I was recently criticised by one software supplier for describing them as small in our Professional Adviser technology column. I hadn’t done this to insult or demean them, in fact quite the opposite. In the context of the article I was trying to convey that they were nimble and that all their clients really mattered to them and received responsive attention and service. However, the comments did start me thinking.

The big companies have deep pockets and can, if they choose, weather difficult market conditions. They also have access to wider resource pools to help on big deliveries and have the ability to pour substantial R&D budgets into new solutions. The benefits are significant if large corporate projects with substantial amounts of bespoke development are being considered.

It would be a mistake however to think size brings with it certaintly of stability. The cost bases of larger companies are frequently a lot higher and when markets move against a company or product, then these companies may have less scope to reduce them and can quickly become vulnerable. It is particularly true when discussing a division of a larger company where the relative size compared to the overall organisation is very small. I once worked for AT&T, a huge global company, which had a reasonable presence in financial services in the UK (owning a third of The Exchange at the time). However, the relative size of the UK business compared to the US was so small that it closed the UK operations virtually overnight without batting an eyelid and leaving some clients poorly served.

Some of the smaller companies – if focused on a niche area, may actually have more domain knowledge than exists in much larger organisations and may be closer to the clients and more nimble in how they respond to market opportunities. In terms of financial longevity, some relatively small firms have a substantial user base and therefore will always be of value in the market and even if they hit hard times, a competitor may buy them to access the user base.

The bottom line is for product-based companies, I think size is not of over-riding importance, as long as a critical mass of clients is reached and as long as the company is in good financial health. If the companies product and service is compelling and the management team is sound, then success and longevity should follow. For service delivery organisations, size does become important and prospective clients would do well to check that the resources of development partners are not going to over stretched before they contract with them. So, back to the company that took offence at my comment about them being small, perhaps their repost should have been – ‘they don’t make diamonds as big as bricks’!

Last week I mentioned that Dan Waters of the FSA, had commented in a speech to a McKinsey’s Conference about Wrap and the FSA’s forthcoming explanation of their ‘deliberations’. In the same speech, Dan also talked in detail about how the FSA is looking to extend its view of the investment value chain to look at product governance and oversight.

The FSA has traditionally focused its regulatory attention on the point of sale transactions at the end of the value chain. As most of you will know, this includes things like Key Features, Adviser status and commission disclosure, as well as rules on how performance is presented. The FSA has become increasingly concerned that this focus and potential for intervention may be too late, and could leave the door open for more ‘mis-selling scandals’, which they are determined to avoid in the future.

Dan Waters has a specific interest in tackling risk management as he is the first ‘Director of Conduct Risk’ at the FSA. As a result of his view that the regulatory focus may be too narrow, he is looking at how they look more deeply and further up the value chain to include product design and oversight by the product providers (manufacturers). In doing so, the FSA intend to look at the business models of providers to see what the core strategy and drivers of income and profitability are. They will be looking up-stream of the point of sale including product development and marketing, as well as down-stream at post-sale handling and servicing. Whilst you may think that this would be covered and motivated by the obligations of TCF, the FSA seems to be unconvinced that Providers are designing products that add customer value or address real needs. Dan Waters believes that Providers are focused on designing what can be sold, or trying to beat a competitor, rather than trying to meet the needs of the consumer first and foremost.

How will this extension of supervisory scope manifest itself? Well it would seem that the FSA will be looking to test consumer outcomes (and/or see what testing the Providers have done?). They will be looking at stress and scenario testing to see what type of customer is and isn’t appropriate for the product and checking to see if the Provider has been clear about what the product does, who it is for and if certain key characteristics such as the nature and scale of risks is properly presented. The stress testing should look at a range of market conditions that could trigger certain product features that may not be immediately obvious or expected in normal conditions. The triggering of MVAs on With Profit Bonds in the past was a surprise to some customers (and advisers!) and I expect this is the sort of area that the FSA will want to expose as a potential risk. The process should be part of a systemic and objective assessment that is built into the existing supervisory framework.

