NEWS

Outsourcing: The Future of Finance in Asia
JPMorgan Treasury Services o 29 Jul 1999

Outsourcing can turn the finance function into a source of added value for the company. But how do you know when and where to find the right supplier?
Let us imagine the following conversation between a chief executive and an employee of a company's finance division:

Is this the end for our loyal finance employee? Will final pay packets be handed out soon? Not even close. Our enlightened chief executive goes on to tell him how outsourcing will benefit him and the company, and through it how he will turn the finance function into a source of competitive advantage.

Adding value
When aeroplanes were first invented they were unsafe and dangerous for passengers. As time went by they became safer, until eventually they became the safest means of transport available. The same can be said for outsourcing. Headlines stating that outsourcing led to reduced quality, loss of flexibility and higher costs were common five to 10 years ago. The results are rather different now:

• On average, companies are realising a 9% cost saving and 15% increase in capacity and quality through outsourcing.1
• Finance accounts for 11% of all outsourcing expenditures.2
• Companies that have been involved previously with outsourcing account for more than 90% of (new) projects being planned.2
• The top 10 reasons why companies outsource are:

i) To reduce and control operating costs.
ii) To improve the company focus.
iii) To gain access to world-class capabilities.
iv) To free internal resources for other purposes.
v) Resources are not available internally.
vi) To accelerate re-engineering benefits.
vii) The existing function is difficult to manage or out of control.
viii) To make capital funds available.
ix) To share risks.
x) To obtain a cash infusion.3

So, outsourcing is beneficial for companies. But how does it affect management and employees? If the contracts are structured correctly, both the outsourcing providers' and the purchasing companies' employees can have more fulfilling jobs. For the company's managers, outsourcing operations can relieve them of tedious and time-consuming administration.

For employees in the outsourcing industry, the aeroplane analogy is also relevant. By cutting costs, providing flexibility and improving quality, the airline industry grew into a multi-billion-dollar industry employing millions of people. Today's infant outsourcing industry is expected to grow at 26%,2 and employ more people in direct and support roles.

At the same time, best-of-breed companies are increasing their finance staff numbers, not cutting them. Their finance functions are becoming more like skilled consultancies rather than low-skilled processing factories, and can provide:

• Continuous review and improvement of existing finance operations as new forms of technology and outsourcing become available, or as increased savings of scale become possible (e.g. through coordinated purchasing).
• Flexible use of finance resources in areas where the skills are required for temporary or start-up functions that are not suitable for outsourcing and are not big enough to justify automating.
• Structuring and implementation of complex internal business cases.
• External structuring of methods and terms of trade with customers and suppliers in order to gain competitive advantage (e.g. electronic data interchange, e-commerce, sales aid financing).
• Cooperation with other industry participants, including competitors, in order to grow the total market size (as opposed to the individual company's market share or profitability); for example, through industry processing centres or widely agreed industry standards.

Through following these objectives, one company's value-added finance function now has 53,000 employees out of the whole group's 276,000 - almost one in five. Analysts at Prudential Securities consider its performance to have contributed 5.1% to the company's 9% annual growth rate between 1991 and 1996. Yet it started off in the 1930s as a humble captive finance subsidiary - an internal finance function, and certainly not a core competency.
Which company is it? GE Capital, subsidiary of one of the world's biggest companies, General Electric. This company, ABB Financial Services, and others like them are an indication of the real value a finance function can bring if allowed to become proactive, rather than reactive.

From reactive to proactive
When a company decides to go down the value-added route, its biggest issue is how to change from being reactive to being proactive. The change process by itself requires people for project handling, training and staffing the new value-added functions. It also requires other resources that need to be justified through increased profits. How are these freed up? You guessed it - through outsourcing. In fact, many of the biggest and most sophisticated financial companies in the world are the biggest users of outsourcing.
Consider another quote, from the Hackett Group's global benchmarking study of finance functions:
'Unfortunately, too many companies still employ highly skilled, highly paid individuals in activities that don't take full advantage of their abilities and expertise. We see professionals and managers at companies spending nearly 85% of their time on routine transaction processing and control activities, instead of helping to grow the business and focusing on the future. Managers spend only 80 minutes a day on higher value-added activities.' 4
This provides a good idea of how much can be outsourced and how many people can be freed up without any loss of value to the company.
On the one hand, proactive companies can use outsourcing as a way to expand their finance function; on the other, companies that wait too long will find senior executives making the decision for them by eliminating their internal functions. After all, if an outsourcing agent can do the same reactive job for less money and it's already working well for other companies, the decision is not hard to take.
The question now facing our finance employee is not 'why should we outsource?' He understands both the opportunity and the threat. It now becomes relevant to ask 'what is available and how can we use it to best effect?'

Financial outsourcing in Asia
Many different companies offer financial outsourcing services in Asia Pacific. Examples include the following:

• · Operating-cost minimisation outsourcing services:
  i) Accounts payable and receivable:
  - cheque remittance processing;
  - receivables processing (lockboxes);
  - payment consolidation services (purchasing cards, travel and entertainment
  cards); and
  - full receivables and payables processing.
  ii) Payroll.
  iii) Treasury confirmation and settlement.
  iv) Trade documentation processing.
  v) Other accounting functions.
• Value-added outsourcing services:
  i) Purchasing.
  ii) Investment management (including fund/unit trust management).
  iii) Treasury dealing (borrowing and investment).

