CENTER FOR INFORMATION SYSTEMS RESEARCH Sloan School of Management
Massachusetts Institute of Technology Cambridge Massachusetts
CASE STUDY Plum Financial Services Michael Vitale and Kristine Dery August 2001 CISR WP No. 322
MIT Sloan School of Management Working Paper No. 4241-01
2001 Massachusetts Institute of Technology. All rights reserved.
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CISR Working Paper No. 322 Title:
Plum Financial Services
Author:
Michael Vitale and Kristine Dery
Date:
August 2001
Abstract: Plum Financial Services is a start-up company that manages superannuation (retirement) funds for organizations and their employees. The company is a joint venture between Vanguard, a large American financial services firm, and MLC, a large Australian investment management firm. The case explores the reasons that these two large firms elected to use a start-up joint venture as an entry into e-business, and the particular issues faced by that start-up as it competes in a market dominated by much larger players. The case also describes Plum’s unique approach to human resources and its evolutionary development of IT capabilities. Key words: e-business, IT infrastructure, IT architecture, IT-business relationships Pages 14
The University of Melbourne
Melbourne Business School CASE STUDY
PLUM FINANCIAL SERVICES A purple foyer with brightly coloured chairs was an unexpected introduction to a financial services company. Indeed Plum Financial Services was unexpected in many ways. The brainchild of two large, established financial services companies, MLC and Vanguard, Plum had all of the professionalism and rigour that would be expected of such a joint venture. In addition, Plum had an innovative, unconventional style that left no doubt that this company was intent on making a difference in the superannuation market. “Plum” means “the best of a collection: something especially prized” 1 and seemed an appropriate brand for a company intent on delivering an integrated superannuation product to the Australian market. The goal was to “take superannuation information off the bedside table and out of the shoebox,” making it as easy as possible for individuals to take control of their financial future. Background Plum was a joint venture between MLC Limited (MLC) and Vanguard Investments Australia Ltd. 1
The Concise Oxford Dictionary, Ninth Edition
(VIA), the Australian arm of the Vanguard Group Inc. In May 1998 MLC and Vanguard formalised Plum as a joint venture to produce and market a corporate superannuation product. The primary objective of both companies was to establish a product that would enable client companies to outsource superannuation activities and provide employees with the opportunity to make choices in the management of their own investments. Dick Morath, Group Executive at Lend Lease (owners of MLC at the time of the formation of Plum 2 ), explained, “We saw a trend in the market away from defined benefit plans to defined contribution. Investment choice and funds choice would inevitably follow. With defined benefit, the member has no interest in the investment decision, but with defined contribution there is an increase in active involvement.” Vanguard Investments Australia Ltd, part of the USbased Vanguard Group Inc., was the world’s second 2
Lend Lease has since sold its MLC funds management and life insurance interests in Australia, New Zealand and Asia to the National Australia Bank Limited (NAB).
This case was prepared by Professor Michael Vitale of the Centre for Management of Information Technology at the University of Melbourne and Ms. Kristine Dery, PhD student, Melbourne Business School. This case is for the purpose of management education, rather than illustrating or endorsing any particular management practice. The case is part of a research project on ebusiness migration conducted jointly by Melbourne Business School and the MIT Sloan School. Support for the project from PricewaterhouseCoopers LLP is gratefully acknowledged. This case may be reproduced free of charge for educational purposes provided the copyright statement appears on the copy. 2001 MIT and Melbourne Business School. All rights reserved to the authors.
largest mutual fund organisation, managing more than A$750 billion of investor funds. Vanguard had many years’ experience in the investment choice market for superannuation in the US, but had a very small team (20 people) in Australia and had no commercial track record outside of the US. However, a senior director of Vanguard, Jeremy Duffield, was Australian and well known to MLC. When the time came to look at this mutually recognised market opportunity, the joint venture was made easier through the respect and trust of the executives exploring the options. By joining forces with Vanguard, MLC believed it might be possible to combine Vanguard’s many years of investment choice experience with MLC’s 100 years of providing financial services to the Australian market. MLC believed this was a way to successfully tap the corporate superannuation market. Dick Morath further explained, “Lend Lease had always been very pro joint ventures, and so they had the expertise.” The Lend Lease experience was critical to the relationship, particularly given that Vanguard had no prior history of joint ventures. “MLC pioneered the use of external money managers, including Vanguard, which was important to the relationship … there was never an argument about who managed the dollars,” said Dick Morath. From the beginning, Plum was established with access to the best money managers available and it was always understood that MLC and Vanguard would be included as two of the available funds for members to choose from. The joint venture project commenced in July 1997 with a small team of MLC and Vanguard people, together with 12 staff from Sapient, a US based IT consultancy company that had been instrumental in building systems for Vanguard. MLC had mixed experience with large scale IT products and had outsourced IT, so MLC were not interested in building the required technology from scratch. Vanguard’s experience and success with IT delivery was instrumental in the formation of the partnership. At the same time, MLC were also engaged in serious discussions with National Mutual, one of Australia’s largest players in the financial services market, to join forces in an expansion strategy. In February 1998 a senior marketing executive from National Mutual, Lisa Gray, was seconded to MLC to head up the Plum project. By May 1998, the initial systems were in place and Plum was launched publicly.
