The future of vertical integration

Have we entered a new era for the investment distribution landscape?

In the post-pension freedoms world where demand for advice has increased, so has the demand for distribution from product providers.

While much has been written about moves by household names like Standard Life Aberdeen and Prudential to establish in-house financial planning businesses, less attention has been paid to lower-profile and smaller players within the market making strides towards vertical integration.

This can take many forms – from a product provider simply having its own advisers, to platforms, discretionary portfolios or advice technology also being owned by the group giving the advice.

Have these developments and the potential conflicts of interest they pose been flying too far under the radar, or have we simply entered a new era for the investment distribution landscape?

Digging deep into the archives

Few advisers will have fond memories of the “bad old days” of single and multi-tied distribution deals. The modern financial planning profession prides itself on having moved on from flogging products to giving holistic financial advice.

But a host of moves from advice businesses and product manufacturers over the past 12 months have subtly moved the dial back towards owning multiple parts of the value chain, or at least establishing firmer links between them.

One of the most recent firms to add a layer to the vertically integrated market place is Foster Denovo. Money Marketing reported earlier this month that the national advice firm has begun development on an investment platform for its advisers.

The platform will provide access to Foster Denovo’s portfolio range and the firm already has an internal investment management company, Sequel Investments.

With so many firms making strides towards vertical integration, it is clear a new era for the investment distribution landscape has well and truly started.

AJ Bell, which started life as a platform and Sipp provider, has gradually expanded to offer its own active and passive funds, as well as managed portfolio solutions for discretionary clients. Last week, it announced a new “Pactive” iteration of its MPS. However, the bulk of the investments do not sit with third parties, but within AJ Bell’s own passive funds.

AJ Bell Investments managing director Kevin Doran says using its own funds provides a “simpler” product for customers to understand.

It also provides a “shield” against capital gains tax to investors for the passive element of their portfolios, he adds.

Doran says: “Despite the degree of ‘double charging’ this introduces, the low-cost nature of our passive funds – capped ongoing charges at 35 basis points – makes this additional charge worthwhile, given the added simplicity and flexibility it brings alongside the CGT benefits.”

Tavistock – a vertically integrated firm in its own right offering compliance support, discretionary management and private client advice services – agreed a deal last year with national adviser Lighthouse, which also has its own asset management arm, Luceo, to distribute Tavistock’s new capital protection products to clients of Lighthouse through its adviser base.

Tavistock sounded a bullish note on the prospects for the deal in financial results released earlier this month.

Sanlam, which has its own funds and DFM arm Sanlam Four, has continued to look to add distribution since it acquired the 158-adviser network Tavistock used to own in 2017, becoming one of the first firms to make an acquisition in 2019 by bringing Preston IFA Astute Wealth Management into its fold.

Digital wealth manager Nutmeg’s new advice offering has been branded a return to single-tie by some of its critics, since the advice given is restricted to which Nutmeg portfolio is most suitable.

Other platforms which also have advice arms linked to them, of which many remain unaware, include IFG Group’s ownership of both platform and Sipp operator James Hay and Saunderson House, an advice business with more than £5bn in assets under advice.

The two advice businesses owned by Quilter – Intrinsic and Quilter Private Client Advisers – contributed around £200m to Quilter discretionary portfolios in Q3 last year, which has doubled since Q3 2016.

About 60 per cent of integrated flows into Quilter’s multi-asset business and Quilter Cheviot in 2017 came from Intrinsic’s restricted advisers and Old Mutual Wealth Private Client Advisers.

Money Marketing understands a long-term incentive plan for Intrinsic advisers monitors the volume of business placed with the wider group.

Intrinsic chief executive Andy Thompson says the system is a carry-over from when Old Mutual Wealth – formerly Quilter – acquired Intrinsic.

The incentives are specifically structured to encourage adviser productivity and advice quality, he says.

Thompson says: “The incentivisation was there to encourage advisers to stay with the network and to grow their business and to deliver great customer outcomes. In any acquisition you make, part one is acquiring the business and part two is getting people to stay, experience, and understand being part of the firm post-acquisition.”

Advisers receive payouts annually in April if they meet the terms of the incentive plan, but it is set to be wound up this year.

He adds: “None of the incentives are in any way linked to vertical integration – what they were linked to was the advice contribution and the amount of revenue we retained.

“You could be an adviser who doesn’t put any money into Old Mutual solutions and someone else could have put 100 per cent in and there would be no difference in level of incentivisation received assuming their quality was equivalent.”

As part of the compliance process for Intrinsic advisers, sales are monitored, and discussions are held if advisers request to go off-panel. The list of funds available in the restricted advice proposition is not restricted to Quilter funds, however.

Quilter PCA is responsible for heavier flows to the wider group, but Thompson says the business is clear to clients about what is involved.

He says: “The solutions will always be Quilter solutions and PCA recommends the Quilter platform and solutions from Quilter Cheviot and Quilter Investors, but that is the proposition which is different from Intrinsic that has choice of platforms, choice of DFMs and choice of underlying asset managers.”

Expert view

We haven’t heard the end on vertical integration

Do clients know what’s going on? That’s very unlikely. I would imagine the vast majority wouldn’t know the detail on the product side.

From the FCA’s perspective, it is interested in value for money. The adviser market isn’t competitive; there’s a whole raft of indicators that will show that it’s not, just like on the asset management side.

