Private Equity Managers: Data Becoming a ‘Four-Letter Word’?

Private equity fund managers are starting to crack under the pressure of finding data and turning it into useful intelligence for investors and regulators at record speed, say investment operations experts.

Although many of them can ill afford it, they will eventually have to invest in the necessary data infrastructure for the same reasons as their traditional and hedge fund peers. It will be even more costly, in competitive as well as regulatory terms, if they don’t.

Investors — otherwise known as limited partners in the private equity world — and regulators demand a clear understanding of how much return is being generated and how much risk is being taken. Otherwise, they can’t correctly compare results of multiple fund managers on an apples-to-apples basis. Without this analysis, investors will resist forking over their money, while regulators might be prompted to take a far closer look at the private equity fund manager’s operations. Regulatory audits can be messy and expensive, reputationally as well as financially.

A recent study of private equity fund managers conducted by research firm Tabb Group speaks volumes about the shortcomings that must be addressed. Of the 119 private equity fund managers surveyed for a report entitled “Private Equity Reporting: Transforming Data into Intelligence,” 60 percent said document management and data dissemination were a challenge.

“There was no differentiation among regions; the size of the book of business; or the type of investment strategy,” says Jason Haft, a director of consulting at technology giant SunGard, which is distributing Tabb Group’s report. “While it might stand to reason that larger private equity fund managers with deeper pockets would be better positioned than smaller ones, all are equally affected because of the institutionalization of the market.”

As is the case with hedge funds, private equity funds are quickly finding their way into the portfolios of pension plans and other asset owners who historically might have frowned on this so-called alternative investment class. The need to generate alpha in a pretty bleak market has apparently changed their tune. With US pension plans now allocating an estimated eight percent of their portfolios to private equity funds, private equity fund managers have little choice but to improve their reporting game, if they’re going to meet the expectations of institutional investors. They are well aware that with the pain comes with the gain in assets under management.

Tabb Group found that only 23 percent of the 119 private equity fund managers surveyed now provide access to interactive investor reports. Nearly 40 percent of respondents say that they find it challenging to meet regulatory reporting requirements.  That isn’t surprising considering the finding that about 60 percent of respondents are still calculating their performance on Excel spreadsheets.

Despite these difficulties the bulk of respondents see the silver lining in bringing their data collection and reporting up to speed. Nearly three quarters acknowledge that interactive communication with investors is important. Two-thirds of them also see operational efficiency as the most important result of using an automated investment management platform, which not coincidentally would provide the numbers to fill in the reporting blanks.

Packaging Counts

Just why can’t private equity fund managers — who can find the needle in a haystack when it comes to finding good investments — deliver what investors and regulators need? What it all comes down to, according to Adam Sussman, director of research for Tabb Group, is that obtaining the data is a lot easier than knowing how to package it.

Investors may not want the same data at the same time. So sending out quarterly reports, albeit with lots of data, won’t cut it. One size doesn’t fit all. In addition to high-level numbers, investors expect deep granularity about the value of their specific holdings, their performance and the risk-reward ratio. They also want to be able to slice and dice the information and don’t want to wait for periodic reporting to do it.

Creating customized reports on an investor-by-investor basis isn’t the answer: its not only time-consuming, but also costly. Imagine receiving 2,500 to 3,000 queries each year from investors wanting different information about their holdings within 24 hours. That’s the scenario faced by one private equity fund manager Sussman interviewed.

Compared to the respondents to the study who are apparently still holding data the old fashioned way — in spreadsheets or disparate back-office systems, only 25 percent of the managers surveyed by Tabb Group have tightly integrated platforms. A dismal 38 percent have no integration between systems or only “manual’ connectivity.

Making data delivery even more difficult for private equity fund managers is that investors may ask for it in different formats. A new initiative, coined AltExchange, aims to standardize both the content and format, but has a long way to go before it wins widespread industry acceptance.

The answer to the data quagmire isn’t standardization, says Sussman. It’s automation. Private equity fund managers need to count on their investment management platforms to deliver enhanced internal and external reporting performance. SunGard does offer such a platform, known as Investran, so Tabb Group’s conclusion fits in well with SunGard’s strategic agenda.

But SunGard’s Haft insists that the study isn’t promoting the use of either its platform or any one else’s. In fact, the report doesn’t even suggest that relying on one platform is necessary. The critical issue is for private equity fund managers to solve, at the very least, is integrating the necessary information quickly enough for investors and regulators.

“A solid investment management platform is critical to fulfilling such a task because, to meet reporting requirements, firms must first address the requirements of accounting and portfolio monitoring,” says Sussman. Otherwise, private equity fund managers won’t have the necessary information on hand for their own operations. And fund managers which aren’t satisfied with the level of detail they track on their investment holdings can’t possibly be happy with what they provide investors or regulators.

Fund managers are clearly aware that they have problems with their data infrastructure.  When it comes to meeting specific regulatory reporting requirements, difficulties are cited by 42 percent of respondents with the US Foreign Account Tax Compliance Act (FATCA) and 39 percent with the Alternative Investment Fund Managers Act (AIFMD). Thirty three percent say completing Form PF — a requirement for advisers registered in the US — is a headache.

Outsourcing the Pain

For private equity fund managers who simply can’t afford or can’t operationally deal with installing a basic investment management platform or multiple applications to fulfill their data requirements, there is another alternative mentioned in the Tabb Group report. That’s relying on an external fund administrator who could take on the chore of investor and regulatory reporting.

“Private equity fund managers are slowly beginning to follow the path of their hedge fund peers and outsource their operations as they realize just how challenging it is to do all the work on their own,” says Rahul Kanwar, senior vice president at SS&C Technologies. The firm offers a cloud-based private equity fund accounting and administration platform that fund managers can access, rather than installing an in-house system. SS&C GlobeOp also provides a full gamut of fund administration functions, servicing close to US$100 billion in private equity fund assets.

Using an external administrator isn’t necessarily a total panacea, as the private equity fund manager would still be legally responsible for any reporting errors and would need to ensure accuracy. However, it could go a long way to easing the pain  associated with reporting tasks.

Just how  the private equity fund manager and its administrator split the work between themselves is, of course, a matter of negotiation. Private equity fund managers might decide to have their fund administrator do all of the operational grunt work, but handle investment picking, capital raising and interactive communications with investors on their own.

Such a scenario would shift the onus on fund administrators to handle the data requirements. However, it doesn’t change the ultimate burden of meeting the apparently non-stop influx of more comprehensive and detailed reporting requirements. As a result, those third party firms will be facing the same expensive and ongoing challenges faced by private equity fund managers doing all the work on their own.

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