What are the implications for the asset manager outsourcing business of the JPMorgan-Schroders Investment Management affair? The announcement that both parties have decided to cut their losses and dissolve their landmark ‘lift-out’ arrangement after five years had certainly been well-telegraphed: rumours had been circulating for months, if not years, that the Schroders deal was in poor shape.
Certainly the news means the outsourcing bandwagon, having gathered some momentum over the past 18 months, has reached an important crossroads. The moment has arrived to ask the nagging question that, for all the euphoria and wild claims surrounding the outsourcing phenomenon, has hovered like Banquo’s ghost in the background: what will happen when the first deal collapses?
First, let us be clear: asset manager outsourcing undoubtedly remains something of a triumph of hype over substance at this juncture. While a great many column inches have been devoted to rhapsodising over how outsourcing will fundamentally reconfigure the securities services landscape, the reality is that the flow of new deals remains more a trickle than the long-predicted flood.
The fact that most custodian banks have committed an immense amount of time, resources and cash to securing a slice of the outsourcing pie may be more pertinent when it comes to explaining how a market that frankly remains a minority pursuit continues to so dominate the asset servicing agenda.
Which is not to suggest that outsourcing is not important or far-reaching in its longer-term implications: five of the top 10 European asset managers have already either partially or substantially outsourced, and the expectation is that this patterm will be replicated in time among second-tier managers. However, as another leading custodian recently confided, it is all very well waxing lyrical about how the business model has matured in the past five years, but given that outsourcing currently involves less than 10, if not just one or two, out of the hundreds of clients on a typical custodian’s books, it is wise to maintain a sense of perspective.
Schroders’ statement to the London Stock exchange that the two partners had decided that their operating models were “no longer sufficiently aligned” to justify the continuation of the project goes to the very heart of the outsourcing challenge. Given all the operational, technological and infrastructural issues that must be addressed to effect a successful transition, it is too easy to forget the need for a good cultural fit between the two camps and a clear understanding of the expectations on both sides.
JPMorgan made an early error in deciding to build a separate outsourcing platform, Symphony, from scratch. The intention was clearly to move subsequent clients onto Symphony; in the event, it was the DST HiPortfolio-based system belonging to Morley Fund Management, that JPMorgan took on as an outsourcing client in November 2003, that has become its core platform.
It was this reorientation of the business around Morley’s infrastructure, coupled with the exit of Paula Sausville-Arthus from her post as head of JPMorgan’s Asset Managers Solutions Group (AMSG), that gave substance to the rumours circulating about the Schroders deal. Senior executives now acknowledge that the decision to establish the AMSG as a stand-alone entity was not one they would make today, given that outsourcing is predicated on the integration, not segregation, of a provider’s diverse capabilities and expertise.
Ultimately, however, the two parties remained out of synch when it came to what should and could be delivered. Having struggled to deliver on various project milestones, JPMorgan found that what it did finally deliver was no longer quite what Schroders required. The goalposts kept moving, with JPMorgan forced to play catch up. Clearly such a scenario was unsustainable and - following the arrival in November 2004 of Markus Ruetimann from UBS Asset Management as Schroders’ new head of IT, operations and facilities - there was a long-overdue meeting between the two partners and the plug was pulled.
So where does that decision to dissolve the Schroders arrangement leave JPMorgan? The bank would argue that it deserves some credit for facing up to the realities of the situation and taking the decision to jump before it was pushed. It will have to write off the E100m-plus it is estimated to have sunk into the project, but then it will no longer be throwing good money after bad. In addition, it will continue to provide Schroders with custody, accounting and other ancillary services for its unit trusts, Luxembourg Sicavs and other investment vehicles.
The bank would further maintain that it has a robust outsourcing infrastructure already in place in the shape of the Morley platform, as well as the 190 Morley employees transferred over as part of that deal, and is therefore still well positioned to meet the outsourcing needs of asset managers. Its arrangement with BGI, one of the biggest deals struck during 2004, is also understood to be progressing well, while outsourced services are being provided to clients in South Africa following JPMorgan’s acquisition of third-party administrator TASC.
Time will tell how the collapse of the deal affects JPMorgan’s standing in the outsourcing market. However, with more credible players in this sector than was the case a few years ago, the feeling is that the failure of one deal - even such a high-profile one - is unlikely to have as huge an impact on managers’ willingness to embrace the outsourcing model as might have once been the case. There is talk that the JPMorgan/Schroders’ decision might hasten the termination of other struggling deals; but even such a ‘domino effect’ is only likely to focus the minds of both providers and potential clients more sharply on the relationship and cultural aspects of such arrangements.
So, the pioneers get the arrows, the settlers get the land. What that old saw fails to mention is that many of the settlers subsequently succumbed to disease and famine. As well as being a highly complex and expensive undertaking for a provider to get off the ground, asset manager outsourcing is also a long-term play: a quick buck is most certainly not part of the package.