Vertical integration, logically, in other markets, reduces costs as you get slicker processes and interconnection between bits of the value chain. But as we know, that’s not necessarily the case in advice.

The FCA has talked about doing a Financial Advice Market Review update and a post-implementation review of the RDR, and I suspect this will all be part of a wider advice market study. It talked about the value chain in the Investment Platforms Market Study. If it ties all those elements together, the FCA won’t really like the findings.

The FCA could take a heavy-handed approach, with some sort of price capping or ban on vertical integration, but that is unlikely.

If you take an existing rules approach, Prod, it will be important because it forces you to go through a process where you are likely to generate better value for money.

I have heard things before about linking purchase price or an element of it to assets advisers put on a platform or in funds. That is banned under COBS 6.1 – the commission ban rule from the RDR. The wording is quite all-encompassing on fees and commissions, but also any other benefit in relation to a personal recommendation.

Setting the value of a purchase is another benefit. Is it a personal recommendation? I would say yes, because those recommendations on platforms or funds are the sum of a whole series of personal recommendations.

It is hard to find the firms because the regulator just doesn’t have the relationships with individual firms except the very largest. So it will only hear about those things if someone tells it. It can then be quite easy to demonstrate. You can look at the legal paperwork, and if it is clear-cut, you could be off to enforcement.

Rory Percival is an independent regulatory consultant

Bridging the gaps

Money Marketing has also previously reported on advice group AFH’s use of in-house funds and discretionary portfolios.

A former AFH adviser says: “If you were doing a pension transfer, say, they provide all the research for you, and you can choose providers off the list, but ultimately their solution would always end up as the cheapest option, so clients could be moved in that direction.”

The adviser adds they have seen some portfolios where AFH’s Tactical Core funds made up around a third of a “balanced” investor’s portfolio, and around 20 per cent of a “cautious” investor’s. An AFH spokesman disputed some of the advisers’ claims, and said “the service we provide is tailored to the client’s need in all cases”.

Schroders enhanced its distribution potential last year by teaming up with risk-profiler Dynamic Planner to offer a bespoke risk-rated investment range. The actively managed Schroders multi-asset funds map directly through to the risk levels from Dynamic Planner.

On the passive side, 7IM – which offers funds, Sipps and platform services in its own group – has a direct link to Dynamic Planner mapping.

Around £7bn of 7IM’s assets come in the form of model portfolios run by consolidator Succession. While parent Succession Wealth does outsource investment management of clients’ assets to other partners, it has also operated a white-label platform since 2012 and has made further leaps in the advice sector, acquiring six firms in 2018, bringing £605m of assets under management to the group.

Schroders last week confirmed it would complete the vertical integration chain and set up an advice arm as part of its joint venture with Lloyds Banking Group. Not only does Lloyds own Scottish Widows, but other elements of the value chain are covered through the joint venture via Schroders’ majority holding in Benchmark Capital, the parent of platform Fusion Wealth and advice network Best Practice.

Money Marketing has seen a document which was given to an advice firm by Benchmark Capital showing a list of multiples for deferred consideration. The figures suggest, on a multiple of ongoing revenue, the IFA would receive five times for assets in Fusion funds, 3.25 times for assets on the Fusion platform and 2.3 times for everything else.

Adviser view

Martin Bamford
Managing director, Informed Choice Independent Financial Planners 

Vertical integration is probably inevitable for commercial reasons and the long-term profitability of firms.

Conflicts of interest are of course clearly there in terms of the delivery of advice, however. The perfect utopian situation for vertical integration is that it makes things cheaper for the end customer, but I’m yet to see a restricted proposition that really achieves that. It often ends up boosting the profitability of the parent business, but as long as clients are aware of the limitations that a restricted or vertically integrated model presents, there’s nothing wrong with it.

It’s just a commercial model at the end of the day and independent advisers have to learn the ways round that by increasing their value proposition and explaining their own benefits.

The DFM debate

While DFMs which also offer in-house advice have hit back at concerns over conflicts of interest, citing the amount of third-party investments in their portfolios, some critics have called for them to be clearer on how any in-house funds are used within their discretionary mandates.

Tatton Asset Management operates three business arms: a discretionary manager, Tatton Investment Management; an adviser support service arm, Paradigm Partners; and mortgage and protection distributor Paradigm Mortgage Services. One source familiar with the firm says that a significant proportion of Tatton Investment Management’s investments sit in an “overlay strategy”. IFAs that use Paradigm Partners account for around 42 per cent of firms using the DFM business and 79 per cent of its assets under management.

However, Tatton says that the number of firms which are not also sold compliance services by the group but are still coming towards the DFM is increasing.

A Tatton spokesman says: “Tatton Asset Management’s business strategy is to support the IFA. We are proud that many advisers choose to use the services of both Paradigm Consulting and Tatton Investment Management and we are delighted that so many new advisers are choosing us to be their DFM. It’s a significant advantage to us that we don’t provide advice or our own direct client relationships.

“It’s a fact that Tatton Asset Management is not a vertically integrated firm.

“We use an overlay strategy, in the form of the fund, that mirrors the portfolio, to overcome trading inefficiencies between platforms, reduce costs through lower fund management charges and to gain access to new or closed funds.”

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