21 December 2023 - Claudia Bertolino, Head of Private Equity and Private Credit, Citco Fund Services (USA) Inc., explains how private equity firms can navigate volatility to support future growth.
What have been the biggest challenges faced by private equity firms in 2023? Do these differ from those faced by other private capital firms?
A key challenge for private equity firms in 2023 has pivoted around the industry’s demand to digitalize and automate to help support diversification across new asset classes. Private capital firms, broadly speaking, are facing fairly similar operational challenges; achieving scale, retailizing their offerings, digitizing their businesses, and seeking increased operational automation for both accuracy and speed.
At the same time, Preqin expects global assets under management (AUM) in alternatives to reach $16.3tn by the end of 2023. Many firms have been able to grow by diversifying into asset classes they may not previously have been participating in. The hunt to manage and streamline operational processes isn't unique to this year, but it has become more of a focus as private market firms become more familiar with the benefits outsourcing can deliver – and this is where asset servicers with a global presence, who have knowledge of best practices, can really support managers and add value. As private markets managers grow and diversify into new asset classes, that support is vital.
Are any of these challenges also creating opportunities in private equity?
Challenges result in opportunities for those that respond best. For private equity firms, the business of buying, managing, and selling assets has become unprecedentedly difficult right now.
Therefore, a key consequence of this is that GPs are devoting more of their resources to value-add activities that support their investment teams, so they are increasingly relying on strategic partners to provide the technology and operational infrastructure to enable them to keep pace with increasing demands.
What’s more, we know that 2024 will be setting the scene for an unprecedented evolving regulatory landscape for private markets, which also creates opportunities for vendor partners to provide products and services that support that.
What are private equity's specific needs in the current macroeconomic landscape, and how do they differ from other asset classes?
Some themes differ – some are extremely alike. There’s an ever-expanding list of requirements for partners addressing GPs’ more specific needs. Thematically, there’s a significant push to shorten reporting timelines, alongside the primary focus of obtaining swift access to very granular data. Everyone is focusing heavily on data accuracy, data availability, and delivery on a near real-time basis.
What’s specific to private equity is the complexity of the fund structures. Expertise is required on technology, strategies, operating in different jurisdictions, and on the growing investor appetite for hybrids and evergreens.
Firms are looking to work with partners who are more proactive than reactive, and that are nimble and flexible to cater to ever-changing investor or regulatory demands. GPs are venturing into new strategies, launching funds in new jurisdictions, and the expectation is that their asset servicers are able to support them on that journey. In turn, having the ability to report and account for the varied limited partnerships and the allocations among investors is a very specific area of expertise in demand by private equity firms.
How is regulatory scrutiny affecting the industry? What changes are we expecting over the next year?
Private equity has always been viewed as a lightly regulated asset class, but we see the tide turning. In both the US and the UK, financial regulators are turning the spotlight on the industry. Private market firms are going to need to provide more regular, periodic financial reporting with a higher level of transparency and disclosure around fund performance, fees, and expenses, and annual audit requirements will have to be enhanced – from a risk-management perspective, one thing that may change is the disclosure requirements for the use of side letters.
Where can private equity firms get the most value from outsourcing?
Outsourced vendors can very quickly add value for a firm in areas such as managing volume and accelerating reporting timelines. They can do this via global scale and operational efficiencies, supported by the adoption of new technologies. All firms right now are responsibly looking at their costs, their infrastructure, and their operational footprint, which are all natural places for an outsource partner to add value.
Historically, the industry has responded to added complexity and changing needs by adding personnel. However, the significant growth and the trajectory toward more growth mean that tech and automation are the only solutions this time round. There is a lot of focus around transformational change and future proofing. Firms need to find a model that allows for explosive growth when the opportunity is there rather than having to slow down and reconsider and reintegrate operational support.
As a result, we’re focusing on finding transformative ways to support clients – we do this by providing access to our internal expertise and tech offering, or participating in their in-house exercises.
The ongoing theme here is data. We focus on document digitization, ESG data gathering, and market data creation, and any other ways vendor partnerships can reduce some of the behind-the-scenes burden. Firms can then focus on strategy and deal flow.
What do you think will be the biggest issues in private equity in 2024?
There will be more clarity around regulation, and a big focus will be market demand around retail access to private markets. This isn’t an issue, as long as firms stay ahead by planning how they will build to support these initiatives and invest in the automation needed to launch and comply with them. These two areas are always distinct opportunities for the investment and automation available from a vendor provider to both navigate new requirements and service newly launched offerings.
This article was originally published in Preqin’s 2024 Global Report: Private Equity