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FRM Part II · FRM Exam Part II · Private Markets Investing

During operational due diligence on a private fund, an investor finds that the administrator is a small firm unknown in the industry, the auditor is a one-person practice, and the GP's CFO also acts as the valuation agent. Which concern is most significant?

The key concern is inadequate independence and capability of service providers. An obscure administrator, a tiny auditor and a CFO who also values assets leave no independent check on valuation or asset existence, a pattern seen in fraud cases such as Madoff.

  1. AInsufficient independence and capability of service providers, weakening controls over valuation and asset existenceCorrect
  2. BThe fund's use of leverage at the portfolio-company level
  3. CThe fund's targeted gross return being too high
  4. DThe fund's domicile in a low-tax jurisdiction

Explanation

Weak, non-independent service providers and a CFO who also values assets are classic red flags, as in Madoff-type cases, because there is no independent check on valuation or asset existence. The other items are real but not what the facts describe.

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