Questioning the Future for Outsourcing the Financial Supply Chain
Introduction
Within major corporations many factors impact the finance function's ability to achieve best practice and add appropriate value and profitability to the bottom line. The responsibilities of the function, summarized as the financial supply chain, encompass all of the financial services a corporation requires for day-to-day business. Current research suggests that $260 billion in cash and working capital savings could be achieved if the financial supply chain were managed more efficiently.1
The ability to make timely decisions and process financial transactions efficiently is hampered by the lack of available information relating to exposures and risks across an organization. The finance function is increasingly being asked to contribute more visibly to the shareholder value of a corporation, putting pressure on the finance function's staff to find more efficient ways to manage their environments. The finance function also becomes more complex as companies grow, whether they are domestic or international and grow organically or through acquisition. Recent accounting issues in some major multinationals add pressure to the finance function, further placing it under the microscope.
In looking to solve these issues there is no single and integrated model currently available. Outsourcing is an obvious alternative in moving toward more efficient models. However, while there are plenty of opportunities to outsource in the financial supply chain, the opportunities tend to be fragmented; only addressing certain functions within the chain. This paper covers issues facing corporations, services available in the current market, and attempts to identify future directions where the market may evolve.
Current Challenges
Steps taken to strategically add greater value within an organization have led many companies to move from highly decentralized treasury models toward centralized models to ensure proactive management and effective stewardship of assets and liabilities.
Timely Data Not Available or Accessible
Data collected from multiple internal and external sources within a group tends to be unreliable in quality, inconsistently formatted, untimely, or simply not available. This causes difficulties in forming a comprehensive view of risks and exposures.
Difficulty of Connecting to Multiple Systems
To function properly the finance function requires connectivity with systems located internally and externally. Internally, the connections are required between systems at operating companies, shared service centers, treasury centers, and the head office. Externally, they are generally required with banks and third-party system and information providers. Comprehensive levels of connectivity to drive more efficient environments and timely collation of data are difficult to achieve and maintain.
Technology Costs and Maintenance
The technology lifecycle in the finance area is shrinking as new releases of existing systems and new systems are introduced to the market. This brings additional cost, potential delays due to skill shortages, and inconsistencies between system roll outs and variations in local environments.
Business Continuity
Corporations are increasingly recognizing the importance of business continuity planning to ensure continuity of operations following major unforeseeable impacts on their infrastructure. The complexity of current environments creates many vulnerable nodes in the overall system as well as a proliferation of links between nodes. Planning and executing contingency arrangements in such environments is complex and costly and, as a result, not adequately implemented often.
Shortage of Skilled Staff
Evidence increasingly points to skilled finance staff spending up to 70 percent of their time on processing tasks, administration, and management of technology rather than true value-adding activities. Another major staffing issue is the dependence on key IT personnel.
Maintaining Standards
Keeping up with constantly evolving standards and protocols is a drain on limited resources. Such changes can take place across a broad spectrum of services in the finance function; file formats need to comply with updates in messaging, changes in internal interfaces between accounting and ERP systems, and amendments to tax and accounting rules. The standards and protocols modifications can also be situation-driven; an example would include incorporating newly acquired operations into existing models.
Managing Risk and Exposure
Failure to collect accurate information can lead to multiple issues within an organization. One such example is currency decisions made at a local operating-company level with bid/offer spreads paid on long positions in one subsidiary that could have been matched by a corresponding short position in another subsidiary within the group. Killen & Associates research suggests that $136 billion is overspent on cross-border transactions for this reason.2 Equally, poor-quality cash flow forecasting leads to poor hedging decisions. Another prominent issue is poor liquidity management as a result of idle balances and casual overdrafts in bank accounts.
It takes a concerted effort to improve these issues, combined with a clear focus on aspiring toward best practices.
Services Currently Available in the Market
A host of services are currently available to provide business-process or outsourcing services. Many services only operate in certain regions and many are tailored for each country where the service will be provided. Some of the services include accounts receivable, accounts payable, payroll, expense reporting, asset management, payments, tax processing, cost accounting, general accounting, and trade and treasury services.
A Model for the Future?
Let's examine one of the more evolved existing solutions to identify a springboard to a much broader but integrated range of services. One of the more significant projected growth areas is in treasury outsourcing. The Gartner Group recently noted that, "Bottom-line demands will make outsourcing of treasury operations common for most large and mid-size enterprises by 2007.3" Providers of such services have been evolving for more than 10 years. The underlying reasons for growth vary by region.
