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Take Human Error out of Australia’s Private Credit Markets

26 July 2021

In Conversation with Joe Millward, Founding Partner of Epsilon Direct Lending

Allocation to private markets in Australia, and Asia Pacific generally, is ramping up. With asset owners increasingly eyeing private assets as a means to augment their income returns, new funds are stepping in to meet investor demand and the middle market funding gap left by banks.

With many new funds entering the local market, how do managers distinguish themselves in order to win mandates from investors?­ Besides having a team of talented managers with a strong track record, one occasionally overlooked differentiator is the ability to put in place world-class infrastructure to support operations around the investment process, reporting and asset servicing.

Some of the key challenges that funds investing in private markets face are the manual procedures involved in collecting and processing data on investee companies, and in tracking borrower cash flows and payment instructions. The main reason for a lot of these risks is human error - which is a key factor to overcome.

These issues are not exclusive to Australia and continue to create challenges for global firms. Recently, Citigroup mistakenly wired lenders of Revlon Inc US$900 million, proving that human error still exists even in large organizations with decades of experience. If large international firms are yet to eradicate this risk, how can comparatively newer Australian participants feel secure that local funds are correctly managing operational risks?

With the Australian market developing, we thought it was a good time for IHS Markit's Colin Brunton, APAC Head of Private Markets Business Development, to catch up with Joe Milward, Founding Partner at Epsilon Direct Lending, who has made risk management a key priority throughout his career.

Epsilon Direct Lending was founded in 2019 as a private credit manager providing non-bank corporate direct lending in Australia. They use IHS Markit's Private Debt Solution to overcome the risk of human error.

As a newly established fund, why is Epsilon tackling the risk of human error as a priority?

We started Epsilon because we saw a significant gap in Australia's private lending market. We want to focus on investment opportunities, but we also want our customers to be secure in the knowledge that our processes do not expose them to undue risks. We believe that (a) investors do not get paid for operational risk and (b) borrowers want a seamless back-office solution from their lender. We believe the right thing to do is to align with global standards despite the developing nature of the local market.

When starting out my career in lending at Europe's largest leveraged finance house, I was tasked with managing a €1 billion+ portfolio of loans on spreadsheets. We regularly faced processes that were manually intensive, requiring time, headcount and training. Many errors were made, resulting in reputationally and financially expensive remediation. In establishing Epsilon, we spent over 12 months ensuring we put an institutional framework in place from the start, and right across our business and fund, including loan administration infrastructure.

This means we are less likely to be exposed to risks and challenges such as incorrectly tracking interest accruals and payments, sending out wrong bank account details and wire instructions, reconciliation errors, time spent manually collecting borrower information and generating roll-up reporting, all of which could potentially have a material adverse impact on the fund, our investors and borrowers.

I think that investors appreciate the importance of diligence on fund administration, registry, trustee and custodian activities, but loans administration and monitoring should also appear just as high on the agenda.

How has your experience led to creating a solution?

Before I moved to Australia, I worked in London as Head of Loan Funds at RBS Asset Management. In that role, I oversaw a €3 billion portfolio across four separate loan funds raised from global institutional investors. After that, I held COO and strategy roles in banks. That experience was invaluable in understanding the issues and solutions that global firms put in place - standards I wanted to ensure Epsilon adhered to from the start.

Global organizations often overcome the risk of human error in one of two ways: they either develop their own solutions and processes, or they outsource to vendors. The underlying commonality is that both approaches lean heavily on ensuring processes are digitized to a large extent to minimize manual intervention.

For a firm of our size, outsourcing was the natural choice due to the prohibitive cost of investment and time-to-market in building our own infrastructure by hiring, training, acquiring software and designing workflows. We wanted to focus our resources on hitting the ground running in meaningfully deploying capital, and IHS Markit was able to provide proven, ready-made off-the-shelf solutions to help us scale efficiently. I am familiar with IHS Markit's products and have used their solutions previously in the early 2000s, so the decision was fairly straight forward. Their global experience, plus understanding of how to support smaller, localized markets was a key factor for us.

How does IHS Markit's solution help minimize human error?

Epsilon uses IHS Markit's Private Debt Solution to support our end-to-end workflow throughout the deal lifecycle. Through this platform, we have a holistic overview of our fund's holdings that allows us to monitor our investments with dashboards and reports as well astrack covenants, all contained within a single source of truth for reporting expediently and accurately to our investors. We also leverage IHS Markit's credit managed data service to outsource the ingestion of our borrower reported financial statements into the portfolio management platform and benefit from the integration with the loan administration system and services, so that we can focus our resources on analysis and other high-value activities.

Digitizing our data with IHS Markit allows a new fund like us to get up and running efficiently by largely outsourcing the back-office processes while ensuring we align with the global best standards. With IHS Markit's experience, complementary software and services solutions and track-record globally, we know that the processes are tested, secure and efficient. Equally importantly, the IHS Markit team bring local experience and support for any issues that occur.

How does digitizing enable Epsilon to encourage Australian investors in private credit?

Digitizing makes us agile and efficient. There's significant scope for the Australian private markets to grow. As a firm with growth aspirations, we're dedicated in helping to form an ecosystem that advocates transparency and standardized best practices to ensure Australian investors expand their investment appetite with confidence.

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