The consolidation of Australia’s custody industry has taken another step forward. Earlier this month, Commonwealth Bank finally announced, after weeks of uncertainty, that it had sold the custody contracts of Commonwealth Custodial Services’ (CCS) clients to National Australia Bank.
The deal, done by way of novation, confirms the National’s position as the largest player in the Australian custody market. CCS had up to $30 billion in assets under custody and administration in Australia, which bolster the National’s figure to $265 billion and gives it an edge in a business where scale is paramount.
The Commonwealth and National are now working on a migration plan and say the first client transitions are expected to take place once super funds complete their 2002-03 year-end reporting commitments. To manage the transition as smoothly as possible, National has set up a dedicated transition team which will work closely with CCS and its clients.
No doubt, however, other rivals in the custody market will be just as busy as they target CCS’s client base.
Most CCS master custody clients contacted by Super Review in mid-May said they were adopting a “wait and see” approach and would make a decision after a deal was signed.
However, some like the Local Government Superannuation Scheme, the Energy Industries Superannuation Scheme, the Shell Australia Superannuation Fund and Local Authorities Super Fund (Victoria) weren’t going to sit around twiddling their thumbs and began their own tender processes for new master custodians.
“We wanted to control our destiny, but it was time to go and tender anyway because our contract had expired,” the Shell fund’s secretary David Allen told Super Review at the time.
Local Authorities Super Fund (Victoria) CEO Rob Brooks added that his fund, which is running its own tender, was part of the group that ended up with CCS when State Street pulled the plug on its Australian superannuation custody operations. “We’ve been there, done that,” he said. “We did not run a tender then because that deal happened so quickly and we had other issues at the time.”
In the bigger scheme of things, the CCS sale is viewed as an extension of the consolidation trend that has gripped the custody industry in the last few years, and is most unlikely to herald its end.
Last year, French group BNP Paribas bought Cogent from AMP. Other moves have included the sale of BT Portfolio Services to JPMorgan Chase in 2000 and the Royal Bank of Canada’s (RBC) purchase of Perpetual’s custody business.
RBC Global Services regional vice president Stephen Bowhill says: “There will be increasing consolidation in the custody and funds management market, even after the CCS deal. Custody is a specialised business which requires scale. We believe that only those players with global scale and strong local service will prevail.”
JPMorgan director of investor services Graeme Arnott adds: “There’s a global trend towards consolidation in the custody market and Australia is only catching up. Will there be more? Possibly! It would be a brave person who would say it’s finished.
“The Superannuation Guarantee underpins growth in superannuation assets, but in the true global sense, the market is not sustainable. It is still over-serviced.”
The past two years of poor investment performance has made life tough for the clients of custodians as their funds under management contracted. This has rubbed off on custodians, who also suffer when interest rates are low, as there’s less spread on the cash they hold for clients.
“We are feeling the pain as much as our clients,” says Bowhill.
“In the past, growth has been much faster,” adds Arnott. “But it’s not catastrophic by any means. This is not an annuity business. It’s an annuity-like business. It does have some level of market sensitivity, but the fee structure is made up of both fixed and value based activities.”
Commonwealth Custodial Services (CCS) senior manager Rob Brown concurs. “Custodians are not quite as exposed as investment managers because their fees are not just asset related. But when the market falls in value, there are also lower transaction volumes.”
But, notes Brown, while falling markets do have an impact on master custodians, clients still require other services like month-end reporting in areas like accounting, tax and performance measurements.
Because of the small size of the Australian market, Brown believes that industry players are more interested in types of clients rather than which segment they are from.
“We’ve come full circle,” he says. “Before, players said they were only into, say, back office. But now there’s a new flexibility of strategy in keeping with the small size of the market and service providers are looking for attractive clients.
“If you go for a segment of the Australian market, you end up with a small space in which to work, perhaps only 10 prospects.”
“There’s a growing realisation among the service providers that not all clients are the same. As a result, differential pricing of services could be a feature of the market going forward,” says Brown. “There is also increased service commonality between the fund manager space, including master trusts, and super funds. Super funds are now increasingly offering member investment choice so they are starting to look more like master trusts.
“It’s no longer just about a back office or a super fund focus. There’s a lot more deliberate service capability across segments. The blurring occurs around super funds needing more frequent valuations or unit pricing services.”
Brown says there is a small amount of untapped master custody business out there in the form of various government organisations, charities and endowment funds which haven’t yet used master custody. But not much, and now it’s a pretty established market.
The opportunities lie in up-selling services and in servicing the innovative end of the superannuation market where funds are trying to offer more sophistication to members, such as greater choice and rapid switching facilities.
“Industry funds and public sector funds are looking to be more competitive. They already speak for billions and they provide opportunities for service providers who give more than the basic custody services, such as more frequent reporting, unit pricing, better information flows and member investment choice.”
Some custodians are also targeting smaller prospects. Indeed, Trust Company general manager of fund services John Wall reports that some of the bigger players are moving into the niches that his group has positioned itself in, where clients have assets up to $1 billion. “They are moving into this market because the market is very tight at the moment. There’s not a lot of opportunities to win new business,” he says.
To boost their business, key players have been looking for more areas of specialisation and niches.
Arnott believes that one area of potential is the start up fund manager market, but he adds: “I don’t think that niche markets will exist without users being able to pay appropriately. That’s a bit of a drain for start up fund managers.”
Growth areas also include master trusts, as well as introducing value added services to cater for the increased focus on corporate governance and risk management.
Brown says there is certainly a heightened focus on efficiency among custodians. “The challenge for custodians is to ensure that they are employing the appropriate technology and trying to keep technology spending up when revenues are soft,” he says.
“Custodians as a segment also needs to attract and retain good people. It’s not just about technology. This is still a people’s business. Clients need guidance and personal contact.”
