Special report: pensions backroom
Dutch pension funds across the board are feeling the pressure arising from a coincidence of a tightening regulatory environment and a debate on the competence of pension fund trustees at a time of financial market turbulence and low interest rates. But what some see as a cause for anxiety others view as a business opportunity, and many in the industry see a strengthening of the trend towards outsourcing as a number of players are offering to undertake a wide variety of services for pension funds.
The development was highlighted by the recent initiatives of two major pension fund administrators - Schootse Poort, the manager of Philips Electronics pension assets, and Blue Sky Group, which manages the pension assets of national carrier KLM - to offer their services to other pension funds and their subsequent diverging fortunes. Schootse Poort signed up a number of funds before renaming itself Philips Pensions Competence Center and refocusing on Philips while Blue Sky is actively pursuing business though beauty parades and exploring the possibilities of joint approaches with other common services companies having signed up a Schootse Poort defector, the Lucent Technolgies pension fund, earlier this year. In addition, insurers Aegon and Interpolis are growing their business through acquisition of common management companies, and large bancassurance groups ING and Fortis have signalled that they want to break into the market.
At the other end of the scale, Dutch pension fund SBA, the foundation for the joint administration of pension funds for medical specialists and general practitioners, is in the process of transforming itself into a common management company.
But just as there are differences in the size and success of insourcing organisations, so do the views among the players of what is driving the process, how dynamic it will prove and what shape it is giving the industry.
The evolution of outsourcing has been gradual. In the dim, distant, and perhaps mythological, past all Dutch company pension funds were self-administering and self-investing. But when industry-wide pension schemes, the Bpfs, began in the early 1950s around half of them opted to have their administration and investments handled by a number of institutions, some of which provided the social security system’s administration. This picture changed with subsequent nationalisation of the administration of social security and the subsequent shakeout saw a number of pension funds transfer their administration function to insurance companies willing to enter the market. It this was at this time that Interpolis and Achmea established a foothold in the pensions administration area, with Achmea in 1997 taking over PVF which had earlier been spun off from benefits-paying semi-government institution GAK.
These developments had little impact on company pension systems. But the instability that gripped the financial markets from the 1990s attracted the attention of regulators and legislators. As one seasoned observer wryly recalls: “From 1945 to 1990 there was hardly any legislation on pensions that concerned the material element of pension funds, for example how high a pension should be, what wasn’t allowed and equal treatment for men and women. But the boom resulted in historically impressive returns and when there’s lots of money sloshing around it attracts politicians. So since then there has been a rash of new regulations concerning investments, the establishment of new regulatory bodies such as the AFM and the increased role for the [pensions and insurance_regulator] PVK.” A somewhat cynical view, perhaps, and others have been quick to point out that the authorities’ were spurred to action not only by the bull market of the 1990s but the subsequent bear market.
Regulatory and legal changes or their prospect have come at a number of levels. In March parliament endorsed a government proposal on raising defining pension funds’ solvency requirements, which will be monitored by the PVK. In addition, a European pension directive is due be implemented from September next year, although the government is still attempting to clarify some issues with the European Commission. And the government is working on a new pensions act, updating existing legislation that is some 50 years old, which it wants to bring into force at the beginning of 2006 but which may be postponed until 2007.
But the sector was unsettled by the report of the Staatsen Commission, a committee chaired by consultant Jos Staatsen which, among other recommendations, proposed a cap on a pension fund’s holding in any one investment. The Staatsen proposals, to be discussed by parliament in September, may result in a new regulation, although probably not before the completion of the new pensions legislation.
“I don’t detect any panic in the market,” says Peter Borgdorff, director of VB, the association of industry-wide pension funds. “The PVK regulations were anticipated but the industry was disconcerted by the Staatsen report. It recommended that the administration of a pension fund might be done by another pension fund as long as the pension fund doing the administration is adequately reimbursed for the service. But here was some confusion over a proposal that the daughter company doing the administration for one pension fund should not do it for another pension fund although an administration organisation can insource for pension funds that are its shareholders. However, when VB asked the government for clarification of what level of shareholding would be adequate for this, it was advised that there was no lower limit.”