Plum Financial Services
However, talks between National Mutual and MLC broke down, and the much-anticipated alliance did not proceed. “It was like a cease-fire with the troops withdrawing and me trapped in enemy territory,” Ms Gray explained. Having spent months establishing and launching Plum, Lisa was committed to the business. She was also excited by the rare opportunity to do something unique in the financial services market, and accepted the role as Plum’s Managing Director and CEO. Business Strategy The strategy for the creation of Plum was based on three critical market assessments: • •
•
A shift in the superannuation market from defined benefit to defined contribution Increased difficulties for companies trying to manage employee superannuation plans and the fragmented response by the financial services industry to corporate demands Constantly changing regulatory requirements, shifting the market focus from innovation to compliance
Superannuation had been a very low interest area of investment, despite the fact, as Lisa Gray emphasised, “ It is for most people, their second largest asset next to their own home.” However, in the mid- to late 90s the focus on the management of superannuation funds was shifting. Australia was beginning to follow a trend, experienced in the US, of moving from defined benefit plans to defined contribution. Corporations had become increasingly concerned about their ability to meet defined benefit payouts and were moving towards the no-risk option of defined contribution. This move automatically changed the perspective of employees, who were taking more interest in the earnings of superannuation funds and demanding more choice in the management of their funds. Dick Morath qualified this trend, saying, “Super fund management was following a general trend towards greater consumer choice.” The corporate move towards less risky options, combined with widely published data on the aging population world-wide, and the decreased ability of governments to meet the needs of retirees, generally increased consumer awareness of the need to maximise returns from superannuation investments.
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Vanguard was a recognised leader in providing 401(k) services to corporations and individuals in the US, with more than 15 years of offering members the opportunity to make informed choices in the investment of their retirement assets. This model was considered to be very appropriate for the changing Australian superannuation environment. Superannuation fund management had been a difficult area for companies to manage efficiently. It was expensive to administer and resource, and took valuable management time away from the business. Employee queries needed to be answered, funds administered, and considerable attention given to compliance issues. Most companies had previously had a preference for defined benefit plans, in which the employee received a pre-agreed benefit at retirement. These plans differed in structure and investment requirements. A single company may have had to administer as many as 20 different plans. Company mergers and acquisitions exacerbated the multiplicity of plans and the complexity of administering them. Superannuation firms had historically chosen to provide either administration or investment services. There were few attempts to provide a bundled superannuation solution/service, and those firms that did provide both services generally managed them through separate divisions. While the investment area provided prof it opportunities, low margins and increased pressure on prices in the administration business resulted in severely diminished returns. Both National Mutual and MLC had sold their corporate administration businesses after many attempts to make them viable. In its focus on investment management, MLC accessed just a portion of the superannuation fund wallet, and it was the company’s strategic intent to retain and expand its existing client base. MLC anticipated that a fully integrated response to corporate superannuation needs would increase opportunities to access investment funds. Industry complexity challenged the ability of companies to develop information systems (IS) to manage corporate superannuation funds. Investment inertia was further compounded by regular changes to government regulations, which had taken the IS focus away from innovation towards compliance. By financial services standards, IS was significantly under-resourced and under-developed in the
Plum Financial Services
superannuation area. Andrew Godfrey, Plum’s GM Client Delivery, described the industry situation in the late 90’s as an era “where increasing legal changes, combined with a downward pressure on administrative and investment fees, meant that all the energy was devoted to just getting by.” Vanguard and MLC recognised that together there was an opportunity to enter the corporate superannuation arena with purpose-built IT applications and an integrated solution. However, the technology at MLC could not be readily adapted to deliver the access and flexibility required to meet the market’s needs and, while Vanguard had the knowledge required to address this market, their systems had been built for the US legislative and tax environment and were too complex to be of use in Australia. Plum was therefore established as a joint venture to develop tailor-made IT systems that would enable both parent companies to efficiently access the changing corporate superannuation market. Plum provided a comprehensive and integrated system for a client organisation to manage