The hidden cost of complex Distribution networks and agreements
Asset managers have woven complex networks with national and regional Distribution partners over many years. The lifeblood that sustains these networks is Distributor payments – trailer fees, retrocessions, commissions and rebates.
To further complicate matters, Institutional clients subscribing directly to funds also seek rebates and concessions that reflect their overall business with a manager which requires a total view of client that many managers find complex to accurately calculate on a quarterly basis let alone monthly or ad hoc before an important client meeting.
Distribution relationships and the commercial agreements that underpin them typically span many years and certainly outlive the people who originally agreed to them. They need constant updating to reflect new marketing campaigns, changes to regulation, new product launches, and fund closures. They are further complicated by mergers and acquisition activity affecting the counter-parties on both sides of the agreement.
Although part of the problem is being regulated away with the advent of clean share classes, managers are obliged to honour legacy agreements which are incredibly complex and expensive for managers to calculate and control.
$1 mn of annual cost savings at the fingertips of many managers
The cost of errors is high. Alpha’s research estimates that over a five-year period, an asset manager with AUM of $50 Billion or more and wholesale distribution operations in UK, EMEA and Latin America, incurs $1.2 mn p.a. from some or all of the following:
uneconomic commercial terms
Zombie rebates ruin relationships and reputations
Furthermore, in our experience, a typical asset manager also unknowingly accumulates ‘zombie’ rebates; i.e. payment liabilities lurking outside of financial accounts due to incorrect calculations that rise from the dead to hit cash flow and margin, consume management time, ruin reputations and relationships and end careers.
By the time applicable interest and penalties are added in, these hidden liabilities on average add up to $10-15 mn in a 5 year period for the same $50 Billion manager, . When a ‘zombie rebate’ (euphemistically described as ‘P&L events’ by one Manager) they are akin to a ‘financial lightning strike’ especially if identified at a moment that coincides with year-end or earnings calls.
Across the industry, after allowing for regional differences this adds up to $220 million of avoidable costs across the top 400 managers. Given an average P/E ratio of 15 the prize for solving this problem is a $3 Billion boost in the aggregate market capitalisation for shareholders.