OPERATIONS IN FINANCIAL INSTITUTIONS - WHY IT’S MORE THAN JUST PROCESSES

OPERATIONS IN FINANCIAL INSTITUTIONS - WHY IT’S MORE THAN JUST PROCESSES

B60.2315.20 OPERATIONS IN FINANCIAL SERVICES

Spring 2002

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THREE OPERATIONS-RELATED THEMES FOR FINANCIAL INSTITUTIONS

1. How to apply “manufacturing techniques” to reengineer and rethink the operations processes

2. How to use offshoring to redefine the traditional operations location and operating model

3. How to respond to industry planned next-day trade settlement (T+1) initiative

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LEAN MANUFACTURING – GENESIS AND KEY PRINCIPLES

1. A workforce that is “waste aware” and skilled in reducing/eliminating waste

2. Level production load from matching demand to capacity/supply

3. A just-in-time production process that produces only when needed and in quantities required

4. A process designed to deliver quality the first time using robust, ‘in-process’ mechanisms

5. An energized organization with the processes and capabilities to achieve continuous improvement year after year

Key principles of lean manufacturing

• Many of these techniques are starting to be applied in service industries, including financial services, driving quick and dramatic improvements in performance, often without the need for significant investment

• A manufacturing approach based originally on the Toyota production system

• Has since been adapted by leading manufacturing companies around the world including most of the automotive industry, General Electric, Allied Signal, Solectron, Alcoa and many more

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Main lever Specific improvement

Operations excellence

Manage demand at the source

Optimize process, layout, and flow

Optimize/manage complexity

Level load incoming demand to match supply

Capture information and correct errors one time, accurately, at the source

Standardize and stabilize work processesStreamline critical path

Build in quality

Create one-piece synchronized flow

Organize around processes, not tasks

Example

• Segmented volume based on customer profitability to maximize contribution margin

• Reduced labor costs 40% in check processing due to one-time, quick capture of information

• Reduced variability on incomplete application handling to a no tolerance approach which improved completion rate by 50%

• Created “end-to-end” accountability for performance not department/task-based accountability

• Created measures encouraging branch loan applications to arrive on an ongoing basis during the workday

• Redesigned the underwriting process to a single piece, first-in/first-out flow which reduced turnaround time from hours to minutes

• Ordered appraisals on homes for equity loans earlier in the decision process

• Created data entry forms that have restricted fields to reduce incoming errors

Understand customer preferences/tradeoffs

• Conducted customer interviews to optimize required decision time of loan application

Manage perfor-mance

Set clear process metrics • Created a performance scorecard including timeliness, service quality, and cost/productivity measures

Determine stretch targets • Designed stretch targets based on theoretical limits, not incremental performance

Tailor incentives and consequences to results

• Tied process metrics to team-level performance and to team compensation

Migrate to lower cost channels

• Reduced channel cost in credit card company by 50% due to migrating inquiries from call center to Web

LEAN MANUFACTURING LEVERS TO ACHIEVING OPERATIONS EXCELLENCE

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Number of applications Fax demandCurrent schedule capacityNew schedule capacity

0

20

40

60

80

100

120

140

7 AM

8 9 10 11 12PM

1 2 3 4 5 6 7 8 9 10 11

MANAGE DEMAND: CHANGE SCHEDULES TO MATCH DEMAND

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20. Write floor execution report

