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Thursday, February 03, 2005

Why JP Morgan Chase Cancelled The IBM Outsourcing Deal

Paul Strassmann, writes about the reasons for J.P.Morgan Chase decision to cancel the IBM outsourcing contract. Excerpts from an extremely well analysed article:
A 5Billion seven year agreement between IBM and J.P.Morgan got cancelled after 20 months of joint engagement.The company's CIO, Austin Adams, said at the time:"We believe managing our own technology infrastructure is best for the long-term growth and success of our company ... to become more efficient.". What really changed things was the July 2004 merger of JP Morgan Chase with Bank One, which had gained a reputation for consolidating data centers and eliminating thousands of computer applications. JP Morgan Chase would now switch from IBM to self-sufficiency to take advantage of BankOne's cost-cutting know-how.Bank One has to date delivered a remarkable performance. The bank reduced head count 12% from 2000 to 2003, while raising revenue 17% to $16.2 billion. By contrast, JP Morgan Chase reduced its head count only 6% in the same period while revenues grew just 1%, to $33.3 billion from $32.9 billion. The average compensation of a Bank One employee in 2003 was $66,928; a JP Morgan Chase employee took home $125,147. Returns on shareholder equity also were materially higher for Bank One.The more cost-efficient Bank One then swallowed the underperforming JP Morgan Chase. Executives of the consolidated firm called for at least $2.2 billion in annual cost savings to justify the expense of the merger.
The deal was not cancelled because IBM was not doing its job. In-house management of a technology infrastructure is unlikely to be more efficient than that delivered by a well-run global information "utility" with ample capital for technical innovation, reliability and load sharing. No, the objective was to perform radical surgery on the unfavorable economics of JP Morgan Chase. From 1999 to 2003, the bank's shareholders got a return on their investment of 9.45% a year. By comparison, shareholders at Bank of America, Citicorp, Wachovia and Wells Fargo got an average return on investment of 15.79%.
JP Morgan Chase's average compensation per employee was twice that of the other banks. And its spending on technology, per employee, was more than double, at roughly $28,300 a head, compared with $12,700.
How much cost cutting should JP Morgan Chase do?Banks include their technology expenses in their audited financial statements. In the case of JP Morgan Chase, theses expenses grew from $2.18 billion in 1999 to $2.84 billion in 2003.Comparable data was obtained for Bank of America, Citicorp, US Bancorp, Wachovia, Wells Fargo and other banks. Compared to 30 other technology budgets (i.e., five years of data for each of the six banks), JP Morgan Chase should be spending $2.11 billion—in 2003. Its spending should not be any higher than in 1999.Only a drastic restructuring in the bank's organization can reduce that huge disparity. One step is to cut way back on technology spending, whether to ibm or to an in-house staff. Or both. In any case, the bank's own excessive spending is what really doomed the ibm outsourcing contract.
Amazing analysis but true - all high level big bang decisions are taken for not so apparent reasons!!

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