Third party hedge fund administration (tax administration, fund accounting, and other back-office activities) is already a well-established business, according to a recent PricewaterhouseCoopers report third-party HFA already covers 80% of all hedge fund AUM, leaving little room for organic growth. Now that rich valuations are slowing M&A activity in the HFA space, finding ways to keep growing will only become more difficult, but PwC has a few recommendations on where the HFA can look for new opportunities.
New regulations, cost pressure creates opportunities
Even though external HFA is a mature business, cost pressure on hedge funds continues to grow and it gets harder to justify the old 2/20 fee structure that used to be almost unquestioned. As fees continue dropping, hedge funds will have to find new ways to reduce their own costs and will have to give hedge fund administration another look. If we’re heading toward another market downturn, falling returns could ratchet up the pressure even further as institutional investors try to meet their own targets.
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But with so many hedge funds already using external hedge fund administration, creating new products could be a more fruitful path to growth than offering the same products to new prospective clients who have already taken a pass on them. According to PwC, there is still plenty of demand for HFA firms that can provide regulatory reporting services including AIFMD, Solvency II, and Form PF.
Looking beyond the hedge fund industry
But hedge fund administration companies can also look for growth by moving into other parts of the investment world where outsourcing hasn’t completely taken hold. The PwC report estimates that third-party administration only covers about 30% of private equity AUM, and that if the coverage were to increase to 50% by 2018 it could generate as much as $880 million in incremental revenue for the sector.
Similarly, PwC says that the growth of so-called liquid alternatives, expected to cross $900 billion in assets by 2017, could translate into more than $800 million in additional revenue by that point if the hedge fund administration industry is able to capture a decent share of the growing market.
“As these trends take hold, administrators will invariably follow different paths toward growth,” says the PwC report. “However, it’s important for well-capitalized administrators to remember that their financial capital will enable the pursuit of growth, but it will not guarantee the creation of value.”
See the full report here – pwc-hedge-fund-administration-4-trends-for-profitable-growth-pwc (1)