15. Write down execution & check against pad

*Support block desk and other products

OPTIMIZE PROCESSES, LAYOUT AMD FLOW: LISTED EQUITIES TRADE FLOW

Automated

Manual

A Automated

Eliminated

Systems

1. Enter order into A

2. Select block trader from pull-down menu

3. Send order to trader through A

4. Acknowledge order

6. Decide exe-cution strategy

7. Call order to floor/enter order into D

8. Write down order (or print order from B)

9. Beep $2 or house broker

11. Execute order in crowd

12. Call verbal to booth

13. Deliver written to booth

14. Call back execution (or type into B)

16. Enter execution into A

17. Send/allocate execution to sales/trader

18. Call execution to client

19. Print house execution report

22. Type floor report into

Rolesinvolved*

• Sales/ traders • Assistant

traders

• Block traders

• Booth

clerks

• House brokers• $2 brokers

• Key punch

operators

• Runners

10. Pick up order at booth

5. Write down order on pad

21. Pick up floor reports and deliver for punching

Rejected by D

Executed by DClient

Call order intosales/trader

A

A

A

A

A

AA

A

A

A

Sales/trading

Sales/traders Block traders

Exchange floor

Booth BrokersMessengers/dataentry operators

MiddleOffice

OrderRoom P&S Cash-

iersDailyP&L

D

BA C

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IMPACT FROM REDESIGNING LISTED EQUITIES TRADE FLOW

Steps in trade flow processDescription of opportunity• Trade flow involves over 70

steps, 40 of which are manual• Manual steps and the resulting

errors requires hiring costly FTE and limits capacity

• Large numbers of systems increasing the level of complexity and steps

• Numerous reconciliations based on multiple sources of data entry

Key success factors• Walking the process to see each

activity first-hand• Willingness to redesign the

process from scratch rather than generating changes to current system

• Make sure the trade flow is right before introducing technology

Financial impact• 10% reduction in FTEs

Assumptions• Service levels to customers

would not decline • The majority of manual steps

do not require complex decisions that cannot be automated

6575

Before After*

3045

Before After

Total steps Manual steps

-13%

*New design also reduced flow through 18% of remaining steps

-33%

Implementation time• 12-18 months

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From convoluted physical flow

PC

PC

PCPrinter PC

PC

Printer

x x xx

x

1 Receive fax

PC

PC

Printer Printer

x xOrder

Denial

x6x

xU/Ws

x

5 Order documents for equity second decision

6 Receive documents from vendors

3 regional underwriting queues

PC

PC4,7Underwriting

Fax Fax Fax

2 Print credit report

3

8 Mail back to branches

OPTIMIZE PROCESSES, LAYOUT AMD FLOW: UNDERWRITING ACTIVITY

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“Production” flow

Fax

PC PC

PrinterPrinter

4,74,7 Underwriting

Processors

Singlequeue

11 Receive fax

X

X

X

X

X X

Phone U/W

10 paces

5,6,85,6,8Order/receive docsMail back to branches

33

Print credit report22

OPTIMIZE PROCESSES, LAYOUT AMD FLOW: NEW UNDERWRITING PROCESS

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• Eliminated transportation time, increasing underwriting capacity by 6%

• Moved all clerical work to processors, increasing underwriting capacity by 11%

• Transitioned all first and second decisions to 4 underwriters (and reprioritize tasks), decreasing through-put time

• Created ‘phone underwriter’s positions (for 2 staff members) to handle all communication and non-time-sensitive underwriting, allowing other underwriters to focus exclusively on first and second decisions

Increasedunderwriting capacity by 40%

IMPACT OF REORGANIZING UNDERWRITING ACTIVITIES

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Checks are transported from branches to centralized processing site Each check is read by a proof

operator who enters the amount which is MICR encoded onto the check

Checks are then prepped and put into trays

The checks are then run through a sorter equipped with a MICR reader and microfilm camera – data from each check is sent from the sorter to the bank’s IP servers

123

Dollars

Pay to the Order

ofAny BankAnywhereFor

Date123

Dollars

Pay to the Order


Date123

Dollars

Pay to the Order


Date

Jane Doe123 Main StreetAnywhere, PA 11111

123

Dollars

Pay to the Order of

Any Bank Anywhere

For

Date

OPTIMIZE PROCESSES, LAYOUT AMD FLOW: CURRENT CHECK PROCESSING

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Each check is run through a sorter equipped with a MICR reader and a digital camera which captures an image of the front and back of the check

