Overview of Finance Services Offshoring
Offshoring processes in the Banking and Financial Service sector, like most industries, is an accepted and widely adopted way of doing business. In the 1990’s the Financial Services sector quickly embraced offshoring in particular in the back and middle office. This early enthusiasm focused on standard, repetitive transactional processes such as credit card processing, and as yet the take up of offshoring more complex processes such as Finance and Accounts has been minimal. Given the current market turmoil what lies ahead for this industry? This article reviews offshoring trends in both the Banking and Financial Services (FS) and Finance and Accounting (F&A) market. I review the overlap of these two markets and establish if there is an unexplored opportunity. Finally, I intend to review how the current turmoil in the financial markets may impact the future of offshoring in the FS market.
Trends in Financial Service offshoring
Offshoring within the FS sector can be traced back to some of the early pioneering contracts of the 1990’s. Organisations such as UBS and Citigroup were quick to identify and realise the benefits of offshoring. Many FS organisations set-up captive shared service centres in locations such as Mumbai and Chennai for the provision of predominantly their IT and transactional back office functions. Other organisations such as Credit Suisse opted to join forces with a third party supplier, rather than going it alone.
Interestingly the FS outsourcing market profile has not changed significantly. In 2008 the FS offshore market still strongly reflects its heritage with IT and back office areas still equating for over 80% of the market.
The back office transactional work includes processes such as mortgage, credit card and loans processing and retail banking.
Offshoring is still popular confirmed by a recent report by FS Outsourcing who state that in 2007 the FS outsourcing market was valued at close to £25.2 billion. They also estimate the FS market to grow at approximately 25-30% per year, which is phenomenal. Indeed there is an argument that, given the current economic climate and turmoil, the estimated growth of this market may be underestimated and that many FS organisations will look to further utilise offshoring to achieve necessary efficiencies and cost savings to survive in these challenging times.
Trends in F&A offshoring
The F&A market is a multi-billion pound industry and can also be tracked back to the 1990’s with early deals such as BP with Accenture and IBM. Offshoring F&A typically starts with basic transactional processes such as accounts payable or travel and expenses. These are usually the first processes to be handed to a service provider, often under trial. Like the FS market, the F&A market place is experiencing significant growth. FAO states that in the last 5 years this sector has seen 40% growth with 107 contracts signed in 2007. As highlighted above this growth is despite its poor take-up from FS companies.
The F&A market, shows no signs of slowing down with many wide-scope F&A deals being signed including well known names such as BBC with Xansa (now Steria), Thomas Cook with Accenture and Centrica with WNS. The F&A market has providers servicing a broad range of industries, from travel to utilities and manufacturing to drinks companies, many of whom have special, individual and unique, requirements and regulations.
This sector’s growth can be split in two parts. Firstly, more organisations are realising the benefits of offshoring basic, repetitive, rules based and transactional processes. Secondly, this market is evolving. Many companies have gained more confidence in their offshoring providers, some of whom have worked together for over a decade. They are now exploring offshoring more complex processes.
Diagram two shows typical F&A processes plotted against complexity. Organisations typically start offshoring from the base. The current trend is that organisations are now offshoring more processes and are moving up the value pyramid to include processes that are increasingly complex and judgemental.
It is clear from the sections above that both the FS and F&A markets are buoyant and experiencing significant growth in their own right, but there is limited overlap. As stated above FS outsourcing reported that of the £25 billion FS market just 2% is represented by F&A.
Our research shows that, of the banks and FS companies that have outsourced any F&A processes, most remain in the bottom third of the complexity pyramid above. National Australia Bank has outsourced their accounts payable to Accenture and Lloyds TSB have a contract with Steria for the provision of their accounts payable, employee expenses and fixed asset accounting.
This focus on just the transactional work is years behind other industries. There are only a handful of FS organisations who have taken it a step further and offshored processes higher up the complexity pyramid.
Morgan Stanley and HSBC are two examples of organisations actively utilising offshoring and who have pushed the boundaries into the middle tier of the complexity pyramid. They both operate their own captive shared service centres which provide F&A services, including statutory accounts and risk reporting, and HSBC’s also includes tax and financial analysis. Examples of FS organisations who have offshored middle tier operations working with third parties are less widely reported. In 2005, Finodis was established. This is a joint venture between Fortis Commercial Finance (FCF) and Electronic Data Systems (EDS). The joint venture provides invoicing, payments and management reporting.
