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Leadership in Finance: Vanguard’s Tom Higgins

Financial reporting never stops for the CFO of the investment firm's funds group.
Sarah JohnsonJune 10, 2009

Tom Higgins is on constant deadline. As the CFO of Vanguard’s Fund Financial Services, he oversees the daily accounting of each of the firm’s more than 150 funds, whose net asset value gets publicly reported at the end of each business day. In addition, FFS, which has 325 employees, is responsible for providing periodic financial statements on each fund, which have varying year-ends. “Twelve months out of the year, we’re doing a financial report for a group of funds,” Higgins lamented in a recent interview with

Still, Higgins doesn’t appear to mind, as he has spent his entire career in the same industry and most of it at the same firm. After spending most of the first 10 years of his career auditing investment companies for Price Waterhouse, Higgins joined Vanguard more than 20 years ago and assumed his current title last year. His group also deals with the funds’ taxation, compliance requirements, securities lending, and treasury functions. He will talk about how Vanguard has been working to restore confidence in money market funds and securities lending at the CFO Core Concerns Conference in Boston on June 15-17.

In this edited version of an interview with, Higgins describes his career and his position as one of the privately held investment firm’s three finance chiefs.

How does your role fit into Vanguard?

We have two sets of entities. There’s the corporate group of entities under Vanguard Group Inc., which is a sort of parent company. And then there’s the mutual funds. We’ve got more than 150 mutual funds as well as other investment pools. I was always the treasurer of those funds, responsible for the group we call Funds Financial Services, or FFS, and reported to Vanguard’s CFO. Vanguard’s the name of the company we work for, Vanguard’s the company that pays us.

Nobody works directly for the funds. We used to have one CFO, Ralph Packard, who was on the corporate side. When he retired last year, they split his role into two, basically. Richard Carpenter became Vanguard Group’s CFO, and they gave me the title of CFO of the funds, but essentially my job is unchanged. When Packard retired after 20 years with the firm, they decided that the funds are a big enough business now that we need two CFOs. We report to Glenn Reed, managing director of the Strategy and Finance Group.

Do you interact with Richard Carpenter?

Absolutely. He’s a guy I’ve known for 30 years or so, we have a great relationship. There’s a lot of back and forth between the corporate side and the fund side. What makes us different from everybody else in the mutual fund business is that the funds really own Vanguard. It’s a “mutual” mutual-fund company.

[Our competitors] are organized so that their corporate entity is owned either by a private group of investors or a public company. In our case, the corporate entity is actually owned by the funds. The funds are self-administered, we have our own transfer agent, we have our own accounting areas. All that stuff is basically done for the funds by a company that the funds own. The funds end up paying all of Vanguard expenses, so his side sets the expense ratios of our funds and then we accrue those on the funds’ books every day. And we provide the cash he needs to run Vanguard’s ongoing operating expenses. Those are the two principle interactions between the two groups.

How do your job responsibilities differ from Carpenter’s?

He is more of a classic CFO. He helps out with business planning, budgeting, financing and capital needs, paying bills, procurement, and those kinds of things. On the Fund Financial Services side, I’ve got probably 25 or 30 business units that essentially keep the books and records of the mutual funds and interact with all the investment managers for all the funds. We’re a bit unique in that some of our funds are managed in-house. Some are index funds, some are money market funds, and some are shorter-term bond funds.

We also use approximately 25 outside money managers. As those investment advisors are making transactions, buying and selling those bonds and securities, and money market instruments, they’ve got to communicate to my group so we can record it on the funds’ books.

Then what happens?

The Investment Company Act of 1940 dictates a lot of what we have to do on a day-to-day basis in order to account for the funds. My group calculates the NAVs [net asset value] of each fund you see in the paper or online every day. Commercial CFOs close their books four times a year when they release their quarterly earnings. And they release their quarterly earnings about two weeks after the end of the quarter.

But when you compare that to mutual funds, the 1940 act says you have to keep your books on a liquidation basis in order to be fair to all the shareholders who are coming in and out of the funds every day. For those 150 mutual funds, some of them offer more than one share class, so essentially we have 350 different shareholder classes that we have to keep the books for.

So instead of one company, we have 350 different companies. We don’t close our books four times a year, we close our books 260 times a year, which is the number of business days in a year. We can’t wait until two weeks after the end of the quarter— we have to be ready by 6:00 that day. It’s 350 funds every day and we have be done in an hour and 45 minutes so we can get it out to the online services and the other record-keepers who are selling our funds.

Also, the funds are required to prepare annual reports twice a year and mail those to the shareholders. The funds have different year-ends, thank God, or we would be sending 25 million shareholder reports out with a December year-end. The year-ends of our funds vary between August and January; that spreads the workload around. Just when we’re done with the year-end auditing season, PricewaterhouseCoopers audits each one of our funds separately. Then we have to begin doing semiannual reports.