employees’ superannuation funds while providing the employees with an opportunity for hands-on involvement in investment decisions. A range of services enabled corporations to outsource their superannuation activities and realign resources to their core business. The Plum system was built on scalable, standardised technology and was readily transportable from one company to another, providing much needed economies of scale. “The position of choice” was the by-line used by Plum in all marketing activities, alluding to employees’ ability to be actively involved in decisions about the investment of their superannuation funds in an efficient and informed manner. Online services, a 24-hour automated telephone service, a call centre, and online and work-place educational programs were all aimed at providing employees with ready access to information to enable informed choices about their financial future. Members had the ability to keep in regular contact with Plum, checking their balances and changing their investment mix. “We encouraged members to take an active interest in and control of, their superannuation, and the results have been very positive. Across our client base, 70% of members
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made an active investment choice, and 70% of those invested in growth assets (ie: shares and property).”3 There were few competitive offerings, and none could offer the flexibility and support services that Plum had developed. One of the closer competitors, William M Mercer, typically had to tailor-make a superannuation fund for each client, and did not provide the same educational and technology support packages. Nevertheless, Plum was aware that it could not hold the competitive high ground for long and, by November 2000, were releasing the next online development, which would further streamline the corporate offer. It included online conversion education and assistance, enhanced member information and tools, corporate reporting, an EDI interface, and enhanced information for superannuation consultants.
• • • • • • •
PLUM Innovative Integrated Corporate Superannuation Proprietary systems VANGUARD
MLC Large, established Personal and Small Business Super Funds Management
• • • •
US based New entrants in Australian market Large company specialising in 401(k) Index funds management
The Relationship between Plum and the Parent Companies The Plum Business Model The Plum business model consisted of four critical players: Employers (Corporates) Employees (Members) Plum Financial Services Investment Funds
3
Press release from Lisa Gray, 30 May, 2000.
Plum Financial Services
Employers were looking for good value for their employees (recognising the market shift to employee choice) and were generally focussed on reducing costs attributed to management of the superannuation function. Employees were becoming more aware of the importance of maximising the value of their super contributions within a secure, reputable environment. Plum needed to minimise costs and maximise revenue and fees from each client company in order to realise a profit. The Investment Funds wanted to constantly increase the amount of funds allocated their way for investment. See Exhibit 1. (i)
Employers (clients)
Clients were sought through shareholder contacts, cold calls, and tender processes. In October 2000 Plum managed (or had commitments) of $1.1B in funds for 24 clients with a total of approximately 18,000 members. The companies managed their superannuation funds in a variety of ways, with some looking to outsource the entire function, while others had greater levels of involvement. Plum could structure its product to meet the clients’ needs, but would not separate administration from investment and education/advice. (ii)
Employees (members)
Superannuation had traditionally been an area of relatively low interest for Australian workers. Defined benefit plans still predominated, and employees had traditionally relied on the company to manage these funds. With increased job mobility, changing regulations governing superannuation investment, new tax regulations, moves from defined benefit to defined contribution, and more general awareness of options and requirements in retirement, employees increasingly demanded greater control over the management of their superannuation funds. Companies were also looking for more ways to add value to employment offers in order to attract and retain good staff. Plum could offer the employee a choice of 26 investment options, market information, investment planning and advice, and an integrated education program to support the management of funds. The education component of Plum’s offer to companies was critical to their success. Members received an on-going education program that provided the tools and information to make considered choices in their investment portfolio.
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Once a member with Plum, an individual could retain that investment in any future career moves and in retirement. The online direct channel to the employee was an important strategic opportunity for Plum to develop additional member services, for example, insurance and mortgages. Through October 2000, the retention rate of members who changed employers had been 45%.
accounts on the web. Relationships with Investment Funds were managed by the GM Business and Online Services, who selected fund managers, monitored their results, and managed their fees. Investments were made online and determined by employee choice (for 70% of members) or Plum’s default position (the remaining 30%).
