Does Outsourced Fund Administration Make Sense for Your Firm?

A growing number of private equity and real estate firms have decided to outsource their fund administration functions. This article analyzes the key drivers of the decision to outsource.

1

   Investor Demands

Institutional investors are undertaking more granular and detailed due diligence on a private equity firm’s operating practices before committing capital. In the past, investor diligence focused primarily on track record and investment team. Today, investor analysis incorporates all parties connected with a new fund. There are an increasing number of investors that expect to see that an independent third-party administrator has been appointed. Many investors have decided that a third-party administrator MUST be part of the equation.

2

   Access to Technology

Investors require that private equity firms have technology in place to provide detailed reporting on their investments and to support the demands for transparency. Identifying and mastering the best of breed technology that can support the reporting needs of investors is not necessarily a core competency of a private equity firm, but is certainly demanded in the fund administration industry. In addition, many fund administrators are able to spread the cost of technology across multiple client relationships which make the technology cost much more affordable for the individual fund administration client.

Specialized fund administration platforms typically allow data to be tracked at each level of a fund structure, from the investor commitments and fund level data through to the underlying portfolio company/investment. Often these systems involve a costly and time-consuming process of implementing and maintaining the technology in-house, which can be avoided almost entirely with a fund administrator.

3

   Data Security

Most fund administrators understand the need for rigorous third-party validation of their control environment and procedures. A good fund administrator will undergo an annual Service Organization Controls (SOC) examination to provide third-party attestation regarding the reliability of the design, implementation and operating effectiveness of the fund administrator’s control environment.

Most private equity and real estate firms are recognizing the heightened risk of maintaining sensitive investor information. A growing number of private equity firms have recognized they lack the internal resources to adequately maintain a control environment that would satisfy a SOC examination.

Outsourcing to a fund administrator can be an effective answer to the investor looking for greater assurance regarding cyber-security.

4

   Broader and Deeper Team

The outsourcer business model offers access to larger teams and topical experts. While internal teams are often deliberately lean, an outsourcing provider builds out staff with bench strength in areas like investor relations, compliance, valuations, and security. For the outsourcer, hiring a large team of technical experts who support multiple funds makes financial sense. Building a similar team in-house can be cost-prohibitive.

5

   Fixed Cost versus Variable

Many private equity firms are attracted to the idea that they do not have to maintain a fixed overhead component in the form of full-time salaries and benefits. They can “variablize” their back-office costs through the use of an administrator. Also, most Limited Partner Agreements (LPAs) allow for costs to “administer” a fund to be paid by the fund; many specifically allow for the cost of a fund administrator.

The use of a fund administrator is typically seen as a simplified approach to identifying administration costs that can clearly be charged directly to the fund. This approach offers simplified fund governance and often represents a financialadvantage over firms unable to cleanly charge the cost of employees to a fund.

Want to learn more about outsourcing fund administration and how it might work for your firm? Contact the experts at FD-FA today.