Making Effective and Accountable Investment Decisions - Resources

Michigan’s New Uniform Prudent Management of Institutional Funds Act, by Jeffrey B. Power, published in the Summer 2009 issue of the Michigan Business Law Journal. The link is http://www.wnj.com/files/upload/Michigans_New_Uniform_Prudent_Management_of_Institutional_Funds_Act_article_by_Jeff_Power.pdf

Fiduciary Guidelines for Foundation & Endowment Trustees, published by Morgan Stanley Smith Barney. The link is http://www.morganstanleyfa.com/public/facilityfiles/sb003500/9ca1421d-c071-4dd8-bc86-b841fbf3bd0e.pdf

Comprehensive resource: A Primer for Investment Trustees (2011), published by The Research Foundation of CFA Institute, which can be downloaded for free from the organization’s website. The link is https://www.cfainstitute.org/learning/products/publications/rf/Pages/rf.v2011.n1.1.aspx

UNIFORM PRUDENT MANAGEMENT OF INSTITUTIONAL FUNDS ACTAct 87 of 2009

AN ACT to establish duties and obligations of nonprofit, charitable institutions in the management and useof funds held for charitable purposes; and to repeal acts and parts of acts.

History: 2009, Act 87, Imd. Eff. Sept. 10, 2009.

The People of the State of Michigan enact:

451.921 Short title.Sec. 1. This act shall be known and may be cited as the "uniform prudent management of institutional

funds act".History: 2009, Act 87, Imd. Eff. Sept. 10, 2009.

451.922 Definitions.Sec. 2. As used in this act:(a) "Charitable purpose" means the relief of poverty, the advancement of education or religion, the

promotion of health, the promotion of a governmental purpose, or any other purpose the achievement ofwhich is beneficial to the community.

(b) "Endowment fund" means an institutional fund or part of an institutional fund that, under the terms of agift instrument, is not wholly expendable by the institution on a current basis. Endowment fund does notinclude assets that an institution designates as an endowment fund for its own use.

(c) "Gift instrument" means a record or records, including an institutional solicitation, under whichproperty is granted to, transferred to, or held by an institution as an institutional fund.

(d) "Institution" means any of the following:(i) A person, other than an individual, organized and operated exclusively for charitable purposes.(ii) A government or governmental subdivision, agency, or instrumentality, to the extent that it holds funds

exclusively for a charitable purpose.(iii) A trust that had both charitable and noncharitable interests, after all noncharitable interests have

terminated.(e) "Institutional fund" means a fund held by an institution exclusively for charitable purposes. Institutional

fund does not include any of the following:(i) Program-related assets.(ii) A fund held for an institution by a trustee that is not an institution, unless the fund is held by the trustee

as a component trust or fund of a community trust or foundation.(iii) A fund in which a beneficiary that is not an institution has an interest, other than an interest that could

arise on violation or failure of the purposes of the fund.(f) "Person" means an individual, corporation, business trust, estate, trust, partnership, association, joint

venture, public corporation, government or governmental subdivision, agency, or instrumentality, or any otherlegal or commercial entity.

(g) "Program-related asset" means an asset held by an institution primarily to accomplish a charitablepurpose of the institution and not primarily for investment.

(h) "Record" means information that is inscribed on a tangible medium or that is stored in an electronic orother medium and is retrievable in perceivable form.

History: 2009, Act 87, Imd. Eff. Sept. 10, 2009.

451.923 Institutional fund; managing and investing; considerations; requirements; pooling 2or more funds; rules for managing and investing.Sec. 3. (1) Subject to the intent of a donor expressed in a gift instrument, an institution, in managing and

investing an institutional fund, shall consider the charitable purposes of the institution and the purposes of theinstitutional fund.

(2) In addition to complying with the duty of loyalty imposed by law other than this act, each personresponsible for managing and investing an institutional fund shall manage and invest the fund in good faithand with the care an ordinarily prudent person in a like position would exercise under similar circumstances.

