This article is sponsored by TMF Group
Why do fund managers typically choose to outsource to external providers?
Thomas Erichsen: There are many reasons for outsourcing and every circumstance is different. A lot of the time, the outsourcing is to meet regulatory requirements, so it is fund administration or fund-related work. There are advantages to having a clear separation between the investment manager doing the investment and someone else doing the books and records of what has taken place with that particular investment. When firms are doing all of that themselves, investors want a great deal of transparency on what is happening to see that returns are legitimate.
The other issue is the technology and employing people with the right skills to do the fund accounting work. Investment managers should not be investing heavily into their back office, but there is a lot of automation that can happen to eliminate menial efforts now, streamlining checks and processes to make sure everything is done as efficiently as possible.
Investment managers should be focused on generating returns and there are external providers who can benefit from considerable economies of scale by investing in the technology to service the middle and back office.
Ramón van Heusden: I am based in Luxembourg, and the largest players here have the scale to keep these functions in-house. But for the newer entrants and the fund manager that has just launched their first fund, perhaps up to €2 billion in assets under management, there is not the time or the resources to handle everything, so they prefer to work with a partner. We can then grow with them as they develop.
What should managers think about before making a decision on a provider?
TE: We try to be open and transparent and we always invite an investment manager to visit their local TMF Group office and have a good look around before they make a decision about working with us. We spend either a full or a half day with them on due diligence, allowing them to get to know our team and the service we provide – every manager should look that closely at a potential outsourcing provider.
The three things that really differentiate providers are people, process and technology, and those are what managers need to make a judgment on. People and processes have to be viewed and got to know throughout the proposal process, which means trying to understand the company ethos and getting a glimpse of the way it works.
RH: The cultural fit is really important, and equally important is the technology fit. When it comes to investor communications, certain players have the most sophisticated investor protocols and an outsourcing partner has to be able to support those, for example.
TE: Investment and reinvestment into technology is always going to be critical, because there are always going to be new systems and it is important to understand which are the best ones and which ones different providers are using. If they are using a system that appears less sophisticated than others, then why is that? At TMF, we use FIS Global’s Investran – we have good reasons for that and we are happy to go through those with potential clients.
The other aspects are the processes and the way the technology is delivered through applications for clients, and that is where there is currently a fantastic opportunity for providers to create bespoke offerings to meet specific client needs.
What should be the decision-making process when identifying an outsourcing partner?
RH: It is a good idea to seek out proposals from at least four or five providers, and then whittle those down to three, to give a good basis for comparison. It is really important to visit those final three and get a good feel for their processes and cultures, before conducting final due diligence and making the final pick.
TE: We like to do a lot of listening during a proposal process, getting to understand the overall goal of the investment manager and treating each individual client as unique to look at ways that we can effectively help them grow. We want people to have a full experience of what we have to offer, and during due diligence we take them through the whole process of what everything would look like, including the handover.
What are the risks of outsourcing, and how can they be mitigated?
TE: There are a number of different risks, one of which is the risk of choosing a provider that subsequently gets acquired, leaving the manager with a provider they did not pick. There is a lot of consolidation in the market at the moment and a lot of aggressive buying. We are in a very strong position where we could be buying, but we prefer to grow organically.
Furthermore, a manager is not going to want to go with a shop that has not done a lot of investment and does not exhibit a culture of innovation. You want to see a proper structure in place, continual reinvestment into the business and a genuine commitment to the fund services industry.
RH: We have seen providers that, over a long period of time, have suffered a high level of staff turnover, such that at certain points the teams were completely wiped out after being taken over by competitors or leaving at short notice. That is a key performance indicator that any party looking to outsource should prioritise – the culture, foundation and commitment of the staff towards the company.
What are the regulatory aspects that need to be taken into account?
RH: To a large extent, outsourcing is driven by regulatory requirements and so we all need to work hard to keep pace with regulatory developments. Any fund manager who wants to establish themselves in Luxembourg, for example, has to invest in the necessary infrastructure and knowledge to meet local regulatory requirements if they are going to do the work in-house. External providers are often better geared up to meet those requirements, which have increased exponentially over the last few years.
TE: When it comes to the regulatory side, the main thing is to have the right people who understand the local regulatory requirements. We have those capabilities in every jurisdiction where we look after regulated funds. We have that substance at the local level to be able to adhere to local requirements, including when it comes to reporting. There is a lot that we go through with clients to make sure we can give them a strong amount of comfort that we are able to provide a very strong service against the current regulatory backdrop, and managers should certainly demand that before working with any external provider.