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Private Equity Set To Accelerate Fund Administration Outsourcing And Automation

The reduction in economic activity due to the lockdowns enforced by governments in response to the Covid-19 pandemic have affected private equity significantly. One trend that might be exacerbated by the recent ‘new normal’ is that of outsourcing. AlphaWeek’s Greg Winterton spoke to Nik Perros, Head of Private Equity at fund services provider Citco Fund Services (USA), Inc., to understand trends in the PE fund administration space.

GW: Nik, the current environment is an uncertain one for private equity GPs, with valuations of their portfolio companies set to fall significantly. How is this impacting trends in the fund administration space?

NP: We see the uncertainty that has gripped the world, as exacerbated by current events amongst other things, as a continuing part of the evolution of business and society in general. With respect to the impending change impacting the participants in the alternative investment arena, we see that this evolution will also apply to outsourced providers. We believe that what was already a significant shift in practice away from an internal administration function will only accelerate the outsourcing of administration in the private equity sector going forward. The principal considerations contributing to the existing mind-set - such as efficiency, scalability, leverage and cost reductions – will be further enhanced in the post-pandemic world.  

With Q1 ’20 reporting closed, what is evident is that portfolio company valuations have dropped between 10%-20%, with significant risk for additional decreases if lock-down and its after-effects persist over the longer term. Valuation decreases of this magnitude are putting pressure on all managers to look harder at their business and consider alternatives with respect to investment strategy, operations and administration. Even in an eventual recovery scenario, reduced valuations will further serve as an impetus for managers to lower their cost profile across the various aspects of their business in the near future.

GW: Covid-19 or not, there has been an increasing trend in recent years of PE firms moving towards a more automated fund administration model. Which areas of the business is this impacting the most, and why?

NP: Pandemic aside, the move towards a more automated administration model had been gathering pace in private equity in recent years, particularly with respect to fund-raising activities and the related subscription processes, including AML and KYC. We believe that the move toward automation will only gain further traction in a full or partial remote-working environment. While virtual data rooms have already largely replaced human interactions when it comes to data room management and paper-based documentation processes on subscriptions, the continued automation of other administration functions will further decrease those interactions (this time inclusive of the third-party administrator personnel). This will benefit both GPs and LPs via substantial time savings, cost reductions and a more seamless overall experience.

GW: There are numerous benefits to fund administration outsourcing for private equity LPs, as well. Tell us about a few of these.

NP: Time – and its associated costs – is of the essence in this challenging environment. A sizeable number of LPs have reported to us that they have at least halved their time on due diligence after their GP transferred its administration function from in-house to a fully outsourced model. Investors are less interested in spending time on blocking and tackling, irrespective of returns. In fact, outsourced administration may move over time from a positive factor in GPs’ favour into an outright prerequisite.

GW: Still on LPs, Nik, more and more attention is being paid to the infrastructure and service providers used by private equity firms of all sizes and strategies as part of the due diligence process. What benefits does hiring an outsourced fund administrator offer a PE GP in the fundraising process?

NP: The time saved through digital solutions is not just of benefit to LPs; for example, GP’s can digitize the process of preparing for a board meeting, while hosting it and signing all documentation through the use of an online board pack production and presentation tool. We must remember that accurate data provision also frees up GPs’ time to do what they do best – generate returns – as well as support their ability to do so.

The opportunity bell that signals greater automation through technological expertise will begin to ring very loudly for GPs.

GW: Finally, Nik, you think that approximately 40% of the private equity fund administration market is outsourced to third party providers. Where do you see that in, say, two years and then five years, and why?

NP: While our experience has shown that the saturation point for fund administration has been increasing steadily, we believe that the outsourced administration saturation point will ultimately peak at over 90%, with significant increases occurring over the next two to five years.  

In the medium term, we believe that the value-add services we have seen as being successful in other areas of the financial services industry will start to come to the fore in Private Equity. For example, the successes of online subscription tools in the UCITS and Hedge funds industries and are currently being replicated by the top Private Equity managers. In the longer term, we envisage administrators providing fully cloud based operating models where all collaboration between administrators, GPs and LPs takes place online. These platforms will help smaller managers get up and running quickly on a gold standard operating model, and will help more sophisticated managers use processes and tools that scale.

Some markets have less GP presence and so will of course lag behind the larger and more sophisticated markets. But the real power of data and digital tools is that they are usable from any location or by any size of manager. To date, we have seen many of the largest and most technologically sophisticated managers build or buy their own platforms.  We anticipate that the rest of the market would still benefit from these solutions and so will search for an outsourced provider who can deliver them ready made.

 Nik Perros is Head of Private Equity at Citco Fund Services (USA), Inc.

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