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Teamwork Improves Vendor Oversight


HUNTINGTON BEACH, Calif.-To fully protect investors, adequately answer to their boards and best satisfy regulators, fund executives must have a solid understanding and strong oversight over each vendor with which they contract.

That means treating service providers not as adversaries, but as collaborators, despite an environment of increased scrutiny, according to experts at the Investment Company Institute's Operations and Technology Conference and Service Provider Expo here last week.

"Our goals are the same: client satisfaction and zero tolerance [of compliance breeches]," said Nicole Best, senior vice president and chief compliance officer with Heartland Advisors of Milwaukee.

"Building relationships is the backbone of the level of service we provide to shareholders," she said. "The stronger the relationships you develop now, the greater the lengths [vendors] will go to later when problems are identified, and the more it will help mitigate the situation when that relationship is stressed."

Tim Ney, a principal for mutual fund operations at St. Louis-based Edward Jones, agreed. "Ultimately, the goal is to get it right, and provide assurance to all shareholders," he said.

But before they can get it right for shareholders, fund companies must first be sure to ask the right questions of vendors, said Tom Hamblin, president of Capital Bank & Trust in Brea, Calif. After all, just because fund companies pass the work to a third party, doesn't mean that they can dispense with their responsibilities as fiduciaries.

"The most important question is, Is the shareholder getting good value?'" Hamblin said.

The answer can not be clear unless fund companies fully understand the processes by which their service providers monitor potential market-timing abuses, how vendors ensure the promises made to shareholders through the prospectus are upheld, and what controls those service providers exercise to help reduce the overall costs to investors.

True oversight requires more visits, more digging and more attention to things such as the treatment of omnibus accounts.

"It really gets down to the nitty-gritty," Best said. "The [fund's] chief compliance officer really needs to understand the operations, and to see what is automated versus what is manual." Those risks increase exponentially when the vendor is overseas, or when a domestic vendor subcontracts with a company overseas, where U.S. regulatory standards may not always be well understood, effectively communicated or even practiced.

Likewise, fund executives should understand how their service providers react to irregularities: whether they are seen as one-time events, or whether irregularities lead to a more thorough review to ensure that the larger process is not in need of further attention. Other important factors include how long it takes a company to identify an issue and to resolve it, and if possible, to implement a control to ensure it never recurs.

"The people who actually touch the work are your first line of defense," Best said.

To that end, it's important to know who they are, understand their backgrounds and their corporate culture. Before contracting with a vendor, Best reviews employee retention rates, the type of support and development training those employees receive and the company's technology investments.

"You want [your fund company] to be part of their long-term business plan," Best said.

When it comes to finding a new vendor, issuing competitive requests-for-proposal is not always the best approach. Companies often get what they pay for, she said.

"We're willing to pay more if we get that service," she said.

Getting that service, though, requires reciprocal respect, Best said. Just as fund company officers may visit a vendor, vendors should be invited to visit the company's headquarters to see those processes first-hand.

And just as a fund company would not take well to being told by a vendor how to run their business, fund companies should recognize that the reason they choose a vendor is for its expertise. "It's important to give them space to work," she said. Likewise, companies should honor deadlines their vendors may set.

Finally, while vendors may wine and dine their clients, it doesn't hurt to show vendors their work is appreciated, too.

But that doesn't mean fund companies shouldn't also court the competition, Best said. Compliance officers should constantly review other vendors' operations and strategies. Not only can fund companies glean an idea of best practices to share with the vendors with whom they already contract, but if an existing vendor proves unreceptive to suggestions of how to improve their performance, or, even worse, fails at their watchdog role, fund companies will already have an idea of who might replace them, and can act swiftly, she said.

For service providers, the challenge is managing the barrage of inquiries and visits from fund executives, each of whom may have their own methods or preferred forms of reporting, Hamblin said. Such distinct demands drive up the cost for vendors, fund companies and, ultimately, shareholders.