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Case Study: Deutsche Bank: The Cost of LegacySystems

Deutsche Bank AG, founded in 1870, is one of the world’s topfinancial companies, with 2,790 branches in 70 countries. It offersa range of financial products and services, including retail andcommercial banking, foreign exchange, and services for mergers andacquisitions. The bank provides products for mortgages, consumerfinance, credit cards, life insurance, and corporate pension plans;financing for international trade; and customized wealth managementservices for wealthy private clients. Deutsche Bank is also thelargest bank in Germany, with 1,845 retail branch locations, andplays a central role in German economic life. In many ways,Deutsche Bank is the embodiment of the global financial system.

Deutsche has the world’s largest portfolio of derivatives,valued at around $46 trillion. A financial derivative is a contractbetween two or more parties whose value is dependent upon orderived from one or more underlying assets, such as stocks, bonds,commodities, currencies, and interest rates. Although Deutsche Bankhad survived the 2008 banking crisis, which was partly triggered byflawed derivatives, it is now struggling with seismic changes inthe banking industry, including recent regulatory change and fearsof a global economic downturn. The bank was forced to pay $7.2billion to resolve U.S. regulator complaints about its sale oftoxic mortgage securities that contributed to the 2008 financialcrisis. In addition, the Commodity Futures Trading Commission(CTFC) complained that Deutsche Bank submitted incomplete anduntimely credit default swap data, failed to properly superviseemployees responsible for swap data reporting, and lacked anadequate business continuity and disaster recovery plan. A creditdefault swap is a type of credit insurance contract in which aninsurer promises to compensate an insured party (such as a bank)for losses incurred when a debtor (such as a corporation) defaultson a debt and which can be purchased or sold by either party on thefinancial market. Credit default swaps are very complex financialinstruments.

Deutsche Bank is in trouble with U.S. regulators for itsinability to fulfill swap reporting requirements under theCommodity Exchange Act and CFTC Regulations. The CFTC complainedthat on April 16, 2016, Deutsche Bank’s swap data reporting systemexperienced a system outage that prevented Deutsche Bank fromreporting any swap data for multiple asset classes forapproximately five days. Deutsche Bank’s subsequent efforts to endthe system outage repeatedly exacerbated existing reportingproblems and led to the discovery and creation of new reportingproblems, for example, Deutsche Bank’s swap data reported beforeand after the system outage revealed persistent problems with theintegrity of certain data fields, including numerous invalid legalentity identifiers. (A Legal Entity Identifier [LEI] is anidentification code to uniquely identify all legal entities thatare parties to financial transactions.) The CFTC complaint allegedthat a number of these reporting problems persist today, affectingmarket data that is made available to the public as well as datathat is used by the CFTC to evaluate systemic risk throughout theswaps markets. The CFTC complaint also alleged that Deutsche Bank’ssystem outage and subsequent reporting problems occurred in partbecause Deutsche Bank failed to have an adequate businesscontinuity and disaster recovery plan and other appropriatesupervisory systems in place.

In addition to incurring high costs associated with coping withregulators and paying fines, Deutsche Bank was a very unwieldy andexpensive bank to operate. The U.S. regulators have pointed outDeutsche Bank’s antiquated technology as one reason why the bankwas not always able to provide the correct information for runningits business properly and responding to regulators. Poorinformation systems may have even contributed to the financialcrisis. Banks often had trouble untangling the complex financialproducts they had bought and sold to determine their underlyingvalue.

Banks, including Deutsche Bank, are intensive users ofinformation technology and they rely on technology to spotmisconduct. If Deutsche Bank was such an important player in theGerman and world financial systems, why were its systems not up tothe job?

It turns out that Deutsche Bank, like other leading globalfinancial companies, had undergone decades of mergers andexpansion. When these banks merged or acquired other financialcompanies, they often did not make the requisite (and oftenfar-reaching) changes to integrate their information systems withthose of their acquisitions. The effort and costs required for thisintegration, including coordination across many management teams,were too great. So the banks left many old systems in place tohandle the workload for each of their businesses. This created whatexperts call “spaghetti balls” of overlapping and oftenincompatible technology platforms and software programs. Theseantiquated legacy systems were designed to handle large numbers oftransactions and sums of money, but they were not well suited tomanaging large bank operations. They often did not allowinformation to be shared easily among departments or provide seniormanagement with a coherent overview of bank operations.

Deutsche Bank had more than one hundred different bookingsystems for trades in London alone, and no common set of codes foridentifying clients in each of these systems. Each of these systemsmight use a different number or code for identifying the sameclient, so it would be extremely difficult or impossible to showhow the same client was treated in all of these systems. Individualteams and traders each had their own incompatible platforms. Thebank had employed a deliberate strategy of pitting teams againsteach other to spur them on, but this further encouraged the use ofdifferent systems because competing traders and teams werereluctant to share their data. Yet the Bank ultimately had toreconcile the data from these disparate systems, often by hand,before trades could be processed and recorded.

This situation has made it very difficult for banks to undertakeambitious technology projects for the systems that they need todayor to comply with regulatory requirements. U.S. regulatorscriticized Deutsche Bank for its inability to provide essentialinformation because of its antiquated technology. Regulators aredemanding that financial institutions improve the way they managerisk. The banks are under pressure to make their aging computersystems comply, but the IT infrastructures at many traditionalfinancial institutions are failing to keep up with these regulatorypressures as well as changing consumer expectations. Deutsche Bankand its peers must also adapt to new innovative technologycompetitors such as Apple that are muscling into bankingservices.

