9 ways to save on your next outsourcing contract

Outsourcing experts, IT analysts (and optimistic vendors) are predicting an increase in IT services deals during the second half of 2009. They foresee an uptick in outsourcing driven by enterprises looking to increase IT efficiency and cut costs.

Unfortunately, some of those organizations signing new outsourcing contracts, so pressured to slash costs, will cut the wrong corners on their new deals and ultimately end up disappointed in the results. “I think when we look back on this period, we’ll find that companies’ objectives for outsourcing weren’t really that different than theyve always been, but their propensity for making bad decisions increased,” says Edward J. Hansen, a partner in law firm Morgan, Lewis & Bockius’s business and finance practice.

Speeding through the outsourcing selection process or rushing into a deal without an RFP, for example, may save you time and money now, but are more likely to cost you dearly over time. Instead, try these smarter strategies to save money on your next outsourcing deal.

1. Be clear about scope.

Before you even think about starting the outsourcing selection process, complete a thorough assessment of your IT portfolio to determine what can be outsourced, what can’t be outsourced, and-most importantly-what shouldn’t be outsourced.

“Take a minute to step back and talk to your business customer about their needs and compare them to the IT services you currently offer,” says Ben Trowbridge, CEO of outsourcing consultancy Alsbridge. “Doing so will provide you with greater insight into what IT services you should be buying from an external service provider.”

“Scope creep” during the outsourcing decision making process is a hindrance to finalizing a new deal efficiently and cost effectively, says Atul Vashistha, chairman of offshore outsourcing consultancy neoIT. “A thorough portfolio assessment also provides data that comes in extremely handy [later on], Vashistha adds.

2. Adopt a multi-sourcing strategy.

The competitive leverage you gain by signing on a small stable of preferred providers instead of a single vendor can not only reduce costs overall, it can also help to mitigate risk through redundancy and provide access to a broader or deeper talent pool, says Daniel Masur, a partner in the Washington, D.C. office of law firm Mayer Brown. Such a multi-sourcing strategy may or may not cost more to manage. “But, if done right,” Masur says, “it will offer benefits that more than offset any additional cost.”

If you do go the multi-provider route, you may want to create a service level penalty pool, says Marc Stark, a client executive at outsourcing consultancy EquaTerra. Each provider puts a certain percentage of their monthly revenue into a pot to pay penalties when end-to-end service levels are not met. In theory, service level penalty pools will help foster cooperation between the parties, though it’s a difficult provision to get vendors to agree to, Stark says.

3. Connect your service lines.

Consider incorporating provisions in your contract that allow for reinvesting savings in one line of service into spending on another line of service. For example, infrastructure savings can be funneled into innovation or transformation in another area. If the outsourcing provider knows it will win additional work, it will be more motivated to find and free up those additional infrastructure dollars, says Ed Hansen.

4. Compel the vendor to cut costs in the future.

Include a contractual provision that obligates your outsourcing provider to reduce costs and charges in the future. The language should require the service provider to work with the client and/or other third parties to achieve reductions in the cost of service delivery, says Masur. You can oblige the vendor to prepare a proposal, at your request sometime in the future, identifying all viable means of achieving the desired reductions without adversely impacting business objectives or requirements.

5. Entertain new delivery methods.

Software-as-a-service, virtualization, cloud computing, infrastructure on demand-there are a host of new multi-tenancy, pay-per-use models available to IT services buyers today that will lower your IT costs.

“Clearly these come with compromises but [our] research has shown that many clients report satisfaction with some of these models,” says Frances Karamouzis, research vice president for Gartner Research and Advisory Services.

It sure beats paying for shelfware.

6. Keep it simple(r).

Diligence in outsourcing negotiations is important, but don’t over-engineer the contract.

“Clients often ask for an extensive amount of service levels which they don’t need and will not likely monitor or measure,” says Karamouzis. In the end, he adds, the client pays for all of those SLAs.

What’s more, you may not need solid gold service levels to support your business today. “Buyers of outsourced services continue to pay for service levels that are far superior to those required by their business customers,” says Trowbridge. “But, if your objective is to save costs, then it is best to align your service levels with the needs of the business and not pay for something you don’t, strictly speaking, need.”

In other words, relax select service levels on non-mission critical operations in return for better pricing.

If you think you need to negotiate rates for every job title that might work on your account, think again. “In application outsourcing, typically five job roles deliver over 90 percent of the work, thus there is no need to negotiate thirty,” says Karamouzis.

But do follow a structured negotiation framework to ensure you don’t leave any loose ends in the process, advises neoIT’s Vashistha.

7. Don’t automatically ink a deal with your incumbent provider.

It may be tempting-and seemingly cost effective-to keep dancing with the same partner who brought you to the ball. But signing a new deal with an old provider, while convenient, could be costly in the longer term. Instead look for the best provider for any new functions you want to outsource. Your existing partner may not be the best-or most cost effective-choice.

8. Fight for your rights.

Few IT service providers are eager to include customer-friendly clauses like the right to audit their bills or benchmark their prices in their new outsourcing contracts. But including these provisions will give you recourse in the future, should you suspect overcharges or prices out of sync with the market. Even if you never actually conduct an audit or bring in a third-party benchmarker, retaining these rights gives you pivotal leverage in the partnership.

Also, invest in outsourcing governance software to ensure you can continually evaluate provider performance going forward, advises Stan Lepeak, managing director of research for outsourcing consultancy EquaTerra.

Finally, adds EquaTerra’s Stark, understand any termination obligations or costs you’ve agreed to so you’re not held hostage by the provider at the end of the deal.

9. Consider a managed services model.

You should devote some time to determine the appropriate engagement model for your next outsourcing deal. More and more outsourcing clients are moving to managed services deals, according to neoIT managing director Sandeep Karoor. In the managed services model, the customer pays for IT services themselves at pre-agreed rates, rather than paying for man-hours of labor.

“The clients focus on outcomes rather than who does [the work] and where,” says Karoor. That can free up the vendor to provide IT services at more competitive rates.

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Jim Love, Chief Content Officer, IT World Canada

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