Hey, NZX, stick to what you’re good at!

When I was on a broker-desk in Sydney discussing the potential outcomes, success or otherwise, of the various strategies of the listed companies we were monitoring, a colleague of mine...

When I was on a broker-desk in Sydney discussing the potential outcomes, success or otherwise, of the various strategies of the listed companies we were monitoring, a colleague of mine would frequently say “Warren, always remember this “stick to what you’re good at.””  (Maybe he was suggesting I should resign?) Jokes aside, it is a principle I have mostly followed and the times when I haven’t, I have tended to come somewhat unstuck, day-trading currency being one of these.  Thinking of this principle in the context of companies listed on the NZ Stock Exchange, there are a couple of examples I highlight:  the first is The Warehouse Group (WHS) and the second is Michael Hill International (MHJ), both very successful retailers.  Back in 2000, after successful expansion of its NZ footprint, WHS looked to expand into Australia via the purchase of deep-discount retail chains, Crazy Clints and Silly Solly’s, believing its retailing formula would be as successful there as it was here.  The venture was halted in late 2005 with Sir Stephen Tindall noting “We unfortunately did underestimate the competitive response. We underestimated what structure retail took in Australia…”.  The company estimated that the foray cost the group NZ$250 million in total losses.  As capable and visionary as Sir Stephen Tindall was in creating The Warehouse phenomenon (which now includes Noel Leeming, Torpedo 7 and Warehouse Stationery) it wasn’t enough to succeed or even survive in Australia.  To his and the company’s credit they realised this and withdrew.  MHJ opened its first store in Whangarei in 1979 (when interestingly Mr Michael Hill was at the ripe old age of 46…) and jumped over the Tasman to open four stores in Brisbane in 1987.  It now has more stores in Australia (147 as at June 2022) than everywhere else combined (NZ and Canada) which generate over A$300 million in annual sales and just on A$52 million profit (versus NZ$125 million and NZ$30 million respectively in NZ).  The jeweller clearly has a distinct point of difference in its merchandising, marketing, ranging, pricing etc to be able to succeed to that extent in the tough Australian market.  My “stick to what you’re good at” principle applies in both these instances and indeed both these companies do / did:  WHS in big-box retail here in NZ and MHJ in jewellery in Australia, Canada and NZ.

My “stick to what you’re good at” thoughts popped-up recently when I read that share market operator, NZ Exchange (NZX), had effectively purchased the funds management operation of prominent and very successful diversified financial services company, Craigs Investment Partners.  NZX has made some interesting strategic moves over the past 20 years since demutualisation.  Some have not worked out as may have been initially intended, some have been downright strange while others have been very successful.  How will this latest transpire?

Sharebroker members voted to demutualise the stock exchange in late 2002.  Up until then it had been a member-owned cooperative serving the interests of the various exchange stockbrokers which were its only customers and its sole source of revenue via trading fees.  The demutualisation proved a shot in the arm for the company and brought with it a new board and leadership team, a listing on its own exchange as well as a mandate to commercialise operations, grow and make money for shareholders.

The new team established proper pricing for trades and data and, looking and needing to grow its low revenue base of around NZ$10m at the time, embarked on a number of strategic initiatives.  The introduction of dairy derivates was good as was the TZ1 initiative and establishing both the Clearing House and Link Market Services for our market here in New Zealand.  Another good move was to set up Smartshares, a range of, low-cost passive funds, or ETFs, designed to track the performance of various indices both in New Zealand and Australia.  There were no ETFs here at the time as the funds management industry had not cottoned on to this concept.  NZX stepped into asset management when it purchased Superlife extending its passive ETF reach into the lucrative Kiwisaver market.  Around seven years ago the NZX purchased a small investment administration platform and set about upgrading its technology and broadening its capability with a view to establishing an investment administration platform/utility to compete with the existing providers in this market, of which there are few.  The jury is out regarding the success or otherwise of this initiative, with sale rumours swirling at present, notwithstanding the unit has some NZ$10 billion of client assets on its platform with commitments which will see this increase to around NZ$40 billion over the next few years.  Scale is everything in investment administration.

The above moves are all demonstrably successful, but a few strange things happened along the way too.  Not content with trying to operate a successful market and broadening the listing base in New Zealand, NZX decided to set up an exchange in Australia which it curiously named “The AXE”.  Designed specifically to compete with part of the much larger Australian Stock Exchange (ASX) this move was always doomed to fail – “stick to what you’re good at”.  Things got even more strange when NZX got involved in a grain exchange as well as purchasing various rural-sector publications in Australia.  This generated years of losses (although not large) and a massive management distraction which ended in tears in messy disputes with the Australian vendors regarding performance and payments, ultimately ending up in the NZ courts NZX won by the way, but still very messy).

So NZX now buying Craigs’ funds management operation makes me wonder is this “sticking to what the NZX is good at”?  Yes, NZX has arguably been a successful steward of Smartshares and Superlife over the years but moving into direct active asset management and competing head-on with established fund managers?

In announcing the acquisition, NZX also stated “NZX has entered into a product support and distribution agreement with Craigs under which NZX and Craigs will work together to develop new products for the benefit of Craigs and Quay Street customers…”   There’s nothing in the release to suggest the development relationship will be exclusive, but shouldn’t NZX actually be working for the benefit of its own customers which include all the other brokers which incidentally compete with Craigs?

There must be some conflict in that it is competing albeit indirectly with its own customers being the sharebrokers.  Sharebrokers’ clients are private investors and fund managers.  Fund managers’ clients are private investors and superannuation schemes.  NZX with its now-expanded asset management operations will be competing head-on with other asset managers, by definition, and therefore indirectly with the sharebrokers which are a major source of its revenue.  Perhaps NZX will need to change some aspects of its expanding funds management model as it looks to address these issues.

The outgoing NZX Chairman agreed atleast back in 2019 when he stated “Over time we have developed sophisticated conflict-management policies that are rigorously complied with.  The board also strictly draws the line – “passive only” – with no active management.”

So, passive asset management, TZ1, Link, Dairy Derivates are a big yes from me.  Investment administration platform a yes also at this stage.  Grain exchanges, magazines, active funds management and taking on the ASX a definite no!  As my old former colleague said to me over and over again: stick to what you’re good at.