Some of these are available from suppliers of financial products and services such as banks, consultants, accountants, payroll providers, etc. Their motivation is primarily to support their core offerings in a more competitive environment.
Other providers include companies' shared service functions, offering third-party services as a means of using up spare, non-productive capacity, as well as to fix an arm's-length price for the services offered internally. Given the stringent nature of international transfer pricing legislation and the punitive tax effects it can cause, this last reason is certainly not to be overlooked.
There are, however, issues to consider that are familiar to anyone dealing with Asia: services are not uniformly available across all of the countries in the region, or in the same form. Associated automation, usually used to report status or allow management analysis, is underdeveloped. But these can present an opportunity as much as a challenge.
Suppliers of outsourcing services are more than willing to work with prospective users to define the solutions required. Proactive customers can therefore use their influence to obtain services tailored to their individual requirements, and at a higher level still, to define which services get offered in the first place.

Choosing outsourcing
In deciding whether outsourcing is appropriate a company should review the following considerations:

• Is there an immediate and compelling need - for example, significant profitability squeeze, control issues, internal reorganisation, mergers or acquisitions?
  Surprisingly many companies do not have a compelling need, and hence find it difficult to justify any major change project at all. If there is no need, the likelihood of justifying the change internally is unlikely.
  
• Is the company highly profitable in the market and against the competition?
  Most companies that respond yes to this question prefer to automate rather than to outsource. Outsourcing is not the only option available, and companies can and often do choose to improve efficiency themselves through improved automation rather than through outsourcing, by buying or creating the resources needed rather than ceding control outside of the company.
  If the answer to the question is no, is the need for an increase in skills or for cost reduction? Many companies make the mistake of judging suppliers of skills on the basis of how cheap they are, and suppliers of low-cost processing on the basis of how much value they can add. Although many outsourcing contracts include both as requirements, they should be reviewed separately as much as possible. Otherwise, the expectations of both supplier and customer are rarely met.

Choosing the right supplier
Once outsourcing has been identified as an appropriate solution, the market has been surveyed and potential suppliers identified and contacted, the following attributes of their submission should be reviewed:

• commitment to quality;
• price;
  
• references/reputation;
  
• flexible contract terms;
  
• scope of resources;
  
• additional value-added capability;
  
• cultural match;
  
• existing relationship; and
  
• location.3

Where possible, it is better to work with a few suppliers rather than with many. If the company already has significant relationships with an outsourcing supplier, it should try and develop this before taking on any more.

Making outsourcing work in practice
Choosing the right supplier is not enough. Outsourcing can be as or more complex than setting up any significant automation project. And, as recent headlines in the press have stated, 80% of automation projects fail to reach their return on investment targets.
The issue is not that the projects themselves are flawed. It is that the companies did not properly consider the implementation and ongoing support requirements. Put another way, implementation and ongoing support requirements are as strategically important as structuring the outsourcing offering in the first place, and need to be considered up front.
The top 10 factors for successful outsourcing are:
1) Understanding company goals and objectives.
2) Having a strategic vision and plan.
3) Selecting the right vendor.
4) Managing the relationship on an ongoing basis.
5) Creating a properly structured contract.
6) Keeping communication open with affected individuals and groups
7) Securing senior executive support and involvement
8) Paying careful attention to personnel issues.
9) Ensuring short-term financial justification.
10) Using outside expertise.

In our experience, all of these points are critical. Outsourcing is not a product that you can buy, install and forget. Circumstances change, and the outsourced service changes with it. Mistakes will happen, and both the outsourcing service supplier and the customer must react reasonably, working together to achieve the best result for all parties. In other words, the relationship needs to be a partnership, and not a traditional customer-supplier interaction, with one party dominant over the other.
Western companies are traditionally bad at this:
'In a study of over 100 companies, the Boston Consulting Group concluded that most western companies outsource primarily to save on overhead or short-term costs. They end up with large numbers of sub-contractors, which are more costly to manage than in-house operations that are individually less efficient. The Japanese, by contrast, outsource primarily to improve the efficiency and quality of their processes . . . by building close, interdependent relationships. Japanese companies cooperate closely in process and product R&D on the supplier's premises.'5
Needless to say, the Japanese usually achieve better results from their outsourcing contracts than their western counterparts.

Back to the future
In conclusion, our finance function employee now has a mission: to turn the finance function into a source of added value for the company. He has the means to make that mission a reality: outsourcing. He knows when it is and when it is not appropriate to outsource. He knows approximately what value it can bring to the company. He also knows what to look for in a provider and the ongoing requirements to ensure continuous success. What more can he want?
With the support of his chief executive he can look forward to transforming his job into a far more proactive and fulfilling role, and look forward to the day when his company's finance function is mentioned as a best-of-breed example in the industry.
Notes:

1. Year-end Trends and Issues Survey: Purchasing Dynamics, Expectations & Outcomes, The Outsourcing Institute.
2. The Outsourcing Index, a survey of American companies with more than USD80m in revenue, by Dun &
   Bradstreet and The Outsourcing Institute.
3. Survey of Current and Potential Outsourcing End-Users, The Outsourcing Institute Membership, 1998.
4. The Hackett Group's benchmarking review of over 1,200 companies' finance functions, 1998.
5. Make vs Buy: Strategic Outsourcing, The McKinsey Quarterly, 1995.
   Originally published in The Chase Guide to Corporate Treasury in Asia 1999