Increasingly, private equity firms are sending their investment professionals to far flung corners of the globe in search for new deals. But there are certain functions that may not travel as well. One is the finance function, which private equity finance heads say is best kept close to the heart of the firm.
Firms that have multiple offices around the world typically first ponder the right hub-and-spoke model for pursuing investments. But the next strategic issue is, how should the finance function be structured? There are no hard and fast rules, but many global firms tend to centralize in one location the most crucial of functions: fund administration and fund accounting.
?There are economies of scale to have the fund accounting in one place. We would gain no advantage to have the fund accounting dispersed and to have to replicate the full accounting teams in London and Asia,? says Goss.
At Bain Capital, whose eight offices in three continents manage over $50 billion in assets, these functions are handled out of the firm's headquarters in Boston. Michael Goss, Bain Capital's chief financial officer says: ?There are economies of scale to have the fund accounting in one place. We would gain no advantage to have the fund accounting dispersed and to have to replicate the full accounting teams in London and Asia.?
Given the resources of his firm, Goss is not a big advocate of outsourcing. But for firms with a number of small satellite offices, farming out certain finance functions to third parties makes sense. At London-based Candover, management company accounting at the firm's four continental European representative offices are outsourced; reports are then rolled back to the head office in London. Tax work for international offices is almost always outsourced, while day-to-day finances are usually handled in-house by administrative assistants or an office manager.
Whatever the model, one of the common decisions a finance head has to make is whether to hire a finance professional for any or all of the firm's international offices. The common approach is to hire an office manager to handle basic accounting and finance functions such as paying bills and invoices, as well as to support deal professionals. At The Carlyle Group, recently hired chief financial officer Peter Nachtwey says the firm starts thinking about bringing onboard a senior accountant, then a controller, if an office has around 20 professionals. Until then, new offices get most of their support from more established offices in London, Tokyo and Washington, DC. While there's no hard and fast rule, Carlyle hires an office manager that serves multiple roles by the time an office is staffed by a dozen professionals.
Another option for a finance head is using third-party firms for international work. Some heads advocate using primarily one global firm, such as Bain relying on PricewaterhouseCoopers for taxes. Cleveland- and New York-based middle market private equity firm The Riverside Company, opts for local accounting firms for its European and Asian offices. However, Béla Schwartz, chief financial officer at Riverside, which has $2 billion in capital, adds: ?I don't think there's an easy answer when you're operating small shops and you're setting up different locations that are DREs (disregarded entities) owned by a parent US entity.?
The challenge for these finance heads in running global, multi-office firms may be best summed up by Goss: ?I think the hardest thing is if you don't have scale. It's hard to build an IT department or a HR department or a finance department for such small offices. Yet the issues are very important, so you have to figure out a way to address them without having in-house capability all the time.?
Here are some of the ways private equity firms structure their finance functions globally.
All but two professionals in Bain Capital's finance group are based in the firm's headquarters in Boston. The two that aren't are Michael Colato, chief financial officer of international private equity, and Raymond Yiu, director of finance. These senior level hires were made when Bain set up its operations in Europe and Asia in 2001 and 2005, respectively.
Colato and Yiu are responsible for transaction support and managing Bain's offices in Europe and Asia. ?They are really on the ground to manage the local P&Ls and to help support the deal teams when closing transactions,? says Goss. Each are supported by two to three junior staff, which Goss says are brought on ?pretty early because they're fairly inexpensive.? Yiu reports to Colato, who in turn reports to Goss. All reports are done using a firm-wide general ledger system; the European and Asian business units consolidate into the US system.
In Boston, Bain Capital's nine finance professionals dedicated to private equity are responsible for fund accounting and transaction support. A separate portfolio group handles all work related to portfolio companies.
The challenges in building and running a global private equity firm are threefold, says Goss. For Bain Capital's offices in London, Munich, Hong Kong, Tokyo and Shanghai, the firm has to deal with multiple currencies and a cost structure, including compensation, for each office. The second challenge relates to the many tax issues arising from operating in multiple jurisdictions. Although Bain Capital has in-house tax experts in Boston, the firm uses PricewaterhouseCoopers and law firm Ropes & Gray for international tax and structuring issues.
Goss' third challenge is communication among the offices. Goss speaks with Colato weekly and meets both Colato and Yiu a few times each year. Additionally, ?when people in other offices come to Boston, we make sure that they spend a lot of time with the people here,? says Goss.
Small deals go global
Like Bain Capital, Riverside's fund accounting is centralized, but in New York. For its offices in Europe and Asia, many of them new and small, Riverside relies on administrative assistants and local accounting firms for all other finance functions.
?The big challenge is that if you have a small office with two to five people, you can't afford to hire somebody to do the accounting. The administrative staff doesn't necessarily know the taxes so you're going to end up outsourcing,? says Schwartz. For its international offices, Riverside interviewed three to four local accounting firms, eventually selecting firms that had enough English language ability and were willing to work with the firm's new accounting system.
In September 2007, Riverside rolled out an SAP-based accounting system to replace its previous Excel system. As the firm has operations in countries ranging from Spain to Poland, and Brussels to Japan, having a common system for its international offices would give it the ability to consolidate its financials more accurately and to produce reports for senior management more quickly. Implementations were done in local languages and mapped to an English translation.
The implementation was not without challenges. Riverside had to rely on the local accounting firms to ensure compliance with local laws and regulations, as well as Riverside's business. Making matters more complex, adds Lena Korvyakov, Riverside's global controller: ?Most of the accounting firms use their own software or the software they're used to in that particular country. It's a challenge to train the firms to ensure that our [SAP] system is used appropriately because those accounting firms are not your employees. For them, you're a rather small client.?
With the new accounting system in place, Riverside is currently contemplating centralizing its bookkeeping for Europe. Currently, administrative assistants send copies of invoices to the local accounting firm that in turn processes them. ?If all the data entry is centralized in one location, it will give us more control when invoices are entered and help us control the costs,? says Korvyakov. ?We're considering hiring a full time person in central Europe where it's more cost efficient.? If so, local accounting firms will only do specific work such as local taxes.
The biggest challenge for Schwartz in running a global firm is in ?getting around the different cultural as well as legal and tax issues in each of the jurisdictions. There are no [complete] answers; there are only challenges and ways to mitigate risks and operate as efficiently as possible in these different jurisdictions.?
In New York, Schwartz heads a team of six professionals who work on management-company accounting and fund accounting. Some fund administration functions ? capital calls, distribution notices and fund accounting ? for a few funds are outsourced.
Riverside primarily works with Deloitte & Touché and law firm Jones Day.
Because of the nature of London-based Candover's relationships with the firm's other European offices, the finance function is centralized in London and local offices have a good degree of flexibility in using third parties. The firm's offices in Düsseldorf, Madrid, Milan and Paris are known as ?representative? offices because they do not have their own funds; the offices are responsible for deal sourcing. ?This means their finances are fairly straightforward because they've got payroll and running cost. Their income is based on a markup of that which they charge to us,? says Matthew Harrison, Candover's controller in London.
All accounting at the representative offices are outsourced. ?We let the local office choose who they use,? says Harrison. ?They need to pick a firm they feel is best for them for accounting for the management companies and also for taxes, including tax structuring for the executives in those offices.?
Candover has eight professionals in its finance team in London. All fund administration work is kept in-house, but tax work, like the other firms, is outsourced. ?We use who we think is best,? says Harrison. Candover has relationships with three of the big four, and Grant Thornton.