At first glance, this may seem an odd time to discuss the difficulties facing the fund administration industry. According to the 2019 eVestment survey of alternative asset administrators, the industry’s assets under administration (AUA) just swelled to $10 trillion, an 18.78 percent increase over last year’s AUA. According to that same report, the median respondent grew their AUA of private equity and private debt assets by 11.35 percent.
This boom isn’t a mystery. Fund administration has only gotten more difficult in recent years, driven by regulatory complexity and the increasing demands of LPs. Today’s administrative responsibilities require cutting-edge technology and sufficient staff to handle the workload, so GPs are all too happy to outsource that headache to a service provider. But that still leaves administrators looking for aspirin.
Given how few GPs are firing their administrators to bring all that work in-house again, a lot of firms are proving up to the task. But that doesn’t mean service providers aren’t facing pressure on price while needing to continually invest in technology and talent retention, and perhaps even new offerings, as GPs diversify into other asset classes like debt or real estate.
To solve this, some are turning to M&A, scooping up competitors to acquire technology, services, clients or a combination of all three. Private equity, flush in the midst of a fundraising boom, is betting big that its administrators can be another platform play, consolidating the industry, and as a result, granting stellar returns alongside timely LP reporting. But these new larger players face issues that might jeopardize service levels, allowing smaller independent firms to poach unhappy clients. Still, the demands of administering funds today might favor the big over the boutique.
The new normal can squeeze administrators of all sizes. “One of our clients explained that our ability to handle fund administration was just table stakes,” says Anne Anquillare, CEO and president of PEF Services. “They signed with us because we could deliver a higher level of service with a seamless portal technology that would streamline their investor communications.”
And while that client credits the technology for landing their business, price still matters in such a competitive market. “There are pressures to reduce our fees, which just means that we have to work more efficiently and leverage technology to meet service expectations,” says Onno Bouwmeister, global sector head, private equity, of Vistra. Another administrator admitted it is common to lower prices as part of any bidding process. And this pricing pressure doesn’t take into account that “table stakes” service is only getting more expensive for administrators to provide.
For example, one service provider noted that no matter the size of the administrator, they still need to invest in data security software to meet the requirements of institutional LPs, and that software costs the same whether they administer $12 billion or $120 billion in assets. The shop managing the latter will be able to spread that cost over a much wider customer base. Due to the global nature of the asset class, administrators with only U.S. clients still need to comply with the European Union’s new GDPR standard.
So, when a larger administrator comes knocking to buy a smaller peer, there’s good reason to answer the door. The past few years have seen a wave of M&A deals in the industry, as firms like SS&C, Apex and SANNE have been bagging acquisitions to expand their geographic reach and service offerings.
But Apex, which has been closing on a slew of deals over the past few months, isn’t looking for market share alone. “Our priority is to create the strongest product offering we can, not just growth through acquisition,” says Peter Hughes, Apex’s CEO and Founder.
Instead, Hughes is focused on whether his firm expands their product offering, and whether Apex can help the acquired company serve its current clients better. Apex is also looking for targets that can blend well with its current systems. “If it’s a firm in a new geography that also uses complementary technology, that starts to look attractive to us,” says Hughes.
The rise of the owner/client
Even with fund managers outsourcing more than ever before, not all administrators have the deep pockets or ability to raise sufficient debt to make these acquisitions themselves. Private equity is playing a major role in this wave of M&A activity, not just as new clients, but as investors. Genstar acquired Apex, Permira owns AlterDomus, and Public Pension Capital and FiveW Capital back Viteos, just to name a few.
“Our acquisition strategy has been in place since Genstar invested in us in 2017, and it was predicated on building the broadest product mix out there,” says Hughes. “They understand that’s what drives organic growth.”
And they are bullish on the sector, with one administrator admitting getting calls nearly every week from buyout firms asking about their growth plans and looking to invest. The nature of private equity, no matter the era, is to deliver returns after a finite period of ownership. Which begs the question: How many of the current shopping sprees are for the long-term viability of the administrator, and how many are part of a roll-up play for short-term growth and a sale?
