Alternative Fund Administration - A Growing Opportunity For An Increasingly Smaller Group Of Competitors

by: BaseVenture
Summary

Fund administration of alternative assets grew 10% in 2017, due especially to private equity and hedge funds.

Consolidation among fund administrators keeps increasing, driven by economies of scale and technology-related needs.

Opportunities still exist for fund administrators that make their technological capabilities as important as their accounting capabilities.

Capital has flowed into the alternative investment industry over the past few years, and the importance of fund administrators has increased correspondingly. According to eVestment, the industry grew at yet another double-digit pace in 2017, with Assets Under Administration (AUA) increasing by +10% year-over-year to $8.4 trillion. This comes after a breakout growth of +14% in 2016. Though all asset classes expanded, private equity and hedge funds experienced the most growth.

Some surveys do a better job than others at taking the pulse of an industry, and I consider eVestment’s annual “Alternative Fund Administration” survey to be among the most insightful.

The biggest eye-opener of the 2018 survey is the continuing consolidation occurring amongst fund administrators. M&A activity from 2017 to the present was intense, with 16 transactions from January 2017 through March 2018. This comes atop the 13 M&A transactions that happened during that same period from 2016 to 2017, and the 9 acquisitions from 2015 to 2016.

Importantly, the survey shows that the expectations for continued fund administrator consolidation rose immensely in 2017, with a sky-high 74% of respondents expecting further consolidation in the “near term”, up more than +50% from the prior year.

That said, there is more nuance to these metrics that the survey provides. This consolidation is increasingly concentrated to a few large players. Looking back at the last three years of this survey, a select group of companies have been aggressively acquiring year-after-year. Some of the largest companies like SS&C have made 3 acquisitions per year in each of the past two years, while others such as Sanne and Mainstream have each made three acquisitions over the past 2 years.

As detailed in numerous other alternative investment surveys, this consolidation amongst fund administrators has been driven by increasing pressure in areas like operational and regulatory efficiency, as well as delivering upon increasing investor demand for transparency that requires a greater reliance on technological innovation.

Due in part to this consolidation, it is becoming more difficult for new players to enter the arena. This is best exemplified by the precipitous drop in expectations for new entrants to the fund administration space, with only 11% of respondents predicting that new competitors will enter the market. This is a drop of over 50% from the prior year.

While AUA will continue to consolidate among the largest players, there appears to be an opening for niche competitors. As quoted by Global Custody Bank, “There will also be disruptive providers who enter the market with innovative technical solutions which reduce costs. These firms will compete with existing providers for parts of the value chain.”

In the eVestment survey, respondents expected technology and services to be a key area of innovation, helping to better integrate and connect data management between front, middle and back office operations.

As alternative asset classes and capital grow to encompass new forms of private debt, private credit and crypto funds, the need for outsourced administration of these funds will grow correspondingly.

This combination of technological innovation and expansion to increasingly nuanced asset types will likely be where new entrants to the fund administration space will make their mark.

Small to mid-size fund administrators will need to make their technological capabilities as important as their accounting capabilities in order to succeed. Technology-forward fund administrators are better equipped than their peers to handle operational and regulatory challenges, and many are turning this into a competitive advantage for their firms.

Technology will continue to become more central to the survival of the largest administrators, and the drive to further improve upon their technical abilities will continue to be a key driver for further acquisition in the space.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.