In July 2015 John Cryan became Deutsche Bank’s CEO. He has beentrying to reduce costs and improve efficiency, laying off thousandsof employees. And he is focusing on overhauling Deutsche Bank’sfragmented, antiquated information systems, which are a majorimpediment to controlling costs and finding new sources of profitand growth. Cryan noted that the bank’s cost base was swollen bypoor and ineffective business processes, inadequate technology, andtoo many tasks being handled manually. He has called forstandardizing the bank’s systems and procedures, eliminating legacysoftware, standardizing and enhancing data, and improvingreporting.

Cryan appointed technology specialist Kim Hammonds as ChiefOperating Officer to oversee the reengineering of the bank’sinformation systems and operations. Hammonds had been DeutscheBank’s Global Chief Information Officer and, before that, ChiefInformation Officer at Boeing. Hammonds observed that DeutscheBank’s information systems operated by trial and error, as if herformer employer Boeing launched aircraft into the sky, watched themcrash, and then tried to learn from the mistakes.

In February 2015 Deutsche announced a 10-year multi-billiondollar deal with Hewlett-Packard (HP) to standardize and simplifyits IT infrastructure, reduce costs, and create a more modern andagile technology platform for launching new products and services.Deutsche Bank is migrating to a cloud computing infrastructurethrough which it will run its information systems in HP’s remotedata centers. HP will provide computing services, hosting, andstorage. Deutsche Bank will still be in charge of applicationdevelopment and information security technologies, which itconsiders as proprietary and crucial for competitivedifferentiation. Deutsche Bank will most likely build mobile, Web,and other applications tailored to its customers’ bankingpreferences, as well as computer-based trading software.

Deutsche Bank is withdrawing from high-risk clientrelationships, improving its control framework, and automatingmanual reconciliations. To modernize its IT infrastructure, thebank will reduce the number of its individual operating systemsthat control the way a computer works from 45 to 4, replace scoresof outdated computers, and replace antiquated softwareapplications. Thousands of its applications and functions will beshifted from Deutsche Bank’s mainframes to HP cloud computingservices. Automating manual processes will promote efficiency andbetter control. These improvements are expected to reduce “runs thebank” costs by 800 million Euros. Eliminating 6,000 contractorswill create total savings of 1 billion Euros.

Deutsche Bank is not the only major bank to be hampered bysystem problems. IT shortcomings were one reason Banco Santander’sU.S. unit in 2016 failed the U.S. Federal reserve’s annual “stresstests,” which gauge how big banks would fare in a new financialcrisis. According to Peter Roe, Research Director with TechMarketView LLP in the UK, banks now spend about 75 percent of their ITbudgets on maintaining existing systems and operations, and only 25percent on innovation.

A 2015 Accenture consultants report found that only 6 percent ofboard of director members and 3 percent of CEOs at the world’slargest banks had professional technology experience. More than twofifths (43 percent) of the banks have no board members withprofessional technology experience. Since many of the biggestchallenges facing banking are technology-related, that means thatmany banks lack sufficient understanding of technology required formaking informed technology decisions. Financial technologyinnovations, security, IT resilience, and technology implicationsof regulatory changes are now all critical issues for bank boardsof directors, but many lack the expertise to assess these issuesand make decisions about strategy, investment, and how best toallocate technology resources.

Sources: Geoffrey Smith, “Things You Should Know Aboutthe Deutsche Bank Train Wreck,” Fortune, September 28,2016; Hayley McDowell, “System Outage Sees Deutsche Bank Chargedover Reporting Failures,” The Trade News, August 19, 2016; Derek duPreez, “US Regulator Charges Deutsche Bank over Multiple SystemsFailures,” Diginomica, August 19, 2016; Kat Hall, “Deutsche Bank’sCreaking IT Systems Nervously Eyeing Bins,” The Register, October27, 2015; Martin Arnold and Tom Braithwaite, “Banks’ Ageing ITSystems Buckle Under Strain,” Financial Times, June 18,2015; Martin Arnold, “Deutsche Bank to Rip Out IT Systems Blamedfor Problems,” Financial Times, October 26, 2015; BenMoshinsky, “Deutsche Bank Has a Technology Problem,” BusinessInsider, October 20, 2015; Edward Robinson and Nicholas Comfort,“Cryan’s Shakeup at Deutsche Bank Sees Tech Restart,” Bloomberg,December 20, 2015; Accenture, “Bank Boardrooms Lack TechnologyExperience, Accenture Global Research Finds,” October 28, 2015.

1. Identify the problem described in this case study. Whatpeople, organization, and technology factors contributed to thisproblem?

2. What was the role of information technology at Deutsche Bank?How was IT related to the bank’s operational efficiency,decision-making capability, and business strategy?

3. Was Deutsche Bank using technology effectively to pursue itsbusiness strategy? Explain your answer.

4. What solution for Deutsche Bank was proposed? How effectivedo you think it will be? Explain your answer.

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Unit II – Case study

Deutsche Bank: The Cost of Legacy Systems

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Case Study: Deutsche Bank: The Cost of LegacySystems

Deutsche Bank AG, founded in 1870, is one of the world’s topfinancial companies, with 2,790 branches in 70 countries. It offersa range of financial products and services, including retail andcommercial banking, foreign exchange, and services for mergers andacquisitions. The bank provides products for mortgages, consumerfinance, credit cards, life insurance, and corporate pension plans;financing for international trade; and customized wealth managementservices for wealthy private clients. Deutsche Bank is also thelargest bank in Germany, with 1,845 retail branch locations, andplays a central role in German economic life. In many ways,Deutsche ... View full description