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The death or disability of a hedge fund general partner can easily result in the collapse of the fund. While there are a number of ways to prepare if such unfortunate events occur, many hedge funds – especially start-up hedge funds – are not adequately prepared.

A survey of 164 start-up hedge funds with less than US$100 million in assets and with two or more general partners, found that about 60 percent of them believed their operating or partnership agreement addressed the transfer of ownership in case of death. Another 8.5 percent reported having a buy/sell agreement in place, while 5.5 percent had a side letter. Slightly more than a quarter of the respondents did not know what would happen if one of the partners died.

One of the complications is the way many operating or partnership agreements prove to be very limited in how they handle the matter of shifting ownership and compensating the deceased family when a partner dies.

“Many hedge fund general partners are the visible, identifiable faces of their firms and are seen as essential to continued success. Most also have considerable personal and family wealth invested through the fund. When a general partner passes away, surviving partners, and family members must deal with a range of continuity, liquidity and legacy concerns, even as the fund also copes with the loss of intellectual capacity,” said Alan Kufeld, Partner and Head of the Hedge Fund Solutions Group at Flynn Family Office (FFO). “Succession planning for the hedge fund is never a singular event. For example, operating agreements should be regularly reviewed and updated to ensure there would be a smooth and amicable transition.”

The situation is worse when it comes to a general partner becoming disabled and incapable of performing his or her role at the hedge fund. About half those surveyed thought the matter was addressed in the operating or partnership agreement. Less than two percent had a disability/sell agreement in place. Almost five percent had side letters addressing the matter. Meanwhile, more than two out of five did not know what would happen if one of the partners was seriously disabled.

According to Frank Seneco, President of boutique advanced planning firm, Seneco & Associates and author of Maximizing Personal Wealth: An Advanced Planning Primer for Successful Business Owners, “The likelihood of a general partner becoming disabled is often higher than one dying. We find that relatively few hedge funds are prepared for this possibility either from the perspective of the survival of the fund or ensuring the disabled partner is not financially decimated.”

“It makes sense that a sector adept at forecasting and analyzing black swan scenarios would also be skilled at contingency planning for the management company. Even so, protracted disputes are relatively common and can be profoundly damaging to the fund, family members, and investors. Fights over transitions due to death or disability of general partners can often be easily avoided through buy/sell agreements,” said Mr. Kufeld.

http://www.forbes.com/sites/russalanprince/2015/04/15/making-sure-the-hedge-fund-survives-disaster-when-a-general-partner-dies-or-is-disabled/