(3) In managing and investing an institutional fund, both of the following apply:(a) An institution may incur only costs that are appropriate and reasonable in relation to the assets, the

purposes of the institution, and the skills available to the institution.(b) An institution shall make a reasonable effort to verify facts relevant to the management and investment

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of the fund.(4) An institution may pool 2 or more institutional funds for purposes of management and investment.(5) Except as otherwise provided by a gift instrument, all of the following rules apply:(a) In managing and investing an institutional fund, the following factors, if relevant, shall be considered:(i) General economic conditions.(ii) The possible effect of inflation or deflation.(iii) The expected tax consequences, if any, of investment decisions or strategies.(iv) The role that each investment or course of action plays within the overall investment portfolio of the

fund.(v) The expected total return from income and the appreciation of investments.(vi) Other resources of the institution.(vii) The needs of the institution and the fund to make distributions and to preserve capital.(viii) An asset's special relationship or special value, if any, to the charitable purposes of the institution.(b) Management and investment decisions about an individual asset shall not be made in isolation but

rather in the context of the institutional fund's portfolio of investments as a whole and as a part of an overallinvestment strategy having risk and return objectives reasonably suited to the fund and to the institution.

(c) Except as otherwise provided by law other than this act, an institution may invest in any kind ofproperty or type of investment consistent with this section.

(d) An institution shall diversify the investments of an institutional fund unless the institution reasonablydetermines that, because of special circumstances, the purposes of the fund are better served withoutdiversification.

(e) Within a reasonable time after receiving property, an institution shall make and carry out decisionsconcerning the retention or disposition of the property or to rebalance a portfolio, in order to bring theinstitutional fund into compliance with the purposes, terms, and distribution requirements of the institution asnecessary to meet other circumstances of the institution and the requirements of this act.

(f) A person that has special skills or expertise, or is selected in reliance upon the person's representationthat the person has special skills or expertise, has a duty to use those skills or that expertise in managing andinvesting institutional funds.

History: 2009, Act 87, Imd. Eff. Sept. 10, 2009.

451.924 Endowment fund assets; appropriation or accumulation; determination; limitation;designation.Sec. 4. (1) Subject to the intent of a donor expressed in the gift instrument, an institution may appropriate

for expenditure or accumulate so much of an endowment fund as the institution determines is prudent for theuses, benefits, purposes, and duration for which the endowment fund is established. Unless stated otherwise inthe gift instrument, the assets in an endowment fund are donor-restricted assets until appropriated forexpenditure by the institution. In making a determination to appropriate or accumulate, the institution shall actin good faith, with the care that an ordinarily prudent person in a like position would exercise under similarcircumstances, and shall consider, if relevant, all of the following factors:

(a) The duration and preservation of the endowment fund.(b) The purposes of the institution and the endowment fund.(c) General economic conditions.(d) The possible effect of inflation or deflation.(e) The expected total return from income and the appreciation of investments.(f) Other resources of the institution.(g) The investment policy of the institution.(2) To limit the authority to appropriate for expenditure or accumulate under subsection (1), a gift

instrument must specifically state the limitation.(3) Terms in a gift instrument designating a gift as an endowment, or a direction or authorization in the gift

instrument to use only "income", "interest", "dividends", "rents, issues, or profits", or "to preserve theprincipal intact", or words of similar import, do both of the following:

(a) Create an endowment fund of permanent duration unless other language in the gift instrument limits theduration or purpose of the fund.

(b) Do not otherwise limit the authority to appropriate for expenditure or accumulate under subsection (1).History: 2009, Act 87, Imd. Eff. Sept. 10, 2009.

451.925 Management and investment; delegation to external agent; duty to exercisereasonable care; liability; delegation to committees, officers, or employees.

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Sec. 5. (1) Subject to any specific limitation set forth in a gift instrument or in law other than this act, aninstitution may delegate to an external agent the management and investment of an institutional fund to theextent that an institution could prudently delegate under the circumstances. An institution shall act in goodfaith, with the care that an ordinarily prudent person in a like position would exercise under similarcircumstances, in doing any of the following:

(a) Selecting an agent.(b) Establishing the scope and terms of the delegation, consistent with the purposes of the institution and

the institutional fund.(c) Periodically reviewing the agent's actions in order to monitor the agent's performance and compliance

with the scope and terms of the delegation.(2) In performing a delegated function, an agent owes a duty to the institution to exercise reasonable care

to comply with the scope and terms of the delegation.(3) An institution that complies with subsection (1) is not liable for the decisions or actions of an agent to

which the function was delegated.(4) By accepting delegation of a management or investment function from an institution that is subject to

the laws of this state, an agent submits to the jurisdiction of the courts of this state in all proceedings arisingfrom or related to the delegation or the performance of the delegated function.

(5) An institution may delegate management and investment functions to its committees, officers, oremployees as authorized by law of this state other than this act.

History: 2009, Act 87, Imd. Eff. Sept. 10, 2009.

