With Hewitt Associates Inc.'s planned acquisition of Ennis Knupp & Associates Inc., the institutional investment community sees the passing of a major independent consulting firm, and the recognition of a new era in investment fund management.
The growing complexity of the investment management business added pressure for the deal, or something similar to create a stronger, more capable organization with more resources, financed by more fees from more clients.
The same challenges loom for the consulting business in general. These challenges include refining a business model that generates relatively low fees in the lucrative institutional investment industry; adding lines of business to bolster fee revenue while managing conflicts of interest; and providing quality advice and due diligence to encourage clients to pay appropriately for the services.
The investment management market is changing as more alternative investments are incorporated in the efficient frontier, while defined contribution plans continue to grow in numbers.
The demand for specialty consulting is expected to grow as pension funds steer more assets toward alternative investments — including hedge funds, private equity, infrastructure, commodities and complex trading strategies.
The increasing array and complexity of investment management strategies and products means general investment consulting firms have to step up their resources to provide thorough analysis and due diligence in the new areas, or risk losing business to specialty firms.
Ennis Knupp has been developing expertise in alternatives, including private equity, real estate and hedge funds, while Hewitt hasn't built up its capabilities to the same extent, according to a Pensions & Investments report. Hewitt now might be able to satisfy clients seeking more advice — clients the firm might otherwise have lost.
Adding to that proposed acquisition is Aon Corp., which has its own consulting unit and which agreed to acquire Hewitt about a week before the announcement of the Hewitt-Ennis Knupp deal.
However, bigger isn't necessarily better in avoiding problems.
Clients should be willing to pay appropriately for quality. Yet the consulting business model, although labor intensive, has long generated relatively low fees in the lucrative institutional investment sector.
As a former consultant remarked a few years ago, even though consultants have a primary role in assisting in the management of billions of dollars, it's hard to be paid adequately.
The lure of much higher revenue and compensation levels has led some firms to pursue business lines outside consulting, creating potential conflicts of interests, often not disclosed. These include brokerage and soft-dollar trading, performance measurement and educational services for money managers, and asset management.
Callan and Mercer proposed merging last year, only to break off the idea a few weeks later. The failure of the proposed merger could have been because potential profit from a combination just wasn't there.
Ennis Knupp, to bolster its business, began offering funds-of-funds management in 2008 along with its traditional consulting work. Hewitt, for its part, has its Hewitt Investment Group, whose business includes assuming co-fiduciary responsibility in the investment management it delegates to money management firms.
Pension funds themselves often are at fault in their unwillingness to pay cash for consulting services. Some clients don't want to bear a direct expense and prefer to pay for consulting through soft-dollar trading, which could encourage conflicts in a consultant's objectivity. Ennis Knupp years ago stopped taking soft dollars.
Consultants have to look at their own performance in serving clients. The quality of advice to pension funds on asset allocation and money manager due diligence and selection often is mediocre. As a result, the fees, albeit relatively low, might be appropriate for the skill and knowledge the consultants provide.
At the same time, the investment management industry is too rewarding, with money managers collecting unjustified fees for mediocre or poor performance. Consultants, on behalf of their clients, should do more to see money management fees are appropriate.
Pension funds and other institutional investors need quality advice more than ever. The questions are: Can consultants provide objective advice, thorough due diligence and quality recommendations; and will pension funds be willing to pay for such services.
Perhaps if consultants want higher fees, they will have to improve the value of the services they provide to pension funds. The fees they now earn might accurately reflect the value of the advice they give.