Plan advisers would be wise to watch the 401(k) record-keeper market closely as it enters its next phase of consolidation, which may begin soon. As plan advisers look to cut back on the number of their provider partners, picking on the wrong side of record keeper consolidation will be painful and costly. And a market downturn could accelerate the transactions.
Though record keepers complain bitterly about margins, their fees have stabilized in recent years, unlike those of plan advisers and asset managers. Private-equity firms have been investing in this sector, with Carl Icahn taking a stake in Conduent (formerly owned by Xerox) and Blackstone Group buying Alight Solutions from Aon Hewitt and reportedly looking to take it public this year at a projected $7 billion valuation. Ascensus, Newport Group and Aspire Financial Services are also part of private-equity portfolios.
Robo record keepers also attracted investments in 2018, including Guideline ($35 million), Human Interest ($11 million) and ForUsAll ($21 million). Vestwell attracted an $8 million investment in 2017, and Betterment took in $100 million the year prior. Goldman Sachs bought Honest Dollar outright in 2016.
The 401(k) record-keeper industry is about to enter the third stage of the consolidation curve. While Stage 1 is about preserving first-mover advantage and Stage 2 is about acquisitions, Stage 3 is about ruthlessly attacking weaker competition. Stage 4 involves defending positions.
The 38 national 401(k) record keepers (yes, 38!) are circling just five seats at the winner's table, according to the framework of the consolidation curve. Where does that leave the others? Eating scraps.
What's driving consolidation? It's partly the cost of massive and antiquated record-keeping systems, which are very expensive just to maintain. Concerns about cybersecurity will only drive up costs and accelerate consolidation.
Distribution costs have increased. There are more mouths to feed, including the growing number of aggregators and elite defined-contribution consultants, not to mention the many broker-dealer partners. And larger providers are demanding bigger payments from asset managers, which will have less to give to smaller competitors.
Here are some signs that the market is heating up:
• Wells Fargo's 401(k) record-keeping business, with over 4 million participants, is reported to be for sale.
• If Ascensus is sold to a strategic rather than a private-equity buyer, it could elevate a wannabe to one of the five seats at the winners table.
• Private-equity firm Kelso & Co. bought a majority interest in Newport Group from Stone Point Capital (which still has a minority interest).
• Smaller, more nimble firms like Edge Holdings, which just bought First Mercantile Trust Co. from MassMutual, could gobble up smaller providers that are unattractive to larger providers.
• There are interesting personnel moves taking place, like MassMutual hiring Bob Carroll away from John Hancock to head up workplace distribution, OneAmerica hiring Sandy McCarthy (who formerly led CitiStreet) as president of retirement services, and Lincoln Financial luring Joe Mrozek from Merrill Lynch to head up adviser retirement plan sales.
• Big-name firms like T. Rowe Price and Charles Schwab, which traditionally sold directly to larger plan sponsors, appear to be moving aggressively down-market to focus on advisers.
Mix in a major market downturn and some providers will head for the exits when facing 10% to 30% less in assets — and revenue — and need capital to shore up other divisions. Players at the winner's table and those just outside will make big bets while smaller nimbler buyers gobble up fringe players to be more attractive to one of the behemoths down the road.
Advisers have to make sure they focus their business on the 401(k) record-keeper winners or incur the wrath of clients while fending off competitors. Like Indiana Jones in the Last Crusade facing the many Holy Grail cups, make sure you choose wisely — or face the consequences.