Kent Costello

As I have mentioned on other occasions, my work as a forensic economist (and sometimes testifying expert witness) has frequently focused on how service providers were selected and then monitored. Always interested in knowing about industry innovations as they occur, I was intrigued to recently learn about a firm called InHub. Founded in 2014 by two investment advisors, the company’s mission is to apply the power of technology to the Request for Proposal (“RFP”) process and thereby hopefully make it easier for institutional investors to form an educated decision about what advisor, consultant or asset manager to select. Just as important, the goal is to facilitate a centralized repository for documents and communications that could be helpful in demonstrating procedural prudence. After reviewing the website at http://www.theinhub.com and requesting a demo, I then asked Mr. Kent Costello (one of the two co-founders) to answer a few questions. The text below is the result of that Question and Answer session.

Q: In your experience, how do institutional investors such as foundations and pension plans currently search for service providers such as consultants and advisors? What are some of the pitfalls associated with these methods?

A: The approach taken by institutional investors to search for consultants varies and often depends on the size of an asset portfolio. Larger organizations with a billion dollars or more typically make their searches public and allow a given amount of time for consultants, managers, and other service providers to indicate interest and/or submit a proposal. In this way, they are essentially crowdsourcing the proposal process and may find firms through this method. A downside of this approach is that respondents are not necessarily pre-qualified. Some vendors are already known to investment committee members and may be referred to their peers. A disadvantage of selecting a vendor on the basis of referrals is that personal relationships may take precedence over the qualifications of a particular firm. It is not uncommon for a consultant to be a friend of a business owner or board member, especially for smaller firms. An advantage of the referral approach, when appropriate, is that it matches an institution in need with a trusted source.

Q: Besides launching a formal public search or connecting with a vendor as the result of a referral, are there other ways that an investment committee or board can identify service providers and then review their qualifications thereafter?

A: Yes. General meetings and website searches come to mind. Many times the committee (or board) will collect and maintain information from consultants who have called on them in the past or whom they have met at a seminar or conference. The obvious pitfall here is that a strong sales team or large marketing budget does not automatically guarantee that a particular vendor is qualified and can deliver services on a cost-effective basis. Critics can argue that firms that are sales-focused are not spending as much time as they should on servicing their existing clients or that a firm that is doing a good job does not need an active sales force because its organic growth is the result of a solid reputation. That said, I think the offering of an educational seminar to both clients and prospects by an advisory firm is a positive sign that the vendor is willing to take time to share new ideas and find ways to add value to their clients. With respect to a Google search, this could be a good first start although there is no way for an investment committee to know if it is missing experienced vendors by relying on the internet alone as a way to decide what firms to interview.

Q: Describe some of the limitations of the existing RFP process for the buyer.

A: As just discussed, investment committees searching for consultants and even consultants conducting manager searches should pre-qualify candidates based on initial criteria. This can be challenging in the absence of some sort of screening process. It can be difficult for investment committees to put together a list of questions that will help them to effectively compare firms and service offerings, especially for small and mid-sized committees. Poorly crafted, irrelevant, or repetitive questions will lead to a weak due diligence process and leave the committee confused and frustrated. Worse yet, it could mean the selection of an inadequate vendor. Then there is the issue of having to sort through mountains of data. RFP submissions are frequently submitted in hard copy form. The nature of the replies could preclude making an “apples to apples” comparison of each vendor’s capabilities. In sum, differences in the way replies are proffered and the sheer volume of submitted pages make it hard for multiple decision-makers to review information, let alone comment and ask questions in an interactive manner.

Q: Describe some of the limitations of the existing RFP process for the seller.

A: Given the proliferation of independent advisory firms, it can be challenging for even the largest and most established of companies to achieve industry-wide recognition and thereby ensure that they are considered for opportunities for which they would be a strong candidate. Firms responding to RFPs struggle to weigh the benefits, given the low likelihood of winning the business, against the significant amount of time and resources that are required to deliver a quality proposal. While there are often similarities among RFP questionnaires written by buyers, the differences can be significant enough that a vendor frequently has to spend time and money to modify its answers (i.e. reinvent the wheel) so that each proposal qualifies for further review.

Q: Are some RFPs easier to carry out than others? If so, please explain your answer.

