Fiduciary Audit

Fid i A dit dFiduciary Audit and Benchmarking Options

Serving Employees of Illinois Community Colleges and Universities

What is a Fiduciary Audit What is a Fiduciary Audit ??

A fiduciary audit has been described as: duc a y aud t as bee desc bed as:– A systematic diagnostic study of a pension fund’s

organization, program and practices, by experts independent of all the regular professionals.

– Main focus is usually the investment program, but can also cover administrative functions, benefits administration and Board operations.

Diff f h i id d b h f d’Differs from the services provided by the fund’s regular investment consultant.

– Non-recurring– Covers areas the Investment Consultant may not – Process focus as much as substantive

What is a Fiduciary Audit?What is a Fiduciary Audit?

Purpose is to Identify:– Aspects of the fund’s operations or organization that pose

undue risk,– Aspects that pose undue expense or inefficiency and,– How its organization and procedures compare to industry “best

practices”practices

What is a Fiduciary Audit?What is a Fiduciary Audit?

Fiduciary Audits are not a requirement of i b d h GFOAany governing body such as GFOA or

industry groups such as:– Institute of Internal Auditors (IIA)– National Council of Public Employee Retirement

Services (NCPERS)– National Association of State Auditor Controllers &

Treasurer (NASACT)Treasurer (NASACT)– National Association of State Retirement

Administrators (NASRA)– National Association of State Investment Officers

(NASIO)

Why perform a Fiduciary Why perform a Fiduciary Audit?Audit?

• Most common reasons for fiduciary audits:y• Funds that are managed internally may want independent help

to identify issues that require upgrading and obtain a blueprint for doing so

• Changes in status quo where new “players” want to know what they’ve inherited or want a fresh look

• Change in upper management, e.g., Chief Investment Officer, Executive Director etcExecutive Director, etc

• Change in Board of Trustees• May come from Board or outside oversight agency, e.g.,

legislative oversight committee or government auditor

Which Funds have Conducted Fiduciary Which Funds have Conducted Fiduciary Audits?Audits?

Some of these PERS funds are as follows (in alphabetic order):– Alaska State Pension Investment Board (2003) – District of Columbia Retirement Board (1994)– Florida Sate Board of Administration (2000 - real estate program)– Idaho Public Employees Retirement System (1995)– Illinois State Teacher Retirement System (1998)– Indiana State Teachers Retirement System (2001)– Los Angeles County Employees Retirement Association (2008)– Michigan Bureau of Investments (2001)– Missouri State Employees Retirement System (2006)– Nevada PERS (1995)

Ohio PERS (2000 2001)– Ohio PERS (2000-2001)– Pennsylvania Public School ERS (2006)– Pennsylvania State Employees Retirement System (2006)– St. Louis Police Retirement System (2001)– Texas Teacher Retirement System (1996 & 2001)– Virginia Retirement System (1993)– Washington State Investment Board (1997)

StepsSteps in a Fiduciary Auditin a Fiduciary Audit

Identify the scope of the audit and subjects toIdentify the scope of the audit and subjects to reviewCollect information including Board meeting minutes, investment policy and procedures, strategic plans, external manager performance, etc.pInterview Board and staff Analyze the data and present recommendations to the Board

PossiblePossible Subjects EvaluatedSubjects Evaluated

Organizational Structures and Resources-- Relationship of fund assets and operations to plan

sponsor-- Nature and functions of Board and Committees-- Staff duties-- Consultant’s duties-- Lines of authority

Investment Policy-- Suitability in terms of Board’s objectives and risk tolerance

Suitability in terms of financial and actuarial conditions-- Suitability in terms of financial and actuarial conditions-- Clarity and completeness

Asset Allocation-- Methodology-- Inputs/assumptions for risk/return analysis-- Re-balancing process

PossiblePossible Subjects EvaluatedSubjects Evaluated

Investment Performance-- Total portfolio performance

P f f i di id l t-- Performance of individual components-- Absolute performance-- Risk-adjusted performance-- Peer rankings

Investment Performance Reporting-- To Board -- To all stakeholders-- Adequacy of content and frequency

Performance Benchmarks-- Strategic level-- Policy level

Possible Subjects EvaluatedPossible Subjects Evaluated

Due Diligence Procedures-- Selecting external managers-- Monitoring external and internal accounts, including

compliance with guidelines -- Clarity and thoroughness, by asset class and strategy

