By Thibault Chollet, Arnaud Bon, Partners at Deloitte Luxembourg
The private equity (PE) sector players span across a multitude of small companies to a few large and well-known actors. The smaller players mostly rely on email exchange of spreadsheets and basic accounting software to perform critical business operations, while some of the larger players have invested in systems or developments that still only cover some of the business areas but not all.
However as the sector grows these companies will struggle to manage increasing volumes because of little overall operational efficiency and scalability. They are not fully automated, lack system integration and still require human labor to carry out low-added-value data collection and transformation to exchange data between management systems, compute net asset values or prepare reports. This results in a heavy technology debt: the high cost of software maintenance coupled with poor agility to accommodate new developments.
One strategy to resolve this complexity is to implement one core software package that covers most business domains. This minimizes integration requirements while ensuring the software remains up to date and caters to industry changes. But do these solutions exist on the market? And to what extent do they cover all PE business domains?
Surveyed company and solution profiles
To answer these questions Deloitte Luxembourg conducted a software vendor survey limited to companies offering solutions that should cover most of the PE value chain. Respondents ranged from larger players with global footprint to smaller players in Europe. Companies only operating in limited geographies such as North America or Asia-Pacific were not included.
A general observation is that most software providers started with a solution that focused on one area of the value chain and later expanded their capabilities to further areas. All the software package vendors surveyed favor an “adopt and not adapt” approach, in which clients change their processes and ways of working to adopt the vendor`s system logic.
Findings on system functionalities
All surveyed vendors cover the most typical types of fund and ownership structures. However, differences in software capabilities can be observed for complex matters such as equalization calculation for different subsequent closings and fee calculations with only a few service providers able to cover the more complex requirements. This is a clear differentiating factor that investment managers offering complex products or have advanced special purchase vehicle (SPV) structures should consider.
Investors are more and more restricted in terms of type and location of investments, fund’s risk, etc. In addition, management companies must comply with an increasing number of rules and are required to perform regular compliance checks. The surveyed software providers are aware of these requirements, and they can implement business rules into their solutions; for example, flag compliance breaches, create alerts, and block an investor from a distribution payment when certain rules are not respected.
Some of the software providers are able to generate automatic escalation reports that allow the management company to keep track of late payments while others generate notices and proxies for annual or extraordinary general meetings.
From a transaction processing perspective, in order to ease deal due diligence all software solutions of the survey allow categorization by activity, sector, industry and country. The main differentiator among them was the ability to allocate legal due diligence reports and signed resolutions to different levels, i.e. to a fund or a company. This functionality can ease compliance verifications and provide a better overview.
The analysis of transaction capabilities shows that the software solutions surveyed are already well developed. As such, they can support portfolios made up of different share classes and calculate debt gearing ratios and management fees. A reconciliation between the capital called and the received amount is also well-developed among vendors.
Holding and reporting
During the investment holding period, management companies are required to send notices and other communications to their investors. Manually preparing these notices is labor-intensive and prone to operational errors.
As regards valuation, all participating software solutions allow information storage, the upload of valuation reports, and support net asset value (NAV) computation. However, some functionalities are not uniformly covered by all the software solutions; for example, the computation of complex NAV.
All participating software solutions offer a broad range of accounting functionalities. This comes as no surprise, as they all placed accounting at the core of their software development. Indeed, most of the screened software providers started their business developing accounting functionalities and then widened their software solution to other areas. The differences identified by the survey, are in the level of customization required to cover accounting functionalities. This includes the automatic booking of transactions following a cash flow, the possibility of extracting analytical information from the general ledger, and the ways accrual accounting information can be reported. It is worth noting that the integration of sub-ledgers, user-defined cash flows and the support of currency indicators are not covered by all surveyed vendors.
Exit is not a focus of our respondents` solution functionalities. Most solutions support exit processes with basic MS Excel integration into their core platform, and in most cases, complex computations are performed through it or Visual Basic. Only a few offer more advanced features, e.g. the ability for clients to create waterfalls themselves, generate automatic trades by using stored distribution rates, or take the lockup period and exit conditions into account before generating the trades.
A wide array of solutions and the importance of thorough due diligence
Only a few of the vendors surveyed are leading the pack by providing more advanced features to support complex business requirements through configuration. These providers have also acknowledged the importance of offering clients control of the software and to allow full customization through web interface. License prices aside, this requires clients to have an internal team that can configure and maintain the system which smaller investment managers may not be able or willing to afford.
One of the main findings of this survey is that the solutions available on the market can widely differ and performing a preliminary identification of business requirements and selection process is essential in choosing the most appropriate software solution. PE players should take into account not only the functional and non-functional requirements, but also the available deployment models, geographic footprint, local presence, and availability of local experts.
Furthermore, all of the providers in the survey confirmed important investments into enhancing their software solutions. They are using their experience and customer feedback to identify software pain points and improvement priorities to improve functionalities, usability and integration capabilities.
The market is constantly evolving and competition between software providers is heating up. New players leveraging the latest technologies or previously focused on the liquid market are now looking to establish themselves on the private market by developing or acquiring alternative investment software.
Disclaimer: the survey focused on software systems that are currently supporting the PE value chain in an integrated manner. Among the different providers we only selected standard solutions that cover most of the value chain and excluded the ones that only specialized in certain areas