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07 June 2022

Hedge Fund Managers & Private Equity: How To Minimize Operational Complexity – Part 2

This is the second post in our series, you can find the first post here: Hedge Fund Managers are Getting Into Private Equity: Broadening investor appeal – Part 1

Recent years have seen a record growth in the number of hedge funds making inroads into private equity. Firms are accomplishing this by either taking substantial positions in private companies or, in many cases, launching and managing private equity funds alongside their hedge funds. Yet, as firms expand their lines of business and diversify strategies, it is important to consider how to minimize their operational complexity and streamline workflows.

The blending of hedge and private equity strategies within a single firm, and within its investors’ portfolios, raises major accounting, operational, and technology challenges. Private equity funds come with complex fee, payment, and return calculations. Accurately allocating profits, losses, expenses, and tax impacts among investors over the lifetime of a fund entails highly specialized accounting. Distribution waterfalls, to determine how capital gains are allocated among partners, add a layer of complexity that requires sophisticated calculations.

Expectations for transparency and reporting

On its face, it might seem that a hedge fund’s portfolio accounting system is ill-suited to the complexities, nuances, and structural variety of private equity funds. And indeed, funds often feel the need to invest in two different platforms to support their two different lines of business. However, that raises issues from an operations and reporting perspective. Since the hedge fund market meltdown of 2008, investors (and regulators) have demanded greater transparency into holdings, transactions, risks, fees, and expenses and hedge fund managers have largely delivered on that demand. With that in mind, investors are likely to bring those same expectations to private equity funds, which have historically been more opaque and less operationally rigorous. Moreover, if part of the intent of launching a private equity fund is to retain and grow existing hedge fund investors, firms need to be able to deliver consolidated reporting, enabling clients to view their investments holistically.

The single-platform solution

Ultimately, firms need to achieve all these objectives while minimizing operational complexity and overhead. If expansion into private equity is to be a profitable avenue of growth for hedge fund managers, they will need a technology platform that can support both fund types and both open and closed-end structures. They will further stand to benefit from a platform that integrates portfolio accounting and investor accounting for greater transparency and a seamless reporting experience. Firms that successfully consolidate their funds and investor reporting on a single platform should realize both operational and cost efficiencies that will help strengthen margins.

For more on how firms are responding to this market movement and what it means for a firm’s operational infrastructure, read our whitepaper, Why Hedge Fund Managers are Getting Into Private Equity and How to Make it Work. For many, introducing an accounting platform that can support both hedge and private equity funds will go a long way toward removing operational obstacles and free firms to focus on the opportunities instead of the challenges.