Nevertheless, Borgdorff suggests that currently the main outsourcing issue concerns suggestions that it will be hard for small pension funds to operate on their own and that they will be forced to outsource administration and asset management activities. “We are very familiar with the outsourcing of asset management and administration, “ says Borgdorff. “It’s quite normal for most big and small pension funds outsource something. But while some 60% of VB members outsource some of their administration to insurers, other administration companies or among themselves, the figure appears to be stable. A number of our members talk about increasing the level of outsourcing but they have not yet done so.”
Interpolis Pensions director of asset management Herman Bril agrees. “New business is rather limited and it is more a case of a smaller pension fund looking for an insurance solution, where an insurer is taking over the pension fund liabilities, or linking up with an industry pension fund,” he says. “But the market for new business in a large industry or corporate pension fund is not moving that much. This is a very mature market and it’s not like we see new clients every week.”
But others feel that the implications of the new regulations are already being felt. “The complexity of the new accounting rules, regulations and legislation has put considerable pressure on strand-alone pension funds,” notes Bert van de Belt, director of the Metaal en Techniek pension fund, which outsources all of its functions to Mn Services. “And while professional administrators’ pension funds like, say, PVF Achmea have the scale required to ensure compliance, other independents, whether industry-wide or company, have begun to outsource their administration and other specialist functions.”
The outsourcing of pension funds’ investment activity will have been given a boost following minister of social affairs and employment Aart Jan de Geus apparent response in July to disappointing funding ratios for 2000, 2001 and 2002 by questioning the abilities of pension fund trustees and suggesting that a governance code along the lines of the corporate Code Tabaksblatt could be extended to pension funds.
Frans van de Horst, head of Aegon institutional sales, notes that regulators will keep an ever-closer eye on what trustees are up to. “Trustees will become increasingly liable for their decisions,” he says. “From now on they will be required to explain what sort of investment mandate they decided on for their pension fund. For a long time that was not necessary, but these days regulators will want to know whether board members are professional, do they understand the investment mandate, why did they award it, and why did they appoint this or that manager.”
“The changing climate is demanding that pension funds diversify their investments into more specialist areas,” says Jeroen Boogert, a consultant with Nuenen-based Bureau Bosch. “They began by investing in plain vanilla bonds and OTC loans and later they moved into equities. But as the playing field has become more challenging pension funds are struggling to keep up.”
PVF Achmea marketing manager Wouter Meyers notes that government regulatory requirements are increasing the complexity and pace of change “And this is also a great opportunity for us because it makes life harder for smaller funds to perform the functions for themselves,” he says. PVF Achmea is the largest common management player in the Dutch market, claiming about 20% of the market.
Meyers claims that Achmea’s size enables it to deliver flexibility, with PVF offering administrative services and asset management being provided by Achmea sister company F&C, and the recent announcement of the sale of F&C, in a transaction that on completion in October will leave Achmea parent Eureko holding a minority stake in the new grouping, should not change this situation.
“There are huge differences between the funds that we service, and there are trade offs between efficiency and the overheads to meet the peculiarities of the funds. But we go a long way to house the individuality of funds, and this is of major importance. So, we seek synergy where it doesn’t ‘harm’ the fund identity. We hear from our competitors that they require funds to meet certain conditions to fit in with their system but we do not have these rigidities.“
Interpolis Pensioenen, which offers both administration and asset management services, also sees advantages in size. “To be a good pensions service provider you need economies of scale because the investments in ICT infrastructure on the one hand and the scale you need for good asset management on the other require size,” says Bril. “In this world you cannot operate as a fully fledged asset manager with a few billions under management.”
