During the fund formation process, finalisation of the fund terms and fund documentation often receives priority over any ancillary documentation. However, it is also crucial to determine both the management documentation and how relationships are governed at the management level before the fund launch. Of course, this is important not only for the individuals who are behind the fund manager, but also for the fund investors, who usually wish to sign off on management documentation. Fund investors take an interest in the arrangements between the key individuals running the management entity of their fund, and the interaction between the fund documents and the management documents is of significant importance for both fund managers and investors. Not only do the key terms governed by both sets of documents become the crux of the negotiations between fund managers and fund investors, on a practical level it is imperative that the agreed terms are properly drafted so that, even though they are separate documents, there are no discrepancies between them when both sets of documents are viewed together. This is vital, as in order to be effective certain terms must be considered and ensured at management level before they will be effective and provide protection for the investors at fund level.

While most of the topics covered in this article are important and affect the documentation at both the fund level and the management level, the intention is to focus on the management side of things. The article will cover the following matters:

At this point it is worth considering some typical fund structures before embarking on a more detailed discussion regarding fund documents and management documents and their contents. If the fund is a partnership, then the fund manager will typically be the general partner. In most jurisdictions, the partnership does not have separate legal personality, meaning that a fund that is a partnership cannot hold assets and liabilities in its own name. The general partner (the fund manager) is entrusted with representing the partnership in regard to its business activities, and the general partner's liability is unlimited. The investors of the fund would be limited partners of the partnership and, barring exceptional circumstances, the liability of the limited partners is limited to their partnership contribution (in other words, the amount of capital contributed, or agreed to be contributed, by the limited partners to the partnership). In a fund with a partnership structure, it is not uncommon to also use a separate limited partner vehicle as the recipient of the carried interest. This avoids having the carried interest flow into the general partner with unlimited liability, thus making the carried interest amounts susceptible to any creditors of the general partner and the partnership. This carried interest vehicle is often called the special limited partner, and it enjoys the benefits of limited liability like all other limited partners, protecting the carried interest.

If the fund is a limited liability corporate entity, the fund entity itself will enjoy the benefit of limited liability. In this structure, the management entity can be the recipient of the carried interest as board member.

In most cases, the key persons and senior members of the team are the shareholders of the fund manager/general partner and the carried interest vehicle. This article uses the term "key persons" to cover all such individuals.

It is important to remember that both the fund documents and the management documents each govern a separate set of relationships. The fund documents regulate the relationships between the fund, the fund manager and the fund investors. The relationship between the fund manager and a third party investment manager assisting with the running of the fund is also covered at this level. The management documents, on the other hand, establish the understanding between the fund manager's shareholders and, where necessary, the carried interest recipient.

Documents that typically comprise fund documents are:

Depending on the fund structure, there may be more ancillary documentation at the fund level, but these are the documents that one would typically see.

Documents that typically comprise management documents are:

Again, depending on the fund structure, there may be more ancillary documentation at the management level, but these are the most typical and recognisable documents in any structure.

Terms affecting both the fund documents and the management documents tend to be key points, which are negotiated between the fund managers and the investors because they are commercially important for both parties. Coming to an agreement on these terms is the first step, but they must be properly translated into the documentation (often both at the fund level and management level) to ensure they provide adequate protection. We will now discuss some of these terms, providing practical guidance on how these terms are reflected both at management and fund level.

This article has focused on the key terms that affect management at the fund level, and how those terms should be dealt with at the management level, but it is also important to consider how terms agreed at management level can be drafted to ensure that they comply with the fund documentation. We will now consider some of the key provisions contained in the management shareholders' agreement, providing practical guidance on how to ensure that the terms contained in that agreement are consistent with the contents of the fund documents.

The carried interest recipient can be a separate vehicle from the fund manager/general partner vehicle, particularly where the fund is a partnership. A few key points should be made about this entity and its shareholders' agreement.

Naturally, the shareholders of a carried interest vehicle usually closely correlate with the shareholders of the fund manager/general partner, as the individuals managing the fund usually receive the carried interest as compensation. If a separate carried interest vehicle is used, then any arrangements concerning the payment of carried interest at the management level (for example, clawback from the individual ultimate beneficiaries of the carried interest) are contained in the carried interest vehicle's shareholders' agreement, rather than in the fund manager/general partner shareholders' agreement.

The relationship between the fund manager/general partner shareholders' agreement and the carried interest vehicle shareholders' agreement is important. The two documents should be viewed as one document, and should closely mirror each other in most respects. Since one vehicle is being compensated for the work of the other, it would not make much sense if the two were not closely linked. The same provisions concerning breaching key persons, and any options on their shares, should be contained in both documents. In practice, it is commercially and logically sound for a loss of fund manager/general partner entity shares to result in a loss of the shares in the carried interest vehicle. There is little point in removing a key person from management but letting them retain their carried interest entitlement. Similarly, no manager would agree to retain the risks associated with holding the fund manager/general partner shares whilst receiving no benefits from the carried interest vehicle's shares.

At the fund level, it is worth considering whether the carried interest vehicle should be automatically removed in the event that the fund manager/general partner is removed. If the carried interest vehicle is also investing the management team's own money as a passive investor, then it may be reasonable to leave that entity as it is, since that entity is not part of the active management of the fund (unlike affiliated investment managers and advisors, who are usually removed alongside the fund manager/general partner).

As the balance of power continues to shift between the fund managers and the fund investors, as has been the case for the past few years, the provisions in the fund documentation with respect to management removal and compensation will continue to be the most important areas where fund managers will try to position themselves in the most favourable way possible. Once a mutually acceptable commercial position has been reached by both sides, they must not fail to think through how the commercial terms will affect, and how the execution of those commercial terms as envisioned is dependent on, the arrangements that have been agreed at both the fund level and the management level.