When all else is outsourced, what is left is fund processing. Geoff Hodge, CEO of Milestone Group, looks at how these processes have avoided the efficiency spotlight and what to do about this in light of greater regulatory scrutiny.
Efficiency has been at the top of the funds industry agenda for more than a decade. Much of the focus has been directed at core processes: fund accounting, transfer agency and investment operations. As a result, a group of important activities are still dealt with via inefficient spreadsheets or manual processes.
As the industry matures, margins can no longer cover inefficient practices, or the costs of operational errors or failure. Regulators are increasingly aggressive about the need for robust infrastructure. More than ever, they are placing a premium on fiduciary responsibilities and investor protection. As a result, more funds and administrators are targeting these remaining pools of inefficiency and risk.
And with good reason. Fund processing is front and centre for business transformation, as it yields the highest immediate return on technology investment. Milestone Group’s analysis shows that these functions tie up around 40% of all middle- and back-office staff effort, and represent about 70% of the operational risk. The potential for improvement is significant.
Fund processing has evaded the efficiency spotlight for so long, due in part to it being a relatively ill-defined grab-bag of processes. These functions are often best identified as those left over after a firm has outsourced standard elements of its operations.
However, it is possible to view fund processing as a distinct area of activity, in which a number of key functions can be identified. The list can be lengthy, but includes net asset value validation, often across more complex fund of fund or investment structures, cash allocation and rebalancing for multi-tiered investment structures, tax and fund expense forecasting, expense cap management and more. These show that fund processing can be a breeding ground for fragmentation, unnecessary hand-offs and operational risk.
The second problem is the widely held, yet incorrect, belief that automating this range of functions will require either a series of point solutions (that will then need to be connected), or a new all-encompassing enterprise-level core platform replacement that sounds pretty unachievable. Understandably, neither of these options is popular.
But firms are beginning to recognise a third way. These functions often share common data and require an understanding of the same underlying fund structures – they are not as diverse as first appears. They can be automated on a common platform that exploits their shared features and data flows, and allows functions to be added sequentially over time while, critically, offering a much simpler, transparent and manageable operational design.
Identifying fund processing as a distinct discipline is the first step towards efficiency. The next step is less obvious. To illustrate, in the 1970s, Bank of America hired an executive from Chrysler to use its knowledge of how to design efficient processing systems at a time when bankers and fund managers did not have this skill. Importing the latest thinking about process design and quality management from manufacturing, the banks saw dramatic improvements to their process efficiency in a range of areas.
Financial institutions have continued to follow this model, delivering efficiency through sequential process review or workflow management initiatives. They have constructed logical processes by looking at one area of their workflow and refining it before moving on to the next area, each individual process becoming as efficient as possible.
But this method has maxed out. For most firms, the piecemeal approach of best-of-breed process management has been stretched to its limit.
This is where production management comes into play. Again, we can look to automotive manufacturing to see serious advancements in how to approach breakthrough efficiency initiatives. Rather than taking an incremental approach, production management looks at all these processes as a whole, and how they interact. Whereas process management develops an efficient workflow, production management zooms out to see what else is going on. Rather than attempting to endlessly fine tune the production line, it looks at the interaction of a variety of upstream, internal and downstream processes to unlock significant new efficiencies.
Going back to our car manufacturing plant, process management originally delivered a carefully calibrated series of sequential and simultaneous activities. But production-management thinking has encouraged the development of a single production line, designed to produce a convertible one day, a station wagon the next and an SUV the next – the ability to support multiple products and tailored requirements without the need to “re-tool’ each time.
Tanslated to fund processing, a production management mind-set offers the same flexibility: a single platform that can value funds, allocate cash and process income according to demand.
A production management culture allows a firm to chart a more strategic path towards its ideal operating model and make better decisions within the same budget parameters, resource constraints and short-term priorities. The difference is that even as change is rolled out in manageable increments, short-term decisions will not limit the firm’s ability to meet its long-term strategy. It gives the firm the confidence of knowing that any processes that may need to be re-engineered, added or automated in the future can be dealt with on the same platform.
That opens up a wider pool of opportunities for generating efficiencies. It also means that the firm is no longer constrained by the need to deal with numerous point solutions within the fund processing space, or to have to “hardwire” data flows between systems – effectively pouring concrete into processing infrastructure.
The hard bit is adopting this new way of thinking. It is about looking at future technology and operating requirements as a dynamic process, rather than focusing on a functionality approach to system deployment: an important distinction often lost in the rush to meet the newest market development.
Once adopted, even the most disparate and complicated fund processing operation becomes relatively straightforward – and the latest efficiency frontier can be conquered.
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