Legacy Systems the Inconvenient Truth and the Cost of Doing Nothing

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DATE OF PUBLICATION

September 2013

RESEARCH BY

SimCorp StrategyLab, drawing on 100+ data sources.

SUMMARY

How widespread is the use of legacy systems in the largest buy-side investment management firms? What

are the consequences of using these systems from risk, cost, and growth perspectives? Why are investment

managers not leaving their burning platforms, and what alternatives are available? Get the answers to these

questions and much more in this comprehensive meta-study of legacy systems in the global investment

management industry.

www.simcorpstrategylab.com

Report on

Legacy SystemsThe inconvenient truth and the cost of doing nothing

2SimCorps private research institution, SimCorp StrategyLab, carries out extensive research in the investment management industry to identify and suggest ways to meet challenges within risk management and cost control to embrace growth opportunities, and to share best practices.

e research program is carried out in close collaboration with internationally-recognized academics and established industry experts.

As a result, SimCorp StrategyLab is able to pro-vide intelligent suggestions for best practices that are intended to minimize risk, nd ways to achieve sustainable cost savings, and enable growth.

Learn more about SimCorp StrategyLab at: www.simcorpstrategylab.com

FOREWORD . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3

EXECUTIVE SUMMARY. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4

LEGACY SYSTEMS: THE INCONVENIENT TRUTH AND THE COST OF DOING NOTHING . . 11

WHY IS IT RELEVANT TO TALK ABOUT LEGACY SYSTEMS?. . . . . . . . . . . . . . . . . . . . . . . . . . 11

THE ROLE OF IT IN INVESTMENT MANAGEMENT ORGANIZATIONS . . . . . . . . . . . . . . . . . . . 12

LEGACY SYSTEMS VERSUS STATE-OF-THE-ART SYSTEMS . . . . . . . . . . . . . . . . . . . . . . . . . . . 14

WHAT IS A STATE-OF-THE-ART SYSTEM? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16

LEADING INVESTMENT MANAGEMENT SYSTEMS AND KEY CHARACTERISTICS. . . . . . . . . . 17

THE EXTENT OF LEGACY SYSTEMS IN THE GLOBAL BUY-SIDE INVESTMENT

MANAGEMENT INDUSTRY . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19

THE DANGERS OF LEGACY SYSTEMS IN INVESTMENT MANAGEMENT. . . . . . . . . . . . . . . . . 23

ALTERNATIVES. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28

IN WHICH DIRECTION DOES DEVELOPMENT GO?. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30

WHAT IS HOLDING THE INDUSTRY BACK? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32

CONCLUSION . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33

BIBLIOGRAPHY . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 35

Table of Contents

About SimCorp StrategyLab

Legacy Systems: The inconvenient truth and the cost of doing nothing

Legacy Systems: The inconvenient truth and the cost of doing nothing 3

Foreword

Since its creation, SimCorp StrategyLab has consistently focused its work on growth, risk, and cost as the key drivers of the global asset management industry. Among these, risk and cost have become paramount. Why?

Growth of assets under management (AUM) continues to present a positive picture, given global demographic and wealth trends, espe-cially in the high-savings environment most likely to experience sustained growth going for-ward. Despite the bright prospects, the battle for market share will be at least as intense as it has been in the past, and increasingly dependent on distinctive and credible value propositions that can be sustained over time.

Risk management is the second key factor in safeguarding an asset managers performance and survival. Legacies of the industrys failure to protect client interests during the nancial turbulence of 2007-09 are still present in cli-ent behavior today. Nonetheless, risk manage-ment lessons have been learned and relearned including dicult domains neglected in the past such as sovereign risk, systemic risk, and repu-tational risk. ere seems to be a much greater commitment to consistent and persistent invest-ment in risk control.

Along with the sti competition for growth and the demand for attention to risk comes the concern about the cost-eectiveness of asset management. As clients force downward pressure on fees while at the same time asset managers are compelled to reign in operational costs to remain protable, cost control and operational eciency become criti-cal elements of long-term viability. e impact of information technology on cost control and risk mitigation is the focus of this paper.

Given the problems of outperformance in terms of consistent alpha generation, even in a high AUM-growth environment, the importance of informa-tion- and transaction-system speed, accuracy and cost is paramount. But exactly which systems are out there and how they are performing is not easy to discern. Much of the data that would allow comparative analysis is proprietary and not readily

shared among rms. Other information is made available in professional meetings, in trade pub-lications, or anecdotally, which raises doubts as to accuracy, completeness, and ability to generalize.

is study tries a dierent approach, made pos-sible by modern search techniques. For this rea-son alone as well as key ndings, the study is to be recommended. In some cases it reinforces and sharpens evidence that is already widely shared, and in others it comes up with some surprises.

e study focuses on IT and specically the role of state-of-the-art integrated systems in creating and reinforcing competitiveness in institutional asset management. By inference, it highlights the drawbacks of legacy systems and their deg-radation over time despite expert management and maintenance.

e advantages of a single master data source, leveraging the potential of automation, com-pressing error-correction requirements, limiting operational risk, and adapting to new regulatory requirements were not envisaged when legacy systems were put in place. All these advantages come through clearly in the content-search reported in the study, and it seems likely that the advantages will persist going forward.

Whether the issues are the pros and cons of out-sourcing, or building a compelling business case to nally replace a legacy system with a modern, high-performance platform that assures auto-adaptation into the indenite future, this paper provides valuable perspectives on industry views and the conclusions that can be drawn from them. It deserves careful reading and discussion in the asset management industry.

Ingo WalterSeptember 2, 2013

President of SimCorp StrategyLabMr. Ingo Walter, Seymour Milstein Professor of Finance at the Leonard N. Stern School of Business, New York University.

Legacy Systems: The inconvenient truth and the cost of doing nothing4

IS THERE A COMPELLING REASON TO TALK ABOUT LEGACY SYSTEMS?In the investment management industry and related industries, the issue of legacy IT systems is being talked about more often. e question is whether the debate has merit or if legacy sys-tems detractors are exaggerating the challenges of using these systems. In nancial services, tril-lions of dollars of client assets are managed on core systems developed in the 1980s and 1990s.

Factors such as increased regulation, client demand for transparency, real-time reporting, and the ability to support and take advantage of new growth opportunities have all put pressure on IT infrastructure that was never designed to cope with such challenges. One industry ana-lyst put it this way: It (the 1980s) brought the launch of Windows 1.0 and Apples Macintosh per-sonal computer. It was also the time of Lady Gagas birth. Windows, Apple and Lady Gaga have moved on since then, but the securities accounting systems remain pretty much the same. 1

Investment managers are increasingly confronted with the decision of whether to continue aug-menting outdated, heavily-customized legacy infrastructure, make the move to a state-of-the-art investment management system, or out-source. e consequences are real: for investment management rms and their decision makers, corporate and career viability are impacted by the restrictions imposed by legacy systems, making the issue a relevant one.

As part of its 2013 research program, SimCorp StrategyLab examined the impact of legacy system IT infrastructure on buy-side investment manag-ers worldwide. To accomplish this, a meta-study of analyst assessments, topical blogs/articles, academic reports, and primary research sources was made; over 100 sources have contributed to the conclusions of the study. e vast majority of sources are from 2012-2013.

For the purposes of the study, a legacy system is dened as follows:

Similarly, a state-of-the-art investment manage-ment system is dened as:

THE ROLE OF IT IN THE INVESTMENT MANAGEMENT INDUSTRYIn order to appreciate the impact of legacy sys-tems on investment management organizations, it is useful to take a step back and assess the role of IT in the investment management industry. After all, recent studies indicate that nancial services rms spend on average 9% of revenue on IT each year. 2, 3

In virtually all investment management institu-tions, IT operations play a critical role in sup-porting the business strategy and underpin-ning the companys competitive advantage. e primary role of IT is to support the investment management value chain; an example of the buy-side investment management value chain and the primary processes supported by each element is given in Figure 1.

EXECUTIVE SUMMARY

DEFINITION OF A LEGACY SYSTEM

An investment management system that is infrequently updated; and that is often run ning on outdated, poorly-documented, or obscure technologies; and that has diffi-culty in automating or adapting to business processes as well as providing a real-time consolidated overview of the business.

DEFINITION OF A STATE-OF-THE-ART SYSTEM

An investment management system that is based on cutting-edge technologies; and that is characterized by a high degree of automated pro cesses and workflows; and that is continu-ously updated and sufficient ly flexible, adapta-ble, and scalable to deal with current and future market requirements.