Cost and Fees-- Reasonableness and consistency of asset management fees -- Consultant fees-- Accounts payable process-- Transactions costs


Legal Matters-- Adequacy of legal resources, especially regarding

private/appraised assets-- Conflicts of interest-- Statutory fiduciary standards-- Legal or statutory provisions that constraint performance-- Policy and procedures for determining whether to join, or act

as legal plaintiff for, securities class action litigation-- Ethics policies


Personnel Practices-- Size of staff-- Adequacy of compensation -- Adequacy of training and personnel evaluation

Investment Management Structure-- Active vs. passive -- Internal vs. external-- Number of managers-- Suitability in light of investment policy and asset-- Suitability in light of investment policy and asset

allocation

Trust and Custody Arrangements-- Costs and hidden fees-- Cash management-- Securities lending - risk, return, monitoring


Investment Consultant’s Responsibilities-- Fiduciary statusy-- Scope of work -- Conflicts of interest-- Actual performance vs. contract

Fiduciary Liability Insurance-- Board and investment managers -- Self-insurance vs. third-party coverage

C t/b fit-- Cost/benefit

Brokerage and Trading-- Procedures for evaluating trade execution-- Use of minority-owned firms-- Directed brokerage/commission recapture/soft dollar

practices


Controversial PracticesDerivatives strategies-- Derivatives strategies

-- Appraised assets, e.g., real estate and private equity -- Economically Targeted Investments (ETIs)

Investment Accounting and Operations-- Trade order entry management systems-- Need for and functions of a “middle office”

Note: the actual extent of the audit will depend on the scope agreed to between Internal Audit, Investments, Executive Management and the Board.

Who performs these auditsWho performs these audits??

Accounting Firms (Big 4)g ( g )Various Consulting Firms (in alphabetic order):– Callan and Associates – Cortex– Ennis Knupp and Associates– Fourth Street Financial– Independent Fiduciary Services (IFS)– Mercer Investment Consulting– Segal Company– Stratford Advisory Group– Tillit Group

BenefitsBenefits

Independent assessment pValidation for Board and staffIdentification of Best Practice ideasIdentification of developing trends and technologies that could help improve

ioperationsMay find a potential problem before it becomes a major problem

DrawbacksDrawbacks

CostTime commitmentRedundancyNo knowledge transfer

CostCost

D d t th f th ditDependent on the scope of the auditTypical audit hours - 1,000 – 1,400Range - $400,000 to $800,000Average costs per informal survey -$500 000$500,000

Staff Time CommitmentStaff Time CommitmentThe fiduciary audit can take 6 to 12 months to completeco p eteStaff must gather extensive amounts of data – 197 items required for recent LACERA auditBoard usually participates in RFP and selection process and must be available for interviews and surveysExecutive staff must be available for extensive interviews and surveysTypical reports have more than 50 recommendations which can take years to implement

RedundancyRedundancy

SURS is 100% externally managed. There is a significant amount of oversight of the investment managers:– Investment Staff– The Investment Consultant

Significant Board oversight– Significant Board oversight– External and Internal Audits performed on

many investment areas

No Knowledge TransferNo Knowledge Transfer

Several PERS have stated they expected to learn a lot from the fiduciary auditors, but there is no knowledge transfer to staff

List of IS and other Audits List of IS and other Audits

IS general controls – BKD 2007IS k i I lG di 2006IS network penetration – IntelGuardians 2006IS website vulnerability – IntelGuardians 2006IS security practices – Security Compliance Corp 2008IS website penetration – Cenzic 2008IS comprehensive CSG system – Geo Olive 1997IS general controls – Internal Audit every 2 yearsCheck writing w/ claims – Internal Audit quarterly

h k i i bl l di i lCheck writing accounts payable – Internal Audit semi-annualDisability claim process – LewisCo 2005Actuarial audit – Watson Wyatt 2000

SURS

List of In

form

ation System

s, che

ck writing

and

other aud

its

Nam

e of Aud

itDate/Cy

cle

Aud

it firm

Scop

eCo

stRe

port issued

?Time spen

tCo

mmen

ts

Info Systems

Fall 20

07BK

D ‐ OAG

Gen

eral con

trols that app

ly to

entire compu

ter op

eration.

