The outsourcing of technology or even of complete business processes is very much in the spotlight these days. Big contracts in the Netherlands, the UK and elsewhere have been in the news. On one hand, more deals are being closed because of economic circumstances, but on the other, the offering of outsourcing services is increasing.
Articles often focus on different approaches to outsourcing, the ‘how to’ aspects. In this article we focus on why specific areas may be outsourced and what contribution outsourcing may deliver for pension fund or other organisation undertaking it.
Specifically within the pensions industry in the UK, big pension funds on a defined benefit (DB) basis are looking into – or being driven towards – migration to defined contribution (DC) schemes. Such a migration forces an organisation to make major changes and significant investments in their business processes and their administrative systems. This factor alone might be a good enough reason to consider outsourcing to a provider ready to administer DC schemes.
While our firm DCE is not a provider of outsourcing services but offer business knowledge and independent consultancy and implementation services on cost reduction, process improvement and IT, we conducted a survey on the status of outsourcing within the pensions and insurance industry.
Because of strategic and economic market developments, organisations are considering outsourcing as part of their strategy. The most important objectives for considering outsourcing are:
Strategic:
o Better service to existing and new clients
o Entering into new markets
o Increasing innovation
oImprovement of risk management
Economic:
o Cost reduction
o Accounting (balance sheet)
o Lower investments
In general, we see a shift from the knowledge and capacity driven outsourcing of the 1990s to outsourcing for strategic or financial benefits. As might be expected in the current economic environment, outsourcing is regarded increasingly as a way to prevent investments.
The pensions and insurance industry possesses characteristics which make outsourcing of specific services as in IT, and even of complete business processes a viable option.
These characteristics of insurance companies and pension funds are for example:
o Legacy systems – a lot of insurance companies and pension fund administrators are updating or rebuilding their systems;
o Investments in new systems are huge, therefore partnerships are being looked for to share the investments or to offer the self-developed system to third parties;
o Administrative processes are more or less uniform over the market;
o Market size: smaller insurance companies or pension funds might lack the size to invest enough in knowledge and systems;
o Last but not least, outsourcing partners are available. In the Netherlands, for example, new players such as Accenture, Lxy, Pink Roccade, Quion, Uniserv2 and Unisys are beating the one times ‘monopoly’ of Stater. Moreover they provide the market with services for different types of insurances processes as mortgage, life, pension and care. It seems only a matter of time before those internal service centres will turn their focus externally.
Outsourcing is part of the answer to the more basic sourcing question. Outsourcing is a clear option when the added value of the services to the final customer are (relatively) low and the processes are not too close to the core competences of the organisation. The complete insurance or pension administration often is considered as a primary process but not as a core competence. So the administration itself might be outsourced to a suitable business partner, when outsourcing helps to reach business objectives (see Table 1).
Through outsourcing it becomes possible to incorporate new products and arrangements within the product portfolio. Considering outsourcing this way might give a strategic benefit regarding the waves of the coming European expansion.
In the pension industry considering outsourcing has come into prominence because of:
o Companies will move from DB to DC schemes because of international accounting standards
o Focus on cost of administration due to enhanced competition and the recent collapse of the financial markets;
o Shorter time to market because of the urgent need for flexible products and arrangements.
Pension administrators investigate co-operation in different forms. Market expansion and investment in new systems are a major driver behind mergers and take-overs. Possessing an up-to-date IT-architecture makes you an attractive entity and enhances the value of your organisation.
Gartner predicts “that in 2006 most financial institutions will embrace outsourcing. For IT outsourcing cost savings might be a trigger. For business process outsourcing cost savings will not be realised”. As Harper has pointed out “in most cases outsourcing will cost you more”.
The DCE survey confirms that cost savings are not easy to obtain, although one company told us suppliers quote 40%-savings on average in their tenders. It proves to be very difficult to match mutual expectations to one another, leading to unexpected costs. Many companies lack full insight as to the costs before outsourcing. Also the organisation of demand management is often underestimated leading to insufficient control over the cost of the total process.
To have realistic objectives, a more strategic approach in selecting processes to be outsourced and outsourcing partners is necessary. The choice of the processes to be outsourced may be made through evaluating objectives and process characteristics, as in Table 2 showing the relation between the objectives and process aspects. For instance the objective cost reduction may be reached through outsourcing processes with a poor performance or expensive infrastructure. Business partners should be able to guarantee good performance and to have access to cheaper infrastructure solutions.
The results of the survey shows the following:
o In the past (IT-)outsourcing has been a solution for a lack of knowledge or resources. Nowadays outsourcing is a solution for getting the balance sheet cleaned up and for focusing on core competences.
o In the survey the relation between objectives and its realisation does not become clear. The experience is that still more IT-infrastructure is getting outsourced than business processes.
o Different opinions: some companies experience that suppliers become indispensible. Others experience a lack of adequate knowledge and experience: good selection of an outsourcing partner per domain may be preferred over one-stop-shopping.
But it must be noted that not all the advantages will come through as stated in Table 3.
Lessons
o In general: most insurance companies are still rather sceptical about outsourcing although (internal) service centres are already common use. In the Netherlands, pension funds are commonly using administrators and investors for back office administration and investments. Strategy, contract management, control and communication usually remain with the pension fund itself or its technical function.
o During the contract period, the will to benefit both and to come up with good solutions may even be more important than exact SLAs. The SLAs are absolutely necessary to define the scope and level of service.
o Suppliers do have more experience in negotiations. This is claimed to be a reason for multi-supplier constructions. For reasons of contract management a limited number is preferred. Guidance, quality assurance and independent audits may help to close good contracts and to keep the contracts up to date.
o Up to date (business) knowledge at the suppliers’ side is not self-evident
Conclusions
1. Business process outsourcing (BPO) is a serious option, but not as serious (yet) as some providers may want you to believe.
2. The insurance and pensions market has the characteristics to make strategic BPO necessary for a lot of organisations in getting into or staying in business profitably. Especially when big investments in systems or processes are necessary because of changing legislation quick choices have to be made followed by pragmatic implementation.
3. Organisations should seriously and strategically consider whether they want to act at the providers or at the clients side. After the choices being made, strong and clear management is necessary to realise the possible benefits and to avoid pitfalls.
4. Pension fund administrations may be outsourced. Business knowledge and experienced migration management is necessary at both sides.
Bart Segers and Jarl Meijer are with DCE Consultants in in the Netherlands: segers@dceconsultants.com

References:
1. DCE: Business Process Sourcing in Banking and Investments, a study of its status in The Netherlands, 2002
2. Gartner: ‘Current outsourcing practices in Financial Services won’t work,’ 4 april 2003
3. Harper: ‘Outsourcing, know your aims,’ IPE, June 2003
4. Jackson: Lloranta and McKenzie, Booz Allen Hamilton white paper, 2001: ‘Profits or Perils? The bottom line on outsourcing’
5. White: ‘Looking to outsiders,’ IPE, October 2001

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