5One means by which IT provides signicant value is that it facilitates the automation of most processes, particularly in state-of-the-art sys-tems that allow for seamless straight-through- processing. e impact of automation cannot be understated. With the right IT solution, invest-ment managers can now perform in seconds or minutes what used to take days and even weeks. Analyst, consultant, and inuencer commentary is unanimous: IT has become an indispensible tool for any investment management rm and often provides competitive advantage due to fac-tors such as scalability without commensurate cost increases, ability to adapt quickly to market demands, and exibility to enter new markets, accommodate new asset classes and nancial instruments, support multiple accounting/tax frameworks, and so on.

With respect to systems architecture, state-of-the-art systems are built on a modular, object-oriented architecture that supports integration with other system components, whereas many legacy systems are built on fairly rigid, inex-ible subroutines or functions that do not relate to each other. In many cases, legacy systems are also reliant on overnight batch jobs for updates. e immediate dierence between the two alter-natives is that a fully integrated system has one master data source, which greatly mitigates oper-ational risk and errors arising from data consoli-dation issues, data cleaning, and so on. is is the main impetus for the Big Data movement in the industry, as investment managers seek to lower their risk and provide transparent and timely overviews of their business. On the other hand, a

typical legacy infrastructure involves a number of disparate data sources and a multitude of inter-faces between the systems. With each new add-on system, the level of complexity increases loga-rithmically, with new interfaces, data sources, and upgrade issues to be considered.

LEGACY SYSTEMS IN THE INVEST-MENT MANAGEMENT INDUSTRYUsing various sources, the study set out to exam-ine the depth and breadth of legacy systems in the investment management industry. In general, legacy systems products/vendors share several of the following characteristics:

Beingpartofaportfolioof severaldiverse

products oered by the vendor, limiting the development resources for a particular prod-uct line

Beingincludedaspartofasubsidiarywhich

may no longer serve as a core business for the parent company

Continuingclientandstaffattrition;lowcli-ent intent to repurchase

Flat or declining organic revenue growth,

particularly in software license revenues Chronic underinvestment in research and

development when compared to industry peers.

When looking at the number of investment management rms running on legacy systems, a previous 2013 SimCorp StrategyLab report on cost of operations2 combined with 2012 interviews of 500+ investment managers world-wide by Lindberg International showed that at least one in four rms are running their core

1 Why Jamie Dimon and Jon Corzine Couldnt Find Their Money, Tom Groenfeldt, January 24, 2013. Taken from http://blogs.sap.com/innovation/financial-management/why-jamie-dimon-and-jon-corzine-couldnt-find-their-money-025710

2 Report on Global Investment Management Cost of Operations Survey 2013, SimCorp StrategyLab, March 2013.

3 Breakthrough in IT Banking: McKinsey on Business Technology, Number 26, Spring 2012.

Figure 1: Buy-side investment manage-ment value chain.Source: SimCorp StrategyLab.


Value Chain

DataManagement

ClientRelationshipManagement

InvestmentManagement

FundProcessing

AssetServices

InvestmentAccounting

General LedgerAccounting

ReportingManagement

InvestmentControlling andPerformance

6business operations on legacy systems. In terms of IT employees, it can be argued that 30,000+ employees are tasked with legacy system main-tenance and upgrade among the top 2,000 buy-side investment management rms alone. While these rms are obviously not all run-ning on legacy systems, given that the top 2,000 rms collectively manage upwards of US$80 trillion in assets more than the 2012 global gross domestic product (GDP) it is easy to see that several trillions of dollars are at the mercy of legacy systems.

THE DANGERS OF LEGACY SYSTEMS IN INVESTMENT MANAGEMENTClearly, there are many investment managers dependent on legacy systems, and these systems are not as ecient as state-of-the-art alterna-tives. But is this as big a problem as some might suggest? After all, many investment managers have been successful despite running on legacy systems; their IT departments always seem to nd a way to cope with the latest challenges. Nevertheless, with the pace of market and tech-nological change at unprecedented levels, relent-less pressure on operational costs, and cut-throat competition for client mandates, a tipping point could be near.

While not the all-consuming tsunami repre-sented by the global nancial crisis, the wide use of legacy systems that were designed to meet the needs of the previous century may ultimately pre-cipitate a wave that could have the potential to wipe out much of the recovery made since 2008. e potential consequences are unpleasant: Loss of condence in the industry and its constitu-ents, reputational risk implications for boards and managements of aected rms, and diverse operational issues that collectively could pose a level of systematic risk to the stability of nancial markets as a whole.

Legacy system owners that fail to acknowledge they are on a platform that can no longer keep up with the pace of change (also dened as a burn-ing platform) might concider assessing their situation and understand the threats from vari-ous perspectives. e dangers of legacy systems from the risk, cost, and growth perspectives are examined below.

The risk perspectivee risk perspective is obvious. Since legacy systems are unable to automate many standard processes, manual processes are put into place to compensate. e bulk of these processes involve spreadsheet analysis, which inevitably leads to errors. Spreadsheet errors were said to be the main cause when J.P. Morgan lost US$6.2 bil-lion in the London Whale incident in 2012, and in 2010 Harvard University was forced to adjust a GDP report when spreadsheet errors provided misleading conclusions. Inadequate or faulty systems can also create severe repu-tational risk and, in the worse case, destroy a business. Recent examples of the former are the Knight Capital incident, NASDAQs issues with Facebooks IPO, and UBS loss of US$350 mil-lion due to a faulty trading system. e collapse of MF Global, where company executives could not nd several billion dollars in client assets, was attributed by bankruptcy trustee and ex-FBI Director Louis Freeh to the companys failure to decommission their hodgepodge of legacy sys-tems and adopt more modern systems. As stated in the Freeh report:

MF Globals collapse was abetted by, among other things, managements failure to integrate or upgrade its various technology systems and platforms for monitoring Treasury Department operations, liquidity risk, and nancial regulatory functions. ese systems were left without proper controls... [and] lacked the appropriate systems & technology to conduct accurate liquidity monitoring & forecasting across the global operation. 4

e key takeaway from various studies is that operational risk is greatly reduced through utili-zation of (1) a highly automated investment man-agement infrastructure drawing on (2) a single source of data. Both of these points exacerbate the weaknesses of legacy systems and the risks associated with continuing to use them.

The cost perspectiveLegacy systems have more signicant cost impli-cations the longer they are used. Aforementioned 2013 SimCorp StrategyLab2 assessment on the cost of operations found that 56% of legacy sys-tem owners planned to increase IT budgets in the next two years, with 23% increasing budg-ets by 5% or more, while 60% of state-of-the-art


systems owners planned to maintain or decrease IT spend. In most cases, the increased spend on legacy systems is earmarked toward simply keep-ing up as opposed to innovating.

When looking at the cost implications of legacy systems in investment management, consulting rm Deloitte framed the issue as such: A close examination of how the old systems add cost shows that it is through their need to access information that the greatest eort is expended. Every existing system maintains an interface that has to be updated to account for every new addition. IT architects draw up the organization as neat boxes in the hope of creating a machine that operates with military pre-cision. By the time that legacy systems add in their exponential interfaces, the diagram looks less like a military pageant and more like a civil riot. 5

As pointed out by various assessments from leg-acy system proponents, these systems are quite cost-eective when all that is asked of them is to perform the functions for which they were originally designed. e problem is that over time, the demands on the system far outweigh its capabilities. Regulation, asset class coverage, electronic trading, real-time reporting, and other factors that were not envisaged at the time the legacy systems were built have all caused costs to spiral upwards. e extra costs are incurred as a result of the manual processes, workarounds, and ancillary systems put in place to address evolving market conditions and business pro-cesses that the legacy systems lack the exibility and adaptability to cope with. Eventually legacy system owners are faced with untenable cost burdens.

Ultimately, as new market requirements, business processes, and workows continue to manifest themselves and once-exotic nancial instruments become mainstream, the cost of main taining and augmenting legacy systems will be greater than the cost involved in replacing them.

The growth perspectiveOne outcome of the nancial crisis that every-one agrees on is that the level of competition in the nancial services industry has become more intense. Investment managers must continue to generate alpha while under pressure from all sides: regulators curtailing growth opportunities

with a constant stream of new requirements, clients pushing for a reduction in fees, erce competition for new mandates, and shareholders and boards demanding lower costs and higher prots.

Growth can be achieved in a variety of ways. Common to each approach is the need for an IT infrastructure that can support the rms growth initiatives. e investment manager who is able to get an overview in minutes with a mouse click or two will be able to react in a much more timely manner than the ones who wait hours and even days for their team of spreadsheet analysts and overnight batch jobs to provide the same result. In an era where seconds can mean the dif-ference between prot and loss, having the right IT infrastructure is imperative.

