Guest Contributor: Peter Ellis, Managing Director, Investit
Some investment managers are very successful in terms of the cost-income ratios they achieve, others much less so.
Success is not a feature of size or the nature of the business. Some profitable managers are large global players, but some large global players are much less profitable than others. Similar statements can be made about managers that are small boutiques, specialist stock pickers, index trackers, multi-managers, and so on.
What sets all profitable managers apart is the alignment of their business models and operating platforms: in all profitable managers they are closely aligned.
The traditional business model for investment managers contains three components: a front office, a middle office and a back office. The rationale behind this is largely organisational: people sit in teams and teams are either in the front-office or the back-office, and if we are not sure which then we put them in the middle-office.
Following the global financial crisis of 2008, investment managers are operating in a more competitive, more complex, less profitable world. Businesses that operate in such a world need clear value propositions: it isn’t good enough to talk about what you do and how well you do it, you have to be clear about the value you deliver. For this reason, investment managers need a business model based on value parameters, not organisational ones. A value-based business model for investment managers contains four components:
Investment Services is where value is created for investors. It is where the real intellectual capital of the business resides. It is the primary source of a manager’s USP.
Client Services is where client relationships are created, maintained, retained and leveraged, to create new sources of revenue and protect established ones. Value is not created here for investors but it can be enriched by pro-active, responsive and tailored relationship management and servicing.
Business Support Services includes functions such as IT, data management, compliance, and performance analysis. Value is neither created nor enriched here. But the functions are tightly coupled with value-creating and value-enriching business functions. Therefeore, they must be tailored to the needs and nature of individual firms, according to the book of business each is running.
Operations Services includes services that are generic; in other words, industry-standard rather than business- or client-specific. The key here is the ability to execute high volumes of processing, without operational errors, in a cost-efficient way. Excellent operations will protect the value created by Investment Services; poor operations could erode it, along with a manager’s profit margin.
This value-based business model challenges some of our traditional views of investment managers. For example, dealing desks are often seen as part of the front office, but using a value-based model they could be seen as Operations Services. It may not be purely coincidental then that some managers have begun to look seriously at outsourcing their dealing functions.
Investment managers that adopt a value-based business model will be better placed to adapt their operating platforms in response to future changes in the client and distribution landscape. They will be able to decouple the four components of their businesses and take each one down a separate evolutionary path:
- Investment Services in the direction of specialist value-creation.
- Client Services in the direction of client-centric, value-enrichment.
- Business Support Services in the direction of tailored support, at an appropriate cost, for the needs of the value-creating and value-enriching business functions.
- Operations Services in the direction of scale and standardization.
These managers will win and retain more business in a more competitive world and, at the same time, operate at a more profitable level.