Does the ownership structure of a service provider matter when selecting who to work with? And what are the potential impacts when your existing service provider changes hands?
It is no surprise that the fund servicing sector has sharpened its focus on private equity, given the asset class’s more frequent and larger fundraisings. Growing asset pools equals bigger fees.
As fund administrators and back office software providers seek to boost their private equity offerings, the last few years has seen an explosion in M&A activity for these companies.
SGG’s acquisition of Augentius and subsequent rebrand to IQEQ; Apex’s purchase of Ipes and Throgmorton; SS&C’s acquisition of Intralinks; CVC’s investment in Vitech, the Viteos Intertrust tie-up, BlackRock’s purchase of eFront – represent just a few of the recent M&A events in the service provider sector.
With so much activity in the space, which looks set to continue, is this impacting how managers go about selecting a new service provider?
Says Barnaby Piggott, CEO of Holland Mountain, “Invariably yes. When a GP is selecting a service provider, they’re signing up for the life of the fund; seeking long term partners with a great team and technology. The last thing they would want is to find out later on down the line that they’ve been acquired and all the key people have left.”
Indeed, when initially selecting a provider, managers spend a good deal of time getting to know the team and developing a strong working relationship. If those team members leave because of a change in ownership, then there’s a real sense the service has been degraded.
Another consideration for managers is finding the right fit for the fund. “When a manager selects a service provider it’s very much about right-sizing; a smaller fund would naturally want a small administrator. But if that fund administrator is acquired by a much larger group, that dynamic is dramatically changed,” explains Piggott.
By working with a service provider of a similar size, managers expect a certain level of service and consideration. But when that provider is absorbed into a much larger group, the status of the manager changes, “Suddenly a large GP becomes a smaller fish, in a bigger sea,” says Piggott.
Interestingly, the impact on fees following change of ownership appear to be less of a concern for GPs, according to private conversations with industry practitioners. This is likely because the current M&A activity in the sector is focused on boosting revenue and client numbers, rather than margins.
In order to mitigate potentially damaging outcomes caused by the disruptions of M&A processes, it’s worth thinking about the drivers behind these deals.
The key trend witnessed in recent years has been almost total consolidation of large independent fund administrators, with the exception of Aztec. Smaller players have been gathered up into consolidated groups, likely replicating Sanne’s strategy, which culminated in its 2015 IPO.
Aside from the emergence of large groups, a more recent trend is around the increased convergence between service provider and tech provider. For example, SS&C and SEI have developed into technology-led administrators, providing packaged software as well as services.
And on the flip side of that trend, we’re also seeing software providers increasingly offering asset servicing, such as is the case with eFront.
There’s also a geographical element to all of this. With the US private equity market expected to increase its use of outsourced back office providers, fund administration M&A is also being driven by boosting US coverage.
Beyond impacts on team members, size discrepancies and changing offerings, another less discussed aspect to the ever-changing service provider landscape is the movement of highly sensitive data. After all, fund administrators and software providers store and manage their GP clients’ data, and when the service provider changes hands, so does the data.
One recent case where questions of this nature have arisen is BlackRock’s acquisition of eFront. Unlike other consolidation activity in the space, this deal is unique. BlackRock not only provides technology to private capital managers; they are also managers themselves. In essence, they now have their competitors’ data.
The deal raises many questions for the industry and highlights the value of data, including: who ultimately owns your data, where is it stored, are there implications in terms of privacy and freedom of information acts?
Understandably, the BlackRock / eFront deal has caught the attention of managers. According to one private equity CFO, who uses eFront software, the newly-combined entity has been sending out emails assuring clients that very strict Chinese walls are in place. However, the CFO is acutely aware that with eFront hosting their database on its cloud server, in theory, BlackRock now has full access to its raw data.
On a day-to-day basis, for GPs selecting new service providers, having a decent awareness of market trends can help in predicting where a company might be in the next few years. And it seems prudent to ask senior management about their growth plans. While it’s not possible to guarantee that a service provider won’t be sold to a larger group, these concerns ought to be addressed at the earliest stage possible.
And by opening up this kind of dialogue, it will be much easier to mitigate changes to service and quality, and the eventual rise in fees later on down the line. Or at the very least, to outline some kind of plan or agreement as to how to respond to these possible changes.
When it comes to data, and fully understanding where it could end up, as well as the consequences of being hosted in a different jurisdiction, this is a matter for the entire industry to think more carefully about.
We are only starting to realise the value of data, and few private equity firms treat data as the asset it is fast becoming. A quick glance at Facebook and the value it derives from user data goes someway in highlighting how important data will be as the currency of tomorrow.
Given the long-term nature of private equity funds, while concerns around rising fees and data protection might seem some way off, they need to be addressed today.