As stated by consulting rm Deloitte in a 2013 review of the capital markets industry: In an industry as competitive and dynamic as nancial services, any business that ceases to innovate ceases to grow... ese requirements (regulation and client demand) should demand ongoing and signicant investment in information systems many of which operate in a patchwork fashion over legacy infra-structures as well as a robust capability to parse and analyze the underlying data. Firms should conrm that they have the appropriate resources in place to develop and enhance these mission-critical systems. 6

Typically, legacy systems were not built to han-dle the unique needs of emerging markets, nor the expansion of asset classes and the complex processing requirements of instruments such as derivatives. And to a wide extent they did not make any provisions for the likes of Dodd-Frank, EMIR, AIFMD, UCITS, Solvency II, and much more. is forces companies to add more ancillary systems and interfaces to the legacy system, thereby increasing complexity. It stands to reason that investment management rms relying on legacy systems are in a much worse position to capture growth opportunities than counterparts that are able to scale, adapt, and automate as needed.

All three perspectives are summed up in this quote from an editorial on legacy systems in the Fall 2012 edition of Financial IT magazine: e

7Legacy Systems: The inconvenient truth and the cost of doing nothing

4 http://online.wsj.com/public/resources/documents/FreehReportonMFG.pdf (March 2013).

5 Counting Cost: Decommissioning Legacy, Deloitte, 2012.

6 2013 Capital Markets Outlook: Its the end of the world as we know it, Deloitte, December 2012.

7 Editors Letter, Financial IT magazine, Fall 2012 edition.

8 Legacy Systems: The inconvenient truth and the cost of doing nothing

problems for the nancial services sector that arise from legacy systems have become critical at the same time that the IT sector has become able to provide rad-ical and positive solutions. e changes that will likely take place in the eld of nancial services IT in the next ve years will be huge relative to those that have taken place over the last 30 years. Financial services institutions that make the substantial investment to take advantage of the solutions that have just become available will dramatically reduce business risk, lower operating costs and enhance their ability to grow. 7

ALTERNATIVES TO LEGACY SYSTEMSWhat are the alternatives to legacy systems and how viable are they? ere are two primary options for investment management rms look-ing to get o the burning platform. For the pur-poses of this study, use of modern state-of-the-art systems and outsourcing of IT operations are discussed.

State-of-the-art investment management systemsAs with legacy systems, state-of-the-art systems/vendors share several common characteristics, for example, they:

leverage modern programming languages

and, in most cases, database types have100+developmentstaffdevotedtothe

product line haveafairlylimitednumberofproducts,in

some cases only a single product frequentlyupdatewithnewversions

haveinvestmentmanagementsystemsasthe

core business of the company/subsidiary areaddingclients,forthemostpart(particu-

larly those that are parent companies). When all is said and done, these are the type of products that replace legacy systems when the latter have reached the end of their useful life.

OutsourcingRather than face a decision on whether to aug-ment or replace an existing system, some invest-ment management rms opt for the outsourcing route. In other words, they turn over investment processing (and the risks entailed) to a third party. is can be any or all of the following: business process outsourcing (BPO), knowledge process outsourcing, nancial and accounting

outsourcing, and IT (hardware and infrastructure) outsourcing.

While most analysts see outsourcing as the fast-est growing deployment method going forward, opinion is divided on the merits of outsourcing. Cost savings are often countered by the loss of control and the need for shadow accounting; there is also evidence of companies that have outsourced in the past looking to in-source again in order to reduce costs. is seems paradoxical given that the primary motivation of outsourc-ing is to reduce costs. ere have also been some widely publicized examples of outsourcing fail-ures, such as UBS failure to stop a rogue trader from creating 1.4 billion in trading losses, largely due to awed procedures on the part of an outsourcing vendor. e regulatory authori-ties have also expressed their concerns about the ramications of outsourcing.

Note that if a legacy system owner outsources various processes to an outsourcer that also runs on legacy systems, they have merely exchanged one set of problems for another. orough due diligence is needed before any decision is made to outsource ones core business operations to a third party.

WHERE DOES DEVELOPMENT GO FROM HERE?In order to assess investment management rms thoughts on future developments, Lindberg International asked 500+ investment manag-ers in 2012 about their IT infrastructure plans going forward. Among the highlights:

Enthusiasmforoutsourcingiswaning.Only

8% of investment managers surveyed said they were strongly considering this option.

Despite the advantages of integrated sys-tems over a collection of disparate systems, there does not appear to be a shift away from best-of-breed toward more integrated alternatives.

Inspiteofthevariousissuesidentifiedinthis

study, only one in six (17%) legacy system owners are considering a system replacement within the next two years.

Most industry analysts and consulting rms release assessments on the general trends


impacting the industry on a frequent basis. ere is consensus on the following:

Buy-sideinvestmentmanagementfirmsneed

to evaluate their IT infrastructure to ensure it meets regulatory and client requirements. As noted by KPMG: Indeed, for many rms, it is proving to be a constant and pressing challenge to update legacy platforms in order to adapt to this ever-changing investment environment. 8

Investmentmanagementfirmsmustprepare

to release new products as passive and alter-native investment products encroach into the active investment space.

Client demand and regulatory compliance

are the top technology investment drivers for 2013.

Thereisaclearshifttowardmulti-assetclass

portfolio management systems.

e analysts and consultants also have a clear viewpoint on legacy systems going forward, with replacement being high on the agenda. CEB TowerGroup oers the following: Replacing legacy systems will soon become a fundamental requirement for FSIs seeking to retain or to regain marketplace leadership 9 while Pricewaterhouse-Coopers states: When the needs of the business profoundly change, many support systems struggle to adapt. Nowhere is this truer than in IT. We believe that many of these struggles stem from IT functions seeking future success with old ideas. 10

WHAT IS HOLDING THE INDUSTRY BACK?It seems to be clear that legacy systems are not the way forward when it comes to resolving what seems like the Gordian knot of issues facing the industry. Even when the decision makers at investment managers with legacy systems in place have an epiphany and realize that some-thing needs to be done, there is often an extreme reluctance to replace the outdated legacy infra-structure with something more up to date.

ere are a number of reasons for this reluctance, both on operational and personal levels. On the operational side, legacy systems are inextricably intertwined, and turning o all or part of the legacy system may have unforeseen and unin-tended consequences. Changes to legacy sys-tems are often not completely documented and

new resources may not be familiar with older programming languages and development tech-niques. Dierent parts of the system may have been developed by separate teams using a variety of programming languages and data formats, leading to an extremely customized infrastructure where a consolidated overview is at best dicult to achieve. With the lack of documentation and legacy programming expertise, decommission-ing a legacy system must be very thoroughly considered and planned accordingly. It is not a simple process. Budget constraints and the time and resources to put together a business case also play a role. However, the decision maker must also consider the fact that legacy systems put the company in a situation where long-term corpo-rate viability is an issue.

e human element also plays a role. Career viability of individual persons can play as impor-tant a role in the decision as corporate viability. Most IT decision makers, particularly if they were involved in the decision to implement the legacy system and its add-ons, are less inclined to realize that a major overhaul of their systems is necessary. Sta that maintain the system see any new, automated system as a threat to their job security, since automated processes could mean job losses for those performing manual processes.

Fear and uncertainty only last for a short while; there must be an ambition for improvement and long-term viability before an investment man-agement rm is compelled to act. It is human nature to stick with what is known rather than undertake a comprehensive system replacement.

ese concerns are understandable: a system replacement can be a daunting task. A lot of time and resources are needed to select the appropriate replacement system and implement it in parallel with the decommissioning of legacy infrastruc-ture. However, the alternative is worse; the cost of doing nothing can end up being very expen-sive. In the absence of external factors, a state-of-the-art system will always put the investment manager in a better position for innovation, risk mitigation, and cost reduction than a legacy sys-tem. e litany of case studies on state-of-the-art vendor and consultant websites concerning benets of legacy replacement provides ample evidence of this fact.

8 Financial Services Industry Insights, KPMG, March 2013.

9 Sourcing, Resourcing, or Outsourcing: Globalizing Operations in Financial Services by 2015, CEB TowerGroup, July 2011.

10 Nine new rules of IT Strategy for Asset Manage-ment, Pricewater house-Coopers, October 2012.

10

CONCLUSIONis meta-study set out to answer the question: Why is it relevant to talk about legacy systems?. e quick answer is that legacy system owners are putting their corporate viability in jeopardy the longer they rely on infrastructure that was not designed to meet current market conditions. e wealth of evidence against continuing to use legacy systems is overwhelming, and this study provides a small sample of this evidence. e list of reasons to get o of the burning platform that legacy systems represent to the investment man-agers who use them is long. Legacy systems were designed for simpler processes in an era where the amount of data and knowledge was much lower than it is today. An article in the Harvard Business Review suggests that the amount of knowledge doubles every four years.11 If a legacy system is from the 1980s, 1990s or even the early part of the 2000s, there is a lot of knowledge the legacy system is unable to accommodate. Not to mention regulation, new products, asset classes, and instruments.