Checks are transported from branches to centralized processing site

123

Dollars

Pay to the Order


Date123

Dollars

Pay to the Order


Date123

Dollars

Pay to the Order


Date

Jane Doe123 Main StreetAnywhere, PA 11111

123

Dollars

Pay to the Order of

Any Bank Anywhere

For

Date

Checks are prepped and put into trays

For checks where the image cannot be read, a person at a terminal reviews the image and enters the amount

Jane Doe123 Main StreetAnywhere, PA 11111 123

Date

The images are then run through OCR software to determine the amount; the amount and other infor-mation on the check are sent to the bank’s server

OPTIMIZE PROCESSES, LAYOUT AMD FLOW: IMAGE TECHNOLOGY

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IMPACT OF NEW TECHNOLOGY ON CHECK PROCESSING

Before new process

Since new process

Before new process

Since new process

Operational lever

Streamline critical path

Eliminate redundant activities to reduce time to get an entry through the process

Selected changes

Optimize/ manage complexity

Improve labor utilization by introducing cross-training and workcells

Build in quality

Reducing the number of touches will provide fewer opportunities or errors

Organize around processes, not tasks

Team-based accountability improves total system quality

FTEsTime to get 1 entry through process

-25%

-83%

Low investment required to move

sorting equipment

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*Cost of international leased line for India; cost of long distance domestic leased line in the U.S.; costs are for January each year; for India, based on Mumbai or Cochin **U.S. half circuit data is derived by dividing full circuit data by halfSource: VSNL press releases; literature search; Lynx, Goldman Sachs estimates; McKinsey analysis

Advancing technology Easing regulation

• Strong financial incentives (Malaysia example) :– 100% tax exemption for

10 years– No VAT

• Aggressive operating incentives (India example):– State-sponsored training

in “soft and domain specific skills”

– Privacy protection act to protect offshored customer data

– SLA’s between state and telecom providers to ensure dedicated, high quality supply

Maturing markets

0.51

0.87

1.46

45

70

106

Mar 2000

Mar 2001

Mar 2002E

Mar 2000

Mar 2001

Mar 2002E

Supplier base – India$ Billions, revenue

Employment in offshoring industry – India Thousands

CAGR69%

CAGR53%

$ Thousands PA for 2 Mbps fiber leased line*, half circuit

IndiaIreland

U.S.**

85% drop in India as state monopoly faces competition from private satellite providers

Reduction in bandwidth costs

Philippines

RECENT SIGNIFICANT REDUCTION IN INTERACTION COSTS

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From physically co-located end-to-end operations . . .

. . . to globally placed links in the supply chain driving optimal value

Credit decisioning Call center

Data entry

Customer research

System development

ObjectiveRemote servicing is the placement of operational units at globally optimal locations based on factor and interaction costs, timeliness, and quality of service

Key drivers for the banking sector• Centralizeable operations• Significant labor cost differentials• Manageable communication/monitoring costs• Available and reliable technology/infrastructure• Supportive regulatory and political environment

REMOTE SERVICING HAS BECOME A LEVER FOR DRIVING PERFORMANCE

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Quality Time

Cost

Operational improvement

• Dramatic reduction in cost (10-30%)• Increased flexibility permitting

greater capacity/demand balancing• Improved transparency and

predictability

• 24 x 7 service• Faster turnaround times from

learning curve benefits • Continuous production possible

with effective synchronization

• More established processes and metrics for meeting higher performance standards

• Access to basic and specialized skills• Minimized baggage of outdated

infrastructure, e.g., software

THREE DIMENSIONS OF BENEFITS FROM REMOTE SERVICING

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19Source:McKinsey analysis

Philippines• Software development• Call centers• Data entry

Singapore• E-commerce hub• Shared/financial

services

India• Call centers• Data entry• Software development• Engineering design• Back-office operations

Ireland• Software development• Call centers• Shared services

South Africa• Financial

services

Ukraine• Software

Caribbean• Data entry

LOCATIONS USED TO REMOTE SERVICE DIFFERENT SERVICES

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U.S. cost base industryUS$ Billions

