Changing the face of funds administration

Stuart Fieldhouse
Originally published in the March 2007 issue

The Dublin hedge funds administration industry has been under fire in recent years as increased institutional participation in hedge funds has raised the level of pressure on banks and specialist administrators to provide fast and accurate NAVs. This has not been helped by spiralling salaries amongst experienced personnel in Dublin, and the fact that more hedge funds are moving into illiquid or OTC markets, making the job of their administrators even harder than before.

The entrance of a number of larger banking organisations into the market via the acquisition of existing administration shops would, it was hoped, ameliorate the problem. Blue-chip institutions with big technology budgets and established back office operations would potentially solve many of these issues. In some cases it has, but in others there has been a deterioration of service levels. Funds of hedge funds alone have been moving administrator with increased frequency, citing poor service, and the loss of experienced teams amongst their reasons for going back out into the market.

It is a service industry under pressure, and experienced minds in Dublin are being focused on how Irish-based administrators can keep a hold of their dominant market share of the hedge fund administration market. The launch of new specialist administrator Quintillion, by a senior team out of PFPC, might just be what the hedge fund market has been looking for, and certainly the start-up business has been structured in such a way that it can compete effectively in this tough industry.

At the helm of the new firm is Joan Kehoe, a veteran of the Dublin funds industry with strong views on what she feels is needed. A former executive vice president at PFPC, she decided in late 2005 that there was a gap in the market for a scaleable hedge fund administration platform that would not compromise on service. "We wanted scale. We felt there was a huge gap in the quality of service being offered to funds between $100m and $3bn in AUM," she says. "These guys are not getting enough attention."

Coming with her to Quintillion were most of the senior executives from PFPC Dublin, from the operations, IT, finance, business development, and accounting functions. "Our operations people have all managed significant teams," says Kehoe. "We wanted an operations model that could be built to scale, with no relationship management layers, and a high touch service."

With the capacity to take on between 150 and 200 staff initially, Quintillion is confident that it can expand, and expand rapidly, to meet demand. Kehoe has already signed up close to $3bn in business off 19 funds and six committed clients, and says she has the office space and infrastructure to build a much bigger business as funds come on board.

One of the critical factors behind the launch of Quintillion has been its backer, Bear Stearns, which financed the start-up and owns 25% of the share capital. The deal was the result of a visit by Quintillion's management to New York to raise finance: the team was after a backer with an intimate understanding of the challenges facing the administration industry in Dublin. For example, Quintillion wanted to retain a large slice of the equity in order to be able to reward and retain key staff with a stake in the business. This was a new and revolutionary move for a fund administrator: the start-up's senior management wanted to establish the firm's credentials as a specialist, boutique shop capable of embedding its best people via equity ownership, and travelling in a different direction culturally from many of its competitors, which have become increasingly commoditised in terms of their service offering in recent years. Bear Stearns saw what Kehoe and her team were trying to achieve, and agreed to finance them.

With Bear Stearns as a backer, Quintillion has been able to land on its feet. Kehoe stresses that her firm's relationship is with Bear Stearns Bank, not its prime broking enterprise, and that of the clients signed so far, only one has Bear as a broker, and even that only as part of a multi-broker set-up.

Fully fitted out

Technology has been high on the Quintillion priority list from the get-go, reflecting the fact that it has crept to the top of many hedge funds' administrator shopping lists as well. "We are fully fitted out," says Kehoe. "We host our own Geneva, and maintain two back-up systems. We've got everything you would expect to see in a large institutional manager. We have to have systems that work. Geneva is a powerful tool, but it causes headaches if not deployed properly."

A good example of this emphasis on IT was the decision in December to license Paladyne Systems' ASP solution to help Quintillion with database maintenance, IT and disaster recovery, amongst other mission critical functions. Paladyne's hosted platform may be accessed remotely from a variety of locations, and is crucially integrated with Quintillion's local installation of Advent Geneva in Dublin. This meshes well with Kehoe's scheme for expansion – her plan is that Quintillion should have the scope to expand to other locations as the size of the business it serves grows, but to achieve that with state-of-the art IT in place. Unlike some of her competitors, she does not need to worry about legacy issues, or incompatible IT structures.

Quintillion is very much a specialist hedge fund shop, and one that feels it has a viable offering for even the more sophisticated manager. Says Kehoe: "Our big focus is on hedge funds. The long-only business has become largely commoditised. There is a huge amount of interest in what we're doing here, and we've already managed to win business against some of the bigger players. The prime brokers are already putting us forwards."

Kehoe is very aware that to grow fast, she needs to go after the critical conversion business. She is helped by the fact that an increasing number of managers are reviewing their administration arrangements as they grow in size and acquire institutional clients. Quintillion has been set up in such a way that it can smoothly handle what might otherwise be a difficult, complex, and time-consuming task for the COO of a medium-sized hedge fund and his team. And this is where Quintillion's value-added really makes itself felt: it is the senior personnel within the firm who are responsible for establishing relationships with the fund managers in the first place, and for transiting the business into Quintillion, and then for managing that client after they have signed up. Quintillion does not subscribe to using a separate marketing team to its client relations function: they are one and the same. "We have no sales people, we have no conversion people – it's all senior management," says Kehoe.