Another factor is the time required to imple-ment the change. As Canadian composer Neil Peart stated: If you choose not to decide, you still have made a choice. e time frame from the ini-tiation of the buying process to vendor selection and ultimately going live in production on a new system will take the better part of two years. As anyone following the buy-side investment man-agement industry can attest to, a lot can and will happen in two years. Delaying the decision to move o of legacy systems any longer will have unforeseen and likely negative consequences.

Among these consequences is the fact that com-petitors who can react much faster with less resources, lower risk, and greater accuracy will win the cost battle versus an investment manager reliant on manual processes and an agglomera-tion of various systems. e competitors will also seize growth opportunities, as they can intro-duce new products, eciently comply with new regulation and reporting requirements, as well as satisfy client demand for transparency and lower tolerance of risk. All of these factors add up to a legacy-system-based investment manager eventually losing its client base to better-placed alternatives.

On a personal note, business and IT decision makers also have a reputational risk to consider. ink back a hundred years ago when the Titanic was considered unsinkable. e ocers on the bridge were held liable for ignoring the obvi-ous warning signs and vaingloriously sailing to their doom; a parallel can easily be drawn when it comes to retention of outdated legacy systems.

e investment manager should not look too hard toward the legacy system vendor for assistance. Most legacy system vendors have down-prior-itized enhancements in these products for years, preferring instead to cash in on the maintenance revenue stream while minimizing investment in the product.

At the end of the day, the corporate viability of an investment manager using a legacy system can and will be called into question. As the nancial crisis showed, no investment management rm is too big to fail. Investment management rms must decide if their current IT infrastructure is capable of meeting their needs right now, let alone in the future.


11 The coming of knowl-edge-based business, Stan Davis and Jim Botkin, Harvard Business Review, September-October 1994.

11

WHY IS IT RELEVANT TO TALK ABOUT LEGACY SYSTEMS?Is the legacy system debate much ado about nothing or is there a deeper rationale behind it? Many nancial services institutions (FSI) are running investment management systems based on source code and business logic created to match the market conditions of the 1980s and 1990s. As noted by analyst Tom Groenfeldt in a blog on SAPs website: It (the 1980s) brought the launch of Windows 1.0 and Apples Macintosh per-sonal computer. It was also the time of Lady Gagas birth. Windows, Apple and Lady Gaga have moved on since then, but the securities accounting systems remain pretty much the same. 1 As a reminder, these are the same type of systems that caused widespread trepidation among FSIs in the late 1990s as Y2K approached. at particular cri-sis was averted, but new crises and the result-ing fallout have put investment management rms under far greater scrutiny than even two or three years ago.

Many investment management rms are inclined to say so what? ey have already made workarounds and add-on solutions to get by in the past and will do so again in future. Across all industries, an IT Web article 2 cites studies from Gartner stating that 60% of the worlds corpora-tions are running on legacy infrastructures and further cites an International Data Corporation (IDC) study stating that there are 200 billion lines of operational legacy code, with another ve billion added each year as new add-ons and workarounds are created. Another blog article on legacy systems states: ese systems touch each of our lives every day... ey run all sectors of our economy. ey are our silent and occult crumbling infrastructure. 3 e inference is that much of the world is running on outdated technology and that things will just get worse.

Is the situation really that dire? When looking at the investment management industry, total assets under management (AUM) are again at pre-crisis levels and on the surface of things, the industry is coping quite nicely. However, the

general consensus is that the unabated pace of regulatory change coupled with far more strin-gent client demand for transparency and timely reporting is stretching the capabilities of legacy systems beyond the breaking point. Investment management rms running on systems that are not designed to accommodate continuous change to established industry paradigms face an inter-esting choice: continue to develop workarounds and add-ons to compensate for deciencies in the core investment management system (IMS) or incur a certain degree of interim risk, cost, and potential business disruption by replacing the old IMS with a state-of-the-art solution.

is conundrum continue augmenting the out-dated core system or make the move to a state-of-the-art solution capable of adapting to todays market conditions and those of the future is the focus of this study. e bottom line is that a nancial services institutions IMS solution is either a catalyst for growth and competitive advantage or a hindrance to each. For IT and business leaders, the term legacy can be taken in two contexts: one to describe the IT infra-structure and the other to describe the leaders impact on the organization. In the investment management world, the two are often inextri-cably linked. Delve into the study to see what distinguishes a legacy system from state-of-the-art alternatives as well as the ramications of the cost of doing nothing.

Methodologyis document is a meta-study of topical aca-demic literature, industry analyst assessments, other secondary research resources, and primary research consisting of interviews with 500+ buy-side investment management institutions worldwide. e aforementioned interviews were conducted by market research rm Lindberg International in 2012. All sources used are out-lined in the bibliography at the end of the study.

Note that while the overwhelming majority of the academic literature and analyst/blog opinion on FSI legacy systems is focused on the banking


LEGACY SYSTEMS: THE INCONVENIENT TRUTHAND THE COST OF DOING NOTHING


sector, this study concentrates primarily on the buy-side investment management segment of nancial services.

THE ROLE OF IT IN INVESTMENT MANAGE MENT ORGANIZATIONS Before embarking on an assessment of legacy systems and their alternatives, it is useful to set the scene with respect to the importance of information technology (IT) in buy-side invest-ment management organizations. As both the nancial markets and technology have evolved over the past decades, IT has moved from an ancillary function to a mission-critical compo-nent of the business. e role of IT in invest-ment management organizations is described in the following paragraphs.

From a budget point of view, IT operations are a vital component. e 2013 SimCorp StrategyLab cost of operations study 4 (survey was conducted by e Nielsen Company in 2012) shows that on average, IT budget spend con-sumes 9% of revenue. is is commensurate with a 2012 McKinsey and Company 5 study show-ing the same 9% gure for nancial services institutions.

In virtually all investment management insti-tutions, IT operations play a critical role in supporting the business strategy and underpin-ning the companys competitive advantage. As mentioned previously, an investment manage-ment organizations IT infrastructure is either a catalyst for growth and dierentiation or a hindrance.

e primary role of IT is to support the buy-side investment management value chain. One means by which IT provides signicant value is that it facilitates the automation of most processes,

particularly in state-of-the-art systems that allow for seamless straight-through-processing. e impact of automation cannot be understated. With the right IT solution investment managers can now perform in seconds or minutes what used to take days and even weeks. Analyst, consultant, and inuencer commentary is virtually unani-mous: IT has become an indispensible tool for any investment management rm and often pro-vides competitive advantage due to factors such as scalability without commensurate cost increases, ability to adapt quickly to market demands and exibility to enter new markets, accommodate new asset classes and nancial instruments, support multiple accounting/tax frameworks, and so on.

An example of the buy-side investment manage-ment value chain and the primary processes sup-ported by each element is given in Figure 2.

From a systems architecture point of view, legacy systems tend to be fairly rigid constructs, with little exibility for expansion or integration. In many cases, legacy systems are also reliant on overnight batch jobs for updates. Integration is typically achieved by means of interfaces between any number of products, data formats, and programming languages.

e dierence is exemplied when compar-ing Figure 3 and Figure 4, the rst of which is a diagram of an integrated buy-side investment management system from SimCorp StrategyLab (Cap Gemini 6 also provides a useful diagram of an integrated investment management system in their 2011 New Age Portfolio Management Systems assessment) and the second an example of a legacy system infrastructure from a study of legacy systems by St. Andrews University 7 in Scotland.

Figure 2: Buy-side investment manage-ment value chain.Source: SimCorp StrategyLab.

Value Chain

DataManagement

ClientRelationshipManagement

InvestmentManagement

FundProcessing

AssetServices

InvestmentAccounting

General LedgerAccounting

ReportingManagement

InvestmentControlling andPerformance


Portfolio Modelling and Analysis

Order Management

Client Reporting

Pre-trade Compliance

Post-trade Compliance

Front Office

Full Integration Between Components Single Data Source

Book of Records (IBOR, ABOR)

Performance Measurement

Performance Attribution

Risk Analysis

Risk Modelling

Middle Office

Investment Accounting

Fund Accounting

Match and Settlement

Cash and Securities Management

Corporate Actions

Collateral Management

Back Office

Market Data: Access to market data

Master Data Management

TECHNOLOGY PLATFORM AND INFRASTRUCTURE

File 1 File 2 File 3 File 4 File 5 File 6

Program 6 Program 7Program 5

Program 1 Program 2 Program 3

Program 4

Figure 3: Example of a truly integrated investment management system. Source: SimCorp StrategyLab analysis.

