The modern world is in an incredible rush: even old saws develop practically overnight. One such is that the self-invested personal pension (Sipp) market is consolidating rapidly. How can it not be? After all, there have been so many deals. Advisers and Sipp members want to know what all this consolidation means for them – a question that is posed frequently.
Before we assume the obvious truth of Sipp market consolidation is in fact as obvious and as true as we think, we need to make sure we understand what we mean by consolidate or consolidation (see below).
Consolidate and consolidation
• To bring together separate parts into a single or unified whole; to unite; to combine;
• To discard unused or unwanted items and organise the remaining;
• The unification of two or more corporations by the dissolution of existing ones and the creation of a single new corporation.
Source: Barnett Waddingham. Copyright: Money Management.
Next, we need data. A well-known provider of financial information, long established in the Sipp market, revealed something seemingly incongruous at a recent roundtable: the number of Sipp providers has barely changed in recent years, and the number of products has gone up. How can this be if the industry is consolidating?
The answer is simple: for the most part, it is not. Following most deals, the acquired company still exists and its products remain open. Nothing has been discarded, nothing has been combined. Therefore, the data provider continues to maintain its records.
Terminology
So, in many cases, we have been using the wrong word. “Acquisitions” would be a more appropriate one: the purchase of one business by another. Since the target firms seem to have been in agreement with the deals announced, we could go further and call them friendly acquisitions.
Looking at these deals, the first point to note is that the acquiring company typically assumes the assets and obligations of the other party. Any evaluation of the acquirer now needs to incorporate an evaluation of the acquired, too.
Acquiring companies usually pay a premium on the target company’s valuation to persuade the owners to sell. That is probably not the case for some deals, as they appear to have been distressed sales.
The key evaluation in those cases sits in the first point. Where a premium is paid, the acquirer will need to generate a return on its investment. So the question in those cases is how are they going to do that?
The nature of acquisitions
Microeconomics gives us reasons as to why companies are doing these deals: to increase market share, add (or expand) niches and increase overall scale.
Increasing market share is an interesting one. Two Sipp providers may each have a place on an adviser’s product panel. When one acquires the other, they may have an incentive not to merge products if they fear that new business going into one of the products on panel will not end up in the other.
Of course, those compiling the panel will need to decide if they are happy with that. This model is used in other industries. For example, many consumer goods brands are now owned by the same few large corporations.
Adding or expanding niches might fit with the broader picture of vertical integration where platforms, wrappers, advice and, in some cases, in-house investment propositions form a one-stop shop.
However, this does not generally seem to have been the case, as most acquisitions have been of one Sipp provider by another. This is hardly surprising, as platforms typically have their own built-in Sipp wrappers, and most will see adding niches (say, commercial property) as a step in the wrong direction as they reduce scalability.
Increasing scale
The third of the reasons, increasing scale, could be looked at from three angles, all of which I would argue represent highly influential forces of the Sipp market: capital requirements, technology and the number of pension schemes and products.
Acquisition has the potential to bring about reductions in capital requirements in relative and even absolute terms due to the square root function on assets under administration and percentage of book-in non-standard assets.
It is ironic that the new capital adequacy requirements encourage acquisition, even as new risks occur with each corporate action.
Technology is shaking up industries everywhere you look, and Sipps are not immune. Modern systems are needed to meet everything from regulatory requirements to customer expectations. Running, maintaining, developing and training in different systems means replicating considerable overheads.
Even where acquired businesses remain ostensibly separate, there is likely to be a strong commercial motivation to unify systems. This usually comes with considerable up-front costs, a period of disruption and some unwelcome surprises. However, postponing the inevitable tends to mean having more to deal with later.
Scheme numbers
‘Number of pension schemes’ probably struck you as an odd angle – the focus always seems to be on the number of Sipp products, never the underlying schemes – but acquirers will understand its significance. Each Sipp provider will have at least one pension scheme. When you acquire a provider, you acquire a scheme (or schemes) as well as Sipps.
Each scheme and product comes with its own set of overheads: legal, literature, fees, presence on websites and updates every time something changes, which is most expensive in the case of regulatory change (this also seems to be the most frequent source of change).
However, consolidating everything into one product is not easy, particularly when it involves transferring to a different scheme.
Moving clients is a slow, expensive and potentially distracting process and it also opens up the possibility of them moving to another provider altogether. But letting them stay put rules out many of the beneficial or cost-saving synergies of bringing two providers together in the first place.
From Chart 1, we can see that only one of the four options is true consolidation. It could be said to be the neatest, as it genuinely discards as many unwanted bits as possible and bringing the separate parts together in a unified whole: one scheme, one system and maximum efficiency. It could also be said to be the most difficult and expensive option.
Chart 2 contains no-punches-pulled questions that advisers and members might want to put to Sipp providers concerned.
Consolidation-lite
That will lead others to close old products and maximise returns on them by minimising expenditure, which is what I refer to as consolidation-lite.
As far as new business is concerned, it has the same appearance as full consolidation, but under the surface the old products still remain. Whether those in the now-legacy products will notice a decline in service or products becoming less attractive compared to newer ones will be a question for them to ponder.
The desire to avoid running legacy books will lead some providers to try and find a third way, perhaps moving different businesses and their respective schemes and products across to one common IT platform across their group.
This route is less disruptive in some regards, but whether it will deliver enough returns is open to challenge – it may be an attempt to have it both ways that later ends up with a move to one of the above-mentioned options.
The last option, and the one that is least likely, is to leave things as they are and run operations in parallel. I cannot see the implied savings on the cost of capital through a reduced capital requirement as being enough to make sense of this option.
However, it is the only option that does not bring new risks in exchange for a lower capital requirement, so presumably the regulator would be in favour.
Andy Leggett is head of Sipp Business Development at Barnett Waddingham