What other financial reporting do you have to do?

We have to personally certify the financial statements of each one of the 150 funds under Sarbanes-Oxley. [President and CEO] Bill McNabb and I meet about 20 times a year to discuss the financial statements of these funds. The funds’ treasurer takes us through the financial statements and points out things we need to talk about before we sign the certifications that get filed with the SEC.

What else is your group responsible for?

We work very closely with our portfolio managers to try to minimize the tax distribution that we have to pay to our shareholders because we’re trying to maximize their after-tax return in the fund. It’s one thing for a portfolio manager to earn a high return, but if he’s buying and selling a lot of securities and he’s generating a lot of capital gains, we’re going to have to pay that out to the shareholders, and they’re going to have to pay taxes on that. And that’s going to lower their after-tax return on the funds.

We work closely with our managers to try to maximize that after-tax return, not just the pretax return. We add value by qualifying to maintain our RIC status [the section in the IRS code that allows Vanguard to qualify for a deduction on each fund’s tax return], and then paying all those dividends out for 150 different funds — 350 different classes — is another pretty big responsibility. If we were to not qualify, we would have to pay 34% income tax at the fund level, which is something we need to avoid.

What else does your group do?

We also do fund compliance. And we move all the money; there’s a money flow from shareholder to Vanguard as transfer agent and then from Vanguard as transfer agent to the fund. At any one time there might be $2 billion in the pipeline moving back and forth, from shareholder to fund in the case of a purchase, or from the fund back to the shareholder in case of a redemption. We also have a securities lending business — we lend the securities out of the funds and we earn money on that. We pay ourselves back our cost and then we return that money back to the funds. In some cases you can earn 10, 15, 20 basis points of extra return, which goes right to shareholders.

In what other ways does your responsibility differ from that of another CFO?

The level of precision [we have to meet]. The 1940 act says you have to be accurate within a penny of a share. If one of our funds is $19.16, but we report it at $19.15 or $19.17, that’s called a pricing error. We have to recover from that and make sure it doesn’t happened again. We have to see how many shareholders bought in and out at the wrong price. Did the fund gain or lose? Did the shareholders gain or lose? And we maintain some statistics on how good we are at that and how accurate we are.

Technology plays a very important role. We’re just finishing up a system project in the tens of millions of dollars to upgrade systems we use in the middle office. The interactions between portfolio managers and funds — or what we call the middle office — will be a straight-through process.

How accurate are you in these daily reports?

We would consider that sensitive industry data. We have converted a lot of those percentage accuracy numbers for a lot of different processes, including the NAV process, into Six Sigma numbers. Our pricing accuracy is in the range of 4.7 Sigma to 5.1 Sigma.

Why have you stayed with Vanguard for 20 years?
At Price Waterhouse, half of my time was spent auditing mutual funds, including Vanguard, which was one of our largest clients. It’s a very dynamic atmosphere. What’s going on in the market directly affects what we do. We have a lot of interesting, three-way relationships with a lot of companies — they’re either a client of ours, we manage money for them; or they’re a vendor of ours, they provide banking services to us or computer services to us, so they’re a vendor/partner; or we could own anywhere from 3% to 10% of their stock. You could pick up The Wall Street Journal and see probably 20 articles that impact us with respect to any one of those three types of relationships. 

How has your business changed during the time you’ve been in this role?

The basics of what we do has not changed. What has happened is we have gotten a lot bigger. Vanguard has gone from being a sort of niche player since my Price Waterhouse days to an industry leader. Also, some of the instruments the funds own have become more complex. It’s been a challenge to keep up with some of the securities and derivatives and investments that Wall Street invents that our funds buy. The challenge has been how to find and develop people to handle [new instruments] and to keep up with the technology.

How has your job been affected by the financial crisis?

One of the biggest parts of the markets that have been affected may be Treasury money market funds. FFS has spent a lot of time helping the client-facing people and some of the strategy people around what we should do with our Treasury money market funds given what’s going on in the Treasury markets and the yields on the funds having reached zero.

Last week we announced that we’re going to merge two of our funds to help stabilize the yields. That’s an example of how our group can add value because of the knowledge we have and how that manifests itself into the books of the funds, the NAVs, the yields, and the distributions. We’ve spent more time on those kinds of activities.

Of course, something like Lehman Brothers can happen. They were a counterparty to a number of different types of transactions we had, and we had to unwind a lot of those things last fall. We had previously done risk assessments on what would happen if one of our counterparties went bankrupt in the night. We were collateralized, and although it was a lot of work [to unwind], we came out without any losses.

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