New Sourcing Models Create Both Opportunity, Risk
February 11, 2008
Delegating key business operations to third-party providers such as custodians, administrators, distributors and transfer agents is certainly not new to asset managers. It is a traditional investment management business model which has been refined over the years with increasing third-party interaction.
But recently, the scope and dimension of outsourcing services have evolved and new third-party providers have emerged from unexpected providers, many with long track records of service. At the same time, many asset managers have begun to move beyond traditional sourcing models to gain competitive advantage, fill product or capability gaps and enhance underlying shareholder or partner value. This is creating sea changes across the industry as relationships, roles and related risks that must be considered are transformed.
Evidence of the evolution of sourcing models can be seen in three emerging trends:
Captive Entities. The growing establishment of individual or networks of wholly owned subsidiaries controlled by asset management firms and/or their parent companies. These entities enable asset managers to leverage the mobility of processing and functional assets to optimize operations through people, process, technology and information.
Onshore vs. Offshore. The trend extends across the industry without regard to registered, onshore, alternative asset or offshore managers. The ability to incubate and grow talent on a global basis has many advantages as a source of tactical nimbleness and innovation. It translates into proximity to emerging markets, time zone arbitrage, just-in-time development, creation of meaningful centers of excellence at scale, shared service utilities and opportunities for standardization and creation of global leading practices and potential commercialization opportunities.
Former Custodial Service Providers. The maturation of source suppliers in low-cost jurisdictions, such as Eastern Europe, China and India, which have often previously supported custodial and other service providers, have now begun to offer services directly. These providers have extensive experience and have grown such that they can now offer comprehensive services which compete directly for service contracts at significantly lower costs than through many existing sourcing partners.
Prime Custodians. The transformation of offshore, niche providers into full-service custodians, particularly in India, and their ability to offer sourcing services directly to investment managers is a significant change in the sourcing arena. We see this trend accelerating as other providers in markets such as Russia, Poland and the Philippines, which have identified outsourcing as a strategic national economic development priority, gain further traction.
Global Investment Banks. These represent a new category of provider actively approaching the investment community with innovative and distinctly different service offerings. For example, investment banks, seeking a larger share of custodial assets, are offering back-office sourcing services. These are, in some cases, asset and infrastructure sourcing plus bundled higher yield products, often with an enhanced alpha twist.
Higher Yield, Enhanced Alpha. This is a new but growing trend focused particularly in the insurance asset management sector, which is under significant pressure to offer more aggressive investment products and who have historically underinvested in infrastructure or back office functions. The bundled offering is an attractive option for insurance asset management and allows them to provide new product as well as address long-term under-investment in infrastructure.
Opportunities & Ramifications
Each of these trends creates tremendous opportunities for asset managers to cultivate growth, but they also raise new and critical issues around the governance and specifically highlight the importance of design and monitoring of service level agreements.
In addition, there are other important decisions asset managers need to make about their service provider relationships (duration, location, transition, quality assurance and risk) as well as how to configure those components left behind to interface with the new service provider.
Viewing components of the business, value chains and processing relationships as part of a portfolio of global assets is a change in the operating model that mandates several shifts in the way asset managers often think about sourcing and provisioning. It demands establishing an appropriate governance structure and making sound decisions about what to move, where to move it and for how long, as well as under what circumstances these components or processes will be subject to relocation, repatriation, commercialization or sun-setting.
Fundamentally, this new business model requires a change in perspective and thinking about sourcing that is more strategic, more dynamic and holistic.
Sourcing must continually be adjusted to rebalance business assets in the optimal locations as circumstances change.
Decision-making should not be driven solely by the desire to control costs; it should reflect a broader strategy for strengthening the business based on an approach to provisioning that recognizes the mobility of assets and appropriate control of intellectual capital.
Ultimately, sourcing should not be viewed as a unique point-to-point relocation project, separate from other continually monitored and reevaluated parts of the business.
Making the right design and governance choices up front is the foundation for achieving a high performing, effective and efficient operation.
The way in which investment managers approach sourcing and potential transactions will be the hallmark of successful sourcing relationships. How they manage these relationships and take advantage of a continually evolving marketplace is equally critical to long-term success.
(c) 2008 Money Management Executive and SourceMedia, Inc. All Rights Reserved.