High (300+)

Low (0-1%)

Remote serviceable processes share of cost base

Medium (100-300)

Low (0-100)

Medium (1-5%) High (5%+)

• Banking• Insurance

• Telecom• Retailing• Utilities• Automotive• Computer

• Airlines • Pharma-ceuticals

• Third-party engineering and design services

• Electronics

Areas of greatest opportunity

• Oil• Packaged

goods

• Aerospace• Chemicals• Steel• Equipment• Ship

building

• Hotels• Entertain-

ment• Real estate

brokerage

• Software producer

• Third-party call center providers

LARGE OPPORTUNITIES IN BANKING AND INSURANCE

21

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Current activities

Future activities

Source: Press searches; GE Remote services case study

Support activities (IT, HR)

( )Customer acquisition

New business processing

In-force transactions

Asset management

Claims processing

Claims Processing

• Risk analysis• Underwriting

• Planning and forecasting

Data entry

Call center

Claims processing (Tier 1)

Revenue accounting

Claims processing

• CRM• Accounting

Transaction processing

• Financial reconciliation

• Statutory reporting• Bill payments

Data entry

Call center

Application processing

INITIAL FOCUS ON LOWER END PROCESSING/DATA ENTRY ACTIVITIES

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*Total pretax operating cost savings based on labor cost savings for main activities adjusted for higher other costs (e.g., telecommunication); not adjusted for startup inefficienciesSource:Literature search; industry interviews; team analysis

Cost savings$ Millions PA* Main activities

Currentemployees

340 9,500 Call center, mortgage and insurance, accounting, bill payment

2,050 Trade finance, check processing, data entry, customer services, loans, bills, credit cards, cash management

730 Data processing, accounts, check clearing

400 Insurance claim processing, call center

70

1455

351817

41

2001Forecasted savings (public statements)

Transaction processing, e.g., accounts opening, mortgage clearing

300546

60

300 Back-office processing, e.g., payments, account services, support

800 Accounting services, operating services, and call centers

20146

35 105

167054

ESTIMATESEARLY MOVERS ARE ALREADY SEEING BOTTOM-LINE IMPACT

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23*Start of yearSource: Press searches, Interviews, McKinsey analysis

Details

Impact

• Started operations in 1998 and has facilities in Mumbai, Bangalore and other places in India

• Citibank Overseas Investment Corporation owns 37.2% of the company• Process ~ 70 million transactions of varying nature and complexity• Currently cater to mainly low to medium end remote service activities

– Transaction processing · GF: Mainly focussed on trade finance related activities (Query

handling, record keeping, scrutiny, data entry, authorisation and ledger entry). Some cash management activities including payment settlement account reconciliation and ledger keeping

· GCB: Still in piloting stage (for TIDE loans, bills processing and expense tracking, credit card interchange)

· Provides insurance claims & processing services– Technology services – software verification & validation, web

catalog and content management, data center management– Call Centers – call centers, eCRM, sales and collection services :

handle ~20 million calls• Merged with Citicorp Credit Services and added call center capability

ESTIMATE

Current Impact: $40 million revenues expected for FY021999 2000 20011998*

50 150 370

2,700

• Plan to become biggest outsourcing centre within Citigroup.

• Works for over 22 overseas units - current geographies covered are CEMIA (Eastern Europe, Africa, South Asia). US and UK operations recently announced plans to use India as source base

• Ensure at least 10% of total business comes from third party sources

• Operate as a cost centre. Billing is on a cost plus basis for services offered. Billing per employee currently is $25,000-30,000/year

Corporate philosophy/thinking

CITIGROUP EXAMPLE

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*Start of year**@$30000/FTE/year

Source: Press searches, Interviews, McKinsey analysis

• One of the three global financial resource centres (FRCs)of AMEX

• 100% owned by AMEX. Caters only to AMEX internal requirements

• Key geographies covered are Australia, New Zealand, Singapore, Japan, Hong Kong, Philippines

• Future plans are to:– Expand into higher value

added work such as planning and forecasting, account consolidations, risk modeling

– Increase service lines especially in TRS for activities such as voice based customer support etc.

