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Calling Card May 2012
Five Percent Efficiency ThroughExternal Spend ManagementNew Models to Build Capabilities andReduce Spend in Financial Services
This document is confidential and is intended solely forthe use and information of the client to whom it is addressed.
Booz & Company
Executive Summary
While managing cost is considered the new norm across the financial services industry, a return tohistorical performance in efficiency would require banks to rethink their approach to spendmanagement. The large and changing scope of external spend makes it a necessary and majorcomponent of any cost program.
Banks can reduce these costs by 10 to 20 percent and deliver a 5 percent or better improvement inefficiency while enhancing capabilities. Accomplishing this requires the use of these key levers:
– Manage discretionary spend as an investment pool– Build a demand management culture to eliminate waste– Restructure the supply base to access economics and capabilities– Manage supplier partnerships to capture efficiencies– Create a new operating model to sustain and enhance results
When you look at external spend with this new lens, you move expense management to theexecutive agenda. Your costs are no longer problems; they are now choices.
1
Booz & Company
Note: The efficiency ratio (ER) measures what a bank must spend in order to make $1. The higher the ER, the worse the performance; ER = non-interest expense / operating revenue (expense calculatedas non-interest expense less depreciation and amortization of intangibles; revenue calculated as net interest income + non-interest income).Source: SNL Financial Data 1989-2011
To return to historical performance, banks must cut costs to lowertheir efficiency ratios
2
The average efficiency ratiofor mid-cap banks since 1989has been 60%
As of 2011, it is 64% and stillclimbing
To return to historicalefficiency ratios between57% and 60%, a typical bankwould need to reduce costs by7% to 12% or grow revenueby 10% to 15%
Each point of efficiencyimprovement will require a2% cost reduction
Efficiency Ratio
Efficiency Ratio for 18 Banks(Midsized: Asset Size $50M - $350M)
2011200919941989 20041999
Average Efficiency Ratio
50%
60%
70%
HistoricalAverage
Best in Class
64
6160
63
585859
60
59
5758
575757
5758
606059
60
61
6262
Booz & Company
The large and bifurcated nature of external spend presents a realopportunity—for cost savings and capability building
3
Cost Profile of Typical Bank
12%
Foreclosure & Repo
1%
Amrt & Goodwill2%Interest Expense
Comp & Benefits
40%
External Spend
45%
For a Typical Bank, External Spend ComprisesNearly Half of the Total Cost Base
Spend Is Bifurcated … Banks Must Manage Large SupplierRelationships and Fragmented Spend
Source: SNL Financial Data 1989-2011; top 15 midsized banks; Booz & Company experience and analysis
Spend (%)35
30
25
20
15
10
5
0
Supplier Distribution by Spend
0% 100%Suppliers by Size (%)
<$00K/year<$000K/year
<$KM/year
$XM-$YM/year
>$YM/year
Long tail of small,transactional
suppliers
Concentrated set oflarge, strategic
suppliers
MinimizeTransaction &
Management Costs
Maximize Joint ValueCreation (Productivity,
Capability, Innovation, etc.)