Interpolis’ strategy to gain the required economies of scale has included acquisitions and Interpolis Pensioenen is the result of a series of mergers which over the years have brought together Van Spaendonck, Guo, Datam, Beon and, most recently, Relan. “All these labels will trade under a single name, their branding will disappear and will be fully integrated within Interpolis Pensioenen, says Bril. “Our business philosophy is that we are focused on an integrated product service approach to pension funds. Our aim is to do everything, to take care of both the liability and the asset sides of pension funds’ activities and to support the pension fund trustees with all services. If they want an unbundled approach we would not say no but we always aim to do everything.”
SFB Groep CEO Joep Schouten also sees advantages in bundling. “We see a trend in the market for a consolidation, not of pension funds but for the execution of certain common functions, be it for ICT or the joining together for several contracts, say for facility management or asset management,” says Schouten. “So we are attempting to position ourselves to take advantage of that trend and offer asset liability management to sector-wide and company pension funds. Our intention is to have contracts for at least five years which we offer in a bundled way so that we can do both the asset and liability management, because we are strong believers in the co-ordination between asset and liability support.” SFB, which embarked on a five-year plan at the beginning of this year that targets growth of 30-35%, does not do all the asset management itself. “For example, we can do the fixed income and European equities and outsource the asset management globally for the Pacific Basin, Japan, South America and the US,” says Schouten.
But AZL would argue that size isn’t everything. A recent study found that AZL posted the best z-score results when measured against a benchmark in 2003, outperforming substantially larger rivals. Asset management director Martin Starren notes: “Among our strengths is that we can produce all the figures a pension fund needs on the liability and investment sides on a monthly, and where needed on a daily, basis, so that we can keep pension funds informed of their exact position,” says Starren. “We also have a very good price/quality level.”
Aegon’s van de Horst sees a diversified market looking for a range of solutions. “Smaller pension funds realise that more professionalism is required, but that while they may need a bigger staff they may not be able to afford it, and they also ask themselves whether they want to be bogged down by all that hassle or whether they want to outsource,” he notes. “At the larger end of the market we see a trend where a potential client might have capable teams in fixed income and equities, for example, but may want to have exposure in hedge funds and private equity but doesn’t want to build up expertise in these areas and so decides to outsource that. A more detailed form of outsourcing is that people who run a large fixed-income book and have large in-house teams might just look for style diversification. So there are all sorts of outsourcing drivers out there in the market.”
Jan Bertus Molenkamp, director of account management at Rijswijk-based pension services provider and investment manager Mn Service, agrees that while there are advantages to size, pension funds want varied services. “Clients certainly benefit from the advantage of scale in asset management,” he says. “WM Universum statistics show that larger funds perform better than smaller ones. They allow a greater variety in asset mix, enabling the client to invest more into alternative investment categories, and these have proved to be a great help over the past 10 years. Clients participating in larger funds also benefit from a cost decrease; fees for larger funds are around 0.2-0.3%, whereas for smaller fund fees of around 1% are not an exception. Therefore, there is every reason for medium and smaller sized pension funds specifically to outsource their investment management activities.”
But Molenkamp discerns a tendency for pension funds to want to unbundle the activities they outsource. “They want their investment management to be done by one party, but want to place their pension administration in the hands of others,” he notes. “Pension funds are increasingly reluctant to enter into deals denying them this freedom of choice. Unbundling is becoming a very powerful tool for pension funds. Outsourcing their back office gives clients more leverage with their custodian and that is a definite advantage.”
He says that Mn, which is a wholly-owned subsidiary of metal industry pension fund PMT, has designed its approach around this proposition: “Mn Services offers its clients an à la carte approach. We can offer virtually everything, not only asset management and its back- and mid-office operations, but also pension administration.” Molenkamp is convinced that a flexible approach to outsourcing will assist pension funds to retain their autonomy. “Pension funds have to consider where their core strengths are and what better to outsource. For instance, if risk management is one of their key strengths, it is unnecessary to outsource this. We aim to create a really customised solution. It is important to emphasise that clients maintain their independence to make policy decisions at all times, regardless of the activities outsourced.”
