How Good Is Your 401(k)?

With its vast, free database, researcher BrightScope could alter the retirement landscape as much as Morningstar changed funds

BrightScope's brother act: Ryan, Eddie, and Mike Alfred Brad Swonetz/Redux

By Amy Feldman

Americans increasingly rely on their 401(k) plans for retirement, yet typically understand little about how their plans work, or how they compare with offerings at other companies. Is your 401(k) cheap or expensive? Does it offer good investments or mediocre ones? A generous match or a stingy one? And most important: Will your 401(k), and the way you take advantage of it, get you through retirement without running out of money?

BrightScope, a San Diego startup, wants to help 401(k) participants and administrators answer those questions. It has created a massive database from corporate filings with the Labor Dept., Securities & Exchange Commission, and other sources, to rate 401(k) plans. To mine all that data, it developed a quantitative model that takes into account hundreds of factors—everything from the plan's investment choices and fees to its structure, including its generosity to employees. BrightScope then runs simulations to ascertain how well each plan serves the average participant. The final result is a score of 1 to 100 called the BrightScope rating. The company also assigns each plan six component ratings (on fees, average account balance, etc.) that range from "great" to "poor," so participants and plan administrators can see where the 401(k)'s strengths and weaknesses lie.

This exercise isn't without precedent. Retirement consultants at Callan Associates, Marsh & McLennan's (MMC) Mercer unit, and Watson Wyatt (WW) have long done proprietary analyses—"benchmarking," they call it—for big 401(k) plan sponsors. What makes BrightScope unique is that its ratings are publicly available on brightscope.com, and its analysis has been boiled down to a level anyone can understand. The company now rates about 30,000 plans, double the number it had completed in October.

Mike Alfred, BrightScope's chief executive, believes people should be able to see how their 401(k)s stack up as easily as they are able to access quality rankings on their mutual funds, their cell phones, or their cars. With nearly $3 trillion socked away in 401(k)s, "it's ridiculous that no one has done anything with the data," he says. "The person who gets it right will find the business opportunity. We're just naive enough to think we'll be the ones to do it."

BrightScope's efforts come at a perfect moment. Even before the market meltdown of 2008, Americans were headed for a retirement crisis, with the average 401(k) balance hovering around $60,000. Now, legislators and regulators are debating how to reform these plans and whether there should be new rules on fees, which can seriously damage a plan's performance, or on target-date funds, investment vehicles geared to a specific retirement date that are the default offering in many 401(k)s for participants who do not choose their own investments.

If BrightScope ratings gain acceptance, they could change the retirement world as dramatically as Morningstar's (MORN) fund ratings altered the investing landscape. More information could help people better evaluate two job offers or arm current employees with information that lets them campaign for better plans. The ratings could also provide a huge service to corporate plan sponsors, particularly small ones that can't afford to hire high-paid consultants to evaluate and improve their plans.

It's too early to say that tiny BrightScope, with just 22 employees, little revenue, and months of red ink, will usher in all these changes. But the business model—a mix of free reports and subscription-based products that offer more detailed analysis—could prove compelling.