems (i.e. fund managers) but instead the fund manager has to actively install such an upgrade. This makes sense because if it is a major upgrade the third-party vendor does not want to force a disruption on a fund manager. The versions of software used by fund managers, is an area which runs the risk of being overlooked during the operational due diligence process. This process becomes even more complex because fund managers typically do not utilize just one software application within their organizations. No, rather fund managers may use dozens of different third-party software applications. Investors may feel inquiring about software versioning across all of these multiple applications is either too cumbersome or they may feel unsure what to do with this information. Furthermore, some fund managers themselves may either not have this software version information readily available or simply not want to share this information with investors. In these cases, there are a number of strategies and techniques that can be employed during the operational due diligence process by which an investor can come to a compromise with a fund manager, in terms of information required and burden on the manager. A key caveat to the previous statement is that just because a fund manager eventually may object to a certain request and an investor then accepts less information then they originally asked for, does not mean that an investor should draw this conclusion on their own. That is to say, an investor should ask for software versioning information from a manager and if the manager objects that is where the negotiation and compromise may begin. In some instances, an investor may also choose to draw a line in the sand and state that this is a "dealbreaker" issue such that if the manager does not provide this information, the investor will walk away.

But returning to the issues of fund manager software versions, beyond the actual data itself (i.e. what version of a particular software application a fund manager is utilizing), an investor can often garner valuable meta data about the nature and quality of a fund manager's operations by inquiring as to software versions employed. Perhaps it is best to illustrate this point by example. Let us consider two fund managers: A and B. Fund manager A began using a fund accounting system, which we will call System1 in June 2008. When fund manager A purchased the system, the most recent version available was version 2.0. Fund manager B also utilizes System1. B began utilizing the system in September 2010. At that time, System1 was on version 2.5. Fast forward to today. The most recent version of System1 is version 4.0. This version contains many upgrades which were not available in the older versions. Today fund manager A utilizes version 3.5 of the system, while fund manager B utilizes version 4.0. A logical conclusion may be that fund manager A is behind the times and perhaps not on top of latest operational developments as fund manager B. These conclusions may not necessarily be correct. For example, perhaps version 4.0 was recently released and fund manager A just completed an expensive upgrade from to version 3.9 last year. Fund manager A may be waiting for version 4.1 to come out before completing the next upgrade. Similarly, perhaps fund manager B never conducted any other previous upgrades in between version 2.5 and the current version 4.0. An argument could perhaps be made that fund manager B had poor operational planning during this period as compared to fund manager A because some of the interim system upgrades (i.e.- between version 2.5 and 4.0) during this period may have helped fund manager B. When an investor begins to delve into the issues and circumstances concerning system versions and upgrades, often times they can begin to get a sense of the larger operational planning going on within the organization. Additionally, as outlined above, an investor can often develop a dialogue with a manager about why certain upgrades may or may not have been conducted at certain time periods. During the operational due diligence process, such discussions can often provide useful perspective in evaluating software versions rather than simply conducting an exclusively quantitative comparison among managers of software versions. When evaluating the versions of software employed by a fund manager some considerations include: How many versions behind the most recent version are they? Is this version delay limited to only one software application or multiple applications? Why has the fund not decided to upgrade to the most recent version? Will the fund be able to complete the upgrades themselves or will they need to work with a third-party consultant? If the upgrade will involve more than clicking a few buttons or downloading a new upgraded version of the software, how has the fund planned to handle any software disruptions? Has the fund taken appropriate steps to ensure data loss will not occur during any system migrations? If any changes were required to be made to users or access points for the new upgraded system, has the fund checked to ensure any unauthorized security holes have been properly closed? Investors that inquire about such seemingly minor issues like what versions of software are being used by a fund manager, may be surprised about how this information can yield valuable insight into the larger operational quality of a fund manager.

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

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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.