OUTSOURCING A GROWING TREND FOR MUTUAL FUNDS

The Indian mutual fund industry has braved a flurry of third party fund administration deals in recent months. Baroda Pioneer Mutual Fund selected Citibank while Canara Robeco Mutual Fund has gone with HSBC. HSBC also managed to land a plum third party fund administration contract with ICICI Prudential Mutual Fund, which has assets under management of around $8.5bn and runs over 100 mutual fund schemes. ICICI Prudential is only the third firm among the top ten fund houses in the country to have outsourced their fund administration activities. The other two are Reliance Mutual Fund, the largest player in the industry, and Birla Sun Life Mutual Fund that have outsourced to Deutsche Bank and JP Morgan respectively. Focus on core activities Apart from its size, what is really significant about the HSBC-ICICI Prudential deal is that unlike most of the recent outsourcing announcements, ICICI Prudential has decided to outsource functions that were hitherto managed in-house from the time it was established ten years back. Manoj Agarwal, chief operating officer at ICICI Prudential Mutual Fund said that outsourcing of fund administration will enable ICICI Prudential “to have a sharper focus on activities such as funds management and client servicing.” Debashis Roy, head of operations at Infrastructure Development Finance Corporation Mutual Fund (IDFC MF), which recently acquired Standard Chartered Asset Management, echoes these views. “Outsourcing is the way to go. Cost today is a major issue for mutual funds. By outsourcing activities such as fund accounting that are not core to mutual fund business we can keep costs low. It also enables us to focus efforts on our core business areas i.e. manufacturing and distribution of mutual fund products.” IDFC outsourced its back-office to Deutsche Bank in 2008. Scale and cost The main drivers for outsourcing in India are the same as in other countries, scale and cost, remarks Debopama Sen, head of securities and fund services at Citibank in India. “We can provide economies of scale. We have a 60 strong fund accounting shop that is a part of a 200 strong securities services team. In contrast, a fund house’s accounting team might consist of only 3 to 10 people.” Talent retention in such an environment is difficult for fund houses, says Ms Sen, which can be overcome through outsourcing. For fund houses, keeping up with regulatory changes that impact back-office systems is a challenge, states Mrugank Paranjape, head of domestic custody services at Deutsche Bank India. “Every year there are one or two major regulatory changes, such as introduction of Straight Through Processing (STP), securities transaction tax and so on, which has necessitated alterations to fund accounting platforms. But this is not the core competence of a fund house and it makes logical sense to go to a third party service provider,” he explains. Mr Paranjape points out that third party fund administration is not a new phenomenon in India. While most fund houses that were established in the 1990s or earlier carry out fund administration and accounting in-house, post 2001 all the new mutual fund entrants in the market have opted for the outsourcing route. The point of inflexion, he says, was 2001. “It was around this time that credible service providers, namely global names such as Deutsche Bank, JP Morgan and ABN Amro, now Citi, started offering these services in India,” notes Mr Paranjape. As these outsourcing service providers have expanded their operations and established themselves in the market, the older fund houses too have started looking externally for their fund accounting and administration requirements. Examples of older funds that have outsourced their in-house operations include Reliance Mutual Fund, IDFC, DSP Backrock, JM Principal and ICICI Prudential. Nonetheless, seven out of the top 10 Indian mutual funds still retain their in-house fund accounting functions. As a result, over 51 per cent of the Indian mutual fund industry assets are administered in-house. Mr Paranjape acknowledges that the movement from an in-house set-up to an outsourcing model has been rather slow. “Because these funds have been around for a long time, often the in-house cost structures may be more effective than going with outsourcing service providers. Also, if they do not have a requirement to upgrade their technology platform in the near term, they might not look outside.” Migration Typically, industry experts suggest that a migration from in-house to third-party can take anywhere from 15 days to 3 months. Migrating existing back-office operations set-up is a challenging proposition, notes Mr Paranjape. To avoid lift-out failures, he says that “our preferred approach is to take on the existing work but do not do any lift-outs of technology and systems. “We migrate the client’s business on to our technology platform. Regarding people, we have a flexible approach. In some instances we have retained the personnel employed by the customer,” explains Mr Paranjape. Although Indian regulations do not specifically forbid non-custodian players, the third party fund administration space is dominated by the global or regional custodians - Citibank, JP Morgan, HSBC and Deutsche Bank - that in most instances also provide custody services to the client. They claim that their local and global custody experience gives them a critical advantage over other contenders in the space. “The Indian market has a unique and complex set of requirements in fund accounting. The successful implementation of this initiative demonstrates our ability to invest in the customisation of global solutions for the Indian market,” said Jayant Rikhye, head of Institutional Fund Services, Asia-Pacific, HSBC, while commenting on the bank’s win of the ICICI Prudential fund administration deal. Local knowledge Ms Sen at Citibank also states that an outsourcing service provider needs to have an in-depth understanding of the local specificities of the Indian market. For instance, she says that a unique aspect of the Indian market is that NAVs have to be declared on the same day at 8pm, unlike other markets where it needs to be announced on the next day. “Keeping the time criticality in view it makes imminent sense for a fund house to have one provider for both custody and fund accounting. Information does not need to be duplicated,” she says. It is because of such localised requirements of the Indian market, that Citi opted to have a separate fund administration hub for India, states Ms Sen. The decision was also helped by the fact that ABN Amro had an existing custody and fund services centre in India that were acquired by Citi in 2004. Apart from India, most of the other 10-odd markets in Asia where Citi is active are services by its processing centre in Singapore. Ms Sen says that both the centres in India and Singapore are aligned with the bank’s global practices and use the same Multifonds technology platform that Citi uses globally. Unlike Citi, Deutsche Bank has local processing centres in each of the countries in Asia where it is active, such as Indonesia, Malaysia, Thailand, Korea, Singapore and Hong Kong. Boon-Hiong Chan, head of fund services, Asia Pacific at Deutsche Bank explains: “There is no homogeneity in Asia. Every country has a different set of regulations, reporting and post-trade compliance requirements. We have adopted a local model to establish ourselves on the ground and understand the local needs of our customers better.” A mature market Describing the trends in the region, Mr Chan says that while the Chinese market is as yet inactive, fund administration outsourcing has picked up in other markets such as Taiwan and Korea where the asset management industry is much more mature. Deutsche Bank has seen its clients in the Asia Pacific region increase by nearly 30 percent from 2007 to 2008. “In Asia, the asset management industry has developed as a local industry. Therefore there was no driver to outsource. But deregulation, as in Korea, is driving the back-office outsourcing trend now,” remarks Mr Chan. In Korea a change in capital market regulation is recent years has seen funds investing in the overseas market. While fund houses have experts that understand the local accounting practices, they are unable to adequately cope with the overseas markets requirements and are, as a result, turning to global players, he explains. Interestingly, Thibaud De-Maintenant, head of product and client management for the Asia Pacific region at Deutsche Bank, notes that while the credit crisis has negatively impacted the mutual fund industry, it too is driving the outsourcing trend. “As a result of the credit crisis, and the consequent economic situation, firms are looking to reduce their fixed costs and increase variable costs through outsourcing,” he says. “Additionally, to maintain integrity and satisfy investor demands, fund houses are increasingly considering getting third party service providers to do their valuations.”

‘we can provide economies of scale’

Debopama Sen,

Citibank