Union super fund defies APRA pressure to merge

An industry superannuation fund chaired by the national secretary of the CFMEU has defied the regulator.

APRA wants smaller super funds to be merged with bigger funds.

An industry superannuation fund chaired by the national secretary of the Construction Forestry Maritime Mining and Energy Union has defied pressure from the regulator for it to be merged with a bigger fund and is the only union-and-employer-backed industry fund to refuse to sign up to a new code of practice.

The revelations come as the ACTU calls on Labor to reject a Productivity Commission proposal for a “best-in-show” list of super funds to be given to new job entrants that would accelerate mergers among the 100-plus sub-scale funds in the system, many of which are small industry funds.

While a separate proposal to enforce better investment performance on super funds has garnered widespread support, Grattan Institute chief executive John Daley and Choice’s Superannuation Consumers’ Centre head of policy Xavier O’Halloran say adopting the best-in-show list is essential to ensuring members’ interests are put ahead of funds’ interests.

“Critics of best-in-show continue to mischaracterise it as ­focusing exclusively on past performance,” Mr O’Halloran said.

“The Productivity Commission proposal expressly calls for broader considerations, including governance, risk and investment strategy when developing the best-in-show list. This is designed to ensure funds with the best ­future prospects are included.’’

The $3 billion First Super, co-chaired by Michael O’Connor, the brother of Labor workplace relations spokesman Brendan O’Connor, manages the retirement savings of more than 60,000 workers in the timber, pulping and furniture industries, but has been targeted by the Australian Prudential Regulation Authority for several years to merge with a larger fund.

Despite its top-quartile investment performance, First Super’s relatively small membership base is ageing and drawn from shrinking industries. According to actuarial analysis by industry consultancy Rice Warner, First Super is struggling to generate cash flow while many of its accounts are inactive unintended multiple accounts.

APRA is concerned that as more First Super members retire and draw down their savings, it presents a prudential liquidity risk, threatening the stability of the fund. According to KPMG, the fund paid out 87 per cent of all the money it received in contributions last financial year in payments to other members in the draw-down phase. As more savers leave the fund, fees charged to First Super members would need to rise while the fund would likely have to take on more risk to deliver the same results.

In its 722-page report released earlier this month, the Productivity Commission made two key proposals to drive bigger retirement balances in the $2.7 trillion super system. The first, an “elevated outcomes test” given to APRA would allow the regulator to revoke the licences of underperforming funds. The second is a curated “best-in-show” list of 10 top funds from which new job entrants would be able to nominate a nest egg manager.

First Super has achieved high returns of 6.5 per cent a year over the past decade, putting it in the top tier of performing funds and likely outside any reproach from the PC’s proposed elevated outcomes test.

Under the PC’s proposed best-in-show list, an independent panel of experts appointed by a committee headed by the Reserve Bank would nominate a list of funds every four years that would be the best “likely future outperformers” based on “low fees, good governance and sufficient scale”. This proposal, which would unshackle super funds from the industrial relations system and force funds to compete to be the best, would likely put First Super out of contention for consideration because of its small size and membership demographics.

With just over $3bn in assets and a shrinking membership base, the fund is considered too small to properly drive economies of scale available to larger funds, such as the $140bn AustralianSuper or the $34bn Hostplus.

First Super is still able to accept the “default” savings of many workers won through enterprise bargaining agreements. About two-thirds of Australians have their savings managed by the default provider.

While every other union-and-employee backed industry fund has signed up to the Insurance in Superannuation Code of Practice, along with major retail funds run by the big four banks and wealth managers, First Super did not.

The code, created in late 2017 at the behest of then financial services minister Kelly O’Dwyer, lays out standards across issues such as claims handling and member communications to prevent the erosion of member balances through unneeded cover. The code also sought to limit premiums to 1 per cent of member earnings and bring transparency to a practice known as “premium adjustment” arrangements, which allow super funds to bank money from insurance contracts when claims rates are lower than expected.

First Super chief executive Bill Watson said the fund was “largely compliant” with the code and would improve communications about insurance to members, but he said the “high risk” employment of First Super’s membership meant the fund needed more expensive insurance to cover the high rates of death and disability claims of its workers.

First Super also did not want to risk leaving young workers uninsured by being forced to make cover opt-in, rather than automatic, for members aged under 25. “Our view is that claiming exemptions could create a misleading impression in members’ and the public’s mind about code compliance,” Mr Watson told The Australian.

The Australian Securities & Investments Commission has said for the insurance code to work, it “requires broad industry commitment” and that codes work best if they are mandatory.

During the PC’s review, all super funds in the system were asked to provide data on investment fees and returns to allow the government department to analyse fund performance. First Super ignored the PC’s initial request to supply information but submitted for the PC’s “second chance” survey. However, First Super ignored the PC’s “governance survey”, which was designed to “elicit the personal views of fund CEOs on the governance of the funds for which they are responsible”.

Mr Watson said the fund did not complete the governance survey because of “concerns about the survey’s methodology and data integrity” and that it did “not need to tell the Productivity Commission that we were and remain a top quartile-performing fund” for its investment performance survey.

Mr Daley said the PC’s best-in-show policy must be adopted because the “elevated outcomes test” powers for APRA could be spurned by stubborn funds that could spend years litigating against the regulator in court.

“I understand why the industry is fighting against the best-in-show proposal — that is because it will work,” he said.

“They know perfectly well that an outcomes test to kick out underperformers will, in practice, have very little impact. Underperforming funds will lawyer up, spend four years and $20 million in court to literally stay in business. Because the regulator knows that will happen, it won’t go after them.’’

Mr O’Halloran said the best-in-show list would “deliver a market discipline that the current default system hasn’t been able to provide … We need to drive competition among the top performing funds so the cream will rise to the top.”

Of the 28 underperforming funds identified by APRA in November 2017, 17 have agreed to restructure or exit the industry. Another three funds have undertaken reviews of their fees with a view to improving member outcomes. Five of the funds were reclassified outside of the outlier category due to additional information and the remaining three funds are in continuing discussions with APRA.

Labor Treasury spokesman Chris Bowen has flagged concerns with the best-in-show proposal over “unintended consequences” for funds.

APRA told the PC the best-in-show proposal would have “limited immediate impact” on funds that lose default contributions, allowing sufficient time for funds to improve outcomes or merge with better funds.