In the wake of the Hayne Royal Commission and Productivity Commission’s reviews of the Australian superannuation system, regulators have put small and underperforming superannuation funds on notice. Funds such as Club Super, AustSafe Super and VicSuper have been busy announcing merger agreements, even if those mergers equate to them being swallowed up by a much larger fund.
ASIC deputy chair Karen Chester expects “close to one hundred” funds will cease to exist over the next few years as they are forced to merge in the pursuit of economies of scale.
On the face of it, the logic behind fund mergers seems compelling. Surely it is in the best interest of members of underperforming or smaller funds that they merge, allowing those members to benefit from spreading operating costs across a larger membership base?
However, this logic risks conflating scale with performance, and plays down the significant integration risks that exist when merging funds. Taking a step back, there are also fundamental issues for the industry to consider. Mergers drive out competition. Do we want to drive the industry towards fewer funds and less choice, likely stifling innovation as we do so? Before embarking too far down this path, the industry ought to consider alternative approaches.
Mergers: a problem shared
Operating a superannuation fund is complex. It requires the seamless operation and integration of multiple functions, from promotion and member engagement to asset and investment management, insurance, administration and compliance. Achieving operational excellence in all these areas is a challenge, for any fund.
By merging, small or underperforming funds can try to spread this burden, sharing operational tasks across a larger team and operational costs across a broader membership base. But merging can also bring significant risks. It requires a level of alignment and compromise that is rarely found. Even if a partner with a compatible culture, complementary skillset, tangible synergies and a shared vision and strategy can be found, merging may not be the right solution. Does joining forces really address fundamental issues that are affecting performance, or simply provide enough breathing room to kick the can down the road?
Merging two underperforming funds will not magically result in one well-functioning, high-performing fund. Merging two sets of legacy systems and processes is likely to cause more problems than it solves, at a cost that members must ultimately bear. Merging two compliance teams (and realising synergies through a reduced total headcount) is unlikely to fix or improve compliance standards or outcomes. So, if any benefits are realised from the increased scale of the combined entity, they are likely to be incremental, at best.
Of course, trustees and fund managers have an ethical imperative and fiduciary duty to do what is in the best interests of their members, which means a constant effort to reduce costs and improve returns, all the while ensuring robust compliance processes and outcomes.
It is in the name of this effort that funds face growing pressure to merge. Fundamentally, however, mergers may not be the right answer – most funds just aren’t that compatible and many of the natural unforced mergers have already occurred over the years. Importantly, merging is not the only answer.
Scale should not be seen as a simple pathway to high performance. Rather, it is an enabler that can provide the means to develop effective and economical operations. Scale, however, comes in various forms and can be achieved in multiple ways. Merging is simply the most obvious, but often the most cumbersome and dangerous route.
Fortunately, there are alternatives. Smaller funds can achieve professionalism and scale without sacrificing their identity, member relationships or independence.
The first option is for funds to outsource specialist functions, such as trusteeship and technology, to specialist partners with industry leading practices. Rather than trying to scale their way towards being able to develop competitive fund operations and returns, this approach enables smaller funds to leverage the services, scale and expertise of complementary partners who have already spent the time, money and energy developing best-in-class solutions for their particular area of operation.
Outsourcing to at-scale specialist providers is already well used in the provision and operation of software solutions for member administration. Given increased regulatory complexity and risk, trusteeship could be the next logical place to look.
Competing on all fronts is rarely a winning strategy. By choosing to focus on what they do best, and outsourcing other functions to at-scale, complementary specialists, funds can streamline their own activities towards their core value proposition and skill set, generating a renewed focus on members and growth.
Take the example of MaxSuper* – a small fund with industry leading returns. Conventional wisdom suggests this shouldn’t be possible. However, their remarkable performance – 10.51% in Financial Year 2019 – clearly demonstrates that billions of dollars of assets under management is not a prerequisite for industry leading performance. Instead, their returns are driven by operational excellence and partnerships that leverage the scale and expertise of Sargon as their specialist trustee and BlackRock as investment manager.
Outsourcing costly and critical tasks, such as trusteeship and compliance, to an independent, dedicated trustee, not only takes advantage of the specialist’s expertise and services but provides access to their existing economies of scale.
Essentially, it allows funds to capture many of the benefits offered by the potential scale of merging funds yet provides a much clearer pathway towards operational excellence and improved outcomes. All this while maintaining the fund’s identity, independence, industry representation and mitigating much of the integration risk.
A second alternative open to trustees and fund managers wishing to maintain their existing governance structures is to achieve operational efficiencies and improved member outcomes through the adoption of best in class technology solutions.
Contrary to the view of some, the implementation of leading technology solutions – such as modern, integrated, collaborative workspaces and proactive compliance solutions powered by machine learning – does not require scale. This is thanks to the provision of such technology solutions through a software-as-a-service model, meaning any fund, regardless of size, can implement industry leading operational practices.
The superannuation industry has been slow to adopt the undeniable benefits modern technology solutions offer, and in places, reluctant to go through the true transformation of outdated legacy systems and manual processes that is needed to bring operations into the 21st century. However, all superannuation funds, regardless of size, can now take advantage of industry leading technology solutions through a simple, scalable licensing arrangement.
Fostering a competitive community
Before putting further pressure on funds to merge – particularly given the alternative options – we should also consider what the predicted general trend towards mergers and consolidation will mean for the industry and the economy at large?
Most obviously, fewer funds means less competition. The irony here is that the trend of mergers in pursuit of operating efficiencies will, in the long term, likely lead to the opposite. A competitive industry is a proven driver of efficient operations, as entities seek a competitive advantage by improving their cost structure and value proposition – with the ultimate benefactor, of course, being the end consumer.
Similarly, competition fosters innovation. The struggle to succeed is a powerful incentive to develop new and improved product and service offerings, better ways of working and innovative new business models. Small businesses are also the most agile, the most willing to experiment and often the most likely to develop step change improvements in an industry.
For superannuation, smaller funds and new entrants can and do help provide a diversified product and service offering, helping to serve market niches and identify new market trends. As global digital transformation takes hold, customer experience has become a key competitive battleground. For superannuating Australians, having more funds compete for their superannuation dollars will lead not only to greater choice, but also improved customer service, experience and engagement with their chosen fund.
Finally, the prospect of a consolidated superannuation industry, with a small number of funds controlling vast amounts of Australia’s wealth, should raise broader concerns.
Australia’s growing $2.9 trillion pile of superannuation capital is already worth a trillion dollars more than the entire Australian Securities Exchange.
Collectively, the wealth of superannuating Australians constitutes a broad ownership of the Australian economy. Continuing to consolidate this power may lead to just a few funds dominating the shareholding of Australia’s companies, presenting serious concentration issues and risks for Australia’s economic future.
In contrast to merging, outsourcing specialist tasks to independent specialist providers or adopting scalable technology solutions not only removes duplication from the industry but provides a clear pathway to more efficient operations and improved outcomes for members. Moreover, this model enables smaller funds to survive and prosper, ensuring that we maintain diversity and competition amongst funds, fostering innovation and ultimately providing more choice and improved outcomes for members.
*Interests in max Super (ABN 22 508 720 840 RSE R1067897) are issued by its trustee, Tidswell Financial Services Ltd (ABN 55 010 810 607 AFSL 237628 RSE L0000888), a Sargon business.