Booz & Company
Most banks still address spend through price and cost – higherimpact comes through demand and value levers
Increase coverage of spend Basic cost insights Credible threat to switch
supplier– “Designed-in” competition– Consistent messages
Auctions Multiyear target commitments Timing of the buy
Rationalize supplier base Switch to cost-advantaged suppliers Manage drivers of total cost of
ownership, to reduce internal costs Reduce internal process burden to
manage supply and transaction flow Streamline logistics/processes at
supplier interface
Reduce consumption Reduce/standardize specification Use industry standards instead of
custom designs Switch to substitute technologies
with desired functionality Leverage supplier innovation
capabilities
Find appropriate make/buy/outsource balance acrossvalue chain
Supply base restructuring Influence product mix/regional
preferences to favor products withgreater supplier base leverage
Ongoing supplier development setagainst “should be” cost andperformance targets
Enhance operating model to sustainimpact and efficiency
Procurement Function EnablesProcurement Function Delivers
Procurement Role
“Traditional” supplier-facingprocurement role
Lower Impact
“Nontraditional” skills increasingly requiredto influence internal stakeholders
Higher Impact
PriceLevers
ValueLevers
DemandLevers
CostLevers
Transformational Opportunities
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Booz & Company
Build a DemandManagement Culture
Proactively ManageDiscretionary Spend
EstablishNew
SourcingOperating
Model
A fundamental rethink is required to get the most from externalspend—five levers to achieve five points of efficiency
Establish a robust program thatcaptures value
Build vendor managementcapabilities into normalbusiness operations
Invest the same level ofresources and commitmentexternally as you wouldinternally
Establish strong relationshipsbetween procurement andbusiness partners …
… to facilitate demanddiscussions during businessplanning
Establish KPIs that providestakeholders with insight intotheir demand trends
Think higher in the bill ofmaterials
Leverage supply base toaccess new/differentiatingcapabilities
Select suppliers to play in their“sweet spot,” but be aware offull complement of serviceofferings
Approach with an “investor’seye”—make explicit investmentdecisions
Proactively manage thespend—establish KPIs andmeasure results
Hold executives accountable
1
2 3
4
Rethinking External Spend Management:5 Key Levers for Financial Services
20%-40% savings
10%-20% savings5%-25% savings
Restructure YourSupply Base
Near-Term Savings Longer-Term/OngoingNote: Savings opportunity is applicable to addressable spend for that opportunity lever.Source: Booz & Company analysis
Manage SupplierPartnerships
2%-5% savings
5
5
Booz & Company
Using this approach, 10% to 20% of external spend can berestructured or eliminated
6
2%
2%
6%
1%
1%
3%-9%
3%-5%
Demand Management
3%
80%-90%
-10%
-20%
Resulting Spend
10%
80%
Supplier Management
1%-2%
Supply BaseRestructuring
3%
Discretionary Spend
2%-4%
2%
Total External Spend
100%
Savings Potential by Key Lever ($M)
1 2 3 4
Source: Booz & Company experience and analysis
EXAMPLE
High Savings OpportunityLow Savings Opportunity
Thereafter, sustainable annual savings of 3-5% or more should be achievable
Booz & Company
Discretionary spend is an investment pool, not an expense—manage it proactively at the enterprise level
$145$130
$100
+20%
Year 3Year 2Year 1
Discretionary Spend Year-over-Year GrowthClient Example: U.S. Regional Bank Without Active Management
($ Million)
Discretionary Spend1
Discretionary Spend TrendWith Active Management
-25.0%
Year 3 Target
75.0%
Year 2 Target
70.0%
Year 1 Actual
100.0%
Discussion
Discretionary spend is defined by categories thatthe business can “dial-up/dial-down” (e.g., travel,consulting, charitable contributions)
Executives should view discretionary spend as an“investment pool” vs. an “expense pool” …
… and strategically manage their decisions basedon the best “investment” for the bank
Unchecked, “discretionary” spend will grow year-over-year
A “lights-on" approach that deploys targetedpolicies can reduce non-revenue-relateddiscretionary spend
