Outsourcing: Why all the fuss?

Outsourcing is hardly a new concept in the financial services industry. However, it feels like many of the discussions I have with service providers and buy-side shops ultimately include references like “as-a-service” or “in-a-box”. In many aspects, these references have gotten pretty imaginative making it feel like anything can be outsourced today. To get to the bottom of what outsourcing really is and how it impacts our industry, I decided to turn to one of my knowledgeable colleagues, Spencer Mindlin, to understand what’s driving the demand for outsourced services and solutions.

What is outsourcing? Out of the gate, I thought it would make the most sense to get to the bottom of what outsourcing actually is since a quick Google yields over 112 million results. Generally speaking, outsourcing refers to the offloading of a part of the business supply chain to a third-party provider. While there are many reasons a firm might choose to do this, the motivation stems from wanting to improve business function. Providers of outsourced solutions offer greater scale efficiencies since they provide multiple clients with a particular well-defined service. By leveraging economies of scale, costs can be driven lower. Additionally, outsourcing enables companies to break down barriers to entry by shifting some costs from fixed to variable (e.g., pay for what you use model), allowing entrance into a new business area. Lastly, providers of outsourced services can offer enhanced levels of expertise and specialisation and often have greater intellectual capital than their clients can acquire on their own.    

How is the adoption of outsourcing going? Outsourcing began about three decades ago in commoditised spots like IT and back-office trade processing, replacing legions of employees tier one firms relied on for highly repetitive functions. This squeezing out of redundancies is in part responsible for the robust infrastructure supporting the investment management industry as intermediaries vastly reduce frictions – billions can now be traded and settled at very little cost. This slow and steady march is expected to continue as outsourcing enables greater innovation, lowers cost, and further democratises the financial services industry. As a consequence, newer firms will surface, which are more akin to the Amazons, Robinhoods and non-bank liquidity providers, and will tackle the various points along the supply chain. Investors should expect to see more bundling of services of outsourced providers and vertical integration.

What’s next? Investment firms are interested in how peers are leveraging mature forms of outsourcing as the industry reaches a new plateau. Outsourced services that wouldn’t be considered a few decades ago such as outsourced trading, data management, front-to-custody, etc. are now fair game because of changes to technology, cost pressures, regulations, and other concerns. As a result, asset owners are being challenged to accept higher levels of outsourcing by asset managers. While the benefits of outsourcing will continue to inspire new offerings and opportunities, a delicate balance remains. Outsourcing at an optimal rate enhances one’s business. Outsource too much and investors may be left wondering exactly what they’re paying for.  

Aite Group is hosting a new event: Outsourcing to Capture Growth on 19 May. Click here for more information.

By Audrey Blater, research director, Aite Group