Background/corporate philosophy

Details

Impact

• Started operations in 1994, first remote services effort in India• Located in Delhi - ~75,000 sq. ft. complex• ~800 FTEs; 100 of which are MBAs/CAs• Currently into low/medium and remote services activities.

Mainly back-end batch processing – Accounts reconciliation– Accounts opening and closing– Cheque processing/other payment processing – Data processing

• Expanding into call center operations

Rajiv Ahuja, Amex's head of public affairs and communications for India and area countries

“The new operations in India will include processing activities such as voice-based customer support, account & transaction processing and fraud and risk modelling”

FTEs

Current Impact: $20 million/year**

ESTIMATE

500 700 800

1,500-2000

1996* 1998 2000 2003(E)

AMERICAN EXPRESS EXAMPLE

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*@$40000/FTE/yearSource: Interviews, press searches, McKinsey analysis

• Created a separate 100% owned subsidiary (HDPI) of HSBC, UK to provide services

• Provides support for select back office operations of UK and US bank operations

• Caters to more than 17 business areas

• Plans to – Expand into high-end retail

banking processes and expand to wholesale banking processes, and other branches in Europe, and Australia

– Reach 3000 FTEs by 2002– Add another global

processing center in Hyderabad

– Invest additional $10 million

Corporate philosophy/thinking

1,100

3,000

7,000

2001 2002(E) 2003(E)

Impact $ million/year*Current: 12Expected : 120

Details

Impact

• Started operations in 2000 - located in Hyderabad in an over 40,000 sq. ft. premises

• Invested additional US$20million at the start of the year• Currently employs ~1,100 FTEs, mostly graduates• Has out performed UK banks on quality and productivity• Current activities include transaction processing, mainly

in retail banking (processes are online but not real time) - Account opening/closing, standing instructions, monitoring inward clearing, mortgage processing

• Recently announced plans to expand its operations to Bangalore

ESTIMATE

HSBC EXAMPLE

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Fully remote serviceable

Partially remote serviceable

Description

CostPercent of totalSavingsPercent of cost

• Initial customer contact

• Data entry of applications

• Underwriting/ credit decisioning

• Communication and upsell to applicant

• Document preparation

• Disbursements/ closing

45-50

15-20

• Review of closing document for compliance

• Booking of document to system

• Funding• General ledger

reconciliation

25-30

6-10

• Scan and index of file

• File management• Assist in internal

and customer inquiries

• Research of issues

10-15

15-25

• Processing final payments

• Releasing collateral

5-15

20-25

Origination

Application to closing

Fund disburse-ment to coupon delivery

Servicing Payout

EXAMPLE PROCESS: END-TO-END LENDING

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Strong candidates for remote servicing:• Data entry• Document prep.• Booking• Reconciliation/

compliance• Front-end

collections• Call centers• Corporate center

From a perspective of product/service supply chains linked end-to-end . . .

Consumer lending

Commercial lending

Item processing

Trust services

Cash management

. . . to a perspective of utility-like functions cutting across supply chains

Data entry

Recon-cilation …

FIRMS ADOPTING A “UTILITY” VIEW TO IDENTIFY OPPORTUNITIES

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Infrastructure

Service levels/ responsiveness

Cost advantage

Political/country

Perceived issue/risk

• Reliability of telecom

• Lower quality• Lower productivity• Cultural differences

• High bandwidth costs

• Unsustainable labor cost advantage

• High government/ regional risk/ instability

• Data protection• Operational

complexity

Current status/method for management

• Reliability has improved over the last 5 years – satellite now at about 99 percent; fiber at 95 percent

• Significant further improvements are likely – addition of 14 TBps of international capacity; addition of 270,000 miles of domestic fiber

• Players experiencing increases in quality due to lower turnover and higher skill level

