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Startups Shake Up 401(k) Arena

Online plans bring robo-style investment services to workers at small businesses

By

ANNE TERGESEN
July 31, 2016 8:52 p.m. ET

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Disruption is coming to the 401(k) industry.

Led by technology entrepreneurs and backed by venture capitalists, a crop of startups have launched online 401(k) plans in recent
months with the aim of bringing robo-style automated investment services to small businesses, many of which offer their workers
high-cost 401(k)s or no retirement savings plans at all.

The upstarts are pursuing a large market that has been relatively ignored until recently—a vacuum that has prompted some states to
start requiring small businesses to offer retirement plans. Among companies with 100 or fewer employees—a group that employs
about 42 million people, or one-third of the private-sector workforce—only 14% sponsor a retirement plan, according to an estimate
by the Government Accountability Office.

The robos, which feature online service and low-cost indexed investments, are also trying to win business from the insurers and
payroll providers that have long dominated the small end of the 401(k) market. Among the smallest plans, fees can run as high as
1.5% of assets or more a year, according to data from 401(k) plan tracker BrightScope Inc. and fund-industry trade group Investment
Company Institute. In contrast, fees for participants in plans with more than $1 billion in assets average 0.26% of assets.

“The 401(k) market is ripe for disruption,” said Cynthia Loh, general manager of robo-advisory pioneer Betterment LLC’s 401(k)
business. “Everybody is trying to leverage technology to make things more efficient.”

But while the startups—whose ranks include ForUsAll Inc., Dream Forward Financial LLC, SaveDay Inc. and Captain401 Inc.—see
big possibilities in the small 401(k) market, there are hurdles. One is the difficulty of selling plans to mom-and-pop companies, a
decentralized market in which many employers lack the time, expertise and money to put plans in place. Another is rising competition
from more established low-cost players, including Employee Fiduciary LLC, a company that entered the small 401(k) market 12 years
ago, and fund-industry giant Vanguard Group Inc., which launched a small-business 401(k) service in 2011.

“The smaller end of the 401(k) market presents the biggest pocket of opportunity,” said Crystal Hardie Langston, head of Vanguard
Retirement Plan Access, which targets plans with up to $20 million in assets. While most large companies already offer plans, “there
is a huge untapped population of small businesses that don’t.”

The startups say it is a promising time to enter this market. Amid growing concern about insufficient retirement savings, four states—
Maryland, Connecticut, Oregon and Illinois—recently passed laws that require many small businesses to offer retirement savings
plans. Lawmakers in New Jersey and Washington have authorized state-run marketplaces to help small companies that want to set up
plans. Some two dozen other states and a few cities have either commissioned studies or are considering similar legislation, according
to AARP, and Georgetown University’s Center for Retirement Initiatives.
The robo trend is “a very pro-consumer development,” said Mike Alfred, chief executive of BrightScope. The entry of low-cost
providers, he added, is helping to drive down 401(k) fees paid by employees of small businesses, which fell from an average of 1.21%
in 2009 to 1.06% in 2013 among plans with $1 million to $10 million in assets, according to BrightScope and the ICI.

Many of the startups focus on plans with 50 to a couple hundred employees. Their pitch: Technology can reduce the time and cost of
managing a retirement plan, making it a benefit that small businesses can afford to offer their employees.

Like better-known robo advisers Wealthfront Inc. and Betterment—which mainly manage money outside of retirement accounts—the
new 401(k) services generally recommend low-cost exchange-traded funds and index mutual funds from companies including
Vanguard and BlackRock Inc.
ENLARGE
Most let employers choose whether to match employee contributions.

The startups say they have reduced the time it takes employers to design a plan by summarizing, in plain English, the choices and
features available. Roger Lee, chief executive of San Francisco-based Captain401, said “employers can configure their 401(k) plan
online through our interactive [signup] wizard and receive guidance on what options are popular and what parameters are
recommended based on the company’s goals.”

ForUsAll charges employers a flat administrative fee of $94 a month for up to 10 employees—plus $5 for each additional employee.
For a company with 15 employees, that works out to $1,428 a year for record keeping, among other services. In addition, the company
charges employees 0.54% of assets—a sum that includes both mutual-fund fees and some administrative charges.

At Vanguard, a 401(k) plan with 15 employees would pay $3,475 for record keeping services on top of the fund fees employees pay,
which can be as low as 0.05% or 0.1%.

Yet while consumers are growing more comfortable with receiving investment advice from a computer algorithm, experts say
challenges persist.

In an era in which more companies are being sued over fees and other features of their retirement plans, “a brand name is a big
advantage” when trying to win new customers, said Employee Fiduciary CEO Eric Droblyen.

The technology entrepreneurs who lead the robos may also underestimate how difficult it can be to sell a 401(k) plan to a small
company, said Brightscope’s Mr. Alfred. That’s one reason why insurers with sales forces have long dominated the small 401(k)
market, he added.
And if an economic downturn causes their venture-capital backers to stop funding their operations, those that aren’t profitable may
have a hard time surviving, leaving clients to transfer their plans elsewhere, said Mr. Alfred.

Still, he added, even if most fail, the robos “are driving fees down and making small plans better for the average person.”

Write to Anne Tergesen at anne.tergesen@wsj.com