Information technology and outsourcing has been a winning formula for decades--so much so that it became a commodity shopping decision: how much is that ITO in the window? But market trends suggest this philosophy on ITO spend is changing within the financial institutions sector.
We spoke with insiders observing the trends among banks and insurance companies that considered implementing ITO deals during the past two years. It's clear that these institutions increasingly need to leverage technology and that outsourcing is the best strategy for doing so. Here's why.
Trend #1: Customers and Branches; Efficiency/Effectiveness
Mention business challenges to banks, and the ability to generate revenue is at the top of their list, says Michael Kerr, Vice President, North American Financial Services, Getronics. Outsourced services and solutions that help banks accelerate getting to market with new products are now vital.
Don Morrison, Vice President, Global Banking Practice Leader at Kanbay International, agrees. "The number one thing we hear from our clients is: 'Help us retain our customers.'" The goal is to increase a bank's effectiveness in selling products and services. It involves more than process improvement and state-of-the-art IT enablement; today's banks want outsourcing partners with domain expertise who will consult with them on how to be more effective.
A large portion of that effort takes place in bank branches. Despite banks' efforts to move customers to online channels, time has shown that customers' channel of choice for some services is still a local, physical, bank branch. Consequently, building and acquiring branches--including European banks building branches in the United States--will become a huge spend over the next five years, predicts Morrison.
"We're seeing a lot of growth in bank branches, and we don't see any change or slowing down in the continued drive of banks for physical bank presence," observes Kerr at Getronics. Thus, tellers need better tools that allow them to do their jobs more effectively and sell more products and applications that provide a single view of the customer, enabling the teller or customer service representative to interact with the customer on a more personal level.
Responding to customer preferences, banks must invest in building, acquiring, and staffing branches; but they are still held responsible for being under the threshold of a 50-percent efficiency ratio, Morrison points out. "Putting more people out in the branches moves a bank's efficiency ratio too high, and analysts regard banks not under 50 percent as bad banks. If you have to build branches, then you have to produce more sales and still reduce headcount somewhere to get that efficiency ratio down," states Morrison.
The effort to make branches more efficient and effective plays right into the capabilities and benefits of an outsourcing strategy. And IT drives the solutions for cutting resources.
Morrison cites an example of improving a consumer-loan process. "Let's say the scoring model demonstrates that 50 percent of my loan applicants will be automatic declines; we can give 50 percent an immediate answer. With efficient, automated tools, I can enable a customer service representative to immediately pass that answer on, document the loan, have the customer sign the application, and upload it to the system. In effect, I eliminate three back-office positions, which means that I can technically take those people and convert one or two of them to customer-facing positions, eliminate the other position(s), and have the ultimate reduction of workforce that I'm trying to achieve for efficiency."
Not having achieved the expected benefits from their previous customer relationship management (CRM) investments, many banks are also looking to outsourcing expertise to help them develop cutting-edge technology solutions that result in understanding and knowing their customers better.
Gary Cawthorne, Vice President and Managing Partner, Global Financial Services at Unisys, maintains that consistent levels of service and responsiveness are crucial for financial institutions' ability to conform to customer requirements and expectations. Banks are turning to outsourcing providers with IT standards and common platforms that can deliver that level of service around the world.
An outsourced utility-based service model--using preconfigured rather than customized solutions for standardized services around the world--also offers low-cost delivery of IT services on a consistent, common platform. Kerr says Getronics believes current trends indicate that "more than 50 percent of new outsourcing deals over the next three to five years will have a pre-packaged, on-demand type of IT utility component."
Financial institutions with a growth strategy of acquisitions and spin-offs are moving to outsourced IT solutions for ease in those transitions. However, Kerr points out that some outsourcing deals are not constructed for flexibility. "Banks need an outsourced service that is able to flex and move with their growth so they can quickly integrate and realize the value of the acquisition." In addition, there must be no interruption of customer service; the transition must be seamless to the new customers the bank acquires. "To accomplish this, you need pre-packaged solutions, standardized ways of doing things, and a merger/acquisition-ready service-support structure," warns Kerr.
Acquiring and retaining customers is not only a big driver in the banking sector. "Insurers are also focusing much more on customer service and innovation," says David Cartwright, Partner, Financial Services, UK and Ireland, at Accenture. "They are now focusing on launching new products very quickly, based on common building blocks."
Trend #2: Margin Pressures
Although margin pressures were not a significant factor for banks in recent years, they are increasing; so financial institutions must figure out how to produce more with less.
Cawthorne at Unisys stresses bank CIOs are currently under a tremendous amount of pressure to reduce their budgets, but they still have to do incremental innovative projects associated with developing new products and acquiring new customers. "This is a big problem for them," he states. "Right now, most of them have to spend 80 percent of their budgets just maintaining the IT infrastructure they have; and much of what they have is 15-25-year-old legacy applications."
Many banks are addressing this challenge, in part, by outsourcing their IT infrastructure, thus reducing costs, managing risks, achieving remote support, and redirecting internal IT resources to more strategic efforts at adding value to the business.
While there are companies developing more efficient applications that banks want to utilize, these applications often have inherent problems with legacy systems. Banks can reduce costs by turning to an outsourcing provider with the expertise to efficiently and cost-effectively implement new applications with legacy systems. Cost-effectiveness increases with an offshore service component.
Cawthorne at Unisys observes that most financial institutions are also now trying to figure out how to move to a service-oriented architecture. "They can't afford to do the big-bang approach, completely disregarding their investments in their entire core banking systems or life and pension systems. But they can modernize incrementally by outsourcing the legacy part, wrapping middleware around it, re-skilling the IT staff, and eventually over a number of years replacing the legacy system."
