Raising the bar

Limited partners love state-of-the-art fund administration systems, but what is there for GPs to love? Quite simply, the opportunity to appear competitive. By Colm Gilmore

Having a good back office system is a box that has to be checked, and GPs must give considerable thought to the cost of implementing a system and its likely effectiveness. Important as itmay be, though, the one thing that a back office system will never be able to do is convince a limited partner to sign up to a fund. Steve Darrington, partner and chief financial officer at UK middle-market firm Phoenix Equity Partners puts it: ?No one will invest with a general partner simply because they have the best back office.?

So why bother upgrading your fund administration and reporting system at all? If investors are more concerned about returns and track record, is there really a need to spend time and – crucially – money on keeping up to speed with the latest developments in back office infrastructures? The answer is a qualified yes. Because while having the best of breed system may not be vital, the bar is certainly rising in terms of the level and quality of information that investors demand.

Philip Bassett, head of investor relations at European buyout firm Permira, reflects on how times have changed: ?Four or five years ago, detailed quarterly reporting was relatively rare as a concept, but it is much more common practice now. As investors have become more sophisticated, quality information has become more important to them and we [as GPs] need to keep revisiting how we deliver that information.?

The minimum standard varies from investor to investor, depending on their own structures and reporting requirements, but there are some fundamentals that can't be ignored, according to Darrington: ?Limited partners care about robust, timely and accurate reporting. These elements are non-negotiable – you must have these three as a starting point. After that, you've got the opportunity for differentiation and to provide the ?cute stuff.? Concurs David Bull, director of finance at London's Henderson Private Capital: ?The system needs to be a place that I can go to and consistently and reliably retrieve data that can go into a report to investors.

WHY, WHEN AND HOW?
Gradual awareness of the requirements of limited partners may eventually prompt GPs to improve their systems, but sometimes more immediate events can precipitate change. Mergers and, more often, spinouts can necessitate radical alterations to previously installed systems. Recalls Darrington: ?We re-engineered the whole back office at the time of our buyout from CSFB in 2001. We'd inherited their systems, including SUN – which is a fantastic accounting system, but not really appropriate for a 30-person buyout shop.?

Sometimes finance professionals have the luxury of starting with a blank sheet of paper, like Michael Needley upon joining Sovereign Capital as the firm's finance partner in 2001: ?The firm had decided to upgrade its fund admin systems in line with where the business was going over the next few years. I wanted something private equity-specific that would work for us.?

Other times, systems simply need to be upgraded to keep pace with developments that have taken place since they were first installed. Henderson's Bull is currently overseeing the upgrading of the firm's Venture Complete / AnalytX system to Version 6. The original system was put in place five years ago and, perhaps reflecting other GPs' experiences, Bull says: ?If we had known then what we know now, we might have done things differently.?

At that time, he says the firm did a wideranging review of the applications thatwere available:?If we had done the process two or three years later, there would have been a lot more options open to us, but at that time, AnalytX stood out. We also took quite a bit of comfort from the fact that other private equity firms were using it too as we felt this would drive system development towards best practice.?

Henderson didn't conduct an entire marketplace review when the time came to upgrade last December as, having sunk the licence costs into the system, it was always going to prove more economical to keep going with an upgraded version of the same system.

THE COST OF THE AFFAIR
As voiced by one frustrated general partner, some technology suppliers have an inaccurate perception about what a private equity firm can spend on a fund admin system. ?The private equity industry is seen as having deep pockets and pricing is done more on the basis of what the market can take, rather than what a product is worth, says the GP.

Cost is certainly an important, if not determining factor when selecting systems. That search for value led Phoenix to build a web-based system called InvestorZone, alongside the mid-market-oriented Exchequer Enterprise package, the total of which, Darrington says, cost ?a fraction of some of the packages on offer.

For Sovereign's Needley, starting with a blank canvas didn't mean carte blanche as far as costs were concerned:?We weren't a large business and the project was fairly significant to us. We didn't mind paying for something good, but we had to fully understand what we were getting. So while cost wasn't the defining factor, it was a major consideration.?

Tony Halligan, CFO of emerging markets private equity investor Actis, uses a back office system that is still being developed 20 months after his arrival at the firm. The system was implemented while Actis was still part of CDC Capital Partners and is being adapted to meet the back office requirements of the firm as Actis. For Halligan, who has been in private equity for a number of years, expense isn't always the most important issue when considering a change in fund administration: ?Private equity firms tend to be top heavy with deal doers rather than admin staff. Cost isn't necessarily the crucial factor – the main difficulty lies in convincing the powers-that-be of the merits of spending money on back office systems. It can be a hard sell in a private equity house.

