End of an era in the fund industry

Vijay Venkatram

Managing Director

Wealth Forum

There is much more to the ban on upfront commissions than what a simple reading of the two small paras in SEBI’s Oct 22nd circular would suggest. And beyond these implications on distributors and fund houses, there is a deeper sense among fund houses of the end of an era for the fund industry – the era of “jugaad”.

A movie show for distributors in a large Gujarat city was cancelled recently – on the day of the show. At least two foreign trips that were in the pipeline, which were already communicated to distributors who had qualified, have been cancelled in the last week. Advances paid to event management companies for some distributor trips that were in the pipeline have been written off.

AMCs are scrambling to understand the full implications of the Oct 22nd circular that bans upfronting of any kind and makes it mandatory to debit all forms of commissions and related expenses only to the schemes and not to AMC books. And, as the implications of the circular sink in, sales teams have swung into damage control mode – to stay execution of any plans that were made, which may now fall afoul of the Oct 22nd circular.

Its not just upfronts – here is how distributors’ lives will change

Its not just that upfront commissions have been banned and all commissions will now be on full trail model. Here are some of the other ways of life that will change in the distribution world – at least for the large and mid-sized IFAs and big distribution houses, who got something beyond the agreed commissions:

  • Loyalty programs run by AMCs will now be severely decapacitated. All foreign trips that are contingent on achieving sales numbers within a defined period (year/quarter) are in the nature of an upfront commission in kind and therefore not allowed any longer. If an AMC still wants to go ahead with a foreign trip, perhaps the only way they can do that is to first agree the trail commission to be paid to the distributor, then agree to carve out a certain amount from there for payment of the foreign trip and therefore pay out as net trail the residual amount. I can’t imagine any distributor opting for taking away some of his trail that would have come to him anyway, in lieu of a foreign trip. Takes away the whole “incentive” aspect as the distributor is effectively paying for it anyway.
  • No marketing support of any kind to distributors – the practice of getting your newsletter subsidized by an AMC, the backlit signage outside your office subsidized by another, your website expenses supported by AMC ads and so on, will now be history. If this has to continue, it will be carved out of your agreed trail commission, and will be reported and disclosed as such. The whole concept of getting something “over and above” the commission, is now history.
  • From tickets to a movie show to passes for a conference – all reimbursements/payments made on behalf of distributors will now cease as they cannot be linked to trail, and hence cannot be paid.
  • Intermediaries who sold direct plans with an understanding of some form of payout (marketing support, advertisements in their websites, debit notes for expenses etc) will now have to live with no form of payouts in cash or kind. Revenue will solely have to be derived from fees that investors pay.

There’s a lot that will now change in fund houses as well:

  • A sizeable portion of sales and marketing teams of fund houses, which had acquired expertise in event management over the years, will now find those talents redundant – no more event management – only asset management henceforth.
  • There are no “quick win” strategies that sales teams can adopt to gain market share – no contests, no carrots of any kind that can be dangled to induce sales in the near term. The focus will shift squarely to products and how these products can serve customer needs.
  • Ban on debiting AMC P&L for any form of distributor payment – in cash or kind – means that you can’t use capital/profits to “buy” assets. The amount you pay out as commission is a function of distributable TER in respective schemes. It’s the product that has to stand on its own merits, without the crutch of a fat AMC P&L or deep promoter pockets to make it more saleable.
  • Fund houses who were debiting upfront commissions to their own P&Ls, will now see the commission charged to schemes rising significantly as they convert to an all trail model and as all these trails get debited to schemes. This will mean lower capacity to charge management fees. And since management fees for direct and regular plans have now to be the same, this will mean lower management fees on their direct plans as well – a direct hit to their AMC P&L.
  • Direct plans will consequently get cheaper – and as I had written in September (Click Here) when the SEBI Board Meeting minutes were released, the day is not far away (once the new TER slabs are introduced) when marquee actively managed equity oriented funds will be available at a throwaway price of 50 bps for their direct plans.

End of the era of “jugaad”

Perhaps the biggest change that is now visible in fund houses is a recognition that the industry has finally run out of “jugaad” solutions to keep running business the way it was being run. And a clear recognition that the current SEBI management that is overseeing mutual funds is fully aware of ground level realities and will brook no nonsense of any kind.

In an ideal world the quality of the product (long term track record of the fund and perception of the brand that offers it) should be the primary determinants of business volumes. While over the years, this facet has become increasingly the most important driver at a product level, it would be fair to say that our industry has tried to use its ingenuity to the maximum, to find ways of supplementing sales growth at a fund house level, beyond what its flagship products were delivering on pure merit. We have seen NFOs, dividend stripping, bonus stripping, closed ended funds, contests, incentives of all kinds, work-arounds to AMFI best practice guidelines – the list is endless.

The sense that one now gets when one speaks with fund house leaders is that the era of jugaad is now behind us. As this industry attempts to move into its next level of growth, the thinking will now shift from tactical to strategic, from short term to long term.

Distributors who made the move of shifting from tactical to strategic thinking, switched years ago to an all trail model. Distributors who thought long term ensured that they maintained high levels of transparency with clients on commission disclosures, and stepped up their advisory skills to demonstrate value add vs direct plans. These are the distributors who will most likely thrive in the new environment, perhaps at the expense of those who focused only on tactical measures and short term thinking. There is pain ahead for distribution – from shrinking margins and disruption of market tailwinds. Those who will overcome this pain and gain market share are most likely the ones who saw through “jugaad” early on for what it always was.

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