To manage the spend effectively, structureddashboards/scorecards should be developed andshared with stakeholders regularly
Putting a robust discretionary managementprogram in place can yield 20% to 30% savings
7
Source: Booz & Company experience and analysis
Booz & Company
Demand management delivers savings in alignment with thedegree of change/effort the organization is able to make
Demand Management2
Demand Management Cost Potential Matrix
Conservative
Aggressive
Level ofEffort
Lowest GreatestSavings
ReduceQuantity
Eli-minateDemand
ReduceRequirements
EncourageSubstitution
ReduceFrequency
Heighten CostAwareness and
TightenPolicies andStandards
ImposeApprovals
andTighten
Procurementand
MonitoringProcesses
Critical SuccessFactors
ExecutiveCommitment
BenchmarkingBest Practices
Technology &Tools to Manage
Tracking &Measuring Results
ChangeManagement
EliminateDemand
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Booz & Company
Supply base restructuring can enable access to best-practiceeconomics and differentiating capabilities
Insourced Outsourced
IT &Communications
Real Estate
ProfessionalServices
BusinessServices
Other G/A
Make-vs.-Buy Decisions Across SpendTypical FS Institution
Percent of Spend
Supply Base Restructuring3
Why the Move from Make to Buy? Cost advantage: To take advantage of the wage-
rate differential between the manufacturers and thesupply base
Superior competency: Over time, serviceproviders offered a degree of sophistication that in-house specialists could not match
Asset transfer: Selling assets to suppliersimproved the balance sheet and gross margins (dueto superior supplier competency)
Utilization improvement: Suppliers utilized unusedcapacity by selling to other firms, lowering theoverall cost of goods and services
Economies of scale: Concentrating on fewercapabilities and pooling demand helped supplierscreate economies of scale for Original EquipmentManufacturers
Business risk mitigation: Customers andsuppliers collaborated to reduce business risks suchas inventory obsolescence and stockouts
0% 100%
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Booz & Company
Financial services is following the lead of other industries toestablish an integrated, tiered supply base
Supply Base Restructuring3
Supplier Structure Model
Existing Supplier Landscape
In-HouseBusiness 3
In-HouseBusiness 2
FM FMFM MA MAFM PM PMPM PMPM
In-HouseBusiness 1
FM FMFM FM
High fragmentation in Tier Two interfaces
MAMA PM PMPM PM PM
Multiple Tier OneInterfaces
PM PM
Tier 2 Tier 2 Tier 2 Tier 2 Tier 2 Tier 2
Portfolio A Portfolio B
In-House CentralProperty Team
Multi-Service ProviderTier One
Multi-Service ProviderTier One
1 2
Office focused
Branch focused
1
2
Tier TwoTier TwoTier TwoTier TwoTier TwoTier Two
New Integrated Supplier Model
Supply Structure Considerations The supply base is changing, relying more and more
on outsource partners for the delivery of both non-core services and core operations
The structure of this supply base is changing too,evolving to resemble the tiered structure typical ofan automotive Original Equipment Manufacturer
The benefits of developing Tier One suppliersinclude:– Necessary scale and network– Capable of continuous innovation, coverage of
multiple technologies– Cost competitiveness
Success factors include:– Capable network of partners and Tier Two
suppliers– Appropriate scale to offer broad range of
capabilities required from a systems supplier– Innovation to avoid cost pressure and keep up
margins
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Booz & Company
Vendor management ensures sustainability and advantage beyondthe deal
Vendor Management4
Setting theAgenda
PerformanceManagement
Governance
PartnerSegmentation
Key Elements Description
Framework to guide productive discussions withsuppliers to drive desired outcomes
Four key elements: relationship review, improving ondelivery, opportunities for growth, joint planning
Systematic approach to managing vendor performance todrive consistency across the org
Three key elements: performance measurement, contractmanagement, risk management
Holistic operating model outlining the level of “touch” andprocesses, tailored to each relationship type
Clear delineation of roles, responsibilities, and processesto manage each relationship type
1
2
3
4
