Should You Outsource? That Depends

Forty identifiable outsourcing companies are chasing 20,000-plus financial institutions in the United States. Should your bank too?

Banks tend to follow the herd. That would be a big mistake in this case.

There are many types of "outsourcing," but three are most popular:

Business process outsourcing defines the work done by departments of banks that do not rely heavily technology. It could apply to procurement, accounts payable, personnel, back-office operations, and other labor-intensive functions.

Systems outsourcing refers to pure technology, such as operating systems, network management, desktop management, data center management, disaster recovery, and other generic aspects of technology.

Applications outsourcing relates to the work banks do: lending, taking deposits, dealing with customers.

What is good for your bank depends on variables that can take over a year to analyze. We have had perfect examples of that just within the last few months.

• Bank One Corp. said outsourcing was wrong.
• Bank of America said it was right.
• J.P. Morgan Chase said it was wrong for J.P. Morgan (Pinnacle) but right for J.P. Morgan Chase (International Business Machines Corp. negotiations).
• Citigroup Inc. does it all - there isn't a technology invented that they haven't tried.

Any discussion of outsourcing also has to include the size of the bank. Large banks usually don't outsource applications work. Medium-size banks are more open-minded to outsourcing. Small banks are the most objective and will go either way, but they prefer to run in-house systems because of their turnkey, own it, and run-it-till-it-wears-out characteristics.In applications outsourcing, the stats are quite clear: only 15% of the top 100 banks outsource their work, but 32% of medium-size banks do, and 44% of small banks.
The vendors are very different in terms of which type of outsourcing is involved.

When the large banks invite bids for systems outsourcing, they deal with IBM Global Services, Electronic Data Systems Corp., Computer Sciences Corp., Accenture, and some specialized companies.

When small and medium-size banks consider applications outsourcing, they deal with 24 companies, the largest of which are Fiserv Inc., Alltel Information Services, Metavante Corp., Jack Henry & Associates, Bisys, Aurum Technology, InterCept, and Computer Services Inc.

Even though outsourcing decisions should be based with rocket-science precision on analysis, business case considerations, quality of service, and corporate strategy, they usually come down to something more subjective.

Consider this. When Bank One outsourced in 1998, the CIO was claiming savings in the hundreds of millions. In 2002, when the new CIO reverted back to in-house, he was claiming savings based on lower employee rates versus higher contractor rates.

Was that a spreadsheet glitch? I'm inclined to believe it was a philosophical difference between two very different CIOs.

When the recommendation hits the CEO's desk for final approval, this is what he should be thinking:

1. "Is this compatible with the strategic plan that I approved earlier this year?"
2. "Is this a tourniquet-type solution to solve a temporary problem caused by the weak economy?"
3. "Are nonbank employees going to give us the service that our own guys did when we imposed difficult deadlines on them?"
4. "Will our own guys develop into the pros that the contractor claims he will bring to our bank?"
5. "Since the contractor is hiring our guys, how will we gain an increase in proficiency?"
6. "Will we be able to control costs selectively when resources are bundled into one fee?"
7. "What if we merge with another bank our size?"
8. "What if a bank offers to buy us at the right price but reneges because of a stiff contract buyout clause?"
9. "What if we sell off peripheral businesses and focus on pure banking?"
10. "How do we reduce our contract fee like we used to in the old days when we were forced to lay off our own people?"
11. "How do I know these projections are real and accurate?"
12. "Since change is a sure thing, how can I be sure the contract will protect us as much as it protects the outsource company?"
13. "Will our customers notice the change? Our user departments?"
14. "Will our employees walk out on us the minute they sense the move?"
15. "Why didn't we do this 10 years ago? Did technology change? What's the force behind this decision?"
16. "Is the CFO going to set up a tracking system to check the CIO's claims for the next 10 years?"
17. "What if the Mother Teresa outsource company we like is acquired by the Attila the Hun outsource company we rejected?"
18. "Has our lawyer negotiated as many outsource contracts as the outsource company's lawyer?"
19. "Where will our CIO be 10 years from now?"
20. "When the honeymoon ends, will it be practical to shift back to our present scheme?"
21. "As giant computer companies experience volatility, do we add more risk to our situation by getting in bed with them?"

Style, size, and label make a big difference in the outsourcing decision. Large banks invite huge risk when they make the decision to outsource, because they turn over the infrastructure (systems outsourcing). I hate to say any bank should wing it, but small banks have much less at stake, as long as they focus 80% of their attention on selecting the right outsource company.