Investment process and governance of funds: NISM Series XIX-A notes and practice questions

Q1. Which statement best describes “Conflict of interest policy”?

1. An AIF is a privately pooled investment vehicle that raises money from investors for investing as per a defined policy, regulated by SEBI.
2. The manager must have a policy to identify, disclose and manage conflicts, such as allocating deals between funds.
3. A commitment is the total amount an investor agrees to invest in the fund, to be called in instalments over time.
4. Category I and II AIFs enjoy pass-through status: income other than business income is taxed in the investors' hands, retaining its character.

Q2. Which statement best describes “Investment committee”?

1. The investment committee reviews and approves investments, applying independent judgement and recording decisions.
2. DCF values an asset as the present value of expected future cash flows.
3. Reviewing the fund's concentration by company, sector and vintage reveals risks of overexposure.
4. A side letter gives an individual investor special rights or terms, such as reporting or fee discounts, separate from the main documents.

Q3. Which statement best describes “Screening”?

1. Many private funds take board seats and help investees with strategy, hiring and governance to create value.
2. Screening filters opportunities against the fund's strategy, size, sector and risk criteria before detailed work begins.
3. An MFN clause lets an investor elect the better terms granted to other investors in comparable side letters.
4. The IMA appoints the manager and sets its duties, authority, fees and standards of care.

Q4. Which statement best describes “Active involvement”?

1. Many private funds take board seats and help investees with strategy, hiring and governance to create value.
2. Managers must give investors periodic reports, including audited financials and NAV, within timelines set by SEBI.
3. Returns depend on the skill and continuity of the manager's team; the departure of key people can damage a fund.
4. A distributor must give investors the PPM and explain risks, fees, lock-in and illiquidity before they invest.

Q5. Which term is described here? A term sheet sets the key terms of an investment, such as valuation, rights and conditions, before definitive agreements.

1. Term sheet
2. Risk-adjusted performance
3. Client suitability for AIFs
4. Record keeping

Q6. Which statement best describes “Exit planning”?

1. A catch-up lets the manager receive a larger share of distributions after the hurdle until it has received its full carry percentage of total profits.
2. Exit routes include IPO, strategic sale, secondary sale and buyback, and planning begins early in the investment.
3. Venture capital funds early-stage, high-growth companies, accepting high failure rates for the chance of outsized returns.
4. Category III AIFs do not get pass-through status in the same way; income is generally taxed at the fund level as per the Act.