Management companies play a crucial role in the operations of private funds, yet they often don't receive the necessary attention until issues arise. The increasing complexity in fund structures, fee calculations, and regulatory demands has made managing these entities considerably more taxing for fund sponsors.
The increasing complexity creates a need for focused and experienced teams to oversee the accounting and other related functions of management companies. Insufficient oversight introduces risks that can lead to inaccuracies at the management company that extend to the fund entities and portfolio companies.
General partners (GPs) are familiar with the nuances of overseeing their investment funds, having outsourced this function to capable service providers for decades. However, many opt to keep the management company administration in-house, primarily for cost management reasons. Despite the cost savings, GPs might underestimate the risks and time commitments necessary to manage company accounting and operations accurately.
A transformative shift is occurring within the industry as more and more GPs outsource the management company accounting. This shift is driven by the introduction of new regulations, persistent challenges in recruiting and retaining qualified professionals, and a heightened focus on expense management.
Industry dynamics have drawn increased attention to accurate expense allocation. Recent changes in the U.S. Securities and Exchange Commission (SEC) Private Funds Rules have mandated private fund managers to provide investors with quarterly statements detailing fund performance, investment costs, fees, expenses, and certain adviser compensation.
In addition, private fund advisers may not engage in certain activities that would cause potential harm to investors, including:
Failure to adapt to regulatory changes due to insufficient staff or outdated policies could cause firms to rush to meet deadlines or miss them entirely. Being aware of impending changes isn't enough; understanding their implications and adapting accordingly is a must.
Scaling the management company requires an experienced team who leverages their industry knowledge, best practices, and technology stack to provide GPs with controls-based processes and solutions that ensure compliance and maximize efficiency at a lower cost than can be achieved by performing similar functions in-house.
An in-house team may need qualified staff members to fill roles like accounts payable, accounts receivable, corporate accountant, and controller. There must also be checks and balances in place, including a preparer and a reviewer. The complexity of managing company books and records only increases with more company employees, deals to track, and assets under management.
In addition to the talent demands, firms must invest in proper systems. GP’s needs rapidly outpace the capabilities of low-end platforms, driving inefficiencies, errors and straining accounting teams. GPs must invest in advanced accounting systems that properly track the accounting for the firm, its entities, as well as its portfolio companies. The cost of implementing these systems can be exorbitant, especially for emerging managers. The level of effort to properly maintain these systems often exceeds the available resources of GP finance and technology teams.
These challenges are leading GPs to explore outsourcing the administration of the management company to qualified service providers. Outsourcing offers experienced teams, segregation of duties, and advanced technology, addressing these challenges effectively.
Similar to the benefits of outsourcing the administration of an investment fund, GPs can leverage the expertise and technology of administrators to provide services for the management company. Outsourcing reduces the resources required to support an in-house accounting team and enables GPs to focus on sourcing attractive investment opportunities and generating returns for investors.
Services typically include:
Given that a management company’s size, complexity, and in-house team expertise influence the outsourced servicing solution required to deliver efficient and cost-effective services, there are three service models GPs can evaluate:
The role of management company accounting within private funds is undergoing a transformative shift. The evolving complexities stemming from regulatory mandates, challenges with hiring and retaining experienced staff, and expense management necessitate are calibration in the approach to its oversight.
An increasing number of GPs recognize the advantages of outsourced management company operations to qualified service partners. This strategic shift enables firms to leverage the expertise of specialized service providers while mitigating risks, ensuring compliance, and optimizing efficiencies. Striking the right balance between in-house competencies and outsourced expertise becomes crucial in navigating the complexities of modern management and company administration.
Ultimately, the success of management company oversight hinges on a holistic approach that combines internal capabilities' strengths with the specialization of external partners. Embracing this shift will strengthen management company operations and position private funds favorably in an ever-evolving financial landscape.
To learn more about the benefits of outsourcing management company operations, reach out to a member of Petra Funds Group’s Management Company Services team.