• Higher productivity and quality can be achieved through investment in training, compensation and labor pool rotations between on-shore and off-shore locations

• Bandwidth costs have significantly declined due to deregulation and investment in capacity

• Supply of talent in some locations ensures cost advantage will exist for 20-30 years

• Unlikely given not harmful to domestic constituencies• Government supports action – e.g., U.S. and Indian

government agreed to decouple information technology trade from politics

• Can manage through multiple location operations (e.g., India and Philippines)

• Early development of public relations strategy

General concerns

Operations and community

POTENTIAL BARRIERS AND CONCERNS

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Skills • Availability of frontline skills

– basic/language– specialized (as appropriate)

• Availability of senior management skill

• Cost

Political risk • Stable government• No domestic conflict• Legal enforcement• Bureaucratic transparency

and limited corruption

Regulatory environment• Mode of entry• Fiscal incentives• Operating area

compliances

Telecom/other infrastructure• Telecom bandwidth

and reliability• Availability of IT

service providers• Reliability of power

sources

Attractiveness of a location for remote services

Source:Team analysis

COMMON QUESTION: WHERE TO LOCATE?

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Size of operation

Significant sub-scale

At scale

Degree of control desiredHigh Low

Subsidiary

• Function provides competitive advantage

• Skill exists internally

• Immature supplier market

• Growth business within strategy

Joint ventureThird-party contract

• Mature supplier market

• Function not critical to distinctiveness

• Scale and skill advantages not in house

• Need overflow capacity

• Not part of mission/growth portfolio

COMMON QUESTION: WHAT IS THE APPROPRIATE BUSINESS MODEL?

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32Source:Streetside Fixed Income Working Group (The Bond Market Association, SIA)

• Mandatory industry initiative to shorten settlement cycle from current 3 days after trade execution to 1 day– Impacts most commonly traded securities– Not only U.S.; Canada is also moving to T+1

Type of security Current settlement Future settlement Equities T+3 T+1

Corporate bonds T+3 T+1

Municipal bonds T+3 T+1

Governments T+1 and T+0 No change

Agencies T+1 T+1

UITs T+3 T+1

Secondary REMICS and CMOs T+3 T+1

Other mortgage/asset-backed Various No change

CDs Bank (retail) T+3 T+1

MTNs T+3 T+1

Other money market products Various No change

Listed Options T+1 T+1

Included in T+1 effort

WHAT PRODUCTS ARE COVERED BY THE T+1 INITIATIVE?

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To reduce settlement exposure

Settlement exposure increases with – Trade volume – Security value – Settlement lag

Fast growth in trade volume (over 33% CAGR) is increasing risk profile

To support increasing trade volume

Current internal and industry-wide systems are strained under growing volume

Manually intensive and reactive processes are already resulting in decreased efficiency

To synchronize settlement cycles across major U.S. markets

Currently, some securities settle on T+3 while others settle on T+1 (e.g., Treasuries)

With uniform settlement cycles retail investors will not have to worry about funding implications of moving between asset categories

To enhance U.S. market’s global competitive partners

European exchanges and clearing/settlement agencies are consolidating and becoming stronger competitors

T+1 can serve as the catalyst to force the U.S. securities industry to improve its processes and remain competitive

250 312 390 488 610762

2004‘03‘02‘0120001999

Projected reduction in settlement exposure from T+1 settlement$ Billions

*Average daily transactions grew from 150M to 350M in the same period, a CAGR of 24% Source: SIA; T+1 Business Case

19991995

Average daily number of institutional trades not affirmed prior to settlement

CAGR = 36% *12,000

41,000

WHAT ARE THE BENEFITS OF MOVING TO T+1?