A: Yes, some RFPs are easier to complete. As stated earlier, RFP consistencies do not always exist throughout the entire, and often lengthy, questionnaire. Then there is the issue of the number of people who are tasked with selecting an advisor, consultant, asset manager or other type of service provider. Where you may see three to seven committee members involved in an RFP for a corporate 401(k) plan, you may see north of twenty people involved in the review process of a large non-profit organization or other institution that is governed by a board. This creates challenges in a number of areas. Organizing communications with the would-be buyer, agreeing on the scope of services, addressing conflicts and negotiating a final contract are a few challenges that immediately come to mind. Sometimes a board or committee may hold a strong view and seek to sway others from voting in favor of a given vendor. Public organizations must adhere to certain rules such as “pay to play” prohibitions. Bureaucracy can extend the timetable before a decision to hire a firm is made. An advantage that larger institutions and public organizations can have over smaller investors is the ability to rely on staff members (if they exist) who are knowledgeable about investment management. This is especially important when conducting an RFP for a specific investment strategy that requires the ability to comprehend technical language. However, even bigger institutional investors can be confronted with information that is less than transparent. For example, some vendors may bundle services and charge accordingly. Others break down services (and related fees). It is critical for the buyer to understand exactly what services they need, what they will likely receive and how much things will cost in “true” economic terms.

Q: What do you believe are the characteristics associated with using an electronic platform for RFP initiation and completion?

A: As a co-founder of an electronic RFP platform, I obviously believe that there are significant advantages of harnessing technology when selecting vendors via an RFP. These include, but are not limited to, the following: (a) speed of preparation (b) ease of collection and reviewing of the proposals (c) centralized communication with committee and candidates and (d) proper documentation of the decision. Preparing a traditional paper RFP can be overwhelming for an average investment committee. If they have never issued an RFP in the past, they often do not know what type of information they should be providing as background, what services they should be requesting and what information they should be providing on their account in the form of a description and addendum documents. In a quality electronic RFP, the system will be laid out in a way that guides the committee through the key steps and even suggests ideas for content or questions to ask, allowing for a much more intuitive process. Instead of sorting through piles of papers, an electronic RFP allows for all proposals to be submitted to one online portal where committee members can log-in and view proposals side-by-side in the same format. When there is more than one decision-maker (which is normally the situation), an electronic RFP platform facilitates ongoing communication among committee members and/or board members. The communications are centralized and create a paper trail for outsiders to examine as needed. That paper trail likewise allows investment fiduciaries to demonstrate that they have individually and collectively adhered to a prudent due diligence process (if indeed they have). Finally, an electronic RFP process will automatically generate a document that includes relevant information associated with the RFP process such as (a) the purpose of the RFP (b) scope of services requested (c) key questions asked (d) committee members involved (e) all firms invited and (f) the voting process.

Q: Are there particular areas of an RFP such as compliance, fees or risk management that institutional investors are including more now than in the past?

A: Yes. Institutional investors are focusing on fiduciary obligations, fee disclosures and operational transparency. I expect to see more of this emphasis as the fiduciary outsourcing business grows. For example, when a consulting firm is engaged as an Outsourced Chief Investment Officer (“OCIO”), one would expect that function to be clearly addressed in the RFP. As fiduciaries can be personally held liable, enlightened committee members know that they must do a good job of selecting a service provider. Regarding fee disclosures, it is safe to say that new regulations are forcing institutional investors and their advisors to focus on fee compensation arrangements and transparency about buyer-seller relationships. More and more institutional investors are asking pointed questions regarding fee transparency and potential conflicts of interests. They are also expecting the consultants to provide services that help them understand the reasonableness of the fees of both other service providers and their own. This has led to a far bigger number of consultants that now employ a direct bill model (either as a flat fee or percentage of assets). Requests for fee benchmarking services and help with the RFP process have increased.

Q: How do you think the RFP process will change as the fiduciary outsourcing business model grows?

A: I do not think that the RFP process will necessarily change with the increase of fiduciary outsourcing but rather will become even more standard in the sense that questions and answers should reflect proper due diligence. Whenever one party seeks to shift responsibility and some liability to another, the act of deciding who will hold the burden of responsibility is an urgent and scrutinized decision. While fiduciaries can never fully abdicate their responsibilities, by outsourcing to a third party, they are seeking to mitigate their liability by granting discretion on key decisions to parties such as advisors, consultants and asset managers. In the event that something were to go wrong, one of the first things that an examiner would inspect is how the third party was vetted by the institutional investor.

Note: Interested readers can check out “Request for Proposal (RFP) Checklist for Retirement Plans” by Sarah E. Downie, Hughes Hubbard & Reed LLP, Practical Law Employee Benefits & Executive Compensation. Other educational resources include “Creating an effective RFP process” (Vanguard, 2014) and “Model RFP” templates (CFA Institute).