Bas Endlich, sales manager Aegon Pensions, says that Aegon also sees a demand in the market for this sort of flexibility. “As an insurance company we offered more or less only bundled products,” he says. “But with the acquisition at the end of 2002 of Aegon TKP, which administered the schemes of some of the biggest Dutch pension funds like those for Dutch telecom provider KPN and postal service TPG, we have broadened our product range and can offer unbundled services.”
The acquisition of TKP allowed Aegon to fill substantial gaps in its offering. “With us Aegon Group can provide services to large Dutch pension funds, which we define as having more than 5,000 participants, in a plan and on the fund asset management side we supply multi-management funds in the market, which Aegon Asset Management did not offer,” says Jan Willem Baan, asset manager of TKP Pensioen. “In the Dutch market an increasing number of pension funds are looking for someone who can handle their assets, including strategic allocation services, on an unbundled basis.”
Baan says that TKP’s information system “gives us the ability to create a new complex scheme in less than three months and make it fully operational. And when a pension scheme has to be changed as a result of government regulations or tax requirements, we can do that expeditiously so that time to market for a new or improved scheme is very short. On the asset management side, we pool the assets of all of our clients. This is important not only for lower cost and fee levels, but also to optimise transparency for all clients. We have several pools, a couple of equity pools, fixed income and we also have pooled absolute-return strategies (real estate, an equity market neutral hedge fund and commodities). So a smaller pension fund can join us on a very competitive basis just as the larger ones do. They just invest in our existing pools, there are no separate accounts. So we offer all of our clients the same level of quality.”
Aegon TKP also detects a further tendency among pension funds. “We see more funds looking for hybrid DB/DC plans,” says Ernst de Bie, head of pension administration of TKP. “We have clients that are fully DB and a client that is fully DC, but hybrid schemes which are easier to negotiate with trade unions than a full DC approach, so one sees boards looking for a company that is flexible in this area.” De Bie says that TKP sees little chance of a shift towards solely DC schemes: “There will always be a certain DB element, and the negotiation between the social partners will be about where the maximum amount of DB will be. But a move to full DC in the Netherlands is not something that we foresee, although some smaller companies might try. We see them trying to minimise the risk in the DB scheme.”
However, Schouten at SFB disagrees: “I feel that a growing number of company pension funds will switch from DB to DC,” he says.
But does the outsourcing key functions lessen the independence of pension funds? Common service companies argue the reverse. Aegon’s van de Horst notes that outsourcing allows pension funds to get on with their core activities rather than be distracted by other issues. Achmea’s Meyers agrees. “Funds are proud of their identity, that’s their raison d’être and we help them to be themselves,” he stresses.
In practice, it is not easy unpick a relationship with a service provider. Industry-wide hotel and catering pension fund Horeca en Catering Psf is in the process of repatriating some of its administration. “Currently we handle the administration for the sector’s employers in-house, but the administration for the employees, for the benefits, is handled by PVF Achmea but from 2006 we intend to insource the totality of the administration,” says Horeca en Catering director Eric Uijen. “The present situation gives rise to certain elements of confusion. Employers pay us directly but when employees want information they have to contact PVF Achmea. We think that when we integrate all of the administration it will be more efficiently and transparent. We considered putting all of the administration with Achmea but rejected it, largely on the grounds of cost. PVF Achmea wants to make a profit but we are a non-profit making organisation and our goal is to pursue fair value. Nevertheless, there is a considerable amount of work involved. We have to build a new organisation, set up our systems and IT, relocate to a new office and ensure that all of the data to be transferred is correct. So it’s a complex project.” Achmea’s F&C will continue to manage some of Horeca en Catering’s assets.
The relationship between common service providers and their clients is always sensitive, and nowhere more so than when handling the connection between the social partners and the pension funds. “TKP stands back while they negotiate,” says Baan. “What we can do is advise them in a technical way, pointing out that if they move a little to the left or the right one could more easily handle a scheme to make it operational.”