Some may fear that this interest in the product governance and design is leading to a situation similar to some EU Countries which regulate product design. Dan Waters said that this wasn’t their intention. However, it is clear that whilst the spotlight on distribution is not changing, the spotlight is going to be extended to look at the products themselves and the motives and behaviour of the manufacturers. RDR is likely to cause some Providers to redesign parts or all of their product portfolios. In doing so, they should bear in mind that the FSA is going to be keeping an eye of what they build and why, as well as how it is sold.

Countdown

Well here we are, already one month into 2010 and with just under 35 months to go before the RDR deadline of December 2012! It may be that there are many out there thinking this is still a long way off and with the World Cup and the Olympic Games being ahead of the RDR deadline, some may be lulled into believing that they can put off dealing with how they should respond until a later date. However, what we shouldn’t ignore is that the FSA is not showing any sign of moving the date or ‘softening’ the requirements, and the implications of change are potentially huge. To be fair, the FSA has still got to provide the detail in a number of areas and they have been criticised by advisers and providers for not having done so more quickly. They probably deserve this criticism and whilst all parties have a tendency to be defensive, the FSA has been rightly critical of some in the industry for delaying the start of the transition process.

As we have said on a number of previous occasions, the RDR isn’t going to go away – even if there is a change of Government. And, even with 35 months to go, the size of the task should not be underestimated. From a number of our regular conversations with managers in Distributors, Providers and Technology suppliers, it is clear that some people either haven’t read, or haven’t understood the requirements and implications. Some people still think that ‘Restricted Advisers’ will be able to get some form of commission based remuneration – reasoning that with a single tie, there is no product bias influenced by commission, so it must surely be ok. Whilst it is still not entirely clear how the articulation of the charge for advice will be calculated, the FSA is still insisting that the charge will be separate from the product price, that it will not be a ‘generic’ percentage and that it will need to be explicitly identified as a monetary amount. The challenge and potential complexity will be how to account for basic salaries, bonuses (which can’t just be for selling a product), and other remuneration elements. Will large distributors (Networks and Bancassurers) be able to negotiate such significant product pricing discounts as to make it difficult for smaller firms to compete. The issue that distributors need to consider is how they will respond when the FSA provides the detail, or to consider what their preferred approach will be beforehand and then communicate that directly to the FSA or lobby their trade body now.

Given that providers cannot offer ‘factoring facilities’ will the Networks try to do so, or will we see lending facilities being made available to customers to pay the fees in the same way as we have seen the GI market use these arrangements to fund the monthly cost of premiums.

With so much attention being focused on the distributors, it is easy to forget the Providers – manufacturers – of the products. Is the ‘factory-gate’ price as simple as ‘zeroing’ the commission? Some seem to think it is… However, Providers will need to look at what options they allow for offsetting the Adviser Charge against the product. Do they offer a wide or narrow range of options – the latter could be construed as Provider influence? How are illustrations going to show the effect of the options on benefits over time? What will they do, or be expected to do when a client cancels a plan or changes adviser? How will providers identify, monitor and report against the ‘decency’ test of Adviser Charging (especially when they don’t have all the facts in relation to what has been agreed between the customer and adviser)? Will the current number of Providers be able to compete in a more transparent world of ‘factory-gate’ pricing or will we see significant consolidation? Will they focus on niche products or will they be more generalist and use their brand to support either a single or multi-tied model to distribute their products? Will it just be a case of selling existing products with minor tweaks, or will a major redesign be needed? Will different products be used via different distribution channels… less ‘bells and whistles’ for Simplified Advice routes to market? Will anyone seize on the opportunity to manufacture more Stakeholder products?

What software will be needed to support truly holistic advice, what will be the role of Platforms – something still awaiting an FSA response (commented on by Dan Waters this week). What systems will be needed to try to cater for Simplified Advice and what opportunity is there for technology to support Basic advice business distribution?

There are lots of questions and the answers are not always known or obvious. AT8 is helping a number of providers, distributors and technology companies navigate through these issues. We believe that all parties should be considering them now and not just looking at the ones they think affect them most… the decisions of others may affect the conclusions that different parties reach at a given point in time, so there is some iterative ‘what if’ thinking to take place if it hasn’t already started.