Unkno

wn

Yes

1 mon

thNo material findings

Gen

eral Con

trols

Every 5 yrs

Areas reviewed

: administration, com

puter op

erations,

Listing of less significant issue

sph

ysical security, con

tinuo

us service, security

adm

in,

application system

develop

men

t, change control,

system

s software, security

softw

are, te

lecommun

ications.

Info Systems

Nov 2006

IntelGuardians

Purpose ‐ test for stand

ard weaknesses in network.

$8,000

Yes

1 week

Very fe

w issues noted

Network Pe

netration

Ad ho

cScanne

d for vulnerabilitie

s using automated

scans on all

Test

external IP

add

resses used by SURS.

Testing completed

rem

otely.

Info Systems

Nov 200

6IntelGuardians

To inspect a

nd te

st fo

r vulnerabilitie

s in m

embe

r web

site.

$12,00

0Yes

3 weeks

Several issue

s no

ted

Vulnerability te

sting

Ad ho

cTh

e custom

ized

review was com

pleted

rem

otely using test

Recommen

datio

ns im

plem

ented

mem

ber web

site

ID's sup

plied by SURS.

Info Systems

July 200

8Security

High level assessm

ent o

f key roles & respo

nsibilitie

s pe

r$24,000

Draft

2 weeks

Curren

tly reviewing draft rep

ort

Securit y practices

Ad ho

cCo

mpliance

positio

n, policies, edu

catio

n & awaren

ess.

Some recommen

datio

ns

Corporation

expe

cted

Info Systems

Aug

200

8Ce

nzic

Testing of new

mem

ber web

site prior to

implem

entatio

n.$1

4,00

0Draft

2 weeks

A fe

w high & m

edium severity

Pene

tration mem

ber

Ad ho

cCo

nduct tests of m

embe

r web

site using

intrusive and no

nfin

dings be

ing corrected

web

site

intrusive metho

ds. Infrastructure (h

ardw

are & ope

ratin

gsystem

softw

are) also tested

to ensure no

flaw

s in

configuration.

Info Systems

May 199

7Geo

S. O

live

Compreh

ensive te

sting of th

e ne

w CSG

system which

$50,00

0Yes

4 mon

ths

SURS

implem

ented most o

f Co

mpreh

ensive CSG

Ad ho

cinclud

es m

embe

r accoun

ting, claim

s calculation and check

recommen

datio

nssystem

aud

itwritin

g functio

ns. Re

view

ed app

lication controls (inp

ut,

processing

& outpu

t) fo

r each sub

system. Re

view

ed

functio

nality to design specificatio

ns & con

version

processing

of a

ll sub‐system

s. A

lso pe

rformed

info systems

general con

trols review

. Many of th

e test program

s adop

ted by IA

in rou

tine IS general con

trols and claims

audits.

Info Systems

June

2008

Internal Aud

itGen

eral con

trols that app

ly to

entire compu

ter op

eration.

N/A

Yes

2 mon

ths

A fe

w recom

men

datio

ns noted

Gen

eral Con

trols

Every 2 yrs

Areas reviewed

: Segregation of duties, physical security,

in Ju

ne 08 repo

rtlogical security

access, app

lication change con

trols,

program promotion processing.

SURS

List of In

form

ation System

s, che

ck writing

and

other aud

its

Nam

e of Aud

itDate/Cy

cle

Aud

it firm

Scop

eCo

stRe

port issued

?Time spen

tCo

mmen

ts

Check writin

g system

Quarterly

Internal Aud

itQuarterly aud

its of SURS

che

ck writin

g "Pay Ben

efits"

N/A

Yes

Varies

Check writin

g fin

dings if any

w/ claims audits

system

con

ducted

with

aud

its of claim

s. A

udits examine

includ

ed in

rep

orts

proced

ures and

con

trols of che

ck writin

g system

s and

paym

ents of n

ew ben

efits. Looks at all aspe

cts of system

includ

ing EFT paym

ents, insurance with

holding & all

dedu

ctions, 109

9R and

AAI processing.

