Interview

How important is a manager’s operating model to its fundraising success in today’s market? To what extent has this changed and why?

Private markets assets under management have more than trebled to $14.5 trillion over the past decade, according to analysis by Bain & Co. In a climate of increased competition, LPs are placing a growing emphasis on private markets firms’ operating models.

This is in part because LPs have substantially larger pools of capital invested in private markets today. As a result of these larger exposures, they are leaning towards managers with robust operating models in order to limit the downside risk.

At the same time, managers with best-in-class operating infrastructure are better positioned to collect, analyze and harness data to improve deal origination, execution and portfolio company performance. Of course, dealmaking will always remain the core priority for managers, but GPs have come to realize that back-office capabilities and operating models can contribute to front-office success and play an important role in supporting future fundraising.

What areas are LPs scrutinizing in particular? What are the must haves and the red flags for investors doing their due diligence on operating models prior to committing to a fund?

Investors are certainly demanding more when it comes to reporting, compliance and technology. Having the right bespoke operating model in place puts GPs in a better position to differentiate their firms through speedier, more detailed, value-add reporting to investors. In addition, LPs are looking to interact with their GPs in a more digital and data-driven manner, gaining access to information about investments in new and deeper ways.

As well as supporting fundraising, how else can fit-for-purpose, future-proofed back-office infrastructure support front-office activities?

A rigorous back-office capability is essential for GPs who want to offer more co-investment opportunities, take advantage of the liquidity offered through NAV financing, or are considering GP led deals that require solid accounting and reporting frameworks. These are all inherently data-driven activities, which means that the way in which they will ultimately be delivered will be through the use of technology.

What role is technology playing in supporting the modern private equity operating model more generally, and what opportunities does this present?

Technology is undoubtedly playing an ever more important role across the private equity industry. This initially played out in the back office, with various types of financial statement reporting, cash management solutions, as well as workflow and case management tools coming to the fore. Then, in the middle office, we started to see a focus on fund performance and portfolio monitoring, with information being collected across asset classes to support risk management and sophisticated reporting.

Finally, in the front office, technology is now being used to support investment and diligence processes, as well as investor relations. What I think is particularly new and exciting is the proliferation of specialist private markets tools that we are able to leverage today. This is in complete contrast to what was available a decade ago.

It used to be that if an alternatives manager was looking at an aircraft lease, for example, we would have to adapt that into the fund accounting system in the form of some sort of bond. That is no longer the case. Technology now has the language of alternative investing built into it, enabling us to provide different views on risk, better access to data to support superior decision making, and allowing LPs to actively monitor their investments.

The other area where we are seeing significant changes, and where development is primarily driven by LPs, is an enhanced digital experience. It’s still early days, but we are seeing generative AI being used to answer client queries, to leverage large knowledge bases and to respond to requests for proposals. Then, from an operational perspective, optical character recognition is being widely used to make tasks that were historically manual more automated.

Looking ahead, I cannot think of a single operational function where we won’t be using some sort of AI to either extract or manage information differently, or to start drawing conclusions based on that information to support reporting or decision-making, at some point in time.

However, the focus should not just be on AI, but automated machine learning as a whole the process of taking upstream and downstream data and standardising it – given the sheer volumes of financial documents that come into play.

To what extent is artificial intelligence being integrated into digital solutions?

Technology is being used to create great UI, visualization and mobile access, for example. A wide variety of digital interactions – from something as simple as getting a K-1 in the US to performance analysis, cashflow fore[1]casting and benchmarking – have all become, if not the norm, then certainly the expectation for investors. Alternatives have become a much more digital and data-driven industry.

Is the rapid adoption of technology also creating challenges?

I would say the biggest challenge for managers involves data management. While we have made great strides in systems that speak the language of alternatives, we are nonetheless faced with significantly increased demands from clients – both GPs and LPs – when it comes to managing that data. Of course, the cloud has helped us a great deal in that regard, but there is still a lot of hard work involved in operationalizing data that has historically been manually inputted into spreadsheets. Finding ways to ensure that data can be accessed and analyzed in sophisticated ways is something that will certainly be enabled by technology, but there is still some way to go.

The service that an administrator provides reflects directly on the manager. It is a reputational issue for GPs, and therefore for LPs too. LPs are looking to interact with their GPs in a more digital and data-driven manner.

How are all of these developments impacting the decisions that managers are making around what to outsource and what to keep inhouse, and how are third-party providers responding?

Rather than investing large amounts of capital into ever-expanding back-office teams and technology, managers are increasingly working with third-party administrators in order to benefit from the scale, cost advantages and specialized back-office focus. This enables managers to instead invest capex into their core business of dealmaking. In response, fund administrators are evolving their offering from the provision of basic outsourced fund accounting services to providing technology best practices, together with support for managers to enable effective implementation and harness technology in modular operational models.

What is particularly exciting for us is that we are receiving a lot of inbound interest regarding solutions to many of the challenges that I have described. Those enquiries sometimes center on the use of data to support better investment decision-making, for example, or the need to provide different types of information to end clients.

The focus can also be on improving the manager’s cost profile. In short, managers are looking to third parties to fulfil functions that they either can’t or don’t want to invest in at the level that an external provider can. Another driver, meanwhile, is the desire from managers to partner with organizations that are able to glean insight and experience from working with market participants across the entire industry.

As a result, third-party administrators are being approached not only as outsourced service providers but as accelerators for the strategies that their clients are trying to implement.

Is the choice simply between insourcing and outsourcing, or are other models emerging?

Co-sourcing is certainly a trend. That is something that managers are talking to us about and it is something that we have the flexibility to implement. However, I would add that most of those conversations are followed by questions about what our plans are as a third-party administrator to provide some of those functions in a fully out[1]sourced manner.

Co-sourcing is typically seen as a step on the journey towards outsourcing.

What questions should LPs be asking of a potential outsourced provider?

Operational excellence is, of course, incredibly important in this space, because the service that an administrator provides reflects directly on the manager. It is a reputational issue for GPs, and therefore for LPs too. Other sources of differentiation among third-party providers include the degree to which these organizations are investing in their own core systems and operations in order to take advantage of industry trends. GPs should also select an expert partner with firsthand experience in managing processes across multiple strategies and different investment vehicles.

An understanding of cross-jurisdictional knowledge is also vital, should they wish to expand investment beyond their regional boundaries. In addition, LPs should consider the extent to which administrators are investing ahead of the curve, thinking about the next wave of innovation, whether that be generative AI, sophisticated data management or the provision of different ways for LPs to access information.

That kind of forward-thinking approach can help put managers on the front foot when fund[1]raising, and give LPs the comfort that operations are being well run by experienced industry specialists, and that it can scale as their firm grows.

What is your number one piece of advice for a manager re-evaluating its existing operating model with the intention of building something that is sustainable and that will allow it to scale?

My number one piece of advice would be to take time to review the market. I would add that it is also important to understand that the role of the fund administrator has changed.

Today, the right outsourced partner can provide operational support from back-office accounting, all the way through to client services, thereby enabling firms to focus on their own value proposition in a very different and much more sophisticated way.