Is this scaleable? Yes, according to Quintillion's CEO. She has seen how some administrators – amongst them PFPC – successfully opened offices outside Dublin to create extra capacity for themselves, and believes Quintillion can do the same. The difference here is that, should a new office spring into being, the senior management there will be responsible for their own client book, and making sure that the managers they cut NAVs for are happy. Hedge funds will get a decision maker on the phone, and one who understands their portfolio's contents, not a new hire straight out of university who doesn't know one end of a derivatives contract from the other.

"We can replicate this via regional hubs," says Kehoe. "This strategy has been born out of our experience." In addition to this, Quintillion has made a senior appointment to head up its brand new London office (Jeff Sedgwick), and is currently in the process of laying the foundations of its presence in New York. "It pays to be physically present," Kehoe adds. "You need someone there who can meet with managers and add value."

The six principals at Quintillion (Joan Kehoe, Linda Gorman, Garrett Breen, Ken Somerville, Charles Gillanders, and Paul Feehy) have all signed up for a minimum of five years, plus there is the additional incentive of being involved with a business in which they own stock. It is what Kehoe calls "a sustaining culture," and with 25% of equity allocated to incentivising staff, she does not think it will be hard to hire the right people, even in Dublin's difficult labour climate.

Big challenges, bigger ambitions

Fund administrators in Dublin are having to deal with a range of new challenges these days, many of which could not have been conceived of back in the early 1990s. For example, a big talking point has been the issue of how to price OTC securities. Kehoe's solution has been to sign a deal with Markit, the independent provider of securities pricing services, which can help out with the pricing of CDS or interest rate swaps for example. "We have a big emphasis on controls," she says of her OTC policies. "The manager has to provide the trading info in the trade file. In the event that something is thinly traded, we have to understand the component pieces of the model. We will go to the counterparties as we'll need an independent source for the prices. We also need our staff to understand the accounting treatment of the instruments."

The Markit agreement is being portrayed as a partnership, with Markit providing its independent valuations of derivative positions, including commodity, credit, equity, currency, and interest rate swap instruments. Markit's portfolio valuation service provides fund managers, administrators, and banks with an independent, post-trade calculation of the gross asset value of a portfolio of OTC derivatives. It is calibrated using Markit's proprietary data, received from over 75 market-makers, which distinguishes this from model-driven services.

Quintillion is not simply content to slot into the traditional offshore equation for hedge fund management – it has bigger ambitions than that, beyond the bread-and-butter servicing of Cayman mirror funds. Part of the role of the projected office in New York will be to represent Quintillion to the large domestic US hedge fund base. Kehoe sees no reason why a US fund cannot make use of a Dublin administrator, and indeed, feels that the time difference will actually serve to provide funds with an operational advantage. US hedge fund managers are facing increasing pressure from their clients to provide independent pricing, and Kehoe hopes that some of them will consider using Quintillion. Perhaps this is testament to Kehoe's background with PFPC, and its strong US culture, but with personnel in place to handle US tax reporting and SEC filings, she is confident it can be done.

What about funds managed by non-English-speaking teams? Kehoe does not see that as a problem either: she is confident that Quintillion will be able to source the expertise to meet the customer. If a Japanese fund is signed, she will see to it that her firm has Japanese speaking personnel to deal with them.

In today's world of fund administration, confusion also continues to reign over where responsibilities lie between the various parties to the complex administration relationship: there are still big cracks that are being inadequately papered over. This is particularly evidenced when problems arise, and the finger-pointing starts. Investors may have a very different take on corporate and individual liabilities than, say, the portfolio manager, the Cayman directors, or the administrator. Funds and their service providers are becoming increasingly energised by the legal provisions that serve to determine the circumstances of their relationships with their investors. While some administrators are cautiously sticking to their core NAV-generation function, Quintillion is embracing a more holistic approach: after all, if the documentation is water-tight, the threat of litigation is reduced. "We review all manager documentation," Kehoe says. "We make sure the language is crystal clear. If it isn't properly applied, this can cause difficulties. We review it in order to assist our clients. Assisting the manager means making sure he meets his responsibilities."

The corporate touch

Quintillion is also aware that it needs to serve its clients by being readily accessible to investors carrying out due diligence. The stakes are going up in the hedge fund game all the time, as institutional clients bring more

detailed processes to the table: administrators have to be prepared to have due diligence teams on site for up to a week if required, and for funds of funds to conduct regular check-ups. Quintillion has been deliberately set up to manage the increased due diligence pressure that Kehoe is fully anticipating. Its infrastructure, and its blue chip minority shareholder go a long way to demonstrating its credentials to the more demanding investor in hedge funds.

Fee transparency is another pet issue: Kehoe believes that it is important that Quintillion's fees are completely transparent, and that it is easy for fund managers to see what things cost, and more importantly what their portfolio will cost to calculate appropriately. There are no hidden transaction costs, and with the exception of side pocket fees, everything is based on basis points. It makes for a simple but effective formula.

A blank canvas

"This is all about changing perceptions," Kehoe summarises. "We have to deal with all the things any start-up business has to deal with. But a fund that chooses us is effectively choosing our team." She accepts that Quintillion is the new kid on the block in the hedge fund administration space, but at the same time, she has had the advantage of working with a blank sheet of paper. Her team has taken many of the concerns that are energising fund managers at the moment, and addressed them from the start in Quintillion's business proposal. The participation of Bear Stearns is also likely to prove crucial in establishing Quintillion's credentials, particularly with bigger funds. But having said that, this is a firm where institutional standards are being matched with a boutique culture, rather than the boutique standards and institutional culture that fund managers are running up against in other parts of the fund administration industry. It is a refreshing change.