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O.R. IN EVERYDAY LIFE

O.R. Inside Your Pension

When stakeholder pensions were introduced by the government, providers' fees were limited to only 1% of the funds under management. This rate of commission, which is a small fraction of the rates previously charged, presented the pension providers with a number of challenges, forcing them to reduce drastically their sales and administration costs. In fact, the cost pressures are so acute that some companies questioned whether it would be worth their while going into stakeholder pensions, whilst simultaneously recognising that it would be enormously risky for a major provider to stay out. Legislation was not the only factor forcing change; in common with businesses of all kinds pension providers have to wrestle with the challenges of conducting business on the internet.

Faced with such rapid and fundamental change, pension providers put O.R. inside their stakeholder pensions. Here are just a few of the ways in which there may be OR inside your pension.

- Because charges for stakeholder pensions are limited to 1% of the contributor's fund, they build up only slowly as contributions come in over the years. Yet much of the cost is incurred up front, during the process of selling the policy and signing up the customer. Therefore, unless it can sharply reduce the costs of selling and administering pensions, a provider will have a lot of money tied up for a long time before it earns any return on that money. So providers put O.R. inside, using financial models to enable them to work out strategies for earning a worthwhile return on stakeholder pensions, and estimating how far costs would need to be pared to enable that to happen.

- Faced with an urgent need to cut costs sharply, providers looked to the internet, which offers possibilities for selling and administering pensions very cheaply - but only to those customers who have internet access. At the same time, setting up an e-selling operation requires considerable investment in IT and promotion, and is therefore risky. Whilst the internet offers opportunities to established companies to cut their costs, it also presents them with the threat of competition from new entrants which, being internet-only operations, have much lower overall costs. Since the customers with internet access tend to be wealthier or younger, there is a temptation for new internet-based entrants to cherry pick the most lucrative business, leaving the established providers not only with higher costs, but also with the least profitable end of the market. Clearly there are many complexities, risks and uncertainties here - factors which O.R. has well-developed means of addressing. So providers are putting O.R. inside to help them unravel the complexities, evaluate the uncertainties, and address major risks. This gives them a sound basis for assessing and comparing the different strategies available to them, and for justifying the decisions they take.

- Retaining and developing existing customers is always much cheaper than finding new ones, so providers are putting O.R. inside their customer relationship management. By analysing patterns of customer behaviour it is possible to identify those customers who are most likely to lapse. The provider can then take accurately targeted preventative action to stave off the potential loss of those customers.

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