In Europe, one of the biggest concentrations of outsourcing is in Ireland, where a number of international and local banks and some independent entities offer services. The initial driving force was tax-based, after the Irish government extended its favorable 10 percent tax rate in 1990 to cover profits from inter-company finance vehicles, whether staffed by a company itself or by a service provider on its behalf. Over a period of time, the service providers built up the range of skills and experience necessary to run treasury operations from end-to-end. Now many provide these services independently of Irish legal entity structures. A number of these providers, generally banks, have also invested heavily in treasury management systems (TMS) and effectively provide straight-through processing capabilities to their clients as part of the service. Usually, an agreed upon administration fee reflects the services provided and remunerates outsourcers. Typically, they are providing services the company could perform itself, but in a more cost-effective manner given the resources and investment.
Another area of concentration is in South Africa, which evolved outsourcing largely through a lack of skills available in the expanding economy. These independent service providers, rather than banks, dominate outsourcing. The market is also categorized by remuneration through administration fees and performance-related fees for improving returns, as opposed to expense efficiency.
Treasury outsourcing operations are also developing in Asia and the United States. In Asia, the currency crisis of 1997 and subsequent liquidity constraints have forced many companies to create better structures around regional treasury needs. Outsourcing represents a great opportunity to administer a rising volume of treasury tasks, although the variety of regulations in the region can be a constraint. U.S. companies extensively use treasury outsourcing services for their European operations and are now looking at outsourcing operations for domestic tasks. Equally, non-U.S. groups are looking at U.S. outsourcing providers to run their treasury processes in the United States.
Increasingly, these providers are looking at technology, processes, and people to drive their businesses forward. Web-based technology is enabling greater flexibility and enhancing information flow. Improved integration capability is creating better opportunities for accurate and timely collation of information from varied sources.
With regard to the treasury management systems (TMS) area, Greenwich Associates explains, "From their beginnings 25 years ago as bank systems that offered a few elementary payment services to bank clients, TMSs have evolved into versatile, integrated, and fully automated systems.4" However, on the negative side, they also note, "Their high cost makes world-class treasury management systems economically feasible for only the largest corporations and institutions." This statement neatly summarizes the TMS situation. Versatile, integrated systems can be created; however, the cost is too high for most organizations. This creates ideal opportunities for outsourcing providers to bring scale and critical mass to the market.
Where to Next?
The treasury services market is indicative of what can be achieved in a single area. The ability of a service provider to combine multiple offerings that currently exist in the market, as described above, into a single portal would undoubtedly make the whole much more attractive than the individual parts. Integration backbones can be created to access data from multiple systems and manipulate it centrally. Dashboard technology can provide secure browser-based access to aggregated data and services required by users, in a personalized format. What is needed is a central provider to coordinate across the various services and deliver a single front end to the market.
Ideally, the services will essentially provide three core components. The provision of application services will be a fundamental part of the offering, providing the key business components through packaged systems. Connectivity services will support client internal and external systems, enabling rapid deployment and central management of secure connectivity with a variety of the provider's applications. Finally, business process services will provide process management and transaction processing to complete the ideal end-to-end solution for finance functions.
Core Competencies and Control Issues
Some corporations remain reluctant to outsource significant aspects of their finance function. Perhaps some of this reluctance arises from confusion over what is a core competency. Clearly, if a function is not a core competence then that should be a target area for investigation. A three question test to identify core competencies is as follows:
1. If you were starting out today, would you do this yourself?
2. Would other companies pay you to do this for them?
3. Could your future CEO come from here?
If your answer to all three is "yes," then the function is probably a core competence. Any other combination of answers suggests further analysis may be merited. Another typical concern surrounds control. Mitigation of control can take place through well-thought-out and documented service level agreements (SLAs) and the ability to review vendor operations by internal and external auditors. In addition, the fact that vendors will have created a best practices environment may actually improve the overall user environment control in areas such as segregation of duties and robust business recovery plans.
Conclusion
This article has identified some of the root causes of inefficiencies in the finance function and illustrates the disconnected flows, inefficient processes, and the inability for decisions to be made with all the facts at hand in a timely manner. Corporations aspiring toward best practice environments have multiple tools and resources to assist them. One such tool is outsourcing where the current market provides multiple offerings, but in a fragmented fashion. Advances in technology are giving corporations the confidence to make strategic decisions enabling the creation of combined integrated solutions. The market will evolve, but risks will have to be taken by both the demand and supply side. Suppliers of such services will have to make significant investments in order to deliver increasing value to corporations. These offerings must constitute best practices and provide clearly identifiable value propositions to corporations. Equally, on the demand side, early converters to models – like those described in figure 2 – will form rewarding collaborative arrangements where the interests of both sides can converge and flourish.
Endnotes
1 2001 Killen & Associates, Inc. The impact of 9/11 on the Financial Supply Chains of the Global 2000.
2 Ibid.
3 2002 GartnerG2 – Outsourcing Corporate Treasury: Between a Rock and a Hard Place.
4 2002 Greenwich Associates Study – Treasury Management Systems: Innovation Becomes a Necessity.
