Is there such a thing as too much transparency?
13/07/2016 / By Evette Orams, Managing Director
As the ABFA continues its move towards improved transparency, in order to increase trust in the asset based finance sector, it’s important to consider the aim of the exercise, in the wider context, and whether the proposed full disclosure of commissions payable to third parties might be a step too far. Furthermore, how would this requirement be fulfilled in reality?
The first of the ABFA’s quarterly updates of 2015 revealed a number of proposed changes to the Code and Guidance from the Professional Standards Council (PSC). While some were introduced in the revised version of the Framework in January 2016, this logically didn’t include the automatic and full disclosure of commissions payable to third parties.
Following, what we understand to be, extensive feedback from members and affiliates, the PSC noted that the “far-reaching implications” of the proposal requires more detailed consideration, and chose to defer any decision pending further consultation.
These discussions are about to resume, with a meeting arranged for 26th July to give the ABFA’s members and affiliates a chance to have their say. I, therefore, wanted to share my thoughts on the subject and invite you to share your own with us in advance of the scheduled meeting.
What is being proposed?
As it stands currently, the Code requires members to inform clients where there is a commission payable to third parties, along with the name of the party receiving payment, with further details available on request.
The PSC is considering whether to go even further and stipulate members must automatically disclose the full breakdown of third party commissions, including the quantum and/or calculation of the amounts charged.
What are the benefits?
It all stems from the desire to make the sector more open and transparent about the way in which it operates, as well as alleviating concerns voiced by some regarding the potential for a PPI type scenario within our industry. Other regulated financial products have similar rules, and mean the client is aware of any fees which are paid to third parties for the procurement process.
Initial feedback was positive, with over 70% of the ABFA’s members agreeing or strongly agreeing with the proposal in an early consultation survey.
The goal, along with other changes to the Code and indeed its introduction, is to re-affirm the ABFA’s focus on self-regulation and enhance the image of the asset based finance sector even further, thereby encouraging more businesses to open their minds to its benefits.
And the drawbacks?
One of the dangers of the quantum being automatically disclosed is that it is hard to actually quantify this.
Broker income is based largely on the service element of the fee, which relies heavily on the client’s turnover, is subject to change as the business evolves, and also depends on the longevity of the facility. So, not only is disclosing actual sums unviable and likely to be inaccurate, there is a high likelihood any such disclosure would be open to misinterpretation.
Expressed as a percentage, it will, at the very first glance, appear higher than the facility charges, and could lead clients to conclude that they are paying over and above what they would have done if they had gone direct to the funder. They may then choose to argue they don’t want to pay that fee, or even demand a reduction of equal portions in the facility cost. After all, the cost of the facility shouldn’t vary according to the procurement channel.
It’s noteworthy that, whilst some funders chose to load up the service fee to cover a portion of a third party’s fees, other’s costing models don’t operate this way, meaning some funders absorb this cost.
What that means
The matter of whether the cost of the facility should vary according the procurement channel is fundamental to the debate.
Essentially, a broker is simply a procurement channel. Is there any difference between a lead provided by a broker to a website enquiry through organic search or pay-per-click advertising, or a phone call off the back of a PR or email marketing campaign?
The big difference, of course, is that the lead will typically be more qualified and suited to the lender’s requirements. This means the prospect will be more likely to have a positive user experience and convert to a client.
It would be interesting to know how the broker channel compares in terms of client life and ROI to other channels, for instance pay-per-click advertising, where businesses are likely to click on numerous websites from a single search query.
Essentially, what is referred to as a broker commission charge is no different to a retainer or charge for services paid to other marketing channels. The benefit to the sector when dealing with a broker is that the funder doesn’t have to carry the risk of the investment in lead generation as that is absorbed by the broker, who is only paid when a deal is done.
That success fee accounts for the cost of generating numerous opportunities of which a certain percentage will convert, given sector conversion rates. It covers the cost of the broker’s infrastructure, compliance, CRM systems, headcount etc. So, whilst the percentage fees charged per converted deal might seem like they are high, it is only one part of the whole picture to get that deal across the line.
Perhaps a more accurate comparison to a broker is that of a Business Development Manager. Yet, building a strong team of BDMs can be expensive, given the associated employment costs such as their pension, company car, medical and wider benefits, without any guarantee of success. Comparatively, a good introducer is in a way like a self-employed BDM who earns based on success only.
Whichever channel you choose to compare brokers with, it would be impractical and, in some cases, impossible for funders to disclose their comparative costs per acquisition to new clients. This is arguably comparable to ABFA members being asked to disclose their ROI to clients on day one, before the facility has even run its course – any figure would be out of context and misleading.
The critical factor
Despite all of this, the biggest concern on our part is the sector’s integrity.
Disclosing the quantum of the fee may encourage some lead givers, who don’t carry the cost of an infrastructure, to undercut those who have invested heavily in their businesses and in ensuring that their funding partner’s position isn’t compromised at all.
It may, I suspect, also lead to different fee models and the introduction of retainers and costs per lead as opposed to the current commission model, which would be a drain in terms of funders’ marketing budgets. This may also give rise to underhand practices, which we sadly hear about far too frequently and really shouldn’t be prevalent in the context of our regulated world.
Whatever happens, it is vital that commission levels and structures are consistent. Whilst, of course, fee structures can legitimately vary from one funder to another, based on the facility on offer, the way in which it is structured and the service levels provided, the aim is that a like-for-like facility will result in the same broker fee, regardless of which funder the client is placed with. This is vital to sustaining the ethos of businesses being introduced solely based on their fit with the lender.
Any sort of commerciality in the decision will inevitably impact the integrity of the industry, which is suffering as things stand against increased competition in a stagnant market. Perhaps the focus should be to only work with reputable brokers and intermediaries who have the procedures and regulations in place to uphold the reputation of the industry and adequately protect potential buyers.
In summary, whilst this is a hugely complex and potentially divisive debate, insight from all stakeholders will assist in ensuring all aspects are fairly considered. The focus, as always, should remain on ensuring measures are in place to grow the sector in a fair and reputable way.
I would be interested to hear your thoughts on this issue ahead of July’s meeting. Are you in favour of full disclosure? Is this a question you have come up against from clients in the past? Do you think this change would benefit the industry as a whole? Should you wish to share your opinions with me, please contact me by email at email@example.com or calling 07894 513555.