451.926 Release or modification of restriction.Sec. 6. (1) If the donor consents in a record, an institution may release or modify, in whole or in part, a

restriction contained in a gift instrument on the management, investment, or purpose of an institutional fund.A donor may give prior consent to an institution for release or modification of a restriction or charitablepurpose in a gift instrument that also includes a restriction or stated charitable purpose subject to this section.A release or modification shall not allow a fund to be used for a purpose other than a charitable purpose of theinstitution.

(2) A court, on application of an institution, may modify a restriction contained in a gift instrumentregarding the management or investment of an institutional fund if the restriction has become impracticable orwasteful, if it impairs the management or investment of the fund, or if, because of circumstances notanticipated by the donor, a modification of a restriction will further the purposes of the fund. The institutionshall notify the attorney general of the application, and the attorney general shall be given an opportunity tobe heard. To the extent practicable, any modification shall be made in accordance with the donor's probableintention.

(3) If a particular charitable purpose or a restriction contained in a gift instrument on the use of aninstitutional fund becomes unlawful, impracticable, impossible to achieve, or wasteful, a court, uponapplication of an institution, may modify the purpose of the fund or the restriction on the use of the fund in amanner consistent with the charitable purposes expressed in the gift instrument. The institution shall notifythe attorney general of the application, and the attorney general shall be given an opportunity to be heard.

(4) If an institution determines that a restriction contained in a gift instrument on the management,investment, or purpose of an institutional fund is unlawful, impracticable, impossible to achieve, or wasteful,the institution, 60 days after notification to the attorney general, may release or modify the restriction, inwhole or in part, if all of the following apply:

(a) The institutional fund subject to the restriction has a total value of less than $25,000.00.(b) More than 20 years have elapsed since the fund was established.(c) The institution uses the property in a manner consistent with the charitable purposes expressed in the

gift instrument.(5) This section does not affect the right of a governing body of an institution to exercise the power to

modify restrictions contained in a gift instrument as conferred by the institution's governing instruments or bya gift instrument.

History: 2009, Act 87, Imd. Eff. Sept. 10, 2009.

451.927 Compliance with act; existing facts and circumstances.Sec. 7. Compliance with this act shall be determined in light of the facts and circumstances existing at the

time a decision is made or action is taken and not by hindsight.History: 2009, Act 87, Imd. Eff. Sept. 10, 2009.

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451.928 Applicability of act.Sec. 8. This act applies to institutional funds existing on or established after the effective date of this act.

As applied to institutional funds existing on the effective date of this act, this act governs only decisions madeor actions taken on or after that date.

History: 2009, Act 87, Imd. Eff. Sept. 10, 2009.

451.929 Electronic signatures.Sec. 9. This act modifies, limits, and supersedes the electronic signatures in the global and national

commerce act, 15 USC 7001 to 7031, but does not modify, limit, or supersede 15 USC 7001(c) or authorizeelectronic delivery of any of the notices described in 15 USC 7003(b).

History: 2009, Act 87, Imd. Eff. Sept. 10, 2009.

451.930 Uniformity of law.Sec. 10. In applying and construing this uniform act, consideration shall be given to the need to promote

uniformity of the law with respect to its subject matter among states that enact it.History: 2009, Act 87, Imd. Eff. Sept. 10, 2009.

451.931 Applicability; scope.Sec. 11. This act applies only to matters included within the meaning of the terms "institution",

"institutional fund", and "person" as defined in this act. This act does not apply to or affect the validity,construction, interpretation, effect, administration, or management of any other trust, estate, or applicablegoverning instrument.

History: 2009, Act 87, Imd. Eff. Sept. 10, 2009.

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Outline for CMF Conference Governance Session

Making Effective & Accountable Investment Decisions

November 9, 2015 – 11:00 a.m. to 12:15 p.m.

Session Overview

Not about the technical aspects of investment strategy

Focus on your responsibilities as a board or staff member

Establishing a process for setting investment policy and assessing performance

What are the board’s fiduciary and legal responsibilities?

What are the best ways to carry out those duties, and who should be involved? What are

the roles of:

The board

The investment committee

Investment managers

Investment consultants

Portfolio custodians

Issues peculiar to managing endowment funds

Fiduciary and Legal Responsibilities

UPMIFA (Uniform Prudent Management of Institutional Funds Act (Act 87 of 2009; MCL

§451.921 et seq.)