SFB’s Schouten agrees. “It is important to ensure that there is a level playing field, that there is a power balance between the professional common manager and the pension fund board. So we try to make them aware of the necessity to upgrade the technical ability of members of their staff so that they can be sure to get what they want from us and can inform us of what they want. In our opinion when that’s not there it’s bad for their business and for ours.”
And clearly diplomacy is also important in the relationship. For Achmea’s Meyers “the trick is not to get in between the social partners but rather to be a lubricant”. Speaking from the point of view of a pension fund, Metaal en Techniek’s van de Belt says: “Working with social partners requires an understanding of how the whole system functions, of how people negotiate together and of what the rules of the game are, and you can’t find those rules in a book. It’s a matter of experience and obeying those rules and the main rule is that you must be impartial while at the same time you can’t be neutral. Neutral means that you don’t have an opinion but being impartial means that you can look at facts and developments, and then formulate an opinion. You have to be able to talk to both sides and to retain your integrity you must tell them not what you think they want to hear but what is right.”
And the future of outsourcing? All the players see the sector as being dynamic. SFB’s Schouten sees the importance of pension funds being able to make a service-level agreement with their common management company so that it is clear to both parties what is to be done and what is the cost. “Some have those possibilities available already, others not,” he says. “But I think that that will be the trend. This also requires an activity-based costing system so you can see which activity is done by the manager and at what cost.
“Another trend is that the consultancies will grow in importance, and they will have a greater say in recommending to pension funds which is the best insourcer, how to make a service-level agreement and how to outsource,” Schouten adds. Aegon’s Baan agrees. “Consultants force outsourcers to be more transparent about their service levels, prices etc. Every service has to have its own fair price, and that’s what we like. You have to be more competitive, you have to be better.”
Maarten van Ginkel, an FS-audit partner at consultant PricewaterhouseCooper says that consultants have two roles: “We help clients to define just what are the knock-out criteria that have to be met when they ask for tenders from diverse outsourcing agencies in the required areas. And a second and growing role is that consultants working with these proposals not only do desk research but also check with pension funds - and us as auditors - who already work with outsourcing agencies whether the agencies live up to the claims that they make in beauty contests.”
Consultas managing consultant Johan Nieuwersteeg sees an extra role for his consultancy, which in October last year was taken over by Aon Consulting, into the insourcing market. “We are a consultancy, advising pension funds with respect to their risk management, but in addition we have our own administration package so we can administer the pension scheme for pension funds,” he says. In the first half of July Consultas sent a mail shot to all Dutch pension funds inviting them to explore the possibility of it taking over their administration services and it gained positive responses within a week, inviting Consultas to discuss the taking over all of their administration activities which they are currently doing themselves.
And the future of outsourcing? VB’s Borgdorff detects moves to outsource ICT and communications functions. “Pension funds understand that it is important to inform their participants about their rights and what they should do when getting married, having children, in the case of divorce or when they change job,” he says
Achmea Meyers also sees communication as an increasingly important area. “We provide communication to employees and, for an industry-wide fund, to employers,” he says. “We communicate the setup of a scheme, its results and, as pensions are very technical and complex products, so we explain them in a way that an employee can understand”.
More broadly, TKP’s Baan says that he thinks that the changes are only just starting. “I foresee a shakeout and within a few years there will only be a few pension administration companies,” he says. “This will happen in different ways, the easiest will be through the takeover of the contracts when they expire and we expect that this will be the major part of our growth. In the past contracts were renewed as a matter of course but this will change and I expect that there will be fewer players in this market in a couple of years.”
This is also the view of Schouten at SFB. “I foresee that there will be consolidation among common management companies to the point where, for the larger pension funds, there will only be around 10 left in five to 10 years, apart from insurance companies, although a number of smaller players will still be around.”
Van Ginkel of PwC also expects that there will be more of a shakeout but adds “there is room in the market for new entrants too”.