Accou

nts Payable

Semi ‐

Internal Aud

itSemi ann

ual aud

it of adm

inistrative expe

nses paid using

N/A

Yes

2 weeks

Any find

ings includ

ed in

travel &

Check writin

g process

annu

alTimbe

rline accoun

ts payable system. Once a year,

admin expen

se rep

orts

additio

nal analytical te

sting completed

on en

tire

popu

latio

n using ACL aud

it software. Tests includ

e search

for du

plicate paym

ents, pho

ny invoices, pho

ny ven

dors,

missing

che

cks, late and

early paymen

ts.

Disability claim

May 200

5LewisCo

Group

Ope

ratio

nal aud

it of disability claim

s processing.

$24,00

0Yes

4 weeks

Staff h

as im

plem

ented some

process

Ad ho

cRe

view

ed existing processes, staffing mod

el, reh

abilitatio

nrecommen

datio

nsprotocols, clinical resou

rces, perform

ance stand

ards,

quality

con

trols. A

lso review

ed sam

ple claims for

effectiven

ess of claim

risk managem

ent in several areas.

Actuarial aud

itSept 200

0Watson Wyatt

Compreh

ensive actuarial aud

it of current actuary.

$30,00

0Yes

4 weeks

No material findings

Most o

f aud

it was to

che

ck th

e accuracy & processing by

the curren

t actuary. Some of review steps add

ress

fiduciary risk concerns. Aud

it also evaluated

the data th

atSU

RS sub

mits to

actuary.

BenchmarkingBenchmarkingCOST Cost Effectiveness Measurement (CEM)

Who is CEM Benchmarking Who is CEM Benchmarking Inc.?Inc.?

• CEM stands for Cost Effectiveness Measurement, which stands for the philosophy “measure what matters because what gets measured, gets managed”.

• Company was founded in Toronto, Canada in 1992.

• CEM is an independent provider of objective and actionableCEM is an independent provider of objective and actionable benchmarking information for pension investment and administration operations – worldwide.

Pension InvestmentPension Investment

CEM’s performance database includes funds from around the pworld:

141 US funds participate with aggregate assets of $2.4 trillion USD.100 Canadian funds participate with aggregate assets of $836 billion USD.26 European funds participate with aggregate assets of 1.20 trillion USD.12 Australian and New Zealand funds participate with aggregate assets of $141 billion USD.


A l T l P f R i

A Comprehensive Investment benchmarking service:

Annual Total Performance Review.– multi year review of cost, value added, and risk.– Analysis is presented to Trustees and Investment Committee.

Used as a cost Management Tool.– Costs matter and can be managed.– Reports can be used as a negotiation tool.

Value provided from research and insights into best practices and trends.

– Learn what leading international funds are doing and what drives results

Pension InvestmentPension InvestmentCost comparisons are to Custom Peer Group

Primary criteria for peer groups is fund size, because size impacts costs

Abbot LaboratoriesAmeren CorporationCity of Milwaukee ERS

Sample Custom Peer Group for Example Fund

Peer group example for a Public Fund with 3.71 billion USDA mix of Corporate and Public funds with a $3.69 billion average

MERS of MichiganMissouri Local Government ERSMotorola, IncNCR CorporationDenver Public Schools RS

District of Columbia BoardDominion ResourcesGeorgia-Pacific CorporationHouston Police Officers PensionIndiana State Teachers’ RS

NCR CorporationNestle USA, Inc.North Dakota State Investment BoardPension Trust for Operating EngineersSandia CorporationSiemens CorporationVentura Country ERA

Pension InvestmentPension InvestmentCEM collects investment costs by major asset classes and 4 different implementation styles as well as costs of investment oversight and administration.

Only asset management and oversight costs are included.

Direct investment costs are collected for all major asset classes and 4 different implementation styles.

Oversight, Custodial & Other includes all costs associated with the oversight and administration of the investment operation.

Pension InvestmentPension InvestmentCost performance is assessed by calculating a benchmark cost, or by estimating what cost would be, using asset mix and peer median costs.

Provide explanation of cost by analyzing the impact of implementation Style choices and all line-item costs.

Quantify cost impact of Implementation Style decisions.

Examine costs relative to peers for all line item costs.

Analysis focuses on two key decisions: asset mix policy andAnalysis focuses on two key decisions: asset mix policy and implementation.

Show how asset mix policy has impacted performance.

Examine where implementation value added comes from and how it compares to other funds.