(iii)
Technology “We do not have some of the (IT) legacies to fix. We do not have the IT patchwork. It is very expensive for our competitors to keep up,” remarked Anthony Waldron, GM Business and Online Services.
Plum Financial Services
Plum earned revenue from member fees and assetbased income. The fees were visible to the members, although in many cases the fees were met in part by the employer. Fees were determined at the time of the contractual agreement between Plum and the client, based on an assessment of the administration costs and the value of the funds available for investment. Income was also earned in fees based on a percentage of the member’s account balance at the point of receipt by Plum, and again at the point of investment. (iv)
Investment Funds
Plum provided 26 investment choices to its members. In addition to MLC and Vanguard, these options included funds managed by BT, Rothschilds, Capital International and others. Fund managers charged a fee based on a percentage of assets invested, with a portion received by Plum for distribution. Fees for each fund were kept neutral to ensure Plum’s credibility in its relationship with the joint venture partners. Funds operated in a state of “co-opetition“ as they competed for investors’ funds while needing to work together to meet the demand for consumer choice. Therefore while other funds recognised that Plum’s ownership was in competitors’ hands, they were eager to work with Plum to attract a share of member funds. Plum managed the relationship with the employers via business development and relationship managers who guided the company through the conversion period (as they transferred their superannuation tasks to Plum) and then through the on-going process of employee education and investment choice. Employers could contact Plum and access information via their relationship manager, the call centre, IVR, or the web site. Increasingly, Plum was moving to online delivery of servic es. Employees were encouraged to manage their funds via the call centre, IVR, or direct access to their personal
Plum Financial Services
Online distribution was an assumed necessity in a 1998 start-up. Lisa Gray summed it up: “We do cost-benefit analysis, but that is not the critical issue. Technology and education are critical to our differentiation strategy.” To offer investment choice to the employee and, at the same time, release the employer from the administrative tasks required online management to ensure that the business would be cost-effective. Vanguard had significant experience with this technology in the US, but under different legal and tax rules. Its processes and knowledge could not be transferred directly to Plum. MLC did not have the advanced platform necessary to build the system, so it was decided to build proprietary systems for Plum using Vanguard’s expertise. Sapient (the US-based IT consulting firm) had built most of Vanguard’s applications so they brought 15 staff to Australia to build the system to Plum specifications from the inception. An existing, time-tested system (Compass) was purchased to provide the record keeping system. Member adoption rates were encouraging. Between 11–13% of clients logged on to the system at least once, and most every two months, placing Plum well ahead of industry standards. A third of total inquiries were received via the Internet. Organisations with links from their intranet had, predictably, significantly higher adoption rates. Intranet links were seen as critical to ready adoption of online services. The launch phase technology had always been intended for early upgrade and the updated version, Project Won, was due to be installed in November 2000. The Project Won team, consisting of six Plum staff and nine consultants, spent about six months
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building the new system. The updates offered increased employer online benefits to streamline accounting and record transfers, online employee education programs (designed to cut costs and provide training to members that are geographically dispersed), conversion guidance, improved member tools and information, and new client and consultant sites. The improved site was championed by the GM Business, and Online Services, taking 60–70% of his time, and co-sponsored by the CIO who estimated 10-20% of his time was spent managing the project. IT had responsibility for quality assurance, ensuring that the technology met business needs, managing the consultants, and assisting in resourcing the project. The upgraded system was a critical development for Plum’s competitive positioning and future development strategy. Cost impacts had been felt in both the education area and the administration of contribution transfers from companies. Education costs had exceeded expectations due to geographically dispersed members and need to maintain educational consistency. The new educational program had been produced for applicability to an online channel and was aimed at reducing these costs, while still providing the strategic benefits of the program to members. A variety of formats in which contributions were received had also increased administration costs, and new developments for employers were aimed at standardising these transactions to further reduce costs. The next wave of IT development was to commence in June 2001, with a similar pattern of renewal anticipated to continue indefinitely. “IT provides the leverage for the organisation.” said Plum’s CIO, Harry Drakos, “We have a ‘can do’ attitude to meeting company needs. We leverage our relationship with MLC and Vanguard to draw on their expertise and contacts.” Vanguard provided valuable expertise and manpower at various stages of development. In addition, Plum drew on Vanguard’s buying power in supplier relationships with companies such as Microsoft and Compact. Plum Culture Plum had a unique culture that combined a relaxed, open environment of creativity and innovation with the more serious requirements of running a credible
Plum Financial Services
financial services corporation. In October 2000, Plum had 64 staff members on one floor of an office building in Melbourne’s Central Business District (see Exhibit 2). The office of the CEO had become smaller and smaller over time, as more space had been cribbed for additional workstations and meeting rooms. The majority of the floor space was open plan with glass walled meeting spaces set aside for privacy and noise control. “The corporate culture of open honesty and respect for individuals is important here, and you are judged on whether you live the values of the organisation,” said Drakos. The joint venture partners made a conscious decision to locate Plum in Melbourne, away from MLC, which was based in Sydney. Lend Lease believed that the success of joint ventures lay largely in the separation of the new venture from the restrictions of the parents. As Dick Morath explained, “It is important that a j.v. partner doesn’t lie all over the thing.” In addition to this arm’s length approach, MLC were not strong in Melbourne and Plum was seen as an opportunity to strengthen the MLC profile there. Jeremy Duffield had been successful in obtaining incentives from the Victorian State government to assist in the start-up phase of the operation. The location did assist in allowing Plum to establish a fresh, new culture quite distinct from the parent organisations’. The appointment of Jeremy Duffield as Plum’s Chairman gave a very clear message that while this organisation was new, fresh, and innovative, it was also a very credible and serious player in the superannuation market.
