How well has that outsourcing - a seven-year, $2.1 billion deal to a consortium led by Computer Sciences Corp. (CSC) - served Morgan? Let's look at the ratio of operating expenses to revenue. Operating expenses, reported as "noninterest costs," include such costs as administrative overhead, IT expenditures, outsourcing costs, consultants and depreciation.

As the chart shows, there was an alarming growth in the ratio from 1990 to 1994. Management became concerned and was looking to cut costs. Meanwhile, rapidly mounting IT costs reached the unprecedented level of more than 30% of operating expenses.

So Morgan called in some big-name consultants, who told executives that their hodgepodge of unintegrated systems could be best tamed by outsourcing IT to a consortium of firms that would be expected to work together. In due course, a four-company alliance led by CSC landed the job.

This landmark deal was heralded with publicity comparable to what I have heard in every failed outsourcing situation where the real motive was cutting costs: "The real impetus for the project is to help [Morgan] to retain its technology edge, to deliver better services to end users and to free up internal resources to build new applications."

Sure!

What really happened will always be a matter of conjecture, but the operating expense-to-revenue ratio didn't budge. Instead, two years later, it shot up to unprecedented levels.

My calculations show that even though Morgan's IT per-capita costs were astronomical by any standard, there was no way to restore the critical financial ratio to its prior levels by merely outsourcing one-third of the IT budget. Confusing the matter further, the only published claim of savings by the outsourcers was a $28 million cut in IT costs in the contract's first year, only 0.6% of operating expenses.

The much-hoped-for infusion of advanced technologies from the outsourcing consortium didn't materialize, evidenced by the fact that Morgan proceeded to hand over to the Bank of New York its investment management accounting systems for Europe, which was a core competency application.

Integration didn't happen, either. For example, IT and telecommunications operations are run by the U.S. outsourcers, but not in Japan, where J.P. Morgan has partnered with IBM.

I don't know how Morgan's IT operations will fare after merging with Chase. My tracking of Chase's performance shows that it has been able to achieve reductions in the operating-expense-to-revenue ratio, which is likely the direction it will take to justify some of the price it paid for Morgan.

There's no rationale for a major bank to outsource much of its IT except in unique situations. There are no economies of scale when you deal with an IT budget of more than $3 billion, the consolidated IT budget of the bank subsequent to the merger. Instead, there's only organizational confusion when accountability and simple command-and-control structures are easily compromised.