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Limitations Description Why significant challenge 1. Inefficient institutional processing model

Current process relies on sequential, reactive exchange of information

Need to change existing process involving multitude of broker-dealers, investment managers, and custodians

Significant automation investment required

2. Late access to internal information within participant firms

Information needed often resides on different systems

Recalculations to resolve errors often uncovered on T+1

Increasing STP difficult given: – Legacy batch systems – Poorly connected systems with similar

but inconsistent information 3. Communication delays between participants

Participants often do not receive information needed to finalize settlement or even identify errors until T+1 or later due to . . . – Reliance on phone/fax to resolve

exceptions – Need to wait for batches at

counterparty to have access to information

Current reliance on batches to access information

Multitude of messaging and protocol standards make automation harder

4. Uncompared trades not identified on trade date

Significant percentage of fixed income trades (corporate bonds, munis, UITs) not compared on trade date

Requires implementing new solution for multiple FI products

5. Reliance on paper documents (including checks), particularly for retail customers

Check payment funds unavailable until T+3

No adequate alternative to checks exists

ACHIEVING T+1 WILL REQUIRE OVER-COMING SIGNIFICANT LIMITATIONS OF CURRENT PROCESSING ENVIRONMENT

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Limitations Proposed solutions/SIA modules 1. Inefficient institutional processing model

1. Create virtual matching utilities

2. Late access to internal information within participant firms

2. Achieve internal STP

3. Communication delays

between participants 3. Improve real-time connectivity between

participants, exchanges, and DTCC 4. Standardize reference data and

messaging protocols 5. Revise Continuous Net Settlement

(CNS) functionality 6. Amend DTCC’s trade guarantee process

4. Uncompared trades not

identified on trade date 7. Report “locked-in” trades to

clearing corporation

5. Reliance on

paper documents 8. Develop alternative means of payment 9. Immobilize physical shares

10. Develop electronic prospectus delivery

SOLUTIONS PROPOSED BY INDUSTRY (SIA) TO THESE CHALLENGES

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From . . . . . . to

Sequential, one-to-one interactions and exchange of information

Batches slow down process No central repository of reference

information that acts as single point of contact for all participants

Multiple manual reconciliations required in internal processes

Central point of contact with access to common reference information

Real-time interactions and exchange of information between participants as needed to resolve discrepancies quickly

Faster, more robust process capable of handling increased volume

Reduced need for normal information and reconciliation

Allocations

Confirm

Custodian

Investment manager

Affirm Depository

Broker/dealer

ConfirmConfirm

Affirm

Confirm

Custodian

Investment manager

Depository

Broker/dealer

Matching utility (central point of reference)

MODULE 1: CREATE NEW MATCHING UTILITIES

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SIA ESTIMATES OF T+1 INVESTMENTS AND COST SAVINGS

Total T+1 investment by participant type$ Billions

3.4

1.2

1.7

0.6

0.8

0.1

0.01

0.1

7.9

Institutional brokers/dealers

Retail brokers/dealers

Asset manager

Custodian

Corres. clearers

Depository

Exchange

Matching utility

Total

• Majority of T+1 investment and benefits fall on market participants, particularly broker-dealers, who also gain vast majority of cost savings

• Payback period of 3 years expected with a 28% IRR on total investment• 99% of total investment “within four walls” focusing on internal changes

(e.g., IT infrastructure and applications)• Similarly, 78% of investment focused on two of ten building blocks:

internal STP and standardizing reference data and protocols

Note:Based on surveys; interviews; and industry data. Over 200 surveys were sent to different industry institutions across participant types. More detailed investment surveys were sent to targeted brokers/dealers, asset managers, and custodians to provide a better estimation of T+1 investments

Source: SIA T+1 Business Case

Annual cost savings opportunity by participant type$ Billions

Brokers/dealers

Asset managers

Custodians

Infrastructure service providers

2.1

0.4

0.3

-0.1

2.7Total

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ECONOMICS OF T+1 BY PARTICIPANT$ Millions

Source: SIA T+1 Business Case

2.0

4.3

2.2Brokers/dealers

Asset managers

Custodians

$60-100

40

60

Estimated T+1 investment for large participant

Payback period Years Comments

• B/O operations major cost for brokers/dealers and requires significant investment for T+1

• Brokers/dealers making majority of investment, but receiving largest benefit

• Investment likely for large brokers/dealers given short payback period and business importance of B/O capabilities

• For medium and small brokers/dealers, however, outsourcing B/O more attractive due to economies of scale in investment

• BO operations small portion of costs and not perceived as core activity

• T+1 likely viewed as compliance event• Although investment per company less than

brokers/dealers or custodians, relative savings even less resulting in longer payback period

• Despite little economics incentive for asset managers, industry needs their cooperation to move to T+1

• B/O operations important cost area and key business capability for custodian requiring large T+1 investment per participant

• Significant investment and benefits shared by small number of players with short payback period

• Large role in institutional trades combined with better risk management provide strong incentives to make investments required by T+1

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T+1 as compliance event

Approach to back-office redesign

T+1 as catalyst for broader design

Option 3

Share common tasks and resources for T+1

Individual Joint

Approach to back-office partnering

Option 1

Implement changes to meet T+1 compliance requirements

Option 4

Share/create a single back office processing platform

Option 2

Leverage and extend T+1 changes to broader redesign program

T+1 IMPLICATIONS FOR BROKER-DEALERS

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POTENTIAL INDIVIDUAL APPROACHES FOR BROKER-DEALERS

Change traditional back-office operating model• Extended automation (e.g., non-trade-processing

activities)– Automate pre-balancing dividend activities

• Eliminate duplicative work across departments– Integrate reconciliation activities performed in

Operations and Accounting in consolidated group– Create central repository that contains all

information and documents related to each account• Realign organization

– Reorganize departments along end-to-end processes instead of functional silos

– Shift input of account opening and information upstream to F/O departments and potentially customers

Achieve basic STP as a means to accelerate trade processing• Redesign institutional trade processing

– Eliminate paper confirmations– Build links to electronic matching utilities

• Modify internal processes to meet compressed deadlines– Consolidate systems supporting different products

(front and middle offices)• Comply with accelerated submission deadlines

– Move to real-time feeds to CDS system• Implement new industry communication standards




Individual changes (no JV)

Option 1

Implement changes required to stay in business after T+1

Option 2


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POTENTIAL JOINT APPROACHES FOR BROKER-DEALERS



Combine processing systems and functions• Segregate functions that could be

performed more efficiently in a joint effort– Trade processing activities relating to

clearance and settlement– Support functions such as Dividend

• Merge systems into predominantly one of the existing IT platforms

• Establish common interfaces to industry-wide utilities– Institutional trade matching– Fixed Income real-time matching

• Create common reference data systemsChange traditional back-office operating model• Extended automation (e.g., non-trade-

processing activities)• Eliminate duplicative work across

departments• Realign organization


Leverage overlapping activities• Build similar applications together

– Standardized communications protocols

– Common interfaces with shared vendors and service providers

• Share common resources– T+1 program design, logistics, and

management office (PMO)– Test scripts

Option 3

Share common tasks and resources for T+1

Individual JointApproach

Option 1

Implement changes required to stay in business after T+1

Option 2


Option 4

Share/create a single back office processing platform

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POTENTIAL END GAMES Compliance event Redesign catalyst Outsource Alone Joint Alone Joint Rationale Potential issues Small B/D

Likely Likely Uneconomical to invest money and resources to redesign systems and processes as required by T+1

Waiting too long to make decision may result in limited options if best outsourcers reach processing capacity limit

Medium B/D

Likely Likely Maybe Medium players need options that make them cost competitive with larger scale player

Coordinating efforts of two or more partners in shared options

Throwaway spend if unable to compete and forced to outsource in the future

Not committing to a decision may limit options

Large B/D

Very likely

Likely Less incentive to share efforts as significant economies of scale available or implementing alone

Adopting “easy approach” of limiting implementation to compliance event, losing opportunity to redesign back-office

Access to resources needed to implement broader redesign in parallel with T+1

Documents

OPERATIONS IN FINANCIAL INSTITUTIONS - WHY IT’S MORE THAN JUST PROCESSES