Competition is another driver of costs. Cartwright at Accenture says, "European regional banks have competition not only from global banks but now are also challenged by increasing cross-border European competition in loans, mortgages, credit cards, and other products. Outsourcing can help them get to a different cost and capability level."
Trend #3: Compliance/Regulatory and Security Issues
Banks have been significantly impacted by regulatory developments, says Cartwright. "They've spent a lot of money on IT change in order to comply with new regulations; yet many of those expenditures haven't dramatically moved the business forward." He predicts the life insurers in the UK market will soon start being heavily affected by regulatory change as well, which will necessitate investments in systems they're not eager to make. Hesitance to invest in costly in-house solutions, he says, will undoubtedly lead to more outsourcing in this sector, as in banking.
Morrison at Kanbay says approximately 20-30 percent of a bank's base budget is now spent on compliance and regulatory demands. Financial institutions are looking for ways of delivering regulatory change at a lower price point so they can invest in more strategic projects.
A prominent bank CIO recently commented recently that 40 percent of its budget now is directed to new compliance requirements--greatly whittling down the funds for projects associated with acquiring and retaining customers, relates Cawthorne at Unisys. "But a bank can hand part of that over to an outsourcing partner to manage its data center," he says. "The bank still has to deal with audits and practice due diligence, but it won't need an army of internal IT people working on it."
Some outsourcing providers--like Unisys--are stepping up to the plate as early adopters of all the business requirements required in financial services audits. "As basically an agent of our client, we have to comply with every audit and compliance requirement that the bank or insurance has to comply with. So as these new regulations occur, we are getting certified for that particular process--like the FAS70 audit, which is now a newly required banking audit, or the compliance audit from the Federal Reserve," explains Cawthorne.
Another ITO spending trend that has risen in the last two years is security infrastructure. "The cost of establishing large-scale IT security infrastructure is expensive, and we've experienced a lot of new business in providing intrusion detection and network security surveillance to large and small financial institutions," says Cawthorne. Financial institutions now want solutions that enable them observe behavior patterns and head off or isolate an attack before it occurs.
Trend #4: Global Sourcing
According to Kerr at Getronics, more than 30 percent of professional IT services will soon be delivered from offshore locations. He cites, "If the value of the function or process that is going to be outsourced is $50 million or above, they will need to leverage a global sourcing component in order to get the lowest total cost model."
The lower price point and efficiencies are not always on the other side of the world, Cartwright at Accenture points out. Financial institutions are seeing that a model of having offshore services in three regions (Asia, Europe, and the US), giving them three time zones and the advantage of delivering services from different geographies and economies, is highly attractive.
Cartwright says this is evidenced in banks' efforts to ensure scalability. "In the last two years, we've seen banks saying, 'We'll keep what we have today but add an integrated offshore element to add the ability to scale both up and down more quickly,'" he explains. "By using a global sourcing model, they can become high-performance organizations."
Enterprise and global banks already have established huge IT application operations in offshore locations, with captive models, where the banks own the operations. It keeps the cost of development and implementations down, drives standardization, and shortens the time to market. With a captive offshore model, the banks lower their risks associated with client data and intellectual property.
Small-to-medium-sized banks are looking offshore, but they remain hesitant to adopt in large scale and still perceive offshore IT services as an emerging area. Their caution is based in the fact that a third-party provider (rather than the larger banks' ownership model) would be performing the work. What is likely to trigger more of them to move their applications work offshore is the litmus test--needing to do whatever it takes to keep the customers happy--and doing it cost-effectively.
Lessons from the Outsourcing Journal:
- Outsourcing IT can increase a bank's efficiencies in developing and selling products and services; however, banks really want outsourcing partners with domain expertise who will consult with them on IT enablements that help them to be more effective in attracting and retaining customers;.
- Banks must invest in building, acquiring, and staffing branches; but they are still held responsible for being under the threshold of a 50-percent efficiency ratio. Technology solutions can eliminate the need for some back-office personnel and are a great strategy for reducing headcount in the effort to get the efficiency ratio down.
- Based on indications of current trends, more than 50 percent of new outsourcing deals over the next three to five years will have a pre-packaged, on-demand type of IT utility component.
- Outsourcing IT is critical to the success of financial institutions whose growth strategy includes acquisitions and spin-offs. ITO with pre-packaged solutions, standardized ways of doing things, and a merger/acquistion service-support structure will ensure quick seamless transitions so the financial institution can quickly realize the value of the acquisition.
- Most banks now have to spend 80 percent of their budgets just maintaining the IT infrastructure, much of which is legacy applications. Banks are addressing this challenge, in part, by outsourcing their IT infrastructure, thus reducing costs, managing risks, achieving remote support, and redirecting internal IT resources to more strategic efforts at adding value to the business.
- While there are companies developing more efficient applications that banks want to utilize, these applications often have inherent problems with legacy systems. Banks can reduce costs by turning to an outsourcing provider with the expertise to efficiently and cost-effectively implement new applications with legacy systems. Cost-effectiveness increases with an offshore service component.
- Most financial institutions are also now trying to figure out how to move to a service-oriented architecture but can't disregard their investments in their entire core banking systems or life and pension systems. Their strategy is to modernize incrementally by outsourcing the legacy part, wrapping middleware around it, re-skilling the IT staff, and eventually over a number of years replacing the legacy system.
- For many financial institutions, it's effective to have a model of offshore services in three regions (Asia, Europe, and the US), giving them three time zones and the advantage of delivering services from different geographies and economies.
- Using offshore IT services is attractive to banks seeking to ensure scalability. They keep their internal IT resources and add an integrated offshore element to add the ability to scale both up and down more quickly, enabling them to become high-performance organizations.