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Momentum within the private funds industry continues to build toward outsourcing back-office functions as firms seek to focus on core investment competencies, while being forced to navigate an increasingly complex regulatory backdrop.
Almost three-quarters of respondents to the Private Funds CFO Insights Survey 2024, conducted in partnership with Aztec Group, are outsourcing their fund administration to a third party. Outsourcing access to technology was deemed to be the greatest opportunity for improvement, followed by skills and expertise and then service.
IT is the area where most CFOs expect to increase outsourcing over the next year, followed closely by cybersecurity.
Every firm has a slightly different priority set when it comes to what is kept in-house and what is outsourced. Béla Schwartz, chief financial officer at The Riverside Company, says it is incumbent on each manager to go through the pros and cons based, in part at least, on the size, volume and frequency of transactions.
“Riverside has seven fund families, so we work with a third-party administrator for financial and partner statements, and we outsource our valuation work to a third-party accounting firm and have done so for over a decade, he says. “We also recognise that working with an outsourced partner on valuations provides comfort to LPs in terms of the validity of those valuations.”
Schwartz adds that outsourcing decisions will also depend on what is permissible within fund documentation. “Many LPAs permit outsourcing providers to be charged to the fund while employees of the manager are paid by the manager,” he explains.
Kristen Laguerre, CFO and chief operating officer at MPM BioImpact, is another big believer in outsourcing. “MPM is the third firm I have been with where I have transitioned the finance function to an outsourced model,” she says. “We have senior people in-house but the day-to-day administration for funds is all carried out by a third party.”
She says having an outsourced team makes investors feel secure. “Most importantly, investors are convinced that outsourcing is the right way to go. They feel as though there is a second pair of eyes on everything. They like that there is an objective third party involved.”
Another primary reason that Laguerre favors outsourcing is that retaining good people has become increasingly tough in the current market environment. “Rebuilding an in-house team can set you back a year if you lose someone. That is something I have experienced,” she says.
“The challenge of working with an outsourced partner, however, is the level of consolidation that we are seeing in the market. We may hire a firm with a certain level of service and then find that the firm disappears.
“And, of course, retention is a challenge for fund administrators, as well. Once an administrator starts losing their people, then you are in the same position that you would have been if you had insourced.”
Another mid-market CFO echoes Laguerre’s concerns around consolidation. “We outsource very little because we feel that the attention you get from a big administrator is very low as a mid-market house, but if you go with a boutique shop, that boutique is going to get acquired by a big player at some point, with all the service disruption that entails.”
The other side of the coin
Those that choose not to outsource, meanwhile, do so for a number of reasons including management preference, quality of the service delivery, and cost, according to the survey. Schwartz adds that some managers are also reluctant to give up control of their data.
Jason Snider, CFO at Gauge Capital, chooses to outsource very little. “We only outsource some small administrative elements of compliance,” he says. “We do our fund administration work in-house. That is not because of the quality of service providers out there. It is to do with the level of transparency that investors are demanding today.
“LPs are asking a lot of questions and when you are putting millions of dollars of your own money to work, you deserve answers, and I have found that outsourcing can impede that process.”
Schwartz says it comes down to how you manage your third parties. “I am generally a supporter of the concept of outsourcing. But you need to review their work, just as you would any other employee and think of the outsourced provider as another member of
your team,” he says. “You are still ultimately responsible, as the manager of the fund, for the work of the administrator. Outsourcing doesn’t take away any liability, it just lends a helping hand.”