If your firm is seriously considering middle or back office outsourcing, or a change in outsourcing service providers, you probably already understand the gravity of this type of commitment and what it might mean if you “get it wrong.” At the same time, a meticulous search can be expensive and time consuming. If you’re looking for the right blend of effort and diligence, I suggest considering the 80/20 rule when formulating your evaluation strategy.
What’s the 80/20 rule? The principle suggests that 80% of results come from 20% of causes, e.g. 80% of sales comes from 20% of clients.
The majority of services that fall within middle and back office can be considered “commodities” given the maturity of the industry. They’re not complex in nature, have been substantially automated and service levels do not materially differ amongst the major providers. Those are processes like reconciliations, basic accounting functions, standard performance return calculations, public market trade affirmation/confirmation, and voluntary corporate action management. There are tremendous opportunities to leverage service provider technology and scale without much risk when outsourcing these types of functions. While you should “check the box” on these services, consider formulating your RFP questionnaire or demo topics to limit your evaluation effort of these services.
Now consider the processes that consume the majority of your firm’s operational efforts. These are functions such as margin or collateral processing, custom return or benchmark calculations, private markets trade and accounting processes, exception management (e.g. reconciliation break or failed trade resolution), and data delivery. These processes are much more complex, may require heavy analysis or manual intervention and therefore should be the primary focus of your evaluation efforts.You’ll be much more likely to find the service partner best suited to your firm if your selection strategy is weighted toward analyzing the components of your business that are unique, complex, and/or manual.
Don’t waste valuable time and effort trying to determine if a major service provider platform can amortize on a straight-line basis (they can). Your time is better spent asking a provider to demo a system that can purportedly calculate a composite benchmark return with 87 members that are each weighted equivalent to the AUM of their corresponding portfolio member. That evaluation effort is where you will uncover any gaps and can truly assess whether a certain provider is positioned to meet your needs.