Pension InvestmentPension InvestmentSample Report

Pension InvestmentPension InvestmentSample Report


A t l t d P G b d i SURS

Summary of ServicesA custom selected Peer Group based upon unique SURS characteristics.

A customized report that compares SURS results to it’s peers and to CEM’s U.S. Fund Universe.

Guarantee confidentiality of data and results

Personal on-site presentation of resultsPersonal on site presentation of results

Performance insights from the CEM Research Program

COST $20,000

Pension AdministrationPension Administration

United StatesArizona SRSCalPERS

Pennsylvania SRSPennsylvania Public SchoolsO C t ERS

AustraliaAustralia Post

Over 60 Systems participate

CalPERSCalSTRSCity of Dallas ERSColorado PERADelaware PERSIdaho PERSIllinois MunicipalIndiana State Teachers’Iowa Public Employees’Kansas Public Employees’Kern County ERALos Angeles County ERA

Orange County ERSOregon Public EmployeesSan Diego City ERSSan Diego County ERASouth Carolina RSSouth Dakota RSState of MichiganTexas MunicipalTexas ERSTexas TeachersUtah SRSVirginia Retirement System

CitiStreet/SunSuperComSuperPillar AdministrationQSuperRBF – TasmaniaSouth Australia SAVictoria - GSOUniSuperEuropeABPBlue Sky GroupBpf Metalektro

Louisiana Teachers’Missouri State EmployeesNevada PERSNew Hampshire RSNew York City Teachers’New York State and LocalNorth Carolina RSOhio Public Employees’Ohio State Teachers’

g yWashington State DRSCanadaAlberta Pension AdministrationBritish Columbia Pension Corp.Canada PostDefence CanadaLocal Authorities of AlbertaOntario Teachers‘OpTrustPWGS CanadaRCMP

Bpf MetalektroCordaresHoreca & CateringInterpolisMN Services/ BPMTPGGMPNO MediaPPM - SwedenShell Pensioenfonds


Why benchmark pension administration?

1. Strategic governance information.2. Monitoring and improving service.3. Insights into best practices.4. Helps set priorities by demonstrating tradeoffs.5. Networking with peers.g p


Strategic governance information

Addresses key performance issues.– Are costs reasonable?

– Are service levels reasonable?

– What is being done different from other systems?– What/where can there be improvements?

CEM benchmarking provides answers to these questions using clearly defined, objective metrics.


Monitoring and Improving Service

Analysis is used to define service standards.Performance is compared to the performance of others.


Ann al best practice re ie

Insights into best practices

• Annual best practice review.• Identifies examples of best practices that can be

copied, and poor practices to avoid.• CEM evaluates

• Websites– Pension Estimates– Member Statements– Satisfaction Surveys– Disability Brochures– Collections and Data Maintenance Process


Higher member ser ice means higher costsHelps set priorities by demonstrating tradeoffs

• Higher member service means higher costs.

• Achieving good service means investing in people and systems to make it happen.

• Understanding tradeoffs leads to better decisions and the ability to assess whether you are getting good value for the cost.


Systems attribute total costs to 13 core Benefit Administration Activities.Total cost per member compared to peers.Demonstrates where budgets are spent.Analyze 5 factors that impact costs.Compare to peers on the 5 major cost drivers.Benchmark cost is predicted using transaction types and volumes.Quantify complexity challenges and assess how they compare to peers.

Pension AdministrationPension AdministrationSample Report

Pension AdministrationPension AdministrationSample Report


Comprehensive Benchmarking Report.

Summary of Services

Comprehensive Benchmarking Report.Assistance with data collection, to ensure data consistency and comparability.A best practice review of a key element of communication material or a business process.Full benefit of participation through a personal, on-site presentation of results.Global Client Conference. Access to Peer Network which can save valuable research time.All-inclusive cost $35,000.

Staff Time CommitmentStaff Time Commitment

• Data collection begins January of each year.• Benchmarking report available May.• Best practice report available December.

• Executive staff must be available to complete extensive surveys.

• Executive staff time commitment is estimated to be approximately 20 hours per person.

• CEM site visit to review system results.

BenefitsBenefits

Independent assessment.Independent assessment.

Validation for Board and staff.

Identification of Best Practice ideas.

Identification of developing trends and technologies that could help improve operations.

Not as costly as a Fiduciary Audit.

Fiduciary Audit

Documents

Transcript of Fiduciary Audit