Strategic cost transformation in wealth and asset management

Part four of the OMFIF-EY Covid response series

Welcome to part four of our special series with EY on the economic response measures to the Covid-19 crisis. In this edition, we discuss how the pandemic has impacted the asset management industry, and the key issue of strategic cost transformation. Operating margins are down 32% and markets are down 13% globally. Rating agencies have downgraded the entire asset management industry to negative. There are great pressures on the sector.

Joining us is Mike Lee, EY’s global wealth and asset management leader. Mike is responsible for the execution of EY strategy for the sector. With more than 30 years of industry experience, he has served as the lead client service partner for many large and well-known alternative and traditional wealth and asset management organisations. He has worked alongside many talented teams and helped devise and execute strategies and optimise clients’ capabilities as they navigate a time of exponential change.

Listen to the recording, or read the transcript below.

Marcin Stepan: Mike, how has Covid-19 impacted the asset management industry?

Mike Lee: We look at things through three lenses: what is happening ‘now’, what could happen ‘next’, and what needs to happen ‘beyond’ that. In terms of ‘now’, our focus has been on valuation and liquidity, as well as how government stimulus packages or regulatory relief provide opportunities for wealth and asset managers, underlying investees and customers.

At the start of the pandemic, our main focus was on how to value less liquid asset classes and how to deal with the need for revalidating and recalibrating models to handle valuation challenges. From a liquidity standpoint, underlying investors are looking to potentially redeem commingled or direct products, and asset managers need to be able to manage those requests without significantly impacting the overall portfolio.

In terms of ‘next’, we’ve been thinking about how to manage a ‘return to office’ and what that means to organisations as they manage their own people getting back to office and how they interact with their clients.

As organisations continue to face challenges, both within the industry and for those companies and organisations in which the industry has invested, there are a lot of discussions on restructuring and workouts and the like. The pandemic has accelerated certain processes that were happening before the outbreak, such as digital transformation. We are also expecting an increased focus on strategic transformation, particularly cost. Many organisations are trying to navigate what comes next.

Finally, in terms of products, we are paying particular attention to sustainability and environmental, social and governance factors. As a result of the pandemic, greater attention is being paid not only to the ‘E’ but also the ‘S’.

MS: How is this crisis different to the 2008 financial crisis? And what lessons from that period has the industry been able to apply?

ML: This crisis differs from the financial crisis in that it’s a health crisis, with much broader and deeper human, societal and financial impacts. All industries have been impacted. Many economies have shut down, and fortunately some are beginning to re-emerge. The 2008 crisis was primarily financial and had a greater impact on specific industries, whether financial services or automotive, among others. The lessons learned from that period relate to three areas. One is on liquidity management preparation. One of the big things we saw from the financial crisis was the need for funds to either implement gates or suspensions. More than 100 funds needed to either throw up gates or suspend redemptions. Many had to close because of a liquidity mismatch between the portfolio and redemption requirements. We have seen the lessons learned from that be applied quite well in how organisations have prepared to manage liquidity through this crisis.

Coming out of the financial crisis, some managers wished they had put more of their proverbial ‘dry powder’ to work, because those that actually did have seen better returns overall on a relative basis compared to those that did not. With regards to communicating with stakeholders, in companies that best handled the crisis, leadership was proactive, transparent, empathetic and communicated frequently. I’m seeing more of that through this crisis.

Many organisations that faced dropping top line revenue and compressed margins took a tactical approach to cost management. The pandemic is an opportunity to take a much more strategic view of transformation. With a focus on cost, it’s about looking at the structural and strategic side of things rather than just the tactical. For example, structural areas like location strategies, legal entity structure, organisation and people, and especially how to re-evaluate client segments.

MS: How do companies remain competitive in this new environment?

ML: What is important is taking a longer term view and staying committed to that despite some of these short-term challenges. Specifically, there will be a focus on the importance of scale and digital, and improving overall operating leverage and the ability to optimise that cost base. There will be opportunities to utilise mergers and acquisitions and restructuring of the business to remain competitive. There is a need to constantly evaluate business model and strategy, and rethink some of the traditional metrics by which you gauge success for your organisation.

MS: How would you suggest that companies approach or manage cost cutting and scaling growth at the same time?

ML: It depends on the core objectives of their transformation programme. It is about cost reduction but at the same time, building the business around scalability and efficiency. Companies should leverage this for growth. It is an opportunity to look at the flexibility of the cost base. And equally, if not most important, is having effective cost control coming out of this. Rather than measures to cut, these should be measures to reinvest in the business – creating investment capital to reinvest in growth.

MS: How could this fit in strategically and structurally?

ML: The organisation needs to ensure the objectives of the cost transformation efforts align with its overall strategic objectives and initiatives. For example, organisations often focus on process redesign or how to intelligently automate certain areas or functions to take out cost.

But the greater initial focus should be on structural changes like potentially exiting smaller locations where activities could be consolidated into regional hubs or even more strategically around engaging differently. And in many cases, activities could be digitised across client segments to provide targeted insights about what processes to ultimately redesign or automate. But throughout the entire implementation initiative, organisations really need to keep a targeted focus on how they track the benefits of the programme and embed a finance role within the exercise so they can measure the benefits at every stage.

