Madura Associates Inc-Commentary

Prepared by:
Donald A. Madura
December 1999

Since the late 1990s, the number of sell-side firms adopting a tariff-based pricing approach to market data costing has increased notably. Indeed, most of the large sell side firms have integrated tariff pricing as a standard. This practice is no longer limited to larger firms which can leverage tariff adjustments across a sizable user base, but is rapidly becoming the accepted standard by many medium sized firms (250-500 market data user positions); and certainly is a recognized option for smaller firms.

The Case for Tariff Pricing is Compelling

The concept of tariff pricing is quite simple. A set fee for each defined product (i.e. Telerate TDPF) is established and maintained for a set period of time (typically six months to one year). Internal costs for the business are allocated back based on inventory. This varies notably from previous practices that emphasized allocating back every invoice regardless of the relevancy of the product or service being charged or the periodicity of the receipt of the invoice.

The reasons for this trend are multi-faceted and include the following:

Technology now readily permits more advanced processes and techniques. With the introduction of “off-the-shelf” market data management systems and more sophisticated approaches toward the management of inventory and costings, tariff pricing can more readily be adopted as a standard rather than the direct allocation of all invoices as posted.

Clear and predictable market data costs provided on a consistent basis to the business. With tariff pricing, the business can be presented with detailed inventory-based reports that document current information services consumption with consistent prices (not highly variable which are possible with invoice-based pricing) in a clearly understandable report format. It is also anticipated that any year-end swings / postings will be reduced with this effort.

Overall reduction of staff time and resources devoted to entire process. It is highly likely that staff time required to support the overall effort will be minimized with the tariff approach. It is likely this will take the form of a cost avoidance as inventory / market data staff must be devoted to the effort if invoice-based pricing approach is chosen.

Emphasis on accountability for all inventory and related costs. A tariff approach emphasizes accountability for inventory, and the need to keep inventory as close to 100% accurate as possible.

Emphasis on internal inventory versus vendor bill reconciliation. With the migration to logical, consumption-based systems, such as Triarch, which provide current consumption (inventory) back to vendors for subsequent billing, an inventory (versus invoice-based approach) provides a more accurate read of the current environment and is more readily salable to the business from a cost allocation basis.

Optimization opportunities tend to be focused on bill / inventory mis-matches versus inventory reductions and service mix requirements. Optimization opportunities are far greater with a tariff-based approach, particularly for those areas with the largest potential for reduction, which are often based on inventory and service mix cost reduction efforts at the desk level.

Reduction, over time, of effort required to monitor tariff prices and to reconcile invoices. With tariff pricing, the traditional monthly timing deadlines are relaxed as allocations are based on inventory. With a consistent inventory / bill mis-match program, invoices can track closer to usage over time, thus reducing both the inventory and invoice management efforts.

Approach is consistent with migration to specific “product support” practices on the trading floors. Many firms are moving toward a product-based service mix and support model that can directly utilize tariff prices as a key component of the overall support effort.

Tariff Pricing In Practice

Most firms that have adopted tariff pricing cite substantial long-term benefits. The transition involves changing several work processes that over the short term will yield notable benefits:

Review current organization and determine responsibilities and accountabilities.

Agree on base products.

Agree on service components to be included within these base products.

Review invoices and inventory over previous 3-6 months to establish trends and total consumption patterns.
Determine any anticipated inventory swings that may impact overall allocations.
Establish a base cost for each product, which is typically the list price. Adjust for discounts and relevant taxes.

Add an “adjustment” factor for unanticipated inventory swings or special services costs (i.e. cabling, moves, etc.) and establish final prices.

Review and obtain sign-off on invoices and determine period to maintain as standard prices.

Allocate to departments and businesses based on inventory as adjusted on a monthly basis.

Emphasize the need to maintain inventory at accurate levels (95+ %) and to review inventory and costs on a routine monthly basis with the business. Note: all changes and adjustments must be monitored as part of the reconciliation process.

Set up a system to monitor actual invoices received and post versus costs allocated.

Set up an adjustment account and post invoices as required.

Routinely review and map invoices to current inventory.

Initially, review prices on a quarterly basis for relevancy and make adjustments as required.

Consolidate vendor invoices to simplify posting and reconciliation.

Reconcile invoices versus current inventory to eliminate bill / inventory mis-matches.

A thorough review and enhancement of this list is suggested before implementation of a tariff-based pricing model.