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All funds technically ‘not for profit’
All superannuation are technically ‘not for profit’ and the classification between ‘retail’ and ‘industry’ represents functional segmentation, according to actuarial research house, Rice Warner.
In an analysis published this week, Rice Warner made the point that while the retail superannuation fund segment did operate with a commercial motive, the funds themselves did not make profits and, rather, profits were driven by the margins on the services they provided to the fund such as financial advice, investment management, and life insurance.
“The introduction of FOFA [Future of Financial Advice] and MySuper has had an impact on the business model for retail default funds and the product pricing has reduced considerably,” it said.
“While the suppliers of similar services to an industry fund also make profits, they are selected through tenders and are often unrelated parties.”
The Rice Warner analysis said the strict application of the sole purpose test made it difficult for superannuation funds to diversify their services within the fund with, for example, funds unable to provide banking products to members because such a service did represent a core purpose.
However, it also said that as the assets of the superannuation industry grew, there would be increased calls to use the assets for other purposes.
“Provided the investment strategy is not weakened, the funds will continue to broaden their asset classes in much the same way they have done over the last two decades – think of emerging markets, infrastructure and private equity,” it said.
The Rice Warner analysis said all superannuation funds wanted to provide a greater number of services to members and while this was costly, there was an argument to allow beneficial investment in some entities, even if they didn’t always provide a full market return to members.
“A good example is financial advice where the service helps to improve members’ retirement outcomes,” it said.
“Usually, this diversification means building extra resources in-house, which increases fees for members. Alternatively, funds can invest externally in software for their planners or in separate advice business.”
The analysis said that as funds diversified they could buy or rent the extra services or they could outsource completely to expert businesses, all of which increased member fees.
“However, there are cases where funds choose to invest in strategic assets which deliver some non-investment benefits for members in a different way,” it said.
“In a commercial conglomerate, these might be held by a related-party business and the trustees would ensure the service is purchased at a fair price.
“With all other funds, the trustees lack the capital to buy these entities so some have purchased them on behalf of the members as private equity investments. Most of these will provide a commercial return but some could only be justified by including various non-tangible benefits for members.”
The analysis said that as the superannuation industry expanded, these types of investments would grow and trustees would occasionally have the dilemma of a non-superannuation business failing to provide a satisfactory investment return.
However, it said that is such a business was still delivering some important member benefits, it would be difficult to divest.
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