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Will TIAA-CREF's New Goals Threaten Its Culture?

A bold growth plan in its early stages raises questions.

Courtney Goethals Dobrow, 06/02/2010

TIAA-CREF is beginning a major transformation that seems to be at odds with the firm's sleepy reputation. As part of a recently launched 10-year strategic plan, TIAA-CREF plans to double its mutual funds' assets under management in the next five to seven years by launching new funds and by allowing some of its existing funds to follow bolder courses.

The plan, which comes two years into CEO Roger Ferguson's tenure, may have a significant impact on TIAA-CREF's corporate culture. As background, the firm's 90-plus-year history is built on securing the retirements of very specific customers: people in the academic, medical, cultural, and research fields. TIAA-CREF's business, most of which is not-for-profit, historically has been anchored in two key areas, the CREF variable annuity product and the TIAA Traditional Annuity. The latter was the firm's first product, launched in 1918 as a mostly fixed-income offering for higher-education professionals. Today, these two businesses combined represent about 90% of TIAA-CREF's assets under management.

Funds to Fuel Growth
The mutual fund business, which started in 1997, had about $26 billion in assets as of April 30, 2010, making funds a distant third relative to assets in TIAA-CREF's annuity businesses. Broadly speaking, the firm increasingly has emphasized its mutual fund business in recent years as its core 403(b) (retirement plans for employees of organizations including higher education and churches as well as some tax-exempt, not-for-profits such as hospitals) client base has looked more often to consultants to shape the investments in the 403(b) plan. TIAA-CREF says those consultants are more comfortable recommending mutual funds to 403(b) plan providers than annuities.

Given TIAA-CREF's relatively small assets under management for funds, doubling its mutual fund business doesn't seem too daunting, but the firm's plan to do so is a departure from the way it has run mutual funds in the past. The firm says the mutual fund roster, which typically has hewed to a moderate, benchmark-oriented approach, will feature higher tracking error and will grant managers more leeway to chart their own course. Also, TIAA-CREF will expand its fund lineup, which hasn't grown much recently outside of target-date funds. In May 2010, TIAA-CREF said it would launch a new emerging-markets fund, and it plans to introduce another new fund by year-end. Thereafter, TIAA-CREF plans to bring out between two and six new funds a year for at least the next few years--a pretty rapid pace for a firm with only 46 mutual funds, including the active and indexed target-date series.

On the positive side, the foundation of TIAA-CREF isn't changing. Ferguson says the firm will continue to focus on its core customer, emphasize prudent risk management, and maintain its long-term approach. While doubling assets is a lofty goal, the firm's time frame doesn't seem unduly aggressive or unreasonable. And the firm expects that many of the new funds will employ strategies with track records in other formats at TIAA-CREF. That's the case with the upcoming emerging-markets fund.

Plan Leads to Uncertainty
But the changes introduce some potentially troubling issues and a measure of uncertainty regarding the firm's future. An emphasis on growth can negatively impact corporate culture because it can shift the focus away from shareholders' best interests. While the pace of asset growth isn't too alarming, TIAA-CREF's mutual fund assets have increased substantially since 2002, when Herb Allison arrived as CEO (at that point, assets stood at roughly $3 billion). Allison's tenure is notable because he joined TIAA-CREF following an almost 30-year career at Merrill Lynch (he left Merrill as president in mid-1999). His Wall Street pedigree was a sharp contrast to the staid culture at TIAA-CREF. Allison faced challenges including stiffer competition from fund giants such as Fidelity and Vanguard, technology in need of modernization, and prickly relationships with financial advisors. During Allison's tenure, the expense ratios on the institutional share classes of TIAA-CREF funds went up, even though it took two votes before shareholders would approve those hikes.

Change didn't come easy during Allison's tenure, and the same may be true for Ferguson. Fee hikes have continued, for example. In August 2009, the funds' board opted not to renew a 12b-1 fee waiver that had been in place for the funds' retail and premier share classes (the latter share class was introduced in 2009 for certain retirement-plan clients). This added 25 basis points to the retail shares' expense ratios, as well as 15 basis points to the premier's. Even with these increases, TIAA-CREF's funds are still reasonably priced, although not many funds' retail share classes land in the cheapest quintile.

Change Is Difficult
Ferguson may face additional challenges should he expand TIAA-CREF's mutual fund lineup. To be sure, the firm so far is drawing on experience in-house. But managing money in a mutual fund format brings with it different challenges from running the strategy in, say, the CREF stock account. Mutual funds are subject to different cash-flow trends, expenses, and taxation concerns. Further, it seems likely that TIAA-CREF will have to bring in more investment personnel as it ramps up the number of funds it offers, and hiring outsiders to fuel growth can be challenging in terms of finding managers and analysts who will fit within a new firm's investment culture.

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