With the processes and systems of investment management firms under heightened scrutiny from the FSA, now more than ever could be the time to consider whether outsourcing back office operations is more attractive than carrying them out in-house.
It can like a minefield. Service providers offer differing capabilities, charging structures, service levels and functionality. This goes some way towards explaining consultants Knadel’s estimate that only 5-6% of private client investment management firms currently outsource their back office.
While the outsourcing market for institutional firms is longer established, new entrants into the wealth management market are now making the outsourcing option more attractive and accessible, according to Gilly Green, a consultant at Knadel.
She says a larger propensity to outsource among institutional players could help explain why the average operating margin in the institutional market comes in at 33% versus 21-22% for wealth management firms. ‘Credible suppliers have been a huge barrier to outsourcing in the past, but this is changing and it is changing quite quickly,’ she said, highlighting relatively new players such as SEI and Multrees (formerly IM Wealth).
In her view, one key question to ask when considering whether to outsource is: ‘What is the value of having your back office in-house?’ Adding that building your own technology can make it difficult to adapt to change.
Her sentiments are echoed by one chief operating officer from a boutique that is considering switching from their existing provider, who would prefer to remain anonymous. He welcomes the string of new entrants and hopes this will bring down charges further.
‘The downward pressure on custody fees will continue and I expect that 10bps for up to £500 million will soon become the average,’ he says. ‘Transactional fees must fall as clients begin to realise that a £20 charge by the custodian to settle a bargain which happens with no human intervention in the back office is unjust.’
In his view, insourcing is not viewed as a credible alternative. ‘The need to build and manage a team; meet additional regulatory requirements; maintain capital adequacy and risk diluting resource from our core business makes this a non-starter. The main factor is why try and reinvent the wheel?’ he says.
Brooks Macdonald, on the other hand, took the decision to bring its back office in-house last year, having formerly partnered with TD Waterhouse.
Chief executive Chris Macdonald [pictured] said the firm had sought to have complete control over both its front and back offices viewing it as integral to ensure client service levels are maintained. ‘Service is a big thing – and not falling over because of someone else’s delivery,’ he adds.
The likelihood that outsourcing or changing external provider could lead to a deterioration in service represents a key concern for firms, but Green says the surest way to ensure the outsourcing model works is to have someone in-house managing the relationship with the provider full-time.
But firms do need to consider the scope of investment vehicles the provider can cater for and whether extra costs are attached for more esoteric investments. It is important to make sure a provider currently works with businesses with a similar model or client bank, she adds.
Gore Browne – another firm faced with the dilemma of whether to change from its existing provider – decided to stick with Adam & Company following its transition to Avaloq, finding the continuation of having a dedicated relationship manager a draw. Partner John MacMahon also highlighted the attraction of having a tripartite contract between Adam & Company, the client and his company, helping to delineate responsibilities.
What the key players offer
Key features include a range of assets and currencies (including hedge funds and ETFs), fully integrated management information and client reporting, STP processing, integration with satellite systems (order management, CRM), flexible custody and client money services, integrated client portfolio performance reporting tools. Costs based on services used.
Multrees (formerly IM Wealth)
Services include custody, investment administration and client reporting. Proposition based on a modular service offering, which includes portfolio modelling, performance analytics tools, integration with existing systems and consolidating reporting from different external custody providers, dedicated Multrees relationship manager. Costs based on assets and services used.
Key features include dedicated relationship manager and account manager plus day-to-day operational and systems support, customisable front, middle and back office solutions, trading, settlement, custody (onshore and offshore), administration and a portfolio management system. Charges on a sliding scale.