Clear segmentation of the supply base based on spendand criticality
Balances capturing a significant portion of the spend withincluding a manageable number of partners
Key Changes for Success
Establish a robust vendormanagement (VM) programto capture value and buildcapabilities from vendorrelationships
Embed VM capabilities in thebusiness operations, not justas part of the procurementfunction
Invest the same level ofcommitment and resourcesexternally as you wouldinternally
11
Booz & Company
Sourcing operating model—define the right organization constructto align the team
Sourcing Operating Model5
Best-practice strategic sourcing organizations focus on three capability areas to delivervalue to business partners, efficient delivery, and ongoing improvements
12
Major Areas for Sourcing Organization
Category Strategy - develop the categorystrategy and drive the execution throughimplementation at the BU level
Category Expertise - develop andmaintain deep category expertise
Stakeholder Relationships - ensureintimate understanding of businessneeds
Category Performance - establishtargets/ goals and track performanceagainst them
Coordination - coordinate strategy-related activities with operations team
Process Standardization - championstandardized processes & methodologies
Organizational Talent - manage humancapital, professional development andgrowth
Vendor Management - identify supplierdiversity opportunities, develop andmaintain contracts, manage vendor qualprocess
Event-driven support - provide sourcingevent support, with a focus on processadherence & e-sourcing tools
Systems & tools – support implementationand management of tools
Thought Leadership - drive leading-edgethinking around on-going topics (e.g.BCC sourcing, market intelligence)
Best Practices - work with category leadsto implement best practices & next-levelchange
Analytics - provide advanced analyticalsupport and spend analytics
Strategic Projects – plan & executeprojects to enhance org capabilities, e.g.,SRM,
Value Measurement - track & reportperformance metrics & provide ad-hocanalysis, and link to finance
Center of Excellence
Drive advanced analytics andrelated capabilities on an on-going
& project basis
Procurement Operations
Ensure efficient & effectivestrategic sourcing processes &
support functions
Category Sourcing
Develop and execute categorysourcing strategies jointly with
BU / Functions
Booz & Company
Enhance the three key supply management capabilities
Sourcing Operating Model5
13
IdentifyOpportunities &Build Business
Case
ApproveBusiness Case
ManageSourcing Process
& RefineBusiness Case
SelectProvider &NegotiateContract
Manage &Execute
Transition
ManageDay-to-DayOperations
Support Businessin Requirements
Planning
Support Businessin Managing
Demand
DevelopCategoryStrategies
Manage SourcingProcess
SelectProvider &NegotiateContracts
Support Day-to-Day
PurchasingNeeds
Set PartnerAgenda
Determine PartnerSegmentationDesignation
EstablishPartner
OperatingModel
ManageOn-going
PartnerPerformance
Outsourcing
Sourcing/Procurement
Vendor Management
Key Capabilities
CategoryManagement
ContractManagement
RiskManagement
ProcurementOperations e-Procurement
Key Capabilities
ChangeManagement
RiskManagement
ProjectManagement
CommunicationsPlanning
TalentManagement
Key Capabilities
ContractManagement
RelationshipManagement
RiskManagement
PerformanceMeasurement
Key Activities
Key Activities
Key Activities
The end-to end process to identify and execute the outsourcing oflarge/complex business operations
The process to aid Business stakeholders in identifying supply strategiesand procuring products & services to support daily operations
Managing strategic partnerrelationships for business
outcomes to maximize value
Booz & Company
Increase engagement with the business; change “red zones” to“green zones”
Sourcing Operating Model5
Typical company
Procurement’sview of procurement
View of procurement heldby other stakeholders(including top management)
Performance Mgmt/Tracking
OrderProcess
Mgmt
ContractMgmt
VendorSelection& Negot.
SourcingStrategy
Dev.
DemandMgmt
Reqmnt.Planning
On-GoingValueMgmt
RealEstate
IT &Telecom
Marketing
Corp.Services
BusinessServices
OVERALL
Performance Mgmt/Tracking
OrderProcess
Mgmt
ContractMgmt
VendorSelection& Negot.
SourcingStrategy
Dev.
