Why do Alternative Funds outsource their administration?

Alternative Asset investing has gone through bout of highs and lows within its existence. It has undergone a huge rush in the past but has also hit its fair share of turbulence also. With an ever-changing regulatory landscape, the evolution of technology and the increase in demands from investors has encouraged the development of the trend of outsourcing fund administration.

In the past, numerous asset managers performed the administration in-house for private equity and real estate funds. In recent years, however, the reporting demands of regulators and investors alike have increased and has meant there is a need for specialist knowledge, technology and processes in order to perform the fund administration.

Due to the increase in demands, there are three main reasons why fund administration is now outsourced rather than performing it in house. One reason is the cost of fund administration. Given such administration is core, Fund Administrators are geared up to staff up to meet this need. However, Asset Managers prefer to keep their teams lean and focused on adding value to the portfolio companies rather than spending time on the back-office administration. When Asset Managers decide to outsource, the fund administrators service multiple asset managers which means that the cost of administration is lower due to economies of scale. From the perspective of the administrator, having a good IT system helps them keep the cost of running the fund lower and therefore increases its own profit margins. Using an application such as the Fund Administration module in TrustQuay NavOne, which is designed specifically for Fund Administrator’s needs, can help the administrators achieve the goal of running multiple funds in a compliant and cost effective way.

Another reason for outsourcing fund administration is the expertise required. As mentioned above, demand has increased from both investors and regulators. This means that it requires more expertise than previous, which makes outsourcing to a fund administrator with this specific expertise more attractive than the prospect of spending a huge amount of time trying to find the correct candidates to perform these services in-house. These fund administrators should have good knowledge of their local regulations and have an IT system that is specifically geared towards fund administration, meaning that the asset manager does not have to go through the nuisance of trying to find a decent IT system that assist in performing the task in house as the fund administrator has already gone through this process.

The final main reason for outsourcing fund administration is location. For instance, if the fund is structured as a partnership, and is located in one of many low-tax jurisdictions, the vehicle itself is not taxed and is therefore tax neutral. This means that taxation only occurs once a distribution has been made to the investors and then their own local tax rate will be applied on receipt, signifying that the investor will receive 100% of the distribution as opposed to a pre-taxed amount.

With these three reasons in mind, it is quite clear to see why asset managers are choosing to outsource rather than perform fund administration in-house. It seems like a win-win for all involved; investors are pushing for it; the outsourcing is becoming more broadly accepted within the industry and the benefits asset management internally, also. Outsourcing, however, is not for all fund managers. Some may feel that they have lost control if they outsource as they are not able to maintain close relationships with the investor they are working with. As well as this, if the fund manager business is smaller, hiring fund administrators can be costly and it could actually work out cheaper performing the back-office administration in-house. With this, fund managers also need consider whether their clients would be happy to disclose their personal information to a third party, and whether they would like it.

It is clear the outsourcing administration is becoming the norm within alternative funds due to the necessity of specialist knowledge and the decrease in costs when outsourced. However, whether the company decides to outsource their administration or for it to remain in-house, it is critical that the company has access to the suitable technology to help perform the administration.