Investment Management Agreement

An AIF set up as a trust has a problem of division of labour. The trustee legally holds the assets but is not in the business of picking investments. The investment manager picks the investments but does not own anything. The Investment Management Agreement is the document that joins them.

It is entered into by and between the trustee (on behalf of the AIF) and the investment manager. It sets out the terms on which the manager runs the fund, and in substance the trustee delegates all its management powers in respect of investment management to the manager.

This is the agreement an investor should read to find out who actually decides anything — and, more to the point, what happens when the investors want that person gone.

Why the trust structure, and why the IMA matters to it. The workbook gives the reason most Indian AIFs are trusts rather than LLPs: a trust structure permits ring-fencing of the manager's liability — including fiduciary and breach-of-fund-document liability — from that of the AIF, because the manager is only a counterparty service provider to the AIF, rather than sitting on the board of a company AIF or being the designated partner of an LLP.

What sits inside it. Commercial terms of management sit here and in the contribution agreement: the management fee — which the workbook records as usually ranging up to 2.5% of capital committed during the commitment period, falling afterwards to a percentage of actual invested capital or of AUM — the scope of the manager's discretion, reporting, and the standard of care.

Termination. There can be a termination clause in the IMA, or in the subscription agreement, allowing the manager's services to be terminated or the investor to withdraw where it emerges that the interests of investors and manager are grossly misaligned and there is considerable moral hazard in continuing.

"For cause" removal is the sharpened version: premature termination of the manager's services by the investors for events of default — fraud, wilful misconduct and gross negligence. The workbook's warning is practical: because those facts are subject to interpretation by the courts, such litigation could be long drawn and vexatious, so suitable dispute resolution provisions through arbitration should be built in to mitigate the risk.

Where else it appears. The IMA is on the list of documents an investor reviews in fund due diligence, alongside the trust deed, the custodian and fund accountant agreements, a sample subscription agreement, valuation reports, the annual audited report and the latest Compliance Test Report. And where a fund's terms change materially, investors can press to reduce management fees or release commitments — with termination of the IMA by invoking termination rights as the extreme option.

Vindhya Capital Trust registers a Category II AIF. The trustee, a professional trustee company, executes an IMA with Vindhya Capital Managers Pvt Ltd.

The scheme closes at Rs 600 crore of commitments with a four-year commitment period. The IMA sets a management fee of 2% of capital committed during the commitment period, dropping to 1.5% of invested capital thereafter.

Commitment period, per year : 2.00% x Rs 600 cr = Rs 12.00 cr
After the commitment period,
with Rs 430 cr invested      : 1.50% x Rs 430 cr = Rs  6.45 cr

GST is charged extra on both, and the workbook notes the fee is payable whether or not the fund makes a profit — which is precisely why investors negotiate the base hard.

In year five a portfolio write-off of Rs 85 crore turns out to have followed an undisclosed related-party transaction by a partner of the manager. Investors invoke the "for cause" clause: wilful misconduct. The manager disputes that the conduct meets the threshold. Because the IMA contains an arbitration clause, the dispute goes to arbitration rather than to a civil suit that could outlast the fund's remaining three-year tenure — which is the whole point of the workbook's advice on drafting.

Had the AIF been an LLP with the manager as a designated partner, the manager's liability would not have been ring-fenced from the fund's in the same way.

Chapter 9 (Legal Documents and Negotiations — Investor Perspective) devotes section 9.3 to the IMA, and the surrounding sections put it alongside the trust deed, the contribution agreement, side letters and the PPM. Chapter 8 lists it among the documents reviewed in fund due diligence, and Chapter 10 returns to it on exit options after a material change. The examinable points are the two parties (trustee on behalf of the AIF, and the manager), the delegation of management powers, ring-fencing of the manager's liability as the reason most Indian AIFs are trusts, and the grounds for "for cause" removal.

• The IMA is between the trustee and the manager — not between the investors and the manager. Investors contract through the contribution or subscription agreement. Getting the parties wrong is the commonest error on this section.
• Ring-fencing is a consequence of the trust structure, not of the IMA's wording. The manager is a counterparty service provider, which is what keeps its liability separate.
• "For cause" is a defined short list — fraud, wilful misconduct, gross negligence. Poor performance is not cause; that is what a no-fault removal clause, if negotiated, is for.
• The contribution agreement is investor-specific and generally not shared with other contributors; the trust deed, being the charter document, is shared with all investors and with SEBI. The IMA sits between the two in practice.
• There is no SEBI-prescribed management fee. The workbook is explicit that there are no SEBI regulations on AIF management fees and that reference has to be drawn from industry practice — the "up to 2.5% of committed capital" is described practice, not a cap.
• A trust structure is preferred to a company partly because company law makes share application money and allotment rigid, which does not suit AIF-style flexibility.