Figure 4: Example of legacy application system infrastructure. Source: Legacy Systems, Dr. Ian Somerville, St. Andrews University, 2000.


e immediate dierence between the two alternatives is that the truly integrated system has one master data source, which greatly miti-gates operational risk and errors arising from data consolidation issues, data cleaning, and so on. is is the main impetus for the Big Data movement in the industry as investment manag-ers seek to lower their risk and provide trans-parent and timely overviews of their business. As shown above, a typical legacy infrastructure involves a number of disparate data sources and a multitude of interfaces between the systems. With each new add-on system, the level of complexity increases logarithmically, with new interfaces, data sources, and upgrade issues to be considered.

In a separate report, PricewaterhouseCoopers (PwC) outlined the Big Data issue as follows: One problem many managers are encountering is that they have multiple legacy systems, often with dierent technology platforms, to collect and dis-seminate information. Gathering the data as needed out of such legacy systems can be inecient and is typically not subject to scalable enhancements. Some data systems, especially those that record transactions related to complex derivatives products, entail man-ual entries or workaround products. 8

Succinctly stated, it would behove investment managers to obtain and maintain the infrastruc-ture required to cope with the frenetic pace of new requirements imposed by clients, regulators, and the markets. More than likely, gone are the days when manual workarounds or similar can meet the needs for scalability, adaptability, trans-parency, and more.

LEGACY SYSTEMS VERSUS STATE-OF-THE-ART SYSTEMSAs this report is focused on legacy systems and the ramications of using these, it is worthwhile to dene exactly what is meant when referring to a legacy system and its alternatives.

Broadly speaking, investment management sys-tems can be categorized as having legacy char-acteristics, state-of-the-art characteristics, or a blend of both. For the purposes of this study, emphasis will be placed on legacy systems as opposed to state-of-the-art systems.

What is a legacy system?ere are any number of denitions of a legacy system, both within the nancial services sec-tor and other industries. A Google search for a denition of legacy systems within the search results for nancial services yields close to 200,000 hits. For the purposes of this study, commonly used denitions have been distilled to provide a concise denition of legacy systems as they pertain to the buy-side sector of the invest-ment management industry.

Commonly used definitionsWhen evaluating the depth and breadth of information on legacy systems, some denitions emerge as ubiquitous. From a software vendor perspective, IBM oers the following denition:

Legacy refers to existing IT assets that have been deployed in the past. ese assets could have been installed anywhere from yesterday to twenty years ago, and in many cases, the legacy investment is run-ning critical business processes. Legacy software and applications are often considered to be a cash cow for the enterprise, generating unusually high prot margins and thus, are responsible for a large amount of a companys operating prot. is prot typically far exceeds the amount necessary to maintain the legacy asset, and the excess is sometimes used by the company to fund other strategic initiatives. In addi-tion, legacy software or applications may have come into the enterprise as a result of a merger or acquisi-tion. In many cases, the people responsible for devel-opment and management of the application are no longer responsible for its life cycle. 9

From a software/systems perspective, there are common elements when reviewing the denitions

Legacy systems suffer from declining client bases and low client intent to repurchase, and often run on obscure, outdated technologies.


put forth by the academic community, industry analysts, vendors, and the blogosphere. ese include:

Systems that have been designed, imple-mented, and installed in a radically dierent environment than that imposed by the cur-rent IT strategy.10

Systems that run on obscure programming

languages and/or databases. Asaresultoftheabove,systemswherequali-

ed development resources are scarce and in many cases expensive.

Systemsthatweretypicallydevelopedseveral

years ago (and have not undergone a signi-cant re-architecting since). In some cases, the systems have been developed more than 20 years ago.

Systemswherethemyriadofchangesmade

since initial implementation are not com-pletely documented, particularly in the case of proprietary systems or extensively custom-ized o the shelf systems.

When observing systems/vendors that apply to these denitions, we can conclude that these share several of the following characteristics:

Being part of a portfolio of several diverse

products, limiting the development resources for a particular product line

Beingincludedaspartofasubsidiarywhich

may no longer serve as the core business for the vendor and its parent

Sufferingfromclientandstaffattrition

Generatingflatordecliningorganic license

revenue growth Receiving chronic underinvestment in research

and development compared to industry peers.

The definition used throughout the studyIn addition to the above traits, there are certain nuances to consider when applying the designa-tion legacy system to software solutions designed to serve buy-side investment managers. e most pertinent of these is the lack of exibility/adapt-ability (which drives the need for manual worka-rounds in response to change), client attrition, and minimal ongoing investment in research and development (R&D).

With these factors in mind, this study denes a legacy system as follows:

An investment management system that is infrequently updated; and that is often run ning on outdated, poorly-documented, or obscure technologies; and that has di culty in auto-mating or adapting to business processes as well as providing a real-time consolidated overview of the business.

For the most part, legacy systems are centered around the back oce.

The typical business model of a legacy system vendorIn general, a legacy vendor follows a cash cow business model. In brief, they acquire products with a mature client base from other vendors and are able to earn substantially higher prots from revenue streams such as maintenance. Protability is increased when costs such as research and development (R&D) are minimized, although such a strategy tends to result in client attrition, as the systems eventually no longer meet mar-ket requirements. A legacy vendor often ends up with a portfolio of disparate products running on a variety of technologies and programming languages, with varying levels of integration between the products.

In other cases, former agship products are put into cash cow mode as the vendor decides to focus its core eorts into another industry seg-ment or product line. e common characteris-tic of legacy vendors is that they generate most of their revenue/prot from maintenance and related services and, when compared to their peers in the industry, underinvest in R&D.

Legacy system vendors increase profits by drawing on client bases for mainte-nance revenue while underinvesting in R&D.


Many in-house built solutions are also legacy systemsLegacy systems also include many in-house/pro-prietary systems. ese systems were typically developed several years ago for a specic purpose or process. As processes have evolved, add-ons, workarounds, and system expansions have been made, often resulting in an unwieldy infrastruc-ture asked to do far more than the original design intended. An added complexity is that many of the changes are not completely documented, making it dicult for new IT sta to familiarize themselves with the system. Depending on when the in-house solution was rst built, the impend-ing retirement of those who originally developed the solution also looms as an issue, particularly if obscure programming languages and databases are deployed. In the case of in-house systems, the business needs to ask itself if scarce resources are better allocated to its core competency of alpha generation as opposed to maintenance and updates of proprietary IT systems.

WHAT IS A STATE-OF-THE-ART SYSTEM?While a Google search for a denition of legacy systems within the search results for nancial services yields close to 200,000 hits a related search for denition of state-of-the-art systems also within the search results for nancial services comes back with one million hits; and adding the term buy-side reduces the number to 65,000. e takeaway is that there are a large number of mentions of state-of-the-art systems, even when narrowed down to the buy side.

State-of-the-art systems vendors share several of the following characteristics: Leverage modern programming languages

and, in most cases, database types Have100+developmentstaffdevotedtothe

product line Haveafairlylimitednumberofproducts,in

some cases only a single product Frequentlyupdatewithnewversions

Haveinvestmentmanagementsystemsasthe

core business of the company/subsidiary Are continuously adding clients, for the

most part (particularly those that are par-ent companies).

When all is said and done, these are the type of products that replace legacy systems when the latter have reached the end of their useful life.

The definition used throughout the studyA state-of-the-art system is basically the oppo-site of a legacy system. A state-of-the-art system is based on modern, widely available program-ming languages and databases, architected using a modular structure and a minimum of disparate data sources, and is a system that is continuously updated to meet market requirements. For all intents and purposes, a state-of-the-art invest-ment management system is:

An investment management system that is based on cutting-edge technologies; and that is characterized by a high degree of automated pro cesses and workows; and that is continu-ously updated and sucient ly exible, adapta-ble, and scalable to deal with current and future market requirements.

The typical business model of a state-of-the-art system vendorA state-of-the-art system vendor will have a relatively small number of products (or families of products), each of which receives appreci-able development resources and R&D budget. In general, state-of-the-art system vendors put at least 15%-20% of annual revenue back into product development and release new versions of their products on a frequent basis. State-of-the-art vendors tend to dierentiate themselves by providing functional superiority coupled with a high degree of automation. For those vendors that support multiple components of the buy-side investment management value chain (i.e. the front, middle and back oce), a key element of the business model is the level of integration between functional components (e.g. the mid-dle and back oce) and the single source of data used throughout the application.

e most comprehensive state-of-the-art sys-tems oer front-to-back (enterprise) capability, although this is not a pre-requisite for state-of-the-art status. e distinguishing characteristic of state-of-the-art vendors is the leveraging of technology to quickly adjust/scale to meet the uctuating requirements of clients, regulators, and


the market with a minimum of manual processing required. Unlike their legacy brethren, state-of-the-art vendors are adept at gaining new clients while holding on to the ones they already have.