DemandMgmt
Reqmnt.Planning
On-GoingValueMgmt
RealEstate
IT &Telecom
Marketing
Corp.Services
BusinessServices
OVERALL
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Booz & Company
There is no one “right” way—one of three approaches will workbased on the opportunity and change required
15
Three Approaches to Delivering the Benefits
TransformationalProgram
Run the effort programmatically and outside procurement
Engage business stakeholders and senior management
Prioritize the opportunity and address in waves to build momentum
Integrate the capability and opportunity road map and manage change throughout
Focus on a SpecificOpportunity Lever
Address one lever at a time to maintain focus and sustainable impact
Prioritize the effort to ensure it’s not “just another project” on the list
Think holistically and implement the solution across relevant enterprise spend
Engage a cross-functional team, beyond just procurement, to gain the necessarybuy-in
AddressSpecific Functional
or Spend Area
Strategically select the area to align with business needs and/or priorities
Address all opportunity levers to ensure maximum impact
Engage key stakeholders early and throughout the effort
Booz & Company
Lessons learned by banks making this transition
Put third-party spend management on the executive agenda: Big impact requires “big”attention
Make it worth the effort: If it’s too easy or too small, it won’t get the necessary attention or beworth the change required
Manage the opportunity at the top and “outside the lines”: It’s an enterprise problem, not aprocurement-, function-, or line of business-specific problem
Become capabilities-centric: Look beyond the answer to develop the supporting skills andongoing operating model
Manage the change: Mitigate risks and drive adoption by understanding the impact on allelements of the operation—people, processes, governance, and tools
Continue to make the effort: It has to be sustainable; the solution isn’t “once and done”
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Booz & Company
When companies have followed this approach, they have realizedsignificant savings
Supplyrestructuring and
deployed newmodel—20%
savings
Strategic sourcingdirect-mail programat a Tier One bank
Conducted enterprise-widedirect-mail marketing spendand spec baseline across 13distinct business units andnearly 800 unique specs
Identified demand-side,process, and supply-sideopportunities and quantifiedsavings estimates associatedwith each lever for threecategories
Implemented a comprehensivestrategic sourcing processincluding distribution of anationwide RFP, suppliernegotiations, and creation of apreferred vendor base toachieve savings
Project Description Impact
30% annualsavings achievedover an 18-month
period
Demand managementand sourcing program
at a major bank
Performed a comprehensivereview of IT, marketing,operations, and HR spend toidentify savings opportunities
Identified demandmanagement opportunitiesand developed a program,outlining policies andprocedures to moreeffectively manage demand-side requirements
Implemented a reorganizationto align the sourcingorganization with businessunits for effectivemanagement of spend
Established astructure torealize ~10%
savings withinone year
Strategic sourcingprogram for leading
bank
Conduced spend baselineand categorized externalsexpenditures across the bank
Identified areas of opportunityand potential savingsestimates for several spendcategories; Identifiedcapability-building prioritiesfor sourcing team
Developed implementation plansfor each commodity; Createdand implemented strategicsourcing organization structure,including senior team buy-in andsourcing team training
17
Booz & Company
ChicagoLisa [email protected]
Florham Park, NJPat [email protected]
New YorkJodi [email protected]
Contact Information
18
Booz & Company
©2012 Booz & Company Inc.
The most recent list ofour offices and affiliates,with addresses andtelephone numbers,can be found onour website,booz.com
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Booz & Company is a leading global management consultingfirm focused on serving and shaping the senior agenda ofthe world’s leading institutions. Our founder, Edwin Booz,launched the profession when he established the firstmanagement consulting firm in Chicago in 1914. Today, weoperate globally with more than 3,000 people in 60 officesaround the world.
We believe passionately that essential advantage lies withinand that a few differentiating capabilities drive anyorganization’s identity and success. We work with ourclients to discover and build those strengths and capture themarket opportunities where they can earn the right to win.
We are a firm of practical strategists known for ourfunctional expertise, industry foresight, and “sleeves rolledup” approach to working with our clients. To learn moreabout Booz & Company or to access its thought leadership,visit booz.com. Our award-winning management magazine,strategy+business, is available at strategy-business.com.