So what do LPs think? Blair Thompson, fund formation partner at UK-based law firm SJ Berwinreckons that back office systems are not deal-breakers. ?Increasingly, investors expect GPs to have flexible and responsive systems, says Thompson. ?I don't think an LP would not invest in a fund because back office systems weren't up to scratch, but it does affect the ongoing relationship with GPs.?

Phoenix' Darrington concurs: ?LPs do comment on your fund administration. They all have their own reporting requirements so ease of access to information can be crucial to them. It's another tier of communication – you don't start talking about returns until year five or six perhaps, but from Q1 of a new fund, you're sending out reports, so it's an early way of developing a good relationship with investors.?

Some general partners express surprise at how little investors seem to care about the rigor of fund admin systems, but agree that it varies depending upon the type of investor. Said Bull: ?Typically, fund of funds demand a bit more in terms of information and analyse things more. For other investors, if your fund is part of a large portfolio, they're often happy with the overview.?

The move towards web-based or online reporting was widely hailed as one of the most important developments in recent years, with most GPs canvassed saying this was a direction in which they would certainly move if they hadn't already done so, even though it may bring a new level of complexity. Sovereign's Needley explains:?I think there are three levels of sophistication in reporting to investors – firstly those who want everything by paper or email, secondly those who wish to access data published on your own site and thirdly, the investors who wantyou to make information available to them on their own Web site.?

Actis' Halligan believes that regardless of the systems used by individual GPs, sophisticated investors want to see consistent standards of reporting: ?Standard reporting templates [like EVCA's] seem to be perceived as a good thing by LPs and GPs. LPs in particular seem to generally welcome a consistent format; especially when they may be invested in multiple funds.?

There is good news for GPs in terms of the amount of choice and increasing competition among software vendors. And that means good news for LPs too. As suppliers grow and more options become available, GPs will be able to continue to raise the bar of their fund administration and reporting requirements to the standard that sophisticated investors expect and require. As Darrington puts it: ?Reporting is an absolute given and raising standards is all part of recognising who we work for. Limited partners pay our bills, so we're obliged to give them the best possible information.?

A version of this article appeared in The Fund Administration and Technology Compendium, a special report created in June 2005 by Private Equity International, a sister publication to Private Equity Manager.

Notable quotables
What are those on the frontline of European private equity saying about the state of fund administration and technology?

?Reporting is an absolute given and raising standards is all part of recognizing who we work for. Limited partners pay our bills, so we're obliged to give them the best possible information.?

Steve Darrington, Chief Financial Officer, Phoenix Equity Partners

?Typically, funds of funds tend to be more demanding [in terms of the information provided to them]. They have their own reporting requirements that are likely to be completely different from those of a small family office for example. While most standard reports will cover 95 percent of what everyone needs, some investors always require more.?

Blair Thompson, Partner, SJ Berwin

?Four or five years ago, detailed quarterly reporting was relatively rare as a concept, but it is much more common practice now. As investors have become more sophisticated, quality information has become more important to them and we [as GPs] need to keep revisiting how we deliver that information.?

Philip Bassett, Head of Investor Relations, Permira

?Established funds are established funds – not all GP reporting is at the same level and not all of it is perfect, but for most established funds LPs can quickly get comfortable with what they have in place. For newer funds it's more difficult – they have to demonstrate how they're going to manage the back office in detail.?

Mounir Guen, Founder, MVision

?LPs care about robust, timely and accurate reporting. Whatever system you use, those three elements are non-negotiable.?

Steve Darrington, Chief Financial Officer, Phoenix Equity Partners

?If we had known then what we know now, we might have done things differently.?

David Bull, Director of Finance, Henderson Private Capital

?Cost isn't necessarily the crucial factor – the main difficulty lies in convincing the powers thatbe of the merits of spending money on back office systems.?

Tony Halligan, CFO, Actis

?When we installed the original system, we weren't entirely sure what we wanted or how it might work, but we took quite a bit of comfort from the fact that other private equity firms were using it as we felt this would drive system development towards best practice.?

David Bull, Director of Finance, Henderson Private Capital

?When we were raising Permira Europe III, we were starting to see some specific questions about fund administration, like: ?Describe your operating and risk management procedures?? or ?How do you manage your relationship with your offshore administrator???

Jonathan Lowe, Finance Director, Permira

?I'm only aware of one or two fund managers who have looked at moving towards Web-based reporting as a way of managing the impact of FoIA. Blair Thompson, Partner, SJ Berwin.

?In terms of inhouse v outsourced, there are now more players providing outsourced services who understand private equity better than five years ago. I think firms that are spinning out or US houses expanding into Europe would probably look very closely at outsourcing everything as an option.?

Michael Needley, Finance Partner, Sovereign Capital

?One of the major developments for me was the fact that databases were originally installed on robust systems like SQL servers. Once they were adapted into that sort of platform, it made it a whole lot easier to put them into other programmes.?

David Bull, director of finance, Henderson Private Capital