LEADING INVESTMENT MANAGE-MENT SYSTEMS AND KEY CHARACTERISTICSIn order to compare and contrast the leading buy-side investment management solutions globally, a variety of sources were consulted, including company websites and nancial l-ings, press releases, independent analyst reports, and primary research conducted by Lindberg International in 2012. All sources used are detailed in the bibliography at the end of the report. For the sake of brevity, the list of prod-ucts shown in Table 1 was selected based on the following criteria:

Present (client base) in at least two of the

regions Europe, Asia, and North America Clientsinatleasttwoofthefollowingsec-

tors: fund management, insurance asset management, pension fund management, and discretionary asset management

Atleast50clientsonthegivensolution

Atleastone-thirdoftheclientbaseisbuy-

side focused Capableofbasicbackofficefunctionssuch

as portfolio accounting The product is targeted primarily towards

clients with at least US$1 billion AUM, preferably higher.

is results in ten products oered by eight vendors as shown in Table 1. Note that this list is meant to be indicative rather than exhaus-tive. A brief description of each product fol-lows the table.

* Based on review of vendor websites, May 2013. Refers to distinct investment management system product lines as opposed to components thereof. ** Respondents were asked which systems they would consider for their next core system purchase. Consider to repurchase expressed as the percent of clients of a given product that would consider the incumbent system again. *** Refers to all products provided by the vendor.**** SS&C acquired Portia from Thomson Reuters in May 2012.

Product IMS Products Offeredby Vendor*

2012 R&DSpend as % of Revenue

Clientsin 2009

Clientsin 2012

Database(s)Supported

ProgrammingLanguage(s)

Vendor ProductStaff

Client Consider to Repurchase**6

Advent

Calypso

DST

Eagle

Misys Sophis

SimCorp

SS&C

SS&C****(Thomson)

SunGardAsset Arena

SunGardAsset Arena

Geneva

Calypso

HiPortfolio

Star

VALUE

SimCorpDimension

Pacer

Portia

GP3

Invest One

7

1

7

3

3

1

60+

60+

50+

50+

19%

n/a

15% in 201017

n/a

n/a

22%

9%

9%

12%

12%

~30012

12515

130+19

14421

9024

18027

n/a

200+32

n/a

70016

550***20

500***22

350-400***25

110028

1484***30

1100***13

14033

18034

78%

n/a

38%

92%

n/a

81%

56%***

48%

47%***

47%***n/an/an/a

24211

11014

19118

n/a

8023

150+26

12029

300+31

n/a

Proprietary

Oracle, Sybase

CTree, Pervasive

Oracle, MS SQL

Oracle

Oracle

Proprietary

MS SQL,Sybase

Oracle,Sybase

IBM DB2,Oracle

C#,C++, .net

Java

Cobol, C++

C,C++, .net

.net

C#, C++, APL

Fortran, C, Visual Basic

C++, .net,ActiveX

Python, C++, L4G

Cobol, Java

Table 1. Leading investment manage-ment systems and key characteristics.


Note that Table 1 and the subsequent analy-sis are conned to specic product lines and do not imply that any other products oered by the vendors share similar characteristics. In addition to vendor websites, the informa-tion below drawn from independent sources (including analyst reports and primary research) reects the status as of when various reports were published, and may not necessar-ily reect metrics as of September 2013, when this report is published.

Advent GenevaTargeted primarily toward hedge funds, Advent Geneva has added roughly 50-60 clients since 2009. Advent Geneva caters to clients from under US$1 billion AUM to Fortune 500 com-panies. Over 100 developers support Advent Geneva. Advent Geneva is part of a relatively concentrated portfolio of products, with broad back oce functional coverage. Advent spends almost 20% of revenue on R&D, covering seven major product lines. For the most part, serv-ing buy-side investment managers is Advents core business. Most of Advents client base is in North America, where the company is based (California, USA).

CalypsoCalypso oers a product of the same name, both to the buy side and sell side. e company itself is based in California, USA and is privately held. About a third of the client base is buy-side clients. Calypsos strength is in derivatives processing, the primary focus area for the company. Calypso has made modest gains in its client numbers, adding about 15 total over the past three years. Calypso has about 200 developers working on the product. Calypso oers a front-to-back solution with the bulk of clients in North America.

DST HiPortfolioHiPortfolio is the agship product of DST Global Solutions, a subsidiary within the nan cial ser-vices and healthcare division of US-based DST Systems Inc. Since the parent company does not split out R&D budgets for products, it is uncertain how much DST spends on R&D. Most clients are in Europe and Asia. In 2010, DST Global Solutions had 1,100 employees and just over 100 developers. According to its Wikipedia page (May 2013), the company has

about 550 employees in DST Global Solutions. e percentage who are R&D sta is not public.

Eagle StarEagle Investment Systems is a subsidiary of Bank of New York Mellon (BNY Mellon). eir pri-mary products are Eagle STAR (buy-side back oce system), Eagle Access (SaaS-based buy-side back oce system), and Eagle PACE (data ware-house and analytics). Eagle STAR client num-bers are fairly stagnant, although Eagles Access product line has made good progress in recent years. Over 100 developers are devoted to the STAR product. Eagle is predominantly in North America and to a smaller degree in other English-speaking markets. Clients come from various industry segments.

Misys Sophis VALUESophis was acquired by Misys plc in late 2010, which was in turn acquired by venture capital fund Vista Equity Partners in June 2012. Sophis VALUE is the companys buy-side product line. Sophis is based in France, with the majority of clients in Europe. Roughly 150 developers work on Sophis products, which include RISQUE for the sell side and the iSophis SaaS-based solution.

SimCorp DimensionSimCorp is a publicly-traded company based in Copenhagen, Denmark. e company oers one product, SimCorp Dimension, which is exclusively targeted toward buy-side invest-ment managers, typically with AUM of 15 billion or more. Key industry segments served are investment funds, discretionary asset man-agement, insurance, and pension. SimCorp spends 20%+ of revenue on R&D every year on SimCorp Dimension and employs 400 devel-opers for the SimCorp Dimension product. Most clients are in Europe although there is a signicant and growing client base in both the North American and Asian markets.

SS&C Paceris was a product acquired from vendor FMC in the mid-2000s. e product was architected in 1978, with web enablement in 2007. Based on their 2011 form 10-K ling with the US Securities and Exchange Commission,35 SS&C indicated that the company had about 250 devel-opment sta to support SS&Cs 60+ products; it


was not indicated how many of these were dedi-cated to the Pacer product line (the 2012 10-K states 528 R&D employees; the dierence is pri-marily due to the GlobeOp acquisition in 2012). Similarly, SS&C has one of the lowest R&D spend rates (as a percentage of revenue) in the industry, consistently spending less than 10% of revenue on R&D. 36

SS&C (Thomson) PortiaSS&C acquired Portia from omson Reuters in mid-2012. Comparing press releases from 2010 and 2012 shows that the client base (300+ to 200+), AUM managed (US$15 trillion to US$10 trillion), countries with clients (45 to 40) and employees dedicated to the product (150+ to 140) have all suered a degree of attrition. omson released version 10.0 of Portia in September 2009; version 11.0 came out in September 2011; and SS&C released a new version of Portia in April 2013. It is unclear how many of the 140 employees are in R&D functions. In addi-tion, SS&Cs recent US$900m acquisition of GlobeOp and some smaller acquisitions of third-party fund administrators could indicate the company is diversifying its core business to include fund services as well as software.

SunGard GP3SunGard GP3, also known as Asset Arena GP3 Edition, has been in the SunGard prod-uct portfolio for at least the past 10 years (rst mention of the product is in SunGards 2002 10-K annual report ling to the US Securities and Exchange Commission). 37 SunGard is a US-based privately owned company with inter-ests in a number of industries, most notably the public sector, education, availability services, and nancial services. e GP3 product is one of over 50 nancial services software products oered by SunGard. As with SS&C, much of SunGards product portfolio was generated by acquisition. ere are no gures with respect to R&D by product line; Sungards 2012 annual report states that 12% of nancial services rev-enue is allocated to R&D.

SunGard Invest OneSunGard Invest One, also known as Asset Arena Invest One or simply Asset Arena, is Sungards agship product, sold primarily in English speaking markets. Invest One has clients in each

of North America, Europe, and Asia-Pacic. e product caters to both third-party administra-tors (TPA) and asset managers/funds. Sungard does not make public the number of employees or developers working on the Asset Arena Invest One product line.

THE EXTENT OF LEGACY SYSTEMS IN THE GLOBAL BUY-SIDE INVEST-MENT MANAGEMENT INDUSTRYWith the importance of IT infrastructure articulated, legacy and state-of-the-art systems dened and several key vendors proled, the next step is to determine to what degree leg-acy systems permeate the industry. To accom-plish this, the report rst calculates the global assets under management (AUM), the number of rms and employees serving the investment management industry, and nally the extent of legacy systems in the industry. ese factors are combined to estimate the scope of legacy systems with respect to IT personnel resources-deployed and AUM managed by rms running these systems.

Assets under managemente size of the global investment management industry expressed as assets under management (AUM) varies depending on the source con-sulted. McKinsey and Company pegs the 2012 AUM of the global asset management industry at 38 trillion, 38 similar to the results of a study (roughly 42 trillion) 39 by the European Fund and Asset Management Association (EFAMA), while another study by eCityUK 40 puts the AUM for funds alone (insurance, pension and mutual funds) at US$84 trillion and the over-all market at US$120 trillion. ere are several other studies with amounts varying from 40 trillion (US$50 trillion) all the way up to 120 trillion (US$150 trillion).

While determining the size of the global invest-ment management market is a matter of method-ology and preference, a useful proxy is provided by eCityUK report, which itself draws on a num-ber of independent sources. As mentioned above, conventional investment management assets accounted for US$84 trillion in 2012 while alter-native assets (sovereign wealth, exchange traded funds, hedge funds, private equity, and private wealth) make up the remaining US$36 trillion.


In terms of industry sector, the report estimates that:

Insurance asset management accounts for

about US$25 trillion AUM. According to the Insurance Investment Institute, 41 American insurers managed US$7 trillion in 2012 while Insurance Europe 42 estimates European insurers managed 7.5 trillion (US$9 trillion) in 2010.

Mutual funds collectively managed US$24

trillion in 2012, as corroborated by the Investment Company Institute.43

Pension funds worldwide managed ap -prox imately US$35 trillion in 2012. is is consistent with a 2012 Towers Watson report estimating that pension funds in major mar-kets managed US$28 trillion in 2011.44

In terms of sovereign wealth, TheCityUK

and Sovereign Wealth Institute 45 estimate 2012 AUM at US$5.2 trillion, an increase by 8% from 2011. Sovereign wealth funds have been steadily increasing in terms of AUM each year since 2002, with the exception of 2008 to 2009. Almost 80% of sovereign wealth fund AUM is managed in Asia and the Middle East.

On an overall basis, there is a fairly clear growth pattern irrespective of absolute AUM gures, methodology used, and so on. Global AUM

grew steadily from 2003 to 2007, where the nancial crisis caused global AUM to drop in 2008. It is only in 2011/2012 that AUM is again at or near 2007 levels. To put the US$84 trillion in conventional investment management assets managed into perspective, the IMF estimates that the 2012 global GDP from all countries worldwide is US$72 trillion.46

Number of firms and employeesAnother question that arises is how many rms are managing the vast pool of AUM? ere are tens of thousands of fund companies, insurance asset managers, pension funds, discretionary asset managers, and other alternative investment managers serving millions of clients. According to Towers Watson,47, 48 the top 500 investment managers (asset management and pension) had $74 trillion AUM in 2011, or just under two-thirds of global AUM. e top 100 group alone manages over US$50 trillion. It is therefore likely that at least 75%-80% of global AUM is con-trolled by the top 2,000 investment management rms worldwide.

In terms of employees, according to a 2012 Ernst & Young report, 49 hedge funds with over $1 billion in AUM have about 10-15 employees per billion dollars AUM (complete breakdown shown above in Table 2). While there are almost 10,000 hedge funds worldwide, an Ernst &

Average Number of FTEs per US$1bn in AUM

By Strategy

Ratio Back-to-Front

Functional Area Overall EMEA

Region

Functional Area QuantitativeEquity

Long/ShortFixed Income/

Credit Global MacroDistressedSecurities

Assets under Management (AUM)

Asia Less thanUS$1bnUS$1bnUS$5bn

US$5bnUS$10bn

More thanUS$10bn

NorthAmerica

Front Office 11.12 7.28 9.81 22.75 27.03 8.06 6.01 4.50

Back Office*

Ratio Back-to-Front

1.10 1.18 1.25 1.26 1.34

1.17 1.13 0.97 1.36 1.21 1.00 1.55 1.02

13.03 8.20 9.50 31.04 32.75 8.02 9.29 4.61

*Back office includes: Back and middle office, risk management, and legal and compliance functions.

Table 2. Average number of full-time employees (FTE) per US$1 billion in AUM. Source: Global Hedge Fund and Investor Survey 2012, Ernst & Young.


Total worldwide mutual fund assets:$23.8 trillion

The United States Has The Worlds Largest Mutual Fund MarketPercentage of total net assets, year-end 2011

Total US mutual fund assets:$11.6 trillion

33 Domestic equity funds

12 World equity funds

25 Bond funds

23 Money market funds

7 Hybrid funds

8%Other Americas

49%United States

13%African andAsia/Pacific

30%Europe

Figure 5: ICI geo-graphical breakdown of mutual fund assets, end 2011. Source: Investment Company Institute http://www.ici.org/pdf/2012_factbook.pdf

Young survey of 100 hedge funds accounted for US$700 billion AUM. According to the Hedge Fund Journal, 50 there were 35 US hedge funds with over $10 billion in AUM. ese companies alone account for over US$500 billion in AUM, indicating most of the larger hedge funds world-wide are in the US. Doing the math shows that 5,000 employees are working with the largest hedge fund organizations.

In the US market, the 2012 Investment Company Institute (ICI) Factbook 51 shows that in 2011, there were 16,500 fund companies and 159,000 employees managing US$11.6 trillion in AUM (the same source puts global fund AUM at US$23.8 trillion). A breakdown of fund AUM is shown in Figure 5.

Extrapolating the US numbers to the rest of the world gives roughly 13 employees for every bil-lion managed. is is consistent with the Ernst & Young data showing that the average number of employees per billion AUM is around 10-15 for rms managing US$1 billion or more.

Other than a 2012 EFAMA study 52 stating that there are 85,000 employees at asset managers in Europe, there are no distinct studies showing the number of employees specically for the discre-tionary asset management segment or the insur-ance asset management segment. Using the gure

of 13 employees per billion managed in the fund segment, and applying it to the $49 trillion AUM in 2012 from the fund and insurance segments it can be argued that over 600,000 employees are working at these rms.

On the pension fund side, there is also a pau-city of information concerning the number of employees working at these funds. Applying the same 13 employee per billion to the US$34 tril-lion managed by pension fund managers would suggest that there are approximately 400,000 employees.

On an overall basis, it can be argued that there are more than one million people employed by investment managers worldwide managing more than the monetary equivalent of the worlds GDP in 2012. Based on ndings from the 2013 SimCorp StrategyLab cost of operations study,53 an average of 13% of all employees at invest-ment management rms are employed in the IT department, suggesting about 130,000140,000 IT employees in total.

The extent of legacy systems in the industrySo how widespread is the use of legacy systems in the industry? ere is plenty of literature avail-able on banking/sell-side systems but little on the buy side. To investigate this issue among others,


Lindberg International conducted a 2012 sur-vey of 500+ buy-side investment managers in 16 countries in Europe, North America, Australia, Hong Kong, and Singapore. e respondents were business or IT decision makers from buy-side investment managers specializing in one or more of the fund management, insurance asset management, pension fund, and discretionary asset management segments with 2011 AUM of at least 5 billion.

e 2012 Lindberg International survey 54 shows that more than 25% of respondents are using investment management systems that exhibit several legacy system characteristics as described earlier. A SimCorp StrategyLab study 55 (in cooperation with e Nielsen Company) on the cost of operations released earlier in 2013, where a survey of 125 buy-side investment management IT/operations decision makers showed that about 40% were running on legacy systems.

It is therefore likely that at least one in four buy-side investment managers are running their core business operations on legacy systems. As established earlier, there are probably 130,000140,000 employees serving in IT functions at investment managers worldwide. is means that at these rms alone, there are upwards of 30,000 employees whose primary functions are to maintain and augment legacy system infrastructure.

Legacy system impacts industry feedbackAs investment managers uncover the decien-cies of their legacy systems, particularly when changes to existing workows/processes are required, various add-ons and workarounds are imposed. is exponentially increases the

complexity of the IT infrastructure and makes any changes dicult, as there are a number of data sources and product interfaces to consider. In short, legacy systems create a series of prob-lems and erode competitive advantage. is con-tention is corroborated by recent feedback from investment managers. As witnessed by a 2012 Ovum survey of 65 banking/investment man-agement executives in Europe: 56

75% are still using outdated core banking

systems, aecting their ability to accelerate growth.

80%saidthatoutdatedcorebankingsystems

were causing them to struggle to bring new products to market quickly.

75%facedifficultiesgettingaccesstotimely

data, and close to two-thirds feel that existing systems do not support regulatory change.

55%arefocusingonincreasingwalletshare

within the existing client base, with only 20% trying to achieve growth through new customer acquisition.

79% said that the complexity of IT, com-bined with insucient expertise within the business, was a major barrier to core system replacement.

is is corroborated by 2012 polls of investment managers in the North American market, where:

Half of the 75 buy-side executives polled

indicated that their current systems could not support the launch of new products in a timely fashion. 57

40%couldnotsupportallmajorassetclasses

in one portfolio accounting system. 58 56%of100buy-sideexecutivespolledbelieved

that their current systems could not accurately record all of the events in the transaction lifecycle. 59

45% of firms have accounting systems that

cannot support the entire book of business. 60 63%offirmsregularlyexperiencedatarecon-

ciliation errors. 61 40% of respondents are not confident that

the data received from disparate systems is of sucient and consistent quality.

22% of firms state it takes several days to

determine exposures/performance of all hold-ings while 8% stated it would take weeks. 62

Roughly one in four buy- side investment managers are running their core business processes on legacy systems.


ose rms that are suering from issues like the ones named above will likely have trouble seizing competitive advantage and ultimately retaining their current customer base versus those who are focusing on their core compe-tency alpha generation rather than diverting time and resources to overcome the deciencies of their IT infrastructure.

THE DANGERS OF LEGACY SYSTEMS IN INVESTMENT MANAGEMENTWhen the discussion about legacy systems starts up, one might be inclined to ask: What is all the fuss about? After all, many invest-ment managers have been successful despite running on legacy systems; the IT department always seems to nd a way to cope with the lat-est challenges. Nevertheless, with the pace of change at unpre cedented levels, relentless pres-sure on operational costs, and cut-throat com-petition for client mandates, a tipping point could appear to be near.

If use of legacy systems continues unabated, the impacts are likely to reach beyond individual companies and aect the industry as a whole. It is generally agreed that the global nancial crisis (GFC) of 2008 and beyond was spawned by a combination of dubious business practices, in adequate regulatory oversight and control, lack of transparency, and a far greater toler-ance of risk than could reasonably be expected. ese facts are known, and since the GFC, regulators have been focused on imposing regulations, controls, and sanctions to ensure that the crisis does not repeat itself. In parallel, investors are demanding far greater degrees of transparency and risk control, which combined with regulation and other market forces com-pel investment management rms to change the way they do business.

But what if these measures are not enough?

While not the all-consuming tsunami repre-sented by the GFC, the wide use of legacy systems that were designed to meet the needs of the pre-vious century may ultimately precipitate a wave that could have the potential to wipe out much of the recovery made since 2008. e potential consequences are unpleasant: Loss of condence in the industry and its constituents, reputational

risk implications for boards and managements of aected rms, and diverse operational issues that collectively could pose a level of systematic risk to the stability of nancial markets as a whole.

To borrow from a Tom Clancy book of the same name, the use of legacy systems presents a clear and present danger to the nancial services industry. Taking its point of depar-ture from actual examples coupled with expert opinion, this section examines the danger of legacy systems from the risk, cost, and growth perspectives.

The risk perspectivee operational risk perspective is obvious. As legacy systems are unable to automate many standard processes, manual processes are put into place to compensate. e bulk of these processes involves spreadsheet analysis, which inevitably leads to errors. In fact, a meta-study of spreadsheet error rates cited in the April 13, 2013 Marketwatch section of the Wall Street Journal determined that 88% of spreadsheets had some form of error in them.63 Even the hallowed halls of ivy are not immune: A widely-cited 2010 treatise on GDP and public debt ratios from Harvard University was found to have reached erroneous conclusions due to a calculation mis-take in one of the spreadsheets.

With error rates at this level, the operational risk associated with manual spreadsheet analysis is beyond prohibitive, particularly when analysts are under time pressure to deliver the gures needed by internal and external stakeholders. One example is J.P. Morgan: e US$6.2 billion loss incurred as part of the London Whale inci-dent in 2012 is attributed in large part to an error in one of their Value at Risk (VaR) spreadsheet models and failure to automate processes as rec-ommended.64, 65

Indeterminable discussions and analyses have been made concerning the failures of Lehman Brothers and Bear Sterns in 2008, including the fact that many buy-side institutions took weeks to determine their counterparty and related exposures as a result of these failures. Other high-prole failures attributed to inadequate systems in 2012 include the Knight Capital asco, NASDAQs handling of Facebooks IPO,


and UBS losing US$350 million due to a faulty trading system.66

Probably the most damning indictment of legacy systems in a business failure in recent times came from ex-FBI Director Louis Freeh, who in his role as bankruptcy trustee prepared a report on the MF Global debacle in the United States. Simply put, one day the company could not nd several billions of dollars in client assets and senior execu-tives could not get requested overviews of posi-tions, exposures, and the like in a timely manner. As stated in the Freeh report from April 2013:

MF Globals collapse was abetted by, among other things, managements failure to integrate or upgrade its various technology systems and platforms for monitoring Treasury Department operations, liquidity risk, and nancial regulatory functions. ese systems were left without proper controls even as the Company substantially expanded its propri-etary trading under (former CEO) Corzine... lacked the appropriate systems and technology to conduct accurate liquidity monitoring and forecasting across the global operation. 67

In other words, legacy systems can and do intro-duce unacceptable levels of operational and in many case reputational risk, where in the worst case the investment manager is forced into bankruptcy. An anonymous quote states it best: Explaining the unknown by means of the unobservable is always a perilous business.

At a general level, CEB TowerGroup oers the following perspective:

Other areas in which technology is perceived to be important for reducing operational risk are corporate actions, portfolio accounting, and the middle-oce functions. ese choices are understandable. Manual processing in these areas such as faxing trades and corporate actions notications or maintaining port-folios in the absence of an appropriate software solu-tion that supports portfolio accounting unquestion-ably introduces an unacceptable level of operational risk that results in nancial losses. 68

In 2011, McKinsey and Company drafted a com-prehensive assessment of risk IT and operations in the nancial services industry. Among the ndings/recommendations:

Theabilitytoachieveanintegratedviewof

exposures for major risk types is essential. Standardized data across trading desks, asset classes, product classes, counterparties and legal entities that can be readily and rapidly aggregated without extensive manual intervention is fundamental.

TheRiskITarchitectureshouldbesufficiently

exible, and Risk IT infrastructure suciently modular; to keep in step with the changing needs of supervision and the business. 69

PricewaterhouseCoopers weighs in with the following: Some rms have underinvested in technology, have not consolidated or integrated systems after mergers or continue to use manual processes. Failure for these functions to perform as expected places asset managers at multiple risks, including higher costs due to ineciency or errors, losses because of problems with execution, unmet client expectations and regulatory violations that can result in reputational damage and nancial losses. 70

e level of risk goes beyond operational issues particular to a rm or the reputational risks run by its management. From an employee perspec-tive, those maintaining obsolete IT systems may nd their skills outdated. is is com-pounded by the fact that if their rms decide to replace manual processes with state-of-the-art systems, these employees may nd themselves 1) redundant and 2) possessing skill sets no longer in demand elsewhere.

Another viewpoint to consider is the risk to board members serving the owners of rms running on legacy systems. Regardless of cor-porate gover nance measures put in place, an unstable foundation in this case an outdated, inexible IT infrastructure may undermine the rms ability to execute these measures and similar requirements. It might be of interest to most board members to investigate the technol-ogy underpinning rms investment manage-ment operations and understand what (if any) restrictions the IT infrastructure is impos-ing on the business. Similarly, with as many as one in four rms entrusting their business operations to legacy systems, this might fuel a future increased interest from regulators and legislators.


The cost perspectiveMcKinsey and Company indicates that in the nancial services industry, an average of 9% of total revenue is spent on IT 71 a gure that is markedly higher than in most other industries. Similarly, in an October 2012 study of IT invest-ment trends in the nancial services industry, Celent 72 estimated that on the buy side, 80% of IT budgets are devoted to maintenance of existing systems while only 20% is spent on innovation, support of new products, and similar initiatives.

e Celent report goes on to say that there has been a state of underinvestment in IT in the buy side for years and, in the face of todays mo

Documents

Legacy Systems the Inconvenient Truth and the Cost of Doing Nothing