Uniform Statute that replaced UMIFA Applies to all funds held for charitable purposes,

including non-endowed funds

Donor intent controls

In absence of expressed donor restrictions, provides default rules for fund management

Board’s duties under UPMIFA:

Act in good faith

Act with care of an ordinarily prudent person

Consider charitable purposes of the institution and the purposes of the fund

Duty to verify facts

Incur only appropriate and reasonable costs

Duty to diversify unless “special circumstances”

Decide to sell or hold within “reasonable time” of receiving an asset

Board members with special skills or expertise must use them

Portfolio is judged as a whole in light of appropriate risk and return objectives – modern

portfolio theory

Asset Allocation Considerations under UPMIFA

Not what to invest in, but what factors must be considered

General economic conditions

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Possible effects of inflation/deflation

Role each investment plays within the investment portfolio as a whole

Expected total return from income and appreciation

Needs of the institution and the fund to make distributions and to preserve capital

Other resources of the institution

An asset’s special relationship or value to the charitable purposes of the institution

Other UPMIFA Provisions

Allows delegation of investment responsibility to committees, officers or employees

Allows the delegation of management and investment of funds to an external agent, but

imposes standard of reasonable care

Important provisions regarding endowments

Defines endowment

Provides flexibility regarding endowment spending policies

o Permits use of “total return” as the default expenditure

o Allows distributions from “underwater” funds

Provides procedures for modifying or releasing donor restrictions

Develop Appropriate Policies

For Endowments, Develop a Spending Policy

Target spending rate influences investment decisions

Spending rate should include all withdrawals, including fees

Organization’s financial needs?

For private foundations, 5% rule

Balance between today’s needs and preserving assets

Consider anticipated long-term returns and impact of inflation

Goal: rate of spending, after inflation, that is slightly lower than the average real rate of

return

Spending rate adjustments in response to actual performance

Prepare a Written Investment Policy Statement (see materials)

Demonstrates prudence in carrying out responsibilities

Establishes a benchmark return

Includes asset allocation guidelines and strategies

Preliminary considerations:

o Size and purpose of fund

o Organization’s tolerance for risk and volatility

o The investment time horizon

o Need for liquidity

o Existing skill and expertise of board and/or committee

Investment policy statement should include:

o Responsibilities of all parties involved, including authority for investment

decisions

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o Clear investment goals

o Asset allocation strategy that diversifies the portfolio across asset classes and

investment styles

o The degree of risk permitted

o Factors used to evaluate investments

o Criteria to determine whether to retain a particular investment manager

o Guidelines for regular evaluation of performance results

Investment policy statement should be tailored to your organization’s needs

Drafting the statement is a technical task – seek professional help

Conflict of Interest Issues

Duty to avoid conflicts of interest

Should have a written conflict of interest policy, including a policy regarding gifts from

vendors

Establish an Appropriate Decision-making Process

No “one size fits all” approach – depends upon a variety of factors:

o Size of board

o Size of fund

o Purpose of fund

o Skill and expertise of board members

o Board’s willingness to assume direct responsibility for investment decisions

Role of the Board

Board is ultimately responsible for establishing investment policy, setting investment

objectives, and monitoring performance

Delegation to an investment committee, especially where the board is large.

Authority levels – who can decide what – can vary a great deal

Committee should include investment/finance experience

Option to add experienced community members

Professional Assistance

If justified by size and nature of fund, obtain independent advice and monitoring

assistance by retaining external professionals.

Investment manager

o Makes investment decisions – such as which individual securities to hold – on

behalf of the client, subject to the investment policy statement and the oversight

of the board/investment committee.

o Fee is usually a percentage of funds under management.

Investment consultant

o Interface between organization and investment managers and custodian.

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o Provides expert advice, recommendations, monitoring, and/or reporting services

to the organization; helps carry out investment decisions of board or committee.

o A “pure consultant” typically does not make investment decisions.

o Fee can be fixed or a percentage of assets under management

Custodian

o Safely holds the portfolio assets and carries out directions regarding purchase and

sale of investment vehicles and transfers between accounts.

o Provides reports that show individual asset holdings and transaction activity.

o Fee is usually a percentage of assets held.

Often overlap among functions

o Example: Investment manager may provide monitoring, reporting and

performance measurement functions.

Bigger funds usually have more professionals involved, but this is not always the case.

