State Street Bank's attempt to break into the thriving market of providing services to German Kag investment management companies has suffered a severe setback.

Earlier this year, the US bank approached the German supervisory authorities and informed them that for the moment it would not be seeking any more Kag clients for servicing due to problems it was experiencing in the reconciliations between the bank and its existing Kag clients. A State Street spokesman in Boston says: It would be fair to say that we have been challenged by the reconciliations between ourselves and the Kags and our ability to get all our systems enhancements in and to develop our expertise in the office."

In 1996, the bank entered the market created by the increasing outsourcing trend to third parties of accounting, valuation and reporting services by the German Kags. The Kags run the country's burgeoning investment management activities, particularly public funds and spezialfonds.

State Street's business really grew during the summer of 1997, says the bank. "In our case our business was overwhelmingly successful and we tripled the number of Kags we had relationships with." The number of Kag clients grew from five in late 1996 to 17 during last year.

The problems that the bank had were similar to those in tackling a new business area, he observes, particularly as the outsourcing of these areas was relatively new for the German market as well. This is a trend being encouraged by the supervisors to in-crease transparency in the market. "We were experiencing a bit of a start-up headache," he says.

Because of concerns for the bank's reputation and for the local market, State Street "informed the regulators that we would not take on any additional Kag business for a period of time". Since then the regulators have required an inspection and an audit. The spokesman comments: "As a foreign bank providing a service, I think they would have come in to examine what we are doing regardless of our having grown fast and faced some of these challenges."

Problems on the communication side between State Street and the Kags also played a part. "I am not sure that we did a completely great job in communicating with our Kag customers." He adds: "Therein lie a lot of the issues relative to reconcilation prices and getting that information down to the investor.

"If there was any management error, it was that we thought we could get along with maybe five, six or eight Kags and doing it with some manual offline processing and working towards de-veloping systems improvements. When it grew to 17, doing some of it by hand gave us some issues."

The bank expects to clear the majority of its outanding issues shortly. "We would like to positionourselves with the completed system solutions and training for a big growth spurt targeted for some time in the third quarter." This, he adds, is not to prejudge the outcome of the audit and any questions this may involve. As to what the attitude of the supervisors will be to the resumption of new activities, he says: "We probably will not know that until the auditors have finished their examinations." Fennell Betson"

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