July-August 2011

INSIDE VIEW: A peek beneath the surface

SubmarineManual processes to calculate fee rebates are not only outdated but prone to error. Chris John of Bonaire looks at how a regulated and centralised system can assist all parties involved.
Following on the heels of the global financial crisis, regulatory bodies across Europe are implementing legislation that heavily pressures fund and asset management firms to provide fee transparency. From the retail distribution review (RDR) to packaged retail investment products (Prip), firms face a new environment in which fees, fund rebates, and retrocessions must be calculated in an accurate and timely fashion. However, being able to correctly calculate and manage fee rebates is a much more complicated and error-prone process than it should be. Most fund managers are utilising manual processes (that is, Excel spreadsheets) to track distributor relationships and calculate associated rebates and retrocessions. As a result, when distributors tally up the total fees owed, often fund managers are not 100% sure that the fees calculated are accurate. While to date this process may have been suitable enough, new regulation will require funds and asset management firms to demonstrate valid fee calculations and payments or risk massive non-compliance fines and unhappy clients. In a large fund management firm, different groups within the organisation will likely have implemented a robust automated solution and process of some kind, from sophisticated order management systems to comprehensive straight-through processing (STP) solutions. Operations and IT infrastructures are increasingly focused on mitigating human error and operational risk. However, when it comes to fee management, there is still a remarkable lack of automation and efficiency. Much of the fee rebate and retrocession management process is heavily reliant on spreadsheets and manual processes despite the numerous distributor relationships a fund manager must maintain, sometimes upwards of 200 to 300 at once. Typically, a fund manager will receive a quarterly bill from a distributor outlining the various distributed funds and associated payouts. The challenge they face is being able to reconcile the bill with their own internal books and be able to accurately validate the rebates. Without a centralised, automated process, fund managers are often unsure as to the correct amount and, as a result, end up paying the distributors’ bills without being completely sure of their accuracy. Fund managers can be inclined to “look the other way” and are willing to pay distributors’ rebates without question because they are so heavily reliant on these distribution channels to grow their assets and businesses. What does this mean for investors? If fund managers are errantly paying out rebates, these additional costs are passed through to the investor – which means investors may be paying higher costs than necessary as a result of miscalculated distributor rebates. The sea (fee) change
Despite the lack of accuracy to date, the tides are shifting in response to heavy regulation surrounding fee transparency in Europe, including initiatives such as RDR and Prip. As part of RDR, for example, fund managers will need to abide by the rebate contract in place and ensure that all payouts accurately reflect the existing agreement. Fund managers cannot provide preferential terms to any one dealer, and calculations must be consistent across the board. Managers now have a fiduciary responsibility to demonstrate how fee rebate calculations are performed and paid out. The dematerialised mutual fund sales agreement (DMFSA), for example, is an industry initiative to standardise it to simplify the legal and technical framework surrounding the agreement. If all fund managers were to participate in and utilise the standards being set by DMFSA, companies would be better able to “reconcile holdings, report and pay commissions and maintain distribution networks” as the DMFSA states. Additionally, following the economic collapse of 2008, investors are scrutinising fees more closely than ever and fund managers cannot afford to be in a position where an errant rebate payout resulting in higher costs for the investor is revealed to the public. Fund managers have an even greater responsibility today to safeguard their clients’ assets and even a small hiccup may result in heavy fines and forced increases in capital requirements. Finding accuracy through automation
Fund managers are increasingly in search of a solution by which the calculation and reconciliation of distributor rebates is easily and quickly performed so that firms can remain compliant with strict regulation. But how can firms move from manual processes to an automated solution? With improvements in technology for fund managers over the last decade, firms are in an opportune position to leverage the tools at their disposal to implement a central solution for managing distributor relationships and accurately calculating fee rebates/retrocessions. An automated, central solution allows a fund manager to accurately and quickly calculate fee structures and rebates so that firms can manage and optimise third-party distribution. In addition, a central solution would allow for straight through processing of commissions, accrual calculations, gains/losses postings and reversals. By investing in a solution for managing rebates and retrocessions, fund managers will benefit from improved efficiency around operations and be able to reduce organisational costs. In addition, firms will have a complete audit trail which will enable them to demonstrate full compliance with regulatory and compliance requirements. Turning compliance into opportunity
Automating the fund rebates process does not just have to be an efficiency endeavour. Some firms are turning compliance into opportunity by leveraging automated fund rebate solutions to deliver invaluable business intelligence regarding distributor relationships. By being able to quickly and easily analyse distributor data, firms can see which distributors are most successful and with which products. This intelligence allows fund managers to optimise distributor agreements and maximise distributors’ value. If fund management firms could quickly deep-dive into what products are selling best and where, firms would be better able to re-position themselves for growth. In an increasingly competitive environment, this kind of business intelligence may prove to be a key differentiator. Time to reform
Although the fund rebate, retrocession, and fund expense management process has been highly manual to date, now is the time for fund managers to examine and reform their processes in order to better comply with strict regulations and deliver a higher level of service to their investors. The tools are available and the speed at which firms are able to implement an automated infrastructure for the rebate and retrocession process may deliver the savviest firms the competitive advantage. As the economy emerges from recession and investors look at investing more assets, fund managers must seize the opportunity to invest in infrastructure today in order to best position themselves for tomorrow. Chris John is principal and chief executive officer at Bonaire Software Solutions ©2011 funds europe

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