Magazine Issues » November 2010

CEO RISK: feeling the heat

fireman_blazeCEOs cannot be expected to know about everything within their companies, but they will have to take responsibility for any mistakes made.

It is vital that CEOs have a handle on risk factors, writes Fiona Rintoul. When Tony Hayward, the former CEO of BP, went before Congress earlier this year he was asked about safety at BP’s drilling sites. “With respect, sir, we drill hundreds of wells around the world,” was his answer.

The implication is that CEOs cannot know everything that is happening within their organisations all of the time. Although this may be true,  there will be no sympathy from politicians and the public.

At our Funds Europe CEO roundtable (see p24), we asked  guests to outline what they considered to be the main risks in the asset management industry that CEOs need to keep at the front of their minds. Here we pick out the main points and add some input from CEOs not present at the roundtable.

One point on which most panelists seemed to be agreed was that an asset management company would not be run by someone like the former BP chairman in the
first place. Hayward came to BP from Ericsson. His experience was in the telecommunications industry and he knew very little about the energy industry. Finance has long been considered to be the exception that proves the rule when it comes to the business guru’s theory that if you can sell soapflakes you can equally sell cars or chocolate bars, and nowhere is this more evident perhaps than in the fund management industry.

At the Funds Europe roundtable, Hendrik du Toit, CEO of Investec Asset Management, pointed out that fund management CEOs tend to understand their equivalent of oil wells a lot better than the CEO chairman. That’s because fund management businesses tend to be “smaller, flatter and more simple”.

Robert Parker, a senior adviser at Credit Suisse, agreed, suggested that asset management firms that are not managed by people who know the industry well do not thrive.

“In asset management you have firms which are managed and run by long-term people who’ve grown up in the asset management business and these are the firms that tend to thrive,” he said. “Asset management firms that are taken over by investment bankers or people outside the industry don’t do so well, or sometimes fail. It’s the same with the banks.”

Since most asset management companies are run by long-term industry people, the risk here, then, comes primarily from the outside in the form of takeovers. In the wake of the consolidation prompted by the global financial crisis, it’s an ever-present danger.

Takeover trouble
“There is some poorly conceived and executed M&A activity that takes place within the industry,” noted Todd Ruppert, president & CEO of T. Rowe Price Global Investment Services. He could only think of two models in the asset management industry where acquisition activities had worked, he added. “One is Allianz Global Investors and the other is Bank of New York Mellon,” he said.

There’s agreement here from some of the CEOs we spoke to after the roundtable. Edouard Carmignac, CEO of the hugely successful independent French asset manager Carmignac Gestion, believes many companies that have been part of big mergers will struggle to satisfy their clients’ product needs.

“For some of the largest asset managers, mega mergers mean a more standardised product offer,” he says. “The main challenge for those players is to meet their clients’ demand for a truly active portfolio management after two major stock market crises.”

Willie Watt, CEO of the Edinburgh-based independent asset manager Martin Currie, also emphasises the importance of delivering on product promise, and argues that an independent business is best placed to achieve that.

“There are two key strategic risks associated with this objective,” he says. “The first is around our people. We have to create an environment that attracts and retains the best talent available and then enables them to do their best work. As an employee-owned business we are in complete control of these drivers, with control over our culture, business strategy and reward structures.”

The second risk, says Watt, is ensuring a culture of “client first”. This means “a full alignment of interests between the firm and its clients and includes practical steps such as clear and transparent approach to capacity management, a focused range of products and responsiveness to our clients needs” – circumstances he believes are easier to achieve in the employee-owned model.

“While all asset managers face common risks, there are particular risks associated with different corporate structures and business models,” he says. “Our long-held view is that the best model for this industry is an independent and employee-owned business as this helps to fully align the interests of the employee, shareholder and client.”
For Carmignac, “being surrounded by the best talents” is also a way to mitigate against the unpredictable bête noire that is market risk.

“The major risk for an asset manager is not to anticipate economical trends and macroeconomic imbalances early enough, especially in a high-volatility context,”
he says.

Talent is the only way round this problem, or perhaps better put: talent combined with courage.

“Being able to transmit one’s investment style made of courage and audacity, freedom and discipline, as well as consistency, is the best way to ensure the quality of fund management in the long term,” says Carmignac.

Key man risk
Another risk, highlighted by Parker during the  roundtable, is that of having a business that is overly concentrated on one or two individuals: so-called key man risk. Again, this is more likely to affect smaller, independent firms.

“[This] is very relevant to certain firms in London at the moment,” Parker said. “If those guys either leave or they have a performance accident or a regulatory problem, your business gets damaged.”

At the same time, Carmignac sees risks for big firms from open architecture, whose huge potential they might underestimate.

“They are losing their grip on captive clients which their parent companies have historically provided them with and already have to face a tougher competition with independent asset managers, some of them having benefited rather than suffered of the crisis of confidence,” he says. 

For big firms, there is also the dead hand of bureaucracy to worry about – a killer in a people business such as asset management, according Pierre Servant, CEO of Natixis Global Asset Management, speaking at the roundtable.

“Our business is a people business; to make it work efficiently, you need a lean organisation, a quick decision process and an understandable strategy, specifically in a multi- boutique organisation, which is rather complex. We need to keep this at the forefront of our priorities.”

Many of these risks could be brought under the umbrella heading of reputational risk, which was discussed at length at the roundtable. “Our business is about confidence and trust and if you have a serious reputational accident, you have an enormous problem from which it’s very often impossible to recover,” said Servant.

Parker, however, pointed to a more concrete explanation for firm failures: poor management of the balance sheet. “A classic example was the failure in London of New Star; why did New Star fail? It failed because it put massive leverage onto its balance sheet,” he said, predicting that the accidents over the next two to three years would be among “those private equity guys who over-leveraged in 2007 at the top of the market”. 

The other big risk discussed at the roundtable was regulation, which as Watt points out, is a risk over which asset management firms have little control.

“In assessing our strategic risks my focus is entirely on what we have to be aware of in ensuring that we deliver for our clients,” he says. “These can have external and internal drivers and some of these are risks that we can mitigate, some we need to interpret and manage and lastly some, such as regulatory change, we have to react to.”

A particular regulatory concern discussed at the roundtable was the protection of the Ucits brand, which some feel is under threat, for example from the more complex ‘Newcits’ funds that it’s possible to launch under the Ucits directive.

“There is a risk of over-regulation and poor regulation,” Elizabeth Corley, CEO of Allianz Global Investors Europe, said at the roundtable. “There is also a risk that the value of the Ucits brand is not preserved and not respected as very precious by the industry. The active management of the Ucits brand is really important.” Corley also highlighted a potential – and probably unintentional – danger contained in Ucits IV, which is that when it comes into force in July next year it will make merging and closing funds more difficult. This will thwart longstanding attempts to rationalise fund numbers in Europe and offer a better deal charges-wise to clients.

“We’ve got a window of opportunity until then,” said Corley, noting that Ucits IV was broadly a good piece of legislation.

©2010 funds europe