Outsourcing: tide turns for real estate funds
Real estate funds are finding that experienced service providers can help them build scale and control the cost of technology and personnel
While there is no single source of information regarding the size of the global private real estate market, consensus among research firms, benchmarks and media surveys suggests that the sector contains well over US$3 trillion of assets under management, depending on what is classified as private real estate.
Regional allocations are also inexact, but similar industry consensus estimates that the Americas account for about 40% of assets, with Europe close behind at about 35% and Asia Pacific at 25%.
Despite the size of the real estate sector, most accounting and back office operations continue to be managed in-house, rather than following the hedge fund and private equity sectors, which routinely outsource these functions to third-party service providers.
Reasons for hesitation
There are several key factors that account for why real estate has lagged behind other asset classes when it comes to outsourcing.
At the heart of this hesitation is the nature of the real estate asset class, which requires active hands-on management of the underlying assets, including extensive oversight of operations. This is in stark contrast to the other alternative asset classes, which practice more passive approaches to asset management. For example, real estate investment managers commonly control or materially influence leasing activity, expense budgets and capital projects of the assets in their funds.
Furthermore, staff who perform accounting and back office functions for real estate funds work very closely with the investment management teams. They serve as the gatekeepers of the financial position of the funds and the underlying assets. As a result, managers are reluctant to hand over control of these important functions to a third-party service provider.
Additionally, real estate does not come in a “one size fits all” package. Authoritative accounting rules can be complex due to the nature of real estate ownership structures, fund strategies, geographic regions and asset types. This requires specialized expertise and a thorough understanding of the sector.
However, there are signs that the tide is turning, judging by the significant increase in the number of real estate fund service providers that have entered the market in the past five years. There are several explanations for this shift.
Controlling costs and scaling operations
Managers are under pressure to control the costs of the funds they manage, as well as costs on their own books. Major expenses such as personnel and technology can negatively impact fund performance and manager profitability. As assets under management grow, managers are looking to fund service providers to build scale and ultimately reduce costs in back office operations and the technology that supports them.
New real estate fund product offerings are contributing to the change as well. Faced with the costly prospect of building new functions in-house and investing in technology solutions to support new business, many real estate fund managers choose to outsource to an experienced service provider to save money.
Real estate fund servicing will continue to mature and is well positioned to grow significantly as more investment managers become comfortable with the ability of service providers to add value to their real estate platforms.