Is Outsourcing Check Processing Cost Effective?
With recent changes in US legislation, the internal and external process of the US financial services industry is in need of a major revamp. Check 21 is one of the latest developments and allows check imaging with legal status to substitute checks. It is expected to reduce processing costs and operational efficiencies in the US payments industry in the long run. Effective since October 2004, Check 21 allows the use of substitute checks that:
The Check 21 Act is not mandatory for banks to follow: however, it is expected that large banks, who have advanced imaging and electronic capabilities will immediately start using digital files, IRD’s (Image Replacement Document or substitute checks) along with the paper checks. The complete achievement of Check 21 is going to take three to four years and will also help pave a smooth way for check truncation.
With the implementation of Check 21, the image enabled banks don’t need to sort the checks by the bank identifier for presentment to correspondent banks or paying banks. The paper check processing will be limited to image capturing at the Point of Capture (ATM, Branch, Drop Box, etc) for further internal processing or forwarding an IRD to the paying bank. According to industry estimates, this is expected to decrease the volumes of check presentment and clearing by at least 15-20 per cent in next three to four years.
Diagram 1 depicts the old regime of paper check processing which existed before October 28, 2004.
Diagram 2 depicts the new regime of check processing post Check 21 introduction:
| Operational Efficiency | Cost Effectiveness |
|---|---|
|
|
| Risk Mitigation | Revenue Enhancement |
|
|
The operational inefficiencies and risks associated with check processing are expected to reduce further in the future, when all the banks become image enabled and the presentment of IRDs (substitute checks) is totally eliminated. The check processing will become fully straight through once both the paying and collecting banks exchange check images electronically in future.
With the reducing check processing volumes, unit processing costs for banks are expected to go up in future. Moreover, with digital imaging of checks possible with Check 21, the banks need to invest in imaging technology, which will increase the costs in the short-term. To mitigate the short term increase in cost due to higher investment in technology, the US banks can look at outsourcing the check processing back office to offshore locations like India.
The conversion of physical check to a digital image is expected to eliminate the biggest impediment for check processing outsourcing to low cost locations. Although the digital image capturing of the check at the Point of Capture locations can not be outsourced to another location, the ensuing processes performed by the bank’s back office can easily be outsourced to a low cost location as digital images can be easily transferred to any other location for processing.
Check 21 is a very good impetus for US banks to outsource their check processing back office, as it will offer them the following benefits, apart from the cost saving due to outsourcing to a low cost location:
In the short term, US banks can outsource the whole back office check processing function once the check is digitally captured into an image at the Point of Capture location. The outsourced agent can perform the following functions from a remote location:
However, till the time the paper check or substitute check (IRD) exists parallel with the check image, the outsourced agent can process only check image for presentment to the paying bank and US banks will have to retain the paper check and substitute check presentment function in-house. But in the long term, as paper check volumes dwindle and more banks become image capable (IRD dependency also reduces), most US banks will present checks to paying banks by electronic transmission of images. This is expected to help US banks fully outsource the check processing back office.
Considering the fact that presently check processing is a very core process for any bank, outsourcing can be a tough decision to take. Moreover, the stringent deadlines involved for check processing can surely dampen the spirits of a bank’s management to outsource as any delay in check processing can have serious financial implications. However, with check processing volumes decreasing, IRDs getting the same legal status as a paper check and check truncation expected to be the order of the future, outsourcing is surely a win – win situation for US banks and outsourcing companies. Banks need to treat agents as partners and not as plain outsourcing agents. A partnership relationship will allow banks to remain close to the core process while providing an agent with the critical mass volumes necessary to endorse the new investment. Banks also need to do a thorough due diligence of outsourcing agents with special focus on the agent’s capability to undertake financial guarantee for any loss due to delay in check processing at the agent’s end.
Check 21 may have brought some concerns especially in the area of digital image security, but this is the time for US banks to start outsourcing the check processing back office functions, as the future is moving towards a complete transition to image based paperless check processing.