The Future In the two years since its founding, Plum had been established as a serious player in the corporate superannuation market. “Plum will almost always be on a tender list (for corporate superannuation), where MLC would never have been there,” said Dick Morath. Plum was perceived by the market as a specialised operator. While its ownership was acknowledged, it was also recognised as an independent operation and granted opportunities previously denied to both parent companies. The future would present some interesting challenges and opportunities. The prime challenges included the maintenance of a market leadership
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position and the retention of a low cost profile. Opportunities abounded in transporting the Plum model to other markets in Asia and Europe, and also with the on-going personal relationships that the Plum business system was expected to inevitably generate. Both of these opportunities, while exciting, would have significant impact on the future development of the business and its owners. To retain the market leadership position, Plum needed to stay one step ahead of the competition. Constant cycles of system upgrades required significant commitment of resources and innovative energy. The challenge for Plum would be to retain this momentum. Plum’s competitors had long recognised the market opportunity in corporate superannuation management, but had been slower to get their products to market. Future technological development and increasing management focus would relieve this lag in a short time span. Lisa Gray explained, “Plum has now threatened the market, and the major players are hot on our heels with dollars to spend.” The second major challenge would be the control of costs. Andrew Godfrey saw this as a major issue confronting Plum in the future, “The challenge for Plum will be moving from a low transaction environment to a high transaction environment.” Godfrey said, “The temptation is to grow the
Plum Financial Services
headcount, but that would be disastrous. We must have an effective environment to deal online”. The big savings for Plum were expected to come from business-to-business cost reduction via standardised online transactions. Plum had already experienced higher than expected costs in education delivery, with conversion costs estimated at $12–$13 per member. Customer service costs had also been higher than estimated, with customer statistics showing that on-line members called more often and their call times were longer. The challenge was to maintain low costs and still attract more investment dollars per client. “The web will be critical to meeting these challenges,” predicted Anthony Waldron. While corporate solicitation would continue to be the primary strategic focus for the future, individual investments were expected to become a larger proportion of the business over the next five to ten years. As members changed employers or retired, Plum would encourage them to retain their membership. This would present many opportunities for Plum to develop the relationship and maximise sale opportunities to each member. The challenge here would be to manage both corporate and individual relationships under the existing model, and yet deal with the potential for differing views with the parent companies.
