Outsourcing: From Tactical to Strategic

Posted by Mark Brousseau

Interesting article from Business Finance magazine on the evolving role of ousourcing.

Viewing Outsourcing as a Strategic Relationship
by David Gordon
Created 09/05/2008 - 17:25

Regardless of what outsource service providers and company executives may say, outsourcing is all about economics -- not necessarily the economics of labor cost arbitrage and "your mess for less," but the cold reality facing CEOs and CFOs every day, particularly in these turbulent economic times, of how to create and protect shareholder value. Whether we are willing to admit it or not, outsourcing always has a component of cost reduction or containment in the calculus.

Today, however, companies that view outsourcing solely through the lens of finding a way to do a commodity activity for less are missing an important strategic advantage. Companies that exploit outsourcing to the fullest are those using it to drive shareholder value, leveraging outsourcing in multiple ways to capture competitive advantages by supporting market and geographic expansion, delivering improved operating flexibility, and accessing talent.

Yet in PwC's recent global outsourcing survey, less than a third of respondents felt that their arrangements had fully delivered on promised (primarily cost-related) benefits. Even so, a full 91 percent said that they would continue to outsource, regardless of their satisfaction.

Why?

As reasons for outsourcing have moved beyond cost-cutting, little else seems to have changed in how companies and providers approach the business relationship. Historically, this relationship has often degenerated into an adversarial one, as customer expectations are not met and service providers struggle to deliver savings and service levels.

A number of companies and service providers have recognized that something's got to give. Slowly but surely, the traditional buyer--seller relationships are beginning to shift to collaborative models. Executives at both customers and service providers understand that outsourcing relationships need to be established based on clearly defined business benefits, shared risks and rewards, and increased transparency with regard to pricing, strategic planning, and joint governance.

To succeed, companies are finding that their outsourcers must fully understand their strategic needs, operational requirements, and culture. A move toward true collaboration is squarely needed in order to navigate the changing outsourcing landscape. According to Gartner