Making the Business Case for Treasury Outsourcing
Treasurers today are deeply involved in the financial supply chain and have more rigorous regulatory and compliance requirements to meet. In fact, treasury has taken on a more strategically important role in the organisation with front-line responsibilities for managing risk, working capital, controls and corporate governance. As a result, treasurers are looking for ways to free-up time currently spent on operational tasks – and outsourcing offers a solution.
But any decision to outsource treasury must be based on a careful analysis of the existing treasury organisation. A building block approach will ensure that all variables are properly evaluated and taken into consideration in the decision making process. Developing the business case will also offer a sound basis for discussion of the proposition with senior management and more importantly with the operating units that will be impacted by the change.
The primary step in developing the business case is to complete a thorough review of all treasury related activities. The review will include an evaluation of the existing processes, controls, volume and frequency associated with each of the activities performed by treasury:
Front Office Activities | Back office administration |
Intercompany funding | Corporate Netting Center |
FX Management | Pool Management |
Accounting and Reporting | Business unit support |
Reporting requirements | Third party payments |
Liquidity/Investment Management |
During this process it will be important to differentiate between strategic or core and non-core activities. For example, a strategic activity involves the identification and development of a strategy to mitigate a foreign exchange exposure. A non-strategic activity involves the execution, confirmation and reporting of the corresponding hedge transaction.
Identification of key drivers such as transparency of information, effective operational controls, centralisation, cost savings, adaptability, coordination and standardisation and automation will help to define the objectives and priorities associated with outsourcing to ensure that the proposed solution is tailored to meet your specific requirements.
Once the primary activities associated with treasury have been defined and segregated into strategic and non-strategic activities, the company needs to objectively evaluate existing treasury policies and procedures, internal controls associated with those procedures, segregation of duties, management and financial reporting, supporting IT systems and identify any deficiencies that need to be addressed, keeping in mind the key drivers identified earlier.
Based on the review of the existing processes, best practices and key corporate drivers you should now be able to determine which activities to outsource and what to keep in-house. Once this has been determined, the company needs to evaluate the internal costs associated with supporting the new structure versus the service provider’s fees.
Below is a list of activities that are typically outsourced:
Activities that are usually NOT outsourced include:
In order to make this determination a cost benefit analysis needs to be performed to evaluate the cost associated with managing these activities in-house versus an outsourced solution. The table below summarises the personnel and systems expenses that need to be evaluated.
Annual Cost | In house | outsourced |
Employee | ||
Salaries | ||
Overtime | ||
Sick leave | ||
Pension | ||
Health plan | ||
Fringe Benefits e.g. car | ||
Subscriptions | ||
Social insurance | ||
Other | ||
Treasury Management Systems | ||
Implementation | ||
License fees | ||
Dedicated hardware | ||
Maintenance & support | ||
Allocated internal IT support | ||
Business application support | ||
Disaster Recovery | ||
Interfaces/Development Work | ||
Implementation | ||
License | ||
Maintenance | ||
Facilities |
Aside from employee-related expenses, companies need to consider the cost associated with investing in a sophisticated treasury management system, communication infrastructure and the associated support staff. From a purely economic perspective, the cost of a first class treasury management system usually tips the scale towards an outsourced solution.
In fact, a decision to outsource is rarely made in isolation. It is much more likely to be part of a decision to re-structure treasury operations, usually by centralising activities on a regional or global basis.
Treasury departments have to vie with other departments within the organisation for capital and other resources such as IT and for this reason alone, it will be necessary to develop a comprehensive business case that evaluates the expected return from any such project over a defined period.
The key to making a convincing business case at board level is to demonstrate how a project will result in economic or shareholder value, and the time frame within which this is expected. The return associated with the project will need to meet or exceed the company’s weighted average cost of capital or “hurdle rate”. A net present value analysis will, therefore, be required (see below).
In addition, a comprehensive business case will take into account both the quantifiable “hard dollar” and qualitative benefits, such as control and regulatory compliance, along with the related costs and expenses associated with establishing or restructuring a centralised treasury organisation.
Year 1 | Year 2 | Year 3 | Year 4 | Year 5 | |
Treasury Benefits: | |||||
Cash optimization | |||||
Intercompany Netting | |||||
Bank fee reduction | |||||
Total | |||||
Expenses: | |||||
Outsourced/Inhouse Mgt. Fee | |||||
Global Transaction Fees | |||||
Arrangement Fee | |||||
Auditor’s Fee | |||||
Directors’ Fee | |||||
Sundry General Expenses | |||||
Legal | |||||
Tax | |||||
Stationary | |||||
Pre-tax Benefit (Loss) | |||||
Effective Tax Rate (ETR) (xx%) | |||||
Subtotal | |||||
Tax Benefit | |||||
After-tax Benefit | |||||
Net Present Value @ X% WACC | |||||
The net present value analysis (Figure 2) is a high level document for presentation to the Board. It should derive from and be supported by the comprehensive study of the existing treasury processes and company structure already described.
This analysis provides a summary of all of the elements of the project including the benefits and expenses associated with centralising treasury. The detailed cost/benefit analysis for outsourcing already described is a sub analysis which leads to including a line item for either an in-house or outsourced management fee in this project net present value analysis.
By now you will have analysed your existing treasury processes; determined the quantitative and qualitative benefits associated with centralising treasury operations and determined which processes can be cost effectively outsourced. Based on this information you have built a compelling business case, including the ability to demonstrate an appropriate return in excess of your company’s hurdle rate.
Hopefully, you will also have convinced the board to commit to the necessary investment in order to achieve the calculated year-on-year savings.
If so, the decision will now be made and it is time to look to the implementation. Like the decision-making process itself, meticulous attention to detail will be rewarded here. You will need to work closely with your chosen provider to ensure success.