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EXHIBIT ONE
PLUM FINANCIAL SERVICES $ member fees % account balance fee
PLUM SUPERANNUATION FUND
% asset fee -
funds for investment plus management fees
employers (clients)/employees (members) paying $ member fee and % account balance fee
EMPLOYERS (CLIENTS) - employee superannuation
funds to manage and invest
$ asset investment fee
SUPERANNUATION/ INVESTMENT TRUSTS - 25+ investment choices including MLC,
Vanguard and other fund managers
The Plum Business Model
Plum Financial Services
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EXHIBIT TWO Michael Feild Infrastructure Manager
Brett Harrison Applications Development Team Leader
Mark Griffiths
Andy Jack Chin Chuah Peter Fransisca Rob Ridge Arthur Zhu (50% SI)
John Voger Michelle Titeu Ahmet Sisman Stephen Pitcher David Longstaff Alex Bauer Daniel Spasevsk Mike Smith
Strategy & Offer Development Manager
Gwyn Jones
Employer Solutions Manager
Adrian Phillips Sales Support Analyst
Anthony Waldron Hareesa Kamar &P ro Co- o duction rdina tor
Company Accountant
Marcus Carr Lloyd Jones Margaret Kearney Relationship Managers
James O’Brien Mat Sund Maurice Stechiwskyj Super’n. Accountants
Mktg Communication Mgr
Investment Analyst
Financial Controller
Georgina Slade Vineet Malhotra Online Services Co-ordinator
Wendy Amedeo - PA
Stuart Greenwood
Joanne Dunkley
Leisa Sheffield
Receptionist/Accounts Payable
Financial Education Specialist
Michelle Beasley
Carmel Bonaventura HR Administration
Evan Davies Nicole McGregor Genevieve Ooi Scott Plunket Tania Becker Tania Zivkovic Corrin Mazurkiewicz
Senior Editor
Team Leader, Member Education
People Manager
Julie Beer Member Services Mgr
Albert Daniels
MMD Co-Ordinator
Lisa Gray Managing Director
Lisa Ladds
Louise Ardagh
Andrew Carra
Mark Pratt
Education Consultant
Greg Donaldson Lorraine Wilson L&TS Administration
Alex Kleiman Business Dev Mgr
Diana Hale Business Dev Mgr
Sally Guerin Sean Carroll
Beau Titchkosky
Special Projects
Account Representative
Peter Barratt Frank Merzel Plan Conversion Specialists
Leeza Yendle
Business Dev Mgr
Business Development Support & Sydney Office Administrator Anna Papa Catherine Ohis
Plum Financial Services Organisation Chart as of November 2000
Plum Financial Services
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Plum Case Study Appendix Contents: 1. Superannuation/Retirement funds defined 2. The Australian Superannuation Industry 3. MLC Limited 4. Vanguard Group Inc. 5. 401(k) 1.
Superannuation/Retirement Funds Defined
1.1 Australia The Australian government paid an aged pension to retired Australian citizens and permanent residents, starting at age 65 for men and age 60 for women.4 Levels of payment 5 were determined on application by income and assets tests. With an aging Australian population, it was the government’s intent that retirees become less dependent on government funding and more reliant on the assets that they had saved during their working lives. Most Australians accumulated assets for retirement through an arrangement called superannuation. Superannuation in Australia was “a long term savings arrangement that operated primarily to provide income for retirement” and “involved employers, the self employed and employees making contributions on a regular basis over a long period to a superannuation fund” 6 .Superannuation funds held contributions in trust for members and invested these funds to increase their redeemable value upon the member’s retirement, death, or serious disability. The Australian government offered tax benefits to increase the value of superannuation funds over normal savings. The objective of the Australian Government’s 2001 retirement policy was to improve total retirement income. Initiatives were built around three objectives: • A government funded aged pension and welfare support system • Compulsory superannuation contributions by employees, employers, and self employed persons • Voluntary savings to enhance superannuation assets Compulsory employer superannuation contributions commenced in 1992/3 with initial levels set at 3 of the employer’s payroll. By 1998/99 this level had increased to 7%, with further progressive increases to a blanket 9% by the year 2001/2. Employees’ contributions had also climbed, reaching 7% in 2001/2. Two types of superannuation funds were available: defined contribution funds (or accumulation funds) and defined benefit funds. An accumulation fund invested contributions over the period of membership until retirement, when the benefit was paid at the accumulated value. A defined benefit fund paid on retirement an amount stipulated at the commencement of membership. Members investing in government complying superannuation funds could take advantage of lower tax rates on the income earned by their investments. Members could make choices about the way in which their superannuation contributions were invested, but these choices were restricted by employers. Proposed amendments to government regulations promoting fund choice would enhance the member’s ability to direct the management and investment
4
The age limit for women to be eligible for the pension is gradually increasing, aiming for a retirement age of 65 for everyone by 2013. 5 The maximum rate for the aged pension is $AUD394.10 per fortnight for a single person 6 Australian Taxation Office 2/8/01 http://www.ato.gov.au/content.asp?doc=/content/Professionals/super/24322057.htm&page=1
Plum Financial Services
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of contributions. In addition to the compulsory superannuation contribution requirements, members were encouraged to invest more of their savings in superannuation through reduced tax rates. Superannuation benefits could be drawn after retirement from full-time work between the ages of 55 and60 years, depending on when the member was born. The government was gradually increasing to 60 the age at which a member could retire and draw these funds. There were a few exceptional hardship circumstances in which superannuation could be drawn earlier than the stipulated retirement age. 1.2 USA The US retirement system, while based on different philosophical premises, was not dissimilar to the Australian system in practice. The US system, called Social Security, was based on a social insurance approach versus the public assistance approach that was adopted in most other countries in the world, including Australia. The contributory financing of social insurance was instigated to ensure that protection was available as a matter of right, whereas the system of public assistance assumed that only those in need would receive benefits. The public sector had always maintained a significant role in the US, but there was a general acceptance of the need to supplement Social Security benefits with personal investment plans or savings on retirement. The Australian scheme was also based on a combination of government pension and private investment, however the nature of private investment was subject to more legislative controls and the aged pension was available only to those in need at retirement. The Social Security scheme paid every US citizen a pension on retirement. In 2001 the retirement age was 62 years, but was being gradually increased to 67 years. The level of benefit was calculated for each retiree based on earnings over a lifetime, with additional benefits if retirement was extended until the retiree turned 70. Cost of living increases were built into the formula and there were provisions for earlier retirement if necessary. Higher income retirees were required to include benefits in their total income for tax purposes, and therefore might pay additional tax on this income. The US Social Security Scheme was funded from a variety of sources. The main source of funds (88%) came from compulsory payroll and self-employment taxes. Employees were required to contribute 6.2% of gross income to Social Security’s Old-Age, Survivors and Disability Insurance (OASDI), which was matched by the employer; the self employed paid the combined amount of 12.4%. Further funds were generated from interest earnings (10%) and additional taxation income from OASDI benefits to high-income retirees (2%). Financial planners were advising that average income earners should plan for OASDI income to cover 30% of their retirement costs, with the remaining 70% to come from private pension plans, savings of investments.
2.
The Australian Superannuation Industry
The superannuation industry accounted for approximately 8.1% of GDP, which was large relative to other industries in the Australian economy. Companies providing these services were largely concentrated in the states of NSW and Victoria, with 60% of the total employees in this sector based in these states. Growth in this sector in the 5 years up to 1998-99 had been significant with annual turnover increasing at annual rate of 14.3%. Turnover for 1998/99 was estimated at $A68,594 million. Over the same period contributions had grown at an annual rate of 11.8%, while assets had grown at an annual average rate of 15.9%. This growth was a result of a strong growth in contributions and earnings, which outstripped the growth in benefit payouts. Overall industry growth was expected to continue at an average rate of 11.5% for annual turnover. Contributions were anticipated to rise at an average growth rate of 9.8%, boosted by the increases in government regulated contributions to 9% by 2002/3. Investment returns were forecast as unlikely to be as strong as they had been over the past five years, reflecting an expected economic slowdown, however, rising contributions on a growing asset base were likely to ensure a strong growth in the value of investment earnings
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There were five major players in the superannuation industry, with the combined forces of NAB and MLC controlling 4% market share. The remainder of the market was divided among thousands of funds, many of them sponsored by a single employer for its employees alone. Table 1: Major Players Company
% Market Share
AMP Limited National Australia Bank, including MLC SAS Trustee Corporation – Pooled Fund State Superannuation Fund Commonwealth Bank of Australia, including Colonial Ltd Source: IBIS Estimate
4.0 4.0 9.0 3.0 4.0
Table 2: Projected Turnover Year 1999-00 2000-01 2001-02 2002-03 2003-04 Source: IBIS Estimate
Million Dollars Turnover($A) 69,394.0 70,175.0 84,864.0 10,7959.0 11,7953.0
Growth % 1.2 1.1 20.9 27.2 9.3
Government regulations had a significant impact on the superannuation industry. Initiatives over the last few years such as the termination of the government’s co-contribution scheme, the removal of compulsory superannuation requirements for low-income earners and from industry awards, and the tax surcharge on some contributions had all had a negative impact. The proposed “Choice of Fund” legislation, which required employers to offer employees the opportunity to manage their own investment options, was expected to stimulate competition between funds and to offer members more options. It was anticipated that the reaction to these revised market conditions would increase costs in the short term, and that cost reduction would be a major focus for superannuation providers. There were significant regulatory barriers to companies wishing to enter the superannuation market including a capital requirement of A$5million and government approval. The critical success factors that determined profitability were the ability to effectively and efficiently comply with changing regulatory requirements; the development of credible and soundly based investment strategies; and the ability to keep costs at a minimum and still offer a competitive product. The market was highly sensitive to changes in government legislation (including changes to taxation), economic conditions, growth or decline in fund membership affecting contributions and payouts, and changes to competition in the market that had a major impact on the cost of fund management.
2.
MLC Limited
On April 10, 2000 the National Australia Bank, one of Australia’s leading banks, announced that it had agreed to purchase MLC from Lend Lease Corporation for A$4.6 billion cash. “MLC and the Company’s (NAB) Fund Management businesses combined creates a wealth management business with funds under management and administration of A$61 billion and has enhanced the Company’s ability to offer the best tailored financial
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solutions to the Company’s advisors and customers.”7 The newly formed division was known as the National’s Wealth Management offered investment, superannuation and insurance solutions to the retail and corporate markets. Operating profit after tax and before abnormals was $A295million, which represented 8.7% of total NAB operating profit.
3.
The Vanguard Group, Inc.
The Vanguard Group commenced operations on May 1, 1975 in the US. In 1976 Vanguard introduced the first indexed mutual fund, known today as the Vanguard 500 Index Fund. By 1977 Vanguard further rocked the industry by ending its reliance on outside brokers and switching to direct marketing. The 80’s and 90’s were periods of high growth and high interest rates which generated a more friendly environment and an explosion in personal investing through retirement funds, 401(k) plans and major advances in technology. By the end of the century nearly 50% of all US household had invested in mutual funds and the industry had grown from US$46million in assets to more than US$7trillion. Vanguard net assets had grown from US$1.8billion in 1975 to nearly US$575 billion as of November 2000, and from 350,000 shareholder accounts to over 15 million. Employer-sponsored retirement plans account for more than US$170 billion of invested funds. Staff numbers have grown from 40 people to 11,000 in three US locations and further operations in Europe and Australia. In the constant quest to improve investment options, Vanguard in 2000 offered 109 domestic funds and 29 funds in foreign markets. Despite all this growth and the many changes that have occurred, Vanguard still sought “long term relationships with (our) clients based on a spirit of fair dealing”. Operating costs were among the lowest of any mutual fund family in 2000. Average operating costs in 1999 were 0.27% of assets (i.e. $2.70 to $1000 invested). The industry average was 1.31% for the same period. 4.
401(k)
Section 401(k) of the US Internal Revenue Code provided tax incentives, and administrative support and advice for organisations to offer employee-funded retirement plans. A 401(k) plan design document set out guidelines for: • • • • •
Contribution design determining both employee and employer inputs. Company matching contributions were not a pre-requisite, but where supported ranged from 0.25 to the $1, to $1 for $1. record keeping and administrative requirements, with recommendations to appoint a service provider for this purpose.(Only larger companies ever tended to adopt an in-house approach.) employee communication recommendations which required companies to take responsibility to ensure that all employees were well informed about their investment plans cost monitoring and control plan roll-overs, deferments, and withdrawals.
Contributions were deducted from members’ salaries and invested in funds which the member had pre-selected, or were allocated to a pooled investment fund. If the member chose the pooled option, then the employer had a duty of care in making sound investment decisions. Funds were not taxed at the investment point; all tax liability was withheld until the time of withdrawal of the funds. Companies selected providers to invest and manage the funds and take care of all the administrative requirements. At retirement there were options to withdraw the funds in full or part, or to maintain the tax-deferred investment until the proceeds were needed. Members of a 401(k) plan could transfer their investment to other workplaces with no penalties, providing the new company also offered a 401(k) plan to employees. 7
National Australia Bank Annual Review 2000, Report of the Directors ,p 38
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References: Australian Taxation Office www.ato.gov.au Australian Securities and Investments Commissions Consumer site www.ato.gov.au Centrelink site www.centrelink.gov.au Dow Jones Interactive Newsstand, 11/28/2000 PR Newswire “Vanguard Introduces New Website Design; New Vanguard.com™ Layout aims to Provide Easier Navigation and Access IBIS World, www.uni.ibis.com.au, K7412 Superannuation Funds, Volume 15, July 2000 Plum Home Page: www.plumfs.com.au Vanguard Home Page: www.Vanguard.com 401(k) details found at www.401(k).com US Social Security site http://www.ssc.gov/OACT/HOP/hoptoc.htm
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