The Mutuals’ Deferred Shares Bill received Royal Assent last month. The Act will give mutual businesses a new option to raise tier one capital in the form of deferred shares.
This is good news for leading mutuals like LV=, but what will this mean in practice and does it change the competitiveness of mutuals in the wider sector?
Until now, tier one capital raising options for mutuals were restricted to the use of retained profits alone. So the growth and development of the sector in response to market changes was limited. Under this new Act, mutuals will now be able to source external capital without losing their mutual status, and clear benefits will follow. This new capital raising can be used to fund growth or acquisitions, providing far more flexibility for mutuals to develop faster.
Deferred shares will confer membership, allowing mutuals to develop a new class of members who actively wish to invest in their future. Under similar rules already adopted for building societies, Nationwide raised £500m from City investors in 2013 with the listing of core capital deferred shares – this sparked investors’ interest and gave Nationwide a much-needed boost. While the detailed regulations behind the new Act still need to be finalised and agreed with all regulators, the expectation is that this new class of shares will be available to both institutional and retail investors.
The overwhelming macro benefit of this new enabling legislation is that it puts successful and ambitious mutuals on a more level playing field with PLCs. There has been much criticism of the demutualisation period of the mid 1980s to early 1990s, which saw household names rush to demutualise. Their members received significant windfalls, yet few of these organisations fared well under their new ownership structures, with several involved in increasingly risky activities which ultimately ended in failure for many. Demutualisation also severely reduced diversity in the insurance market. Prior to 1990, mutual insurers and friendly societies held over 50 per cent of the UK insurance market; by March 2013 they accounted for less than 10 per cent. Despite the inherently mutual concept behind insurance – the pooling of risk across a community to solve a shared problem – many of these names have disappeared.
Does that matter? We believe so. As one feature of the last financial crisis showed, the dominance of PLCs left the UK’s financial services sector vulnerable to crisis, as a culture of risk-taking and short-term profit-making prevailed. Successful financial mutuals, by contrast, are less susceptible to these challenges. They are owned by their members (who are also their customers), so the primary objective is to focus on the long-term sustainability of the business. Additionally, even with this new class of shares, each member only has one vote regardless of the size of their investment, so no one member or “shareholder” can exert disproportionate influence.
There was full cross-party support for this Act, which demonstrates that financial diversity and a level playing field are important principles for all the parties. A priority for any incoming government that takes office after 7 May will be to focus on what else can be done to help successful mutuals flourish, and to maintain and further enhance the level of competitive diversity. Mutuals, on the other hand, need to demonstrate they can succeed on grounds of competitiveness and innovation with the new capital raising options available.