Digital fund formation services: A future for law firms

It’s a challenging time for law firms hunting for growth opportunities as demand softens in transactional markets and competition for legal work is fiercer than ever. One promising area lies with a firm’s venture capital and private equity clients.

These clients spend, on average, $35 million on outside counsel for fund- and deal-related work each year. For a law firm, the question becomes how and where to get more wallet share from such clients. The answer is digitalizing the fund formation process with the client’s investors, making it a more efficient, accurate, and lower-risk process.

Fund formation presents a big-ticket, high-value opportunity for law firms. One appealing hook is that a client may already have an improved solution in place if they’re using products such as HighQ.

Keep reading to learn about:

• New areas of strategic growth
• Potential risks of investor onboarding
• How fund formation can improve via technology

New areas of strategic growth

So far in 2023, private investments remain relatively healthy despite the slump in a longtime driver of business in the legal sector. The drying up of traditional bank financing in the wake of the Silicon Valley Bank (SVB) crisis is clearing the field for private equity funds, which have their pick of opportunities. Daniel Wolf, a partner at Kirkland & Ellis, told Reuters in March: “If you have some confidence that in the next 12-18 months the financing market will improve and interest rates will come down, it's still a great time to transact now.”

Here’s where a law firm can add substantial value. It can offer its venture capital (VC) and private equity (PE) clients an end-to-end legal solution to make their investor onboarding process as smooth as possible while reducing its risk potential.

Let’s say that a law firm’s client is a financial asset manager seeking investors for a solar panel farm under development. The first step for a law firm is to help the manager devise a prospectus for the project. Lawyers vet the prospectus to ensure its language is accurate and that nothing can be construed as misleading.

Investor onboarding: Far from a menial task

Even bigger innovations, however, come in the investor onboarding process. Consider how many PE funds currently assemble their funds. They may have a standard Excel form that they send to all prospective investors. It takes considerable time to fill out the form and send it back; the fund’s lawyers and staff vet them. Upon approval, the firm initiates another round of paperwork to enroll the new investor.

This process can be lengthy and inefficient and can also contain pitfalls, particularly concerning the following:

The risk of missing the larger risk picture.

VC managers may consider the methods of investor onboarding to be a ground-level decision with little to no effect on the fund’s overall prospects. But suppose their onboarding function fails to detect an investor who turns out to be on an international sanctions list. In that case, a substantial reputational value and possible regulatory responses are at stake.

Regulatory compliance is becoming more complex and more crucial.

Keeping abreast of new regulatory requirements is essential for any private equity player, particularly if they’re courting investors from multiple regions, each with its own specific regulatory compliance obligations.

There’s an increasingly complex and changing regulatory landscape for law firms to operate in. For example, the UK Financial Conduct Authority has been issuing consultation letters around compliance regarding how fund investment management firms should operate at the fund formation stage.

Onboarding delays can cost business.

One telling figure: not-in-good-order (NIGO) error rates are estimated at roughly 80% in some areas of the securities industry. This statistic means a great majority of investors that apply to join a fund have some sort of error or omission in their initial submission. If so, this kicks off a lengthy sequence: the fund and its lawyers have to catch and document the error, the investor must fill out the application form again and do further document scans, and the fund has to process more paperwork.

If high NIGO rates are prevalent for an investment fund, there could be substantial delays in fund formation. Onboarding errors and challenges take up time and generate expenses.

How fund formation can improve via technology

Say that a private equity fund manager wants to bring new investors to an early-stage biotech venture. Each prospective investor, instead of being emailed an Excel file to fill out, now logs into the fund’s customized portal, where the investor is guided throughout the onboarding process to fill out the investor profile and necessary documents in a single place. The investor questionnaire is based on a Practical Law template and can be changed to fit the investor’s specifications — region, type, investment size, etc.

After the investor completes their profile, their information is securely transferred to HighQ, through which the fund manager and its lawyers quickly research and verify all the prospective investor’s information, including the know-your-client (KYC) approval process. If the approval process hits a snag, the investor gets pinged and can log into the portal to see which information is requested or missing.

Upon approval, a subscription agreement gets automatically generated via the intake process. The investor can e-sign all the necessary documents, which are then incorporated into HighQ.

The result is a quick, end-to-end, seamless process that gets an investor signed up in a fraction of the time it used to take.

Even better: If a law firm is already using HighQ

 “A lot of law firms already have HighQ, but they commonly use it for data rooms, client portals, or litigation management,” says Sebastiaan Bos, Director of Product Management, Customer Solutions for Thomson Reuters. “To use it for investor onboarding, all they need to do is load the template from the Thomson Reuters Marketplace and get assistance from Thomson Reuters with the final configuration. You don’t have to invest in other technology—because you already have it.”

Getting their share