Use of professionals dependent upon various factors:

o Size and purpose of fund

o Time horizon

o Skill and expertise of board and/or investment committee

o Cost of retaining expert assistance

Possible Structural Options

Board or investment committee manages portfolio itself

o Benefit: no additional fees

o However, risky unless board members have sufficient investment expertise to

make informed, appropriate decisions

o May subject board to criticism for poor performance

o Most appropriate for:

Small or short-term funds

Funds where liquidity is important and investment options are limited

Boards with investment expertise

Safe approach: diversified mutual funds

Board or investment committee works directly with investment manager who makes

investment recommendations or decisions subject to board/committee oversight

o Expense of investment management fees

o Retaining investment professional contributes to board’s exercise of reasonable

care

o Suitable for any size portfolio

o Must address how to objectively evaluate investment manager’s performance

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Board or investment committee works with investment consultant, who helps develop

investment policy, provides objective advice, helps select and monitor investment

managers, and evaluates their performance.

o Suitable for larger, more complex portfolios

o Consultant fee is usually modest as percentage of portfolio value

o Provides board/committee with in-depth information that permits more thoughtful

and objective management of portfolio.

Outsourcing the decision making to someone who merges the consultant and investment

management functions.

o May be appropriate:

Where board has low expertise and there is a desire for quicker response

regarding investment decisions

Where investment portfolio is large and complex

o Fees may be higher

o This approach may minimize the decision-making role of the board or committee

o Duty of care in selection and monitoring of agent

An independent or third party custodian is desirable when organization is using multiple

investment managers, permitting trades to be made through one firm and providing

integrated reporting for monitoring purposes

Necessity of internal controls

Trading within the investment account is usually not a problem

Bigger issue is money flowing out of investment account for cash flow and for distributions

Multiple approvals for transactions may not be possible

Separation of functions may minimize risk

Selection of Investment Consultants, Managers and Custodians

Request for Proposal

UPMIFA permits delegation of investment management function, but also imposes duty

of care regarding selection and monitoring

Begin by seeking recommendations

Prepare Request for Proposal that includes a concise description of your organization, its

investment goals, and particulars regarding the portfolio (see materials)

RFP should ask respondents to provide information about their:

o Professional qualifications and experience of the management team

o Services offered

o Fees and expenses

o Investment philosophy and portfolio construction process

o Reporting capabilities and technological support

o Research capabilities

o References

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RFP should be tailored to your organization’s actual needs, not just a copy of another

organization’s document. What is relevant to your particular situation?

“Political” issues regarding retention of local financial professionals

What is the “link” between the organization and the professional under consideration?

Board member? Donor?

Board member or significant donor can legally serve as paid investment manager or

consultant, if arm’s length transaction and fees are reasonable. However, not best

practice.

o Can subject board to criticism

o Difficult to be objective in measuring performance

o Once retained, it is difficult to terminate a board member or donor for poor

performance.

Monitoring Performance and Compliance with the Investment Policy Statement

Board/Investment Committee should monitor performance in accordance with investment

policy’s guidelines

An investment consultant can prove extremely valuable in connection with this function,

providing appropriate benchmarks and measurements of absolute and relative

performance.

Performance measured on a “net of fees” basis

Board or committee should meet regularly to discuss and evaluate performance and take

any actions necessary, but should avoid “micromanaging” the portfolio

Performance should be measured over a substantial period of time

If possible, participate in investment performance survey appropriate for the

circumstances (COF Survey; NACUBO-Commonfund Study of Endowments)

General Principles for Investment Decision-making

In most cases, investment policy should focus on long-term goals

Avoid frequently changing overall investment strategy or attempting to “time the

market.”

Diversification and asset allocation are the most important factors in determining long-

term results

The portfolio’s overall fee structure is critically important

Document the decision-making process through written minutes.

Conclusion

As a board member, you are not responsible for achieving any particular rate of

investment return. No one has the perfect investment strategy.

However, you do have a responsibility to establish a process for setting investment policy

and assessing performance that meets your legal and fiduciary duties under UPMIFA

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If you faithfully carry out those responsibilities, you will have established an investment

framework for your organization that will lead to thoughtful, informed decisions that

provide the best potential for favorable returns.

Resources (Links on Conference Website)

Michigan’s New Uniform Prudent Management of Institutional Funds Act, an article by

Jeffrey B. Power, published in the Summer 2009 issue of the Michigan Business Law

Journal.

Fiduciary Guidelines for Foundation & Endowment Trustees, an article published by

Morgan Stanley Smith Barney.

A Primer for Investment Trustees (2011), published by The Research Foundation of CFA

Institute. An excellent, comprehensive resource that can be downloaded for free from the

organization’s website.

Presenters

• Dennis W. Fliehman, president & CEO,

Capital Region Community Foundation

• Shale P. Lapping, president, IPEX, Inc.

• Bruce Fetzer, president & CEO, John E. Fetzer Memorial Trust