Submissions - Trust Company of Australia Limited
REVIEW OF THE MANAGED INVESTMENTS ACT ("MIA") 1998
Trust Company of Australia Limited ("Trust Company") is an ASX listed financial services company with operations spanning Funds Management, Superannuation, Financial Planning, Trusteeship and Custody. Trust Company's experience with the MIA is extensive. We are a licensed Responsible Entity under the MIA. We are a specialist Property and Infrastructure Custodian to over 20 licensed Responsible Entities in relation to around 40 Registered Managed Investment Schemes. Several of our senior executives serve on Compliance Committees in relation to over 30 Registered Managed Investment Schemes. These various responsibilities relate to over $15,000,000,000 of investors funds.
For ease of reference, in making our comments we have adopted the format of the Minister's Terms of Reference for the review of the effectiveness of the arrangements for the regulation of managed investments introduced by the Managed Investments Act 1998 contained in Chapter 5C of the Corporations Act 2001.
Have the arrangements delivered benefits in terms of:
- better protection of investors' investments
There is no solid evidence either way. There have been no substantial failures of Managed Investment Schemes or Responsible Entities since the introduction of the new regime in July 1998 and its progressive take-up till June 2000. For the vast majority of funds the post MIA Transition period of experience is less than 18 Months. On the face of it, this record could be argued as a positive outcome however it is hardly comforting. Conditions in investment markets generally have been such that the system has not been put under stress. There is definitely less for investors to recover against due to the decrease in the PI and assets of independent trustees that were removed.
Whilst there is no compulsory separation between management and control of assets unnecessary risk exists.
The Wallis report and the proponents of the MIA pointed to harmonisation of Managed Investments and Superannuation regulation. The MIB Explanatory Memorandum stated at 2.2(b) "The two tier structure for managed investments regulated under the Corporations Law is inconsistent with the single responsible entity concept, which has been the basis for regulating managed investments under the Superannuation Industry (Supervision) Act 1993 (SIS Act) since 1994." The March 1998 Report of the Joint Parliamentary Committee on Corporations and Securities on the Managed Investments Bill of 1997 noted that "The Bill will harmonise the regulatory framework for public offer collective investments and superannuation by bringing the structure of collective investments into line with that of superannuation funds." The SIS regime with seven years of history boasts some noteable and continuing failures that are on the public record.
- greater certainty as to the responsibilities, obligations and liability of scheme operators (known as `responsible entities' under the legislation)
This can only be tested where there has been a failure and the resulting litigation has run its course. Without a substantial failure and the subsequent litigation it is not possible to conclude that there is greater certainty as the introduction of Compliance Committees, Responsible Entity Custodians or RE/related party Custodians and Compliance Plan Auditors (who appear to be exclusively from the same firm as the financial auditor of the scheme) provide a source of potential new defendants or cross defendants in claims by injured investors. Our observation of the conduct of plaintiff lawyers would suggest that every possible defendant would be added to the statement of claim in the event of litigation. Assessment of the relative contributions of the respective parties to the loss that is being actioned will remain a lengthy, costly and tedious process that will likely involve Government if the SIS experience is any guide.
- the rights of investors in managed investment schemes
Investors have no additional rights under the MIA to those they enjoyed under the old Prescribed Interest regime. The MIA relies on after the event audit of RE actions. The emphasis is on after the event detection and correction rather than prevention. The regulators are reliant upon establishment of a compliance culture within fund management groups and voluntary disclosure. The threat of random surveillance by the regulator and substantial penalties and corrective measures represent an incentive to comply that is not materially in advance of programs that were in place under the previous regime. Larger involvement of the regulator is an essential element of the MIA. There is no evidence of additional on-going funding of the regulator to accomplish this objective.
MIA has had the effect of entrenching management. For investors the removal of an under-performing manager is more difficult due to the changed voting requirements and furthermore the Responsible Entity is itself charged with arranging the necessary member meeting rather than the independent trustee of old.
Another area of reduced protection is that under the MIA there is no third party scrutiny of related party dealings by the Responsible Entity. Under the previous regime trustees scrutinised such trades.
- reducing the costs of investing in managed investment schemes
Anecdotal evidence suggests the vast majority of Fund Managers have taken the former trustee's fee in addition to their management fee. The substantial costs of the transition to the MIA including the establishment of Compliance Plans, Compliance Committees, retaining of Compliance Plan Auditors, installation of Compliance Officers and the maintenance of this previously non-existent compliance infrastructure will be a further on-going burden to Managed Investment Scheme Members.
Whilst the IFSA has come up with a limited survey by KPMG based on publicly available Management Expense Ratio data Ms Ralph, the IFSA CEO is quoted in "Money Management" on 5 September as saying, "There were a variety of drivers that would have driven MERs down such as competition, however, the introduction of GST and the Managed Investments Act drove it back up." One must ask why the IFSA did not survey its own members if information was difficult to source from public documents. Apparently the KPMG Survey showing a 6% reduction in Fund MERs covered the five year period to 30 June 2000 which effectively excludes arguably the bulk of the MER effect of the transition to the MIA regime. KPMG claims a 2% (or 3 basis point) decline in the total weighted average MER from 1 July 1998 to 30 June 2000. What a pity the IFSA brief did not extend to 31 December 2000 or 30 June 2001 to capture more meaningful figures. As all good investors know timing is vital!
