Is Now The Time for Superannuation Funds to Think About Their Operating Models?

The level of change impacting Superannuation Funds is unprecedented. Aside from the deliberate strategies to be more actively involved in the investment of their assets or to improve the quality of member engagement, increased regulatory scrutiny is forcing Funds to implement greater levels of governance. In addition, the Australian Prudential Regulation Authority (APRA) is imposing more onerous requirements on reporting even when the supposed ‘benefits’ of this are, at best, unclear.

The pace and veracity of these changes have generally forced Funds into making tactical responses that, whilst addressing the specific needs, have contributed to a sustained increase in operational costs that ultimately are funded from Members’ pockets. The statistics on this are telling.

Based on publicly available APRA data, the average operational costs incurred by members on a per annum basis in 2004 was A$94. In 2013 this had risen to A$184, an increase of nearly 100%. Whilst this increase has been offset by rising member balances, even as a percentage of assets, operational costs have risen from 0.47% to 0.56% over this period. This is especially concerning given that you would expect economies of scale to be achieved as the size of Funds increase.

Whilst one may debate the merits, or otherwise, of the overhead incurred by increased regulatory scrutiny, this is the new reality for Funds and threatens to further drive operational costs upward. As explained in their report published in April 2014, the Grattan Institute found that more than one quarter of a members total balance could be lost to higher fees and that, compared to Funds in other OECD markets, the costs borne by members are up to twice those incurred overseas.[1]

In short, the upward trend for operational costs and fees seems to be at odds with the desire for regulators, government and industry to offer more affordable Superannuation solutions to members.

So what can be done?

Initiatives such as MySuper and Superstream may go some way to reducing costs but the extent of such savings are yet to be proven, particularly given the significant IT spend that has been required to implement these. Also, Fund mergers have been an historical means to achieve scale but the pace of these appear to be slowing, especially as Funds cement their own identity with Members through initiatives such as improved member engagement.

In addition to these well publicized initiatives, we believe that addressing business changes through a strategic framework such as a ‘Target Operating Model’ can go a long way towards reducing ongoing costs.

What is a Target Operating Model?

A Target Operating Model ‘TOM’ presents an optimized view of business processes, systems and organizational structure that best enables the strategy, whilst meeting expectations of key parties such as regulators. Typically a TOM will present a view of the business 2 – 5 years in the future and will be coupled with a change roadmap that describes the various initiatives needed to move from the current to target state design. The below diagram describes this concept in further detail.

How Can a TOM Reduce Costs?

By designing and implementing a TOM, a Fund can deliver sustained and material reductions in operational costs by:

1. Questioning the ‘sacred cows’ – by objectively reviewing how things are done, a framework exists to question the status quo. Often decisions have been made in the past that contributes to material inefficiency and costs. Going through a TOM will call these out and will require prior decisions on operational design to be re-validated.
2. Optimising Sourcing of Activities – part of the TOM process is to review (and challenge) decisions made regarding the sourcing of activities. Often changes to sourcing arrangements can deliver big savings. For example, empirical evidence shows that transitioning IT support from an administrator to a specialist IT vendor can deliver upwards of 30% savings in IT infrastructure spend on Funds.
3. Optimising Processes and Removing Silos – By taking an ‘end to end’ view of business activities, processes can be optimized and duplication reduced or eliminated. Often completing a TOM will identify ‘redundant’ processes that are no longer required or are excessive. This is especially the case for activities that have been outsourced but are still duplicated internally in the mistaken belief that this reduces operational risk.
4. Delivering efficiency through technology – By applying an overall view of the required technology and data architecture to the operating model, Funds can ensure that there is complete alignment between business need and technology solutions and that the overall impact on the organization isThis avoids instances where ‘tactical’ solutions may address a specific need but either duplicate functionality resident elsewhere in the business or cause unforeseen impacts on areas tasked with the support of these systems or data.

Implementing a TOM does not guarantee a reduction in costs for Funds but by taking a structured approach to operating model design, it will give them the best chance to ensure they are doing all they can to adapt to change in the most efficient and effective manner.

[1] Super sting: how to stop Australians paying too much for Superannuation – Jim Minifie, Grattan Institute 2014