Our research could find only a few, predominantly US, examples of FS organisations who have offshored higher end (top tier of the complexity pyramid) processes including financial analysis, planning and treasury. Interestingly in most cases they used a third party provider rather than setting up operations independently.
Given the success, at many levels, of outsourcing F&A in so many other industries why is there such a limited appetite to offshore these processes, in particularly in the UK FS market?
Offshore providers can offer many references of clients who have successfully off shored similar F&A processes, for example the well publicised success of BP. The original contract signed 15 years ago was worth $20 million a year this was so successful that their outsourced contracts are now worth £1.5 billion. Yet few FS clients have been convinced. So why are FS organisations not offshoring? Do they have valid reservations?
Why not F&A?
A possible reason the FS sector lags behind in F&A offshoring is that management have had other important competing priorities. Management of FS organisations have been dealing with constant change over the last few years and have had to address other major issues such as IFRS, USGAAP changes, Sarbanes Oxley, Basel II, MiFiD and other regulatory changes.
Additionally whilst recently working on a recent UK bank engagement the following issues were also cited as barriers:
• Operational Risk
• Compliance Risk
• Reputational Risk
The safety and ‘lock-down’ functionality of technology, systems and data were cited as reasons for blocking offshoring. There was concern that remote offices are less secure. This location issue has however not stopped the banks detailed above so clearly this is not insurmountable. Fraud was also a concern and it was felt the increased remote nature and use of third parties extenuated the risk.
The FS industry is fiercely regulated. There is increasing pressure for the sector to be more transparent and able to provide regulators and investors with meaningful investment information. A very important point is that Chief Finance Officers and relevant account executives are personally responsible for compliance. They cannot delegate their responsibility so there is often concern about offshoring. Executives want to guard this work closely so they can ensure compliance and control. It should be noted however that compliance and regulation is an issue being faced and overcome by many industries. Compliance with rules, regulations and standards can and are being written into contracts. This reduces the loss of control and, some would argue, introduces contractual boundaries often stricter than internal governance. Other organizations have taken more innovative steps. Credit Suisse made the decision to co-manage their offshored location. They put their management ‘on the ground’ working alongside their third party provider. This relationship and contract is a success. Compliance risk can be minimized but if the appetite for offshoring is not there then this risk could prevent it from happening.
The reputational risk if something fails could be detrimental’ was cited as a major issue for FS organisations. This risk is interesting as if something fails then it could be detrimental to an organisation, but this is not necessarily increased because a third party supplier is involved. As per the point above if the appetite doesn’t exist within an organisation then this issue will become a show-stopper.
The issues and hurdles faced by FS clients are complex but every industry has specific nuances and processes and regulations that are unique to them. The FS sector’s F&A processes are not so complex or unique that they cannot be offshored, as demonstrated by those who have already done it.
The road ahead
For the last decade the FS sector has been very successful but at the current time you cannot open a newspaper or turn on the TV and fail to hear about the worsening financial state of the economy. The credit crunch and daily press coverage of the government bailing out the banks is causing major economic, financial and reputational damage. The years of strong growth are behind us. Life in the city is tough and going to get more so. In recent years success has meant banks have not had to focus on their cost base. However this is going to change and become a key priority. Over the next 12-24 months FS organisations will have conflicting pressures. There will no doubt be more regulatory changes (as a result of recent events) which will need to be implemented but these will need to be dealt with whilst also addressing cost pressures. CFO’s are going to be facing increasing cost and resource pressures and are going to have to make tough decisions. For those organisations who have not already done so offshoring is a possible option to overcome both the cost and resourcing challenges. Offshoring will be utilised not just to get the competitive edge as the likes of HSBC and Morgan Stanley did, but to ensure these organisations just stay in the game. The current economic turmoil will increasingly focus attention to parts of the FS organisation where cost savings and efficiencies can be achieved. F&A offshoring is an established market with proven track record so is a sensible starting place. The current economic situation will result in boundaries being pushed and changes that were ‘nice to have’ becoming a necessity.