Of course, fund administrators argue that being able to operate in more jurisdictions and service more asset classes can only better serve clients, and with the benefits of scale, costs stay reasonable. But the nature of fund administration may complicate matters.
“We appreciate continuity because there will always be a learning curve when bringing on an administrator,” says Joshua Cherry-Seto, the CFO of Blue Wolf Capital. “Some portion of a firm’s business will be unique to their investments or history, and that means outsourcing will make more work before it makes less.”
Sometimes GPs will be working with the same people at an administrator, but ownership changes are bound to distract staff from the normal course of business. “Long term, these mergers might deliver real value,” says Jill Calton of UMB Fund Services. “But in the near term, the firm is servicing both clients and the merger.” This can include incorporating a recent acquisition’s improved tech offering, which clients may appreciate in time, but such transitions are rarely free of hiccups.
Even if the transition period goes smoothly, some clients may not appreciate their bulked-up provider. “We’ve seen some private equity firms enter an RFP process because their administrator lost personnel or feel they’re not getting adequate attention now that they’re a smaller fish in a much larger pond,” says Calton.
Not all giants are clumsy
However, these larger administrators appear sensitive to the situation. “When we acquire a business, we perform the commercial diligence to ensure that their clients are happy, and we make sure to incentivize client-facing staff to stay,” says Hughes. “If we don’t force a new technology on them and maintain the same level of service, but with a wider product mix, clients continue to be happy.”
And private equity doesn’t seem to disrupt administrators permanently. Vistra is on its third private equity owner, as Baring Private Equity Asia invested in the administrator in 2015. “That support has allowed us to invest in technology and staff and buy ourselves into niche areas like capital markets and the servicing of aircraft leasing, including asset-backed securities transactions,” says Bouwmeister. In 2018, Vistra acquired the administrator Radius from Hg Capital. “Those investments helped us become a truly global administrator.”
Even the largest players in the space are aware how important the service element is. “We take a very customer-focused approach to integrating a new acquisition,” says Rahul Kanwar, president and chief operating officer of SS&C. “We meet a lot of customers, and solicit their feedback to shape our product plans, integration plans and development initiatives. Customers quickly gain access to our broader set of services and improved technology, which improves their overall experience.”
The reality is that every administrator is under pressure to keep up with their clients’ increasing size and complexity, either by acquisition or by building what they need internally. That takes money, which may favor larger administrators going forward. But that doesn’t mean smaller peers will disappear.
Firms like PEF Services pride themselves on offering their clients stability of service with high rates of talent retention, but they also look to spend smartly in technology. They connect their portal directly to the books of the fund, so that there is limited downloading and uploading of documents, which courts security breaches and user errors in the numbers.
Others, like UMB Fund Services, don’t feel the need to acquire companies in order to broaden their suite of services. Instead, they develop relationships with third-party providers that they can refer clients to as needed. UMB Fund Services also takes advantage of the expertise of its parent company. “Through our larger organization, we’re able to provide services beyond traditional fund administration, such as credit facilities,” says Calton.
And while administrators of all size will admit that current technology and compliance requirements may provide barriers to entry, they fully expect new entrants to appear with a cutting-edge technology or with a focus on serving a particular niche. Given the amount of money pouring into the industry, no one should be surprised if real breakthroughs arrive, which will hopefully address today’s headaches better than two aspirin and a longer workday.
The partner model
“When we were looking for an administrator, one of the largest firms in the market gave us a price that was 30 percent to 40 percent less than the other bids,” says Joshua Cherry-Seto, the CFO of Blue Wolf Capital. “But we were looking for more of a partner, who was truly devoted to the middle market space. Cost is always a factor, but we were able to find that niche firm big enough to have both expertise and scale.”
One CFO admits that larger administrators may make sense for the mega-firms that are only looking to access technology and outsource tasks, but administrators also act as outsourced operational teams. In lieu of adding a VP of Finance, or other more managerial level roles, they require a close collaboration that boutique firms offer as a core value proposition.
And a fund administrator argues that while GPs like exits, they don’t always appreciate changes in control at their service provider, especially if it changes the operating model that they chose in the first place, or requires getting a new team up to speed on their own processes.