Since we started META Group’s strategic consulting practice in Canada, we have monitored the Canadian market within different industries, and we have heard success and failure stories about outsourcing deals. Here we will share some of our thoughts on the topic, with a mind to fostering more success stories than failures in the future.
Evaluating an appropriate sourcing strategy starts by developing an internal report card — an assessment of the IT organization’s current capabilities compared to the outsourcing vendor’s capabilities. Then the IT organization must define potential outsourcing options and develop a series of pros and cons for each alternative. If possible, cost comparisons (internal versus outsourcing) should be included in this analysis. Additional steps of risk analysis and human capital evaluations usually round out the outsourcing strategy evaluation process.
Unfortunately, it is a common practice for IT organizations to learn about outsourcing by inviting vendors to provide capability briefings, which often result in vendor selection or even negotiation as a first step. Vendor selection should come at the end of the process.
The failure rate is significantly higher for outsourcing contracts that do not at least conduct cursory alignment and strategy evaluations. Although vendors can sometimes offer insights into changes or innovation to help improve the IT strategy or business alignment, our research indicates that IT organizations without early analysis are usually incapable of recognizing the value of such recommendations.
It is paramount that IT organizations determine the primary objective — the reason driving the company toward outsourcing. Financial institutions generally seem to follow this approach.
Reasons for outsourcing can include:
• Improving current services
• Reducing costs
• Retiring old technologies
• Driving standardization
• Consolidating technologies
Each of these objectives may be achievable, depending on the company’s capabilities, operations, and organizational constraints. For example, many financial services organizations, with multiple autonomous business units, feel capable of standardizing desktops across the corporate level, but the IT group lacks the political clout to enforce standards with business units. Outsourcing is frequently used as a catalyst to do what is right for the company, and also breaks through internal barriers.
DEVELOP A STRATEGY
The first step in developing a sourcing strategy is to document current business objectives and supporting technologies. At a high level, what are the three to five major opportunities and challenges driving investment decisions (e.g., expanding internationally, increasing revenue through new service offerings)? Once the business objectives are defined, IT management must define the technologies that support them. Technologies may vary from a more robust e-mail system to the installation of a packaged application (e.g., Siebel).
With an understanding of the business objectives and supporting technologies, IT management must clearly articulate IT strategy drivers. Simply put, IT strategies should focus on delivering “better,” “faster,” or “cheaper.” Of course, all three variables factor into IT strategies, but companies can only optimize on one while maintaining thresholds on the other two. We find that most IT organizations operate with implicit IT strategies; articulating those strategies explicitly is usually a challenge.
After assessing business and technology issues, IT management has the framework to begin moving into tactical outsourcing evaluations. Decisions can be made within the framework of risk, financial concerns, and business objectives.
The IT organization should assess its internal strengths and weaknesses. It should map the internal capability for each technology domain against its commodity nature — the degree to which an IT service operates under standard processes. If the organization has trouble dealing with desktop management, mainframe maintenance and other standardized services, it might choose an outside company to improve those tasks. If the organization is adept at standardized services, outsourcing might not yield substantial cost savings, although outsourcing may well provide efficiencies above and beyond bottom-line costs. Either way the organization garners a better sense of whether to outsource or not through this technology-commodity nature comparison.
The risks of outsourcing include scenarios relative to business, technology, and vendor relationships. IT organizations should determine what might happen during the next three to five years and how it will change internal operations.
Business risk: Although it is impossible to provide a complete list of issues that might substantially alter the nature of business and impact an outsourcing agreement, here are a few:
• Merger, acquisition, or divestment of business units
• Changes in government regulations
• Market dynamics — major (e.g., +/-50 per cent) rise or fall in demand or prices
• New technologies
• Changes in distribution channels or facilities requirements
• Global expansion Each business risk scenario should address implications on IT support requirements, budgets, staffing, and rate of change. It should also be determined how each scenario shifts the nature of the outsourcing agreement — whether it requires better, faster, or cheaper service delivery.
Technology risk: IT managers are usually more adept at forecasting technology than broader business changes. However, these discussions should not become technology preference arguments. Rather, they should focus on topics such as the following:
• New applications potentially being developed (and the required skill sets)
• Existing applications needing to be retired or phased-out
• Online banking and e-channel strategies
Relationship risk: Inherent in any outsourcing agreement is the risk that the vendor relationship will not develop as planned. In fact, among META Group clients, 60 per cent are dissatisfied with their current outsourcing agreements. No IT organizations plan for such failure, yet the problems prevail. In determining relationship risk, the implications of the following situations should be considered:
• What if the vendor under-delivers on expected services?
• What if actual service costs far exceed budgets and expectations?
• What if the vendor is unresponsive to major improvements in service levels?
• What if the vendor misses major milestones in the project delivery? Many problems can arise in relationships, but this list focuses on those that can significantly impact business. Assessing relationship risk raises managerial awareness of issues that occur in outsourcing and provides a framework for the IT organization to understand relationship-based management practices to prevent the problem.
THE EMPLOYEE FACTOR
Given the IT manager’s struggle to balance openness and communication with employees during the outsourcing process, a very real fear exists that employees will become demoralized or simply leave. Indeed, the problem becomes complicated with political and cultural (e.g., lifetime employment, “open door” policies) issues that vary across geographies and divisions. The outsourcing process and strategy must take the following into account:
• News of outsourcing plans generally reaches most employees within a month.
• An average of 10 per cent of top employees leave because of uncertainty.
• IT managers could become distracted from mainstream operations.
Deciding when in the process to inform employees is a constant balancing act between openness and a lack of certainty. Currently the majority of IT organizations include 100 per cent employment guarantees in the vendor contract and ensure employees that while outsourcing is being considered, no employee will be left without a job or some choices.
DOCUMENT INTERNAL SERVICE LEVELS
Perhaps the greatest deficiency in outsourcing is IT organizations that lack information about current service levels and internal operations. It is nearly impossible to communicate requirements to a vendor or for the vendor to anticipate workloads (which drive all price estimates) without a clear understanding of the volume of work and the required service levels.
For effective outsourcing, the IT organization must understand internal operations and be capable of communicating them to the vendor.
— Farahmand and Uwe Helmer are co-leaders of META Group Inc., Strategic Consulting Services in Canada.