The Financial Impact Statement for the MIB at 3.1 made no attempt to quantify transition costs that have proved to be substantial. At 3.2 the Treasury assumed savings involved in abandonment of the trustee's fee. The vast majority of fund managers have simply accepted the trustee's fee in addition to their management fees. At 3.3 Treasury acknowledged "...there will be other costs associated with the discharge by the responsible entity of its duties under the new arrangements." With no attempt to quantify the same. For a small unlisted managed fund these additional annual costs could exceed $60,000 per annum.
Have the arrangements strengthened compliance practices, procedures and awareness amongst responsible entities and others involved in the managed investments industry?
In a word, yes. However we were coming from a non-existent base and ASIC's own surveillance figures hardly provide comfort on this point with 69 of 83 of REs visited in the year to 30 June 2001 having breached the law, their licence, their compliance plan or had inadequate compliance practices. The ASIC managed to visit only 83 of over 450 Responsible Entities in the year to 30 June 2001. A once in 5 years strike rate is not satisfactory in a regime so heavily reliant on self-reporting by Responsible Entities.
Do the arrangements cater for the diversity of managed investments, including consideration of the way in which the legislation is administered by the Australian Securities and Investments Commission?
No. The arrangements have provided significant barriers to entry having an anti-competitive effect and promoting concentration in the Funds Management Industry. Anecdotal evidence suggests a large number of fund manager start-ups foundering at the feasibility stage due to the increased start up costs required by the MIA.
It is our observation that whilst the ASIC has developed policy in relation to custody practices it appears the policy is only applied in relation to external custodians and not the business units of RE's undertaking so-called "self-custody" and parties related to the RE that are charged with the custodian responsibility. This results in insufficient RE/investor resources being applied to the role, weakening investor protection and reduced opportunity for external custody providers to demonstrate cost efficiencies.
What refinements could be made (whether requiring legislative amendment or not) to enable the arrangements to operate more efficiently and effectively, while not unnecessarily detracting from the protection afforded to investors?
Within the framework of the existing MIA legislation, Trust Company believes the following modifications would significantly enhance investor protection and provide a more robust MIA.
Issue: International Organisation of Securities Commissions (IOSCO) principles and world best practice dictate the separation of management and control of assets held in collective investment vehicles. The option that the ASIC has to mandate an external custodian is not being used enough
Solution: Consider compulsory use of external, unrelated custodians for all managed schemes with ASIC having the right to exempt appropriate Responsible Entities upon application where ASIC determined that investor protection would not be reduced by self custody. This would force the ASIC to address the issue with each licence application rather than having "self-custody" as the call of the RE.
Issue: The tenure of individual Committee Members is so insecure and the numbers of individuals offering for these positions so large that their independence is potentially compromised.
Solution: Qualification of substantial, experienced and appropriately insured corporate entities to sit as a Compliance Committee would increase investor protection.
Requiring advice to investors and ASIC upon appointment and resignation of CC members would foster communication and transparency as regards changes to CCs.
Both these measures could address lack of tenure and lack of substance issues perceived in relation to individual independent CC members.
The independence of the compliance committee could be substantially improved by including a requirement for an independent corporate entity with expertise to fulfill the role of such committees. This measure would increase the independence of the committee as the corporate entity would be more focused on meeting the legislative requirements, less likely to be influenced by the RE and would improve the expertise available for this role. Additional benefits would include greater financial integrity, Professional Indemnity Insurance, perpetual existence, reputation and possible ASIC licensing.
Issue: In short the financial requirements for a Responsible Entity under the existing MIA legislation are having an adverse effect on competition, cost and client service whilst not providing sufficient investor protection.
Solution: Promotion of competition and diversity in the funds management industry by requiring ASIC to issue licences conditional upon appointment of an external, unrelated custodian and Corporate compliance entity to chair the CC. Allowing Custodian NTA and Insurance to assist in meeting Scheme Operator NTA and Insurance hurdles.
Plan for Life statistics for retail funds management (ex CMT) at 30 June 2001 show the top 5 fund managers responsible for over 56% of the total Funds Under Management. The top 10 speak for 77% of total FUM.
The MIA through its financial adequacy provisions is entrenching the position of large scale operators at the expense of small operators and those wishing to enter the industry. The requirement to have net tangible assets of up to $5m (and the capping of this requirement) is on one hand too high to promote new entrants and therefore competition, whilst on the other hand the cap provides efficiencies to the large REs with FUM over $1 billion.
A small and growing Responsible Entity is required to set aside as dead capital $50,000 for every $10m he attracts in FUM. Start-up compliance costs can now exceed $100,000 whereas a market entrant under the old regime could retain an independent trustee for a modest minimum annual fee or up to 10 basis points pa of the GAV of the funds attracted.
Issue: Review of thinking behind the stipulated levels of NTA and Insurance is essential. There would not appear to be any logical thought process involved in the magical $5m NTA cap and the minimum $5 million PI requirement.
Solution: We recommend attention be focused on this area with industry consultation before Financial Services Reform Regulations and ASIC policy are formulated.
Trust Company of Australia
7th September 2001
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