Nowadays outsourcing is well-practiced in the banking industry. The concept of outsourcing in banking and the BFSI industry is as common as BPOs themselves. With the division of labor and specialization of the occupation, the core competency has become more narrowly and clearly defined. Further, an increase in the complexity of functions necessitated the specialization. Therefore, outsourcing in banking is a strategic decision for many 21st century organizations.
The regulatory framework has developed considerably over the last few years and banks now find themselves under increased scrutiny by regulators, as they strive to meet more challenging capital, financial reporting, and corporate governance requirements. Some financial institutions have had to significantly reduce their exposure to global capital markets to concentrate on more ‘core’ activities, often commercial and retail banking, in their domestic markets. Others have decided to stick to a more diversified operating model providing a range of financial services across borders. Opinions still differ on what the perfect balance is and what a sound and well-structured bank should look like. What everybody agrees on, however, is that managing these global operating models has become more expensive and that the focus for banks is, more than ever, on cost optimization. Simply put, as capital requirements are impacting the pricing of financial products, banks need to lower their operating costs to remain competitive.
In the first years following a crisis, banks have divested, sometimes significantly, their riskier activities and applied their capital to more cost-efficient businesses. More recently, and as there is only so much restructuring a financial institution can undergo, they’ve had to find more innovative ways to manage their costs and have started, amongst other strategies, to look to outsourcing as a way to delegate costly parts of their operational functions that external providers can manage more productively.
Outsourcing in the financial industry isn’t new, as banks have been at the forefront of the trend since outsourcing and offshoring started to become the norm in the service sector. Over the last few years, however, this phenomenon has gathered momentum and the nature of the outsourced tasks has evolved. Up until recently, IT processes and client relationship management especially in retail banking, accounted for the majority of large-scale outsourcing, whereas we see an increasing number of banks starting to use managed services for critical processes and support activities. The types of functions now being outsourced range from compliance processing tasks to critical day-to-day business activities.
As per the World Retail Banking Report, close to 77% of the retail banks outsource at least one part of their business operations.
While there isn’t an easy solution for every challenge in community banking, outsourcing can make a swift and positive impact on your bank’s bottom line while freeing up your internal resources to focus on your core competencies. Many financial institutions already outsource core administrative functions like payroll, regulatory compliance, and digital banking services.
Banks that resort to managing their loan processing team can find this strategy costly and time-consuming. These full-time loan processors not only require high salaries because of their expertise, but they also need other benefits for workers, related equipment, and so forth. All of these translate to more expenses for the bank or the client firm.
However, outsourcing in banking can significantly decrease their outlay. They will benefit from the service of contract loan processors who are usually self-motivated and are focused on closing mortgage loans, all for the benefit of the bank or their client company.
Outsourcing loan processors involve skilled and experienced staff. Financial institutions are auspiciously given access to their accumulative expertise.
As client firms, they receive the support of highly qualified professionals. This outsourced personnel helps them originate and fund more housing loans while at the same time facilitating security and stability for their enterprise.
Outsourcing back-office loan processors is one of the strategies that an increasing number of mortgage firms and banking institutions have implemented in recent years. This measure has helped them in offsetting any harmful impact of market challenges to their profitability.
The streamlined operations of outsourcing firms make their clients’ loan processing businesses more efficient and accurate. Thus, loans are closed quickly and on time. Prompt customer payments are achieved, earning the client a solid reputation and greater competitive advantage.
Outsourcing in banking involves the highly skilled team of the service provider adeptly managing excess tasks. This gives relief to lenders like banks because they are delegating excessive work to another company.
Outsourcing firms help maximize their client firm’s growth and profitability by effectively handling a high volume of time-consuming work. Among them are tax monitoring, origination-processing, mortgage servicing and sub-servicing, and loan processing.
Accounting, post-closing, underwriting, examination, and title orders are no longer a concern for client firms, too. They can, therefore, have more time to set their priorities more clearly. For instance, they can concentrate more on giving customers better banking experiences, creating new product strategies, and managing compliance risk.
Outsourcing enables companies to gain access to big data specialists. Outsource analysts facilitate the employment of the correct tools for their clients. Big data pertains to vast sets of customer information used for computational analysis. They reveal human interactions and behavioral trends, patterns, and associations. Some of today’s biggest and most successful businesses in the world like Capital One, Starbucks, Walmart, and T-Mobile depend on big data analytics. Outsourced specialists deliver the correct type of results based on their clients’ targets, expectations, and budget. Therefore, client firms can leverage big data analytics to their optimum benefit.
Outsourcing in banking helped brokers, and lenders to adapt to the new generation of home buyers and their unique and diverse demands. They concentrate on making the client firms contented. They strive to keep an enduring relationship with them, too. Financial institutions are, thus, able to receive excellent customer ratings and consequently increase customer leads or referrals.
Well-thought-out outsourcing in banking strategy combined with carefully carried out due diligence can set a bank apart from its competitors. That is when everything goes well. But what happens when a vendor doesn’t hold to his end of the bargain or, more likely, makes an unintentional mistake? What then, are the risks for banks?
Companies often focus on making sure vendors deliver, but they sometimes forget about the ancillary, operational risks of outsourcing. These risks can be very large and significantly impact capital requirements. There have been multiple instances in recent years where consumer banks had to face serious reputational and financial debacles due to a third party’s error.
Years ago a retail bank left millions of customers unable to withdraw funds or view their balances due to a computer failure, which occurred as one of the bank’s IT vendors was performing a software update. The failure resulted in paralysis of critical banking systems –a costly error. Another one had to compensate thousands of customers whose personal information had been stolen and sold illegally. The data had been stored by a vendor on a USB stick which was subsequently lost.
It is important to understand that by importing efficiency, companies are also importing risks.
Scandals have also been frequent in the investment world where rogue traders have lost billions before computer control systems, managed by third-party vendors, detected unauthorized trading patterns. In a specific instance, a bank lost over a billion dollars because data incriminating one of its traders, collected by a third party, never made it to its compliance team. It had been deleted by error as part of a system upgrade – performed by a vendor. By increasing their business’ efficiency through outsourcing, these financial organizations have imported significant operational risks into their organization, which resulted in serious financial losses and reputational damage.
More than a decade out from the Great Recession, community banks may have regained their financial footing, but they still face challenges, from a competitive credit and deposit market to demographic changes, rapid advances in technology, regulatory and compliance burdens, cybersecurity and fraud threats, and the pressure to control expenses in a low-rate environment.
Despite these issues, small and regional banks still play an essential role in the communities they serve. Community banks offer leadership on local economic development and charitable donations. They know their customers and prioritize high touch relationship banking. And local banks are often the lifeblood of the small business community, making loans that bigger banks wouldn’t and advising new entrepreneurs.
For a bank or any financial institution, following a carefully developed and detailed outsourcing methodology is paramount to significantly lower its operational risks. They should have a clear due diligence approval process for potential companies they outsource to and outsourcing policies to ensure that both parties understand what is expected and how business should be conducted. In addition, methods should be put in place to monitor those risks related to outsourcing in any particular operational function and controls must be set up to address crisis prevention and contingency planning, potential customer issues, and upcoming changes to both parties’ processes. Compliance and Operational Risk teams should carry out regular reviews to verify that their suppliers are compliant. Given the potential for extreme loss events, it is also critical to plan ahead and have a capital-efficient solution to mitigate these risks – naturally imported when a company decides to outsource some of its activities. Risk managers should talk to their brokers about operational risk insurance as risk transfer is a pertinent solution to address such large risks. They should be looking for a cover managed by a carrier with sufficient strength and capacity. While outsourcing provides financial institutions with competitive benefits in today’s challenging business and regulatory environment, it is important to understand that by importing efficiency, companies are also importing risks, which should be addressed by implementing an effective compliance and risk management strategy and the use of tailored operational risk insurance.
Related resource: What to look for while choosing your outsourcing partner?Categories: