Why, when and how to outsource

March 27th, 2007

resized_shutterstock_506057.jpgMore than just a procurement programme, outsourcing arrangements need close management from the outset in order to achieve optimum performance.

The decision to outsource is not something to be taken lightly – it is fundamental to an organisation’s strategy and business model.

The outsourcing event should not be viewedas simply another procurement programme to be executed by a purchasing department rather the purchasing department needs to work closely with the business, IT, the legal team, HR, tax and commercial departments and staff representatives to maximise the potential benefits.

With so many parties playing crucial roles, governance is critical at each stage of the process.

In the next two years, outsourcing contracts worth many billions of pounds will either be coming to the end of their tenure or being terminated early.

With users facing a wide range of options including termination, renegotiation, transition back in-house and re-tendering, this is an ideal opportunity to go back to first principles.

Users must be clear about why they are outsourcing, what is core and non-core, and then review what should be outsourced, along with a fresh business case. Often the true objectives are lost in the details of the deal’s construction and the subsequent contract.

Any decision to change the delivery of services should be fully considered before taking action. Moving an outsourced service that is failing, or simply coming to an end, from one outsourcing supplier to another will not necessarily fix a problem and introduces a new level of risk.

Despite this there is a tendency for users to try to simply “lift and drop” existing arrangements – to take what they currently have and source it from elsewhere.

Conversely, as the market tightens, outsourcing suppliers will prefer to extend existing contracts rather than renew them obviously this will result in tension as a result of differing views and strategies.

If, having reviewed the outsourcing decision from first principles, the decision is to continue outsourcing, then lessons need to be learned from what happened the first time around.

Many users will have reached a point in their arrangements where relationships have broken down and they may have been tempted to look for termination or arbitration of the contract as a last resort.

Now is the time to review what worked and what did not, and what steps need to be put in place to ensure that the second generation contract benefits from the experience gained in the first.

When it comes to outsourcing, users committed to achieving optimal performance from the deal should consider quality, relationship, capability and flexibility, as well as price, when selecting an outsourcing supplier and documenting an agreement.

To ensure real success there must also be a focus on a cultural match between the two parties that allows for a governance structure with which both are comfortable.

Good governance is critical to the success of an outsourcing arrangement and should be considered at the outset of any discussion.

If there are conversations about issues such as litigation or arbitration in the termination of a contract, arguably the contract has already failed. It is essential that provisions for such discussions are built into arrangements at the outset.

Shared vision and goals, sound management practices, respect, understanding the needs of both parties, mitigation of risk and a focus on ensuring that results are meeting the mutual expectations of both the user and the supplier – operationally and financially – are typically the key factors that lead to success.

Too often, the focus on governance stops with the completion of transition, but the real success of the deal will come from work carried out during the ongoing management and transformation stages.

Getting this right is about:

  • Ensuring a detailed handover from the procurement team to the relationship management team, covering all non-standard mechanisms in the arrangements in particular.
  • Managing and monitoring the contract against service levels, getting feedback not only from the relationship management team, but from retained departments who are impacted by and dealing with the supplier.
  • Identifying concerns early and resolving disputes quickly but amicably.
  • Transforming or optimising the business, both retained and transferred, to ensure the benefits of outsourcing are achieved.
  • Reassessing the relationship on a periodic basis to identify changes that are necessary in management or contractual details.
  • Actively managing the delivery of the business case and realising the benefits.In many cases, the value of outsourcing is not maximised because senior executives critically underestimate the level of management resource needed to both implement and sustain a successful outsourcing initiative over time.And if the level of management required is understood, senior executives may not have the specialist resources and necessary visibility of IT costs and service performance.Executives may also assume erroneously that management of the outsourced services is the outsourcing supplier’s responsibility – a responsibility that executives assume can be tactically managed through the constraints, benchmarks and penalties for poor compliance typically prescribed in service level agreements.

    For many users undertaking outsourcing initiatives, governance is an area that is frequently underestimated in terms of time and investment, as well as the structural architecture necessary to manage accountability.

    Those who commit to an outsourcing project without a strong governance capability do not have appropriate means of controlling performance.

    In fact, because the processes, roles, responsibilities and incentives that determine project management are now spread across two entirely different organisations, the need for a clear governance structure becomes even more critical.

    In far too many outsourcing projects, oversight in the approach to governance prevents optimal performance in the long-term and can lead to false diagnoses of bad contracting or poor supplier performance, preventing users from learning from their mistakes.

    Many organisations do not have a clear understanding of what governance is in relation to outsourcing – and even fewer will know what best practice in this area looks like.

    Communicating, agreeing and managing the various aspects of governance – establishing the mechanics of a deal over its lifespan – requires finding the right balance of leadership, policy, methodologies, tools, skills, personnel and measurements for both parties.

    Treating outsourcing as a procurement issue rather than a relationship issue encourages an adversarial approach to contracting and a dogged focus on securing the lowest price above all else, which may not be in the best long-term interests of the business.

    Many will agree that a good part of the foundation for a successful engagement is based on the legal and contractual due diligence conducted before an outsourcing arrangement is formalised.

    Unless managerial controls are supported by a well-written contract, the key intersections between management and operations may be under-supervised, increasing the likelihood that key processes, quality specifications, service delivery timing, and most importantly outcomes, will be driven and/or dependent on the outsourcing supplier.

    Most successful outsourcing relationships have at their heart an agreement that offers certainty on key issues, leaving no doubt as to the extent of each party’s obligations and risk allocations.

    At the same time they allow sufficient flexibility through effective governance and change management to keep the formal documentation relevant to an inevitably fluid and sometimes unpredictable arrangement.

    Minimum performance benchmarks, or service levels, must be established and supported by standards and metrics most appropriate to the outsourcing objective – metrics, for example, that are directly tied to operational indicators such as service quality, system availability and response times.

    One of the most important points of an outsourcing engagement should be to protect the user’s ability to reshape the outsourcing contract, relationship and operating framework in order to adapt to a changing business environment.

    Critical to any organisation is contractually protected flexibility to accommodate unanticipated changes in business growth or shrinkage, changes in volumes or changes due to extraordinary events such as mergers, acquisitions or sales.

    A well written contract will ensure the user’s right to be informed of any significant event that could materially impact the supplier’s ability to meet its performance obligations.

    Receiving timely notice, not just of impending events, but of the likelihood of an impending event, enables low-cost contingency planning with high cost-benefit payoffs should untimely events occur.

    Ongoing governance is a far wider consideration than managing what is captured in the contract and service level agreement.

    Who has responsibility for the ongoing governance internally? What are they going to do? How are they going to monitor and maintain performance? What is compelling staff to commit to governance?

    How does the organisation interface with the outsourcing supplier and ensure the different parts of the project are working together properly? Is there anyone within the organisation to be the supplier’s champion, to help the business gain an informed view on performance?

    Deal management and sourcing office capabilities are required to manage and mitigate risks and help keep both parties aligned, but being able to move beyond the contract and what is done on a daily basis is critical.

    Do you operate in a relationship where suppliers do things right purely because of the contract, or is your relationship something more than just the contract?

    Few companies have a comprehensive view of what is required or the skills within the organisation to do this effectively. When outsourcing projects fail it is often because of the void left by the absence of governance, and not necessarily the service provider’s fault alone.

    The reality is that many users will be involved in multiple contracts and are likely to continue doing so, but few will have focused on how they might approach governing them collectively.

    They need to bring a strategic focus to an often disconnected, neglected, yet fundamentally important consideration.

    The approach they choose will be bespoke to their situation. However, users need to consider whether they take a uniform approach to all contractual relationships, appoint a team to govern across multiple contracts, or design a selection process for potential service providers that considers their fit from a governance perspective.

    It is not uncommon nowadays for users to have a significant proportion of their cost base – perhaps a quarter or a third – committed to outsourcing arrangements, and yet to have no functional or divisional head allocated to watch over it.

    Too often, the failures of outsourcing contracts are attributed to bad contracts, but the real issue is that the relationship has been conducted solely within a contract that stifles the growth and development of the arrangements.

    Whatever the balance of leadership, policy, methodologies, tools, skills and resources the user decides on, when governance is right in the process everyone will benefit.

    Effective governance improves the collective performance of contracts over their lifespan, beyond the performance that managing by contracts and SLAs would dictate.

    When users acknowledge that the complexity of the results they expect from their outsourcing arrangements needs to be met by a sophisticated approach and a conscious commitment to governance, they will improve the performance of those arrangements.

    The outsourcing lifecycle

    Strategy

    Validating the strategy
    Identifying the options
    Preparing the business model
    Agreeing the sponsorship and building the team

    Termination/renegotiation

    Planning the termination
    Renegotiating the contract and bundling with others as appropriate
    Decommissionion andre reallocating

    Optimisation/transformation

    Managing and monitoring the contract and resolving disputes
    Transforming the business
    Re-assessing the relationship
    Delivering the business case – realising the benefits

    Feasability

    Building the business model and case
    Creating the baseline
    Understanding and testing the market
    Assessing and benchmarking the options

    Transaction

    Structuring the deal
    Agreeing the scope, service levels and assets to transfer
    Negotiating the contract
    Delivering the deal and the business case

    Transition

    Delivering the change
    Getting quick wins
    Establishing the culture
    Managing the people

    The decision to outsource is not something to be taken lightly – it is often fundamental to the organisation’s strategy and business model. It is not, therefore, just another procurement progrmme to be executed by a purchasing department.

    Those organisations tht get the benefits of outsourcing do so by following a clear six-step lifecycle.

    This lifecycle takes organisations from the initial strategic decision, through the scoping and definition of requirements, the selection of a service provider, the transformation of the business, and then prepares the organisations for eventual termination or renegotiation of the contract.

    Successful outsourcing is about getting the process right at each stage and the formation of sustainable partnerships.

    by David Muir

    Source: Computerweekly

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    Entry Filed under: Why Outsource?