In the post GFC era, margin compression has become a global trend across the asset management industry.
The rise of index funds and ETFs, a surge in operational costs caused by frequent regulatory demands, technology overheads and data acquisition has required asset managers to adapt.
To cater to both retail and institutional clients, Asset Managers have evolved their range of investment products from listed assets to private assets, active to passive style, and thematic to all-season strategies. The idea of managing significantly larger and more diverse asset pools with fewer resources and more computing power to achieve higher operational alpha has become a critical survival mantra. This thought process has triggered a significant consolidation wave in the money management business. M&A deals like BlackRock-BGI, Invesco-Oppenheimer, Janus-Henderson, Franklin Templeton-Legg Mason etc., reflect some of the big-ticket transactions which have happened in this space since 2009. Based on similar performance and cost drivers, a consolidation wave has also been evident in Australia’s $3.3 trillion superannuation industry. With future estimates indicating a small number of “mega” funds (with greater than $100bn) in the next five years.
To serve the growing demands of larger asset managers, wealth managers and asset owners, fintech vendors have also joined the inorganic growth bandwagon. These vendors have expanded their core capabilities to cater to the front, middle, and back-office functions of the buy-side clients and extended their coverage from public to private assets.
Some of the marquee transactions closed in the last six years are highlighted in exhibit 1 below:
What is driving the mergers & acquisitions wave in the buy-side technology industry?
An acquisition can help an enterprise software firm leapfrog the research and development cycle to procure a solution that has already been developed, assessed, and widely accepted by institutional clients in the market.
In the buy-side technology industry, the rationale behind recent mergers and acquisitions can be narrowed down to four key themes:
- Front to Back-office capability expansion: Leading technology vendors in the buy-side industry have re-positioned themselves as a one-stop shop to serve multiple functions across the investment lifecycle. These platforms usually offer robust capabilities in some functional areas, and via acquisitions, try to complement their weaknesses. BlackRock’s Aladdin, State Street’s Alpha, SimCorp, Bloomberg, and FactSet are prominent platforms that offer a single solution to support most aspects of the portfolio life cycle. Deals like FactSet-Portware, SS&C-Eze, State Street-Charles River Development also belong to this category. In these types of acquisitions, the overall objective for the merged entity is to operate at various levels of the investment value chain.
- Extending Public to Private Market coverage: Private Market investing has grown substantially since the GFC on the back of low yields and tighter credit spreads in listed assets space. It is also an open secret that managing private assets data is more complicated than its listed counterpart. The causes for complexity can range from reduced disclosures, data frequency and information asymmetry. These factors have resulted in the rise of niche vendors with a forte in offering Private Markets data. As Private Market assets have gone mainstream, the mainstream buy-side software firms have also embarked on an acquisition journey to extend their existing asset coverage from listed to private assets. Deals like Aladdin-eFront and State Street-Mercatus belong to this category.
- The amalgamation of Data and Technology: Data has always been the oil for investment firms, and that is why there is a perpetual appetite for clean, structured, and curated investment datasets. Leading market data providers like Bloomberg, Refinitiv, FactSet, RIMES etc., often acquire other software platforms to either integrate the external market data with an enterprise data management platform or complement their proprietary market datasets with calculation engines required for asset allocation, risk management, rebalancing or portfolio optimisation activities. This helps in achieving seamlessness in the investment management workflow. If a vendor can offer both gas (in the form of market data) and the engine (in the form of various calculation configurations), it becomes easier for clients to turn on the ignition and start the ride. S&P Global’s proposed acquisition of IHS Markit is an example of this trend.
- Horizontal enrichment of capabilities: Sometimes, software vendors acquire other platforms to sharpen their edge in a specific investment function. This strategy can help the acquirer firm eliminate competition and gain a solid leadership position in that particular investment function. This is particularly applicable for best-of-breed system vendors trying to dominate one or more parts of the investment data value chain. SS&C’s acquisition of DST Global Solutions (HiPortfolio and Anova) in 2014 or FactSet’s acquisition of BISAM (B-One) in 2017 are transactions that resonate with this theme. These deals can be classified as a case of horizontal integration.
What are the implications of these mergers & acquisitions for the buy-side clients?
The economies of scale achieved by these M&As should mean that the buy-side clients can manage more assets on fewer technology platforms and deal with fewer vendors. It can also result in less complexity in the flow of data between the investment systems with fewer manual interventions than before. For instance, an asset owner implementing a best of breed Performance & Attribution platform with cutting edge analytical capabilities and extensive calculation functionalities currently also requires multiple data pipes and complex field mappings to load raw data from various upstream sources. Assuming the vendor gets acquired by another software vendor who also offers market data universe, then much of the client’s integration pains could be easily absorbed by the vendor. These changes usually translate into cost savings, scalable system architecture and a more efficient operating model for the buy-side firms.
However, certain M&A transactions can also inflict some short-term pain for buy-side clients. Clients may suddenly find themselves caught in a wave of uncertainty if using a vendor software package that becomes an acquisition target. The acquiring firm may decommission the legacy system while giving short notice to its existing clients or cherry-pick software IPs from the legacy product and push it into their proprietary flagship solution. In the latter case, the roadmap of the legacy product would be obstructed, and that legacy platform would be pushed into its sunset path. In either case, clients would have to bear the short-term pain. Sometimes they may not even get ample time to conduct thorough due diligence for an alternative solution. On some occasions, clients also inadvertently sign-up as guinea pigs for a half-baked solution due to two software firm’s recent merger and encounter several bugs and integration challenges in the first couple of years of deployment.
While there is no panacea to immunise buy-side clients from the side-effects of vendor software M&As, clients can always adopt some best practices to avoid starting off on the wrong foot. Buy-side firms should always extract and retain archives of data from vendor systems into an external data warehouse. While designing data pipes at implementation, clients should opt for loose integrations via third-party integration platforms instead of tightly coupling upstream and downstream systems, thereby reducing the stickiness factor of the solution. While floating RFPs, clients should always enquire about the ownership structure of the participating software vendors. Noting that firms that are either employee-owned or majorly owned by PE firms are more likely positioned for sell-off compared to their publicly listed vendors or financial conglomerate owned counterparts. Before signing the statement of work with a system vendor, clients should also ensure a sufficient notification period of at least twelve months provided by the vendor for contract termination in the future.
How Shoreline can help?
Our subject matter expertise in front, middle, and back-office target operating model, combined with our deep understanding of fintech vendor’s offerings in the buy-side industry, allows us to set you up for success in your investment system selection, contract negotiation and implementation journey. With our unparalleled knowledge of public and private asset classes, system architecture, technology landscape, data service providers and program management, we have assisted many asset managers and asset owners in developing fit-for-purpose operating models to achieve industry’s best practices in the APAC and North America region.
For more information, please contact us.