Spurred on by recent news about middle-office outsourcing arrangements, I wanted to reflect on activities in 2017 as well as look ahead to 2018 and beyond.
Reinforced by Janus Henderson’s appointment of BNP Paribas for middle-office services, market participants continue to explore outsourcing these functions. Why? To help reduce risk, gain scale, shift to a more predicable cost base and help them focus on their own core competencies. And given the perfect storm of macro headwinds, Accenture predicts middle-office outsourcing initiatives will accelerate.
Three prime pressures are causing these headwinds:
- Active to passive movement – An ongoing, secular shift from active to passive products in response to lagging performance against benchmarks has a number of asset managers evaluating ways to maintain their bottom line.
- Regulatory burden – As agencies tighten rules for the asset management industry, the total cost of compliance is rising.
- Ballooning costs – Expenses related to legacy technology, federated operations, inefficient processes and distribution continue to rise.
Put these together and what do you get? A squeeze on profitability. This major challenge and the need to support new requirements—internal and external—are propelling many firms to think more about the functions they need to manufacture in-house.
Welcome to the New World
Before we zoom in on the new, let’s look at how we got to this point. Early middle-office outsourcing deals often were “lift-outs” of internal operations—in the business process outsourcing vernacular “your mess for less.” During the global financial crisis, the industry converted asset managers onto their strategic platforms—providing even greater scale and best-of-breed technology.
As strategic platforms evolved, asset managers gained comfort off-loading more of their middle-office operations to strategic partners. And they are doing it a lot. Outsourcing clears the way for firms to sharpen their fundamentals. Today, better servicing clients and understanding markets is paramount.
Here are outsourcing trends we have seen in 2017:
- Non-traditional service providers are challenging the old guard
- Smaller service providers are winning more mandates
Service providers are:
- Pivoting from service-led offerings to data- and technology-oriented solutions; data no longer is the byproduct of services—it is the service
- Moving up the value chain to provide new “value-added services,” e.g., data-as-a-service
- Becoming more open to hybrid middle-office outsourcing arrangements
What’s the main message for asset managers going forward? Two words: Care and Consideration.
Care. We usually advise our clients—when turning to middle-office-outsourcing—to:
- Exercise more due diligence. Understand not only what service providers do, but also how the work will be done, e.g., manual process versus automated. Take an increased interest in the platforms supporting the service model and the providers’ success with emerging technologies, e.g., artificial intelligence, robotic process automation.
- Convert and onboard. Poorly executed implementations prove costly and can impact the end client. Weigh the capacity to convert new business in a timely manner when selecting a service provider and ensure there is a mutual understanding of roles and responsibilities.
- Weigh standard versus customized. Define the future-state operating model and service levels. Resistance to move to a more standard industry delivery model for core functions (e.g., trade processing, reconciliations, pricing) can limit potential benefits.
- Decide on best of breed versus single provider. Before embarking on a transformation initiative, know: what is the optimal number of relationships required? Think about it from business, risk and financial perspectives.
- Insert the correct incentives over the lifetime of the partnership, such as creative ways to foster innovation, absorb implementation/conversion-related expenses and fixed versus variable costs.
- Develop the right operating model. Many firms are struggling to balance the creation of risk-based oversight models versus “re-perform” post-strategic initiatives. The emergence of shadow organizations and “double do’s” can erode the benefits of outsourcing.
Consideration. Implementing the steps outlined above requires asset managers to:
- Receive strong executive support.
- Install excellent program governance.
- Strategically co-design commercial constructs.
- Establish process owners.
- Have the right transformational team in place to guide the journey.
Contact me if you are interested in talking about you middle-office and outsourcing strategy.