MS: What parts of the business are typically at risk?

ML: It’s not a one-size-fits-all answer, it depends on the organisation. Are you a globally integrated organisation, or are you a multi-boutique? Are you trying to transition from one to the other? But it really comes down to looking across the value chain. It can be the distribution function, manufacturing, operations, as well as some of the ancillary functions that cut across the three lines of business, whether it’s business risk, compliance, or internal audit. When you look at historical cost transformation efforts, around 75%-80% of the costs that are identified as being able to get redeployed are focused on people, products, process and technology.

With Covid-19, many organisations and governmental bodies have ensured that their people were a primary focus. Today’s environment requires a different approach to which levers to pull and an overall adjustment relative to what may be at risk.

MS: To what extent are technology and data automation the panacea for cost reduction?

ML: What matters is a company’s starting point, whether it’s the data, the desire to have a single source of truth, having a singular product master, security master, or client master, which life type systems were developed internally and what was vendor acquired. There is no ‘one size fits all’. Companies need to really evaluate what is best for the organisation. Is it a system re-platforming? Some issues will be addressed through intelligent automation and syncing of systems in lieu of a broad scale implementation which, in and of itself, brings complexities and costs challenges. It depends on an organisation’s circumstances. Lessons can be learned from others but at the end of the day, it’s taking that internal look and asking yourself “What is the most significant problem that we’re trying to solve?”

MS: Where have companies succeeded in applying technology and digitalisation?

ML: Some organisations have struggled because there was a lack of collaboration between the IT function and the business. Others face challenges because they start from the middle, rather than leading with a vision. This is where we’ve seen some organisations struggle.

A big proponent of success is collaboration between the business and IT teams, having the right agents of change and having the capacity to commit to the programme. It’s really about quality and having that targeted focus. And then ultimately, it’s having KPIs to measure progress and related accountability.

MS: When it comes down to some quality levers within strategic cost transformation, people often turn to centralisation and outsourcing. How should companies approach this to get the best value?

ML: So many discuss ‘core’ versus ‘non-core’, the idea that if something is not core to the business, it can be outsourced. I tend to look at things through three different lenses. It’s more about what is mission critical instead of what is core versus non-core. ‘Mission critical’ means that’s the most important and what the organisation itself should do because it’s a value differentiator for them.

‘Non-core’ is on the other end of the spectrum: systematic, routine, lower risk, where you look for opportunities to outsource or offshore, in a low-cost service delivery area. But then there is middle bucket of core, where maybe there is an opportunity to implement more of a centralised shared service model. Not necessarily a low-cost location, but maybe lower cost or even a ‘near shore’ location where you can still retain the responsibility internally or you can look to a third-party vendor. And I think there you also have a different level of oversight that is required relative to what you may otherwise do with the ‘non-core’ areas.

MS: Covid has impacted the way we work, with people working virtually and not having to travel as much. How do companies factor this in? And how would you expect that we’ll be working moving forward?

ML: Going forward, we need to be able to focus on enabling a much more flexible, multi-channel operating model. As part of our return to office efforts we will look at how to optimise real estate in our locations.

It is estimated that around 40% of people in the industry will keep working from home. The multi-channel approach is going to be critical because one of my biggest concerns coming out of the pandemic is the impact to culture. Many organisations ‘are who they are’ because of their culture, so it might be worth elevating ‘chief culture officers’ to look at how to retain that culture. Everything from the stewardship model or the apprenticeship model, interpersonal interactions with mentors or leaders that help guide and inform workers. The way companies give feedback, their talent management approach, will be incredibly important going forward.

MS: As companies look to having people return to work or as they adapt to new working conditions, how can they ensure staff productivity and staff satisfaction?

ML: They need effective agents of change. Companies need the ability to retain their culture, but also recognise that not everyone is going to react in the same way. Take the ‘20-60-20’ rule, but it’s directional:  20% of an organisation will embrace change willingly. Managers need to leverage these people to support the agents of change leading the program. On the other end of the spectrum, 20% are going to resist change. This is natural. And 60% are in the middle, with some reluctance towards, yet openness to, change.

To convince the majority of the organisation to make the changes that are needed, it is important to hone in on that middle 60% and address their feedback and needs, to ensure that the organisation is moving in the desired direction, led by those effective agents of change. You want to be as inclusive as possible. But you need to recognise that some resistance is normal, and manage that accordingly.

MS: What are your final lessons or final words you want to share when it comes down to cost transformation? And how do we make sure that we have these agents of change leading in the right way?

ML:  We spoke about transformation with a focus on cost in many respects, but it’s more about transformation of the business strategically. It is incredibly important to evaluate the organisation’s broader leadership that is going to be driving this change and making sure that you have the right agents that can bring the organisation with them to make the necessary changes. With any transformation, the entire organisation will be impacted, and you want to bring along the organisation in a way that its people understand because that’s going to be your culture going forward.

We have seen that success is based on the ability to commit and follow through, as well as establishing the right KPIs to measure progress and ensure accountability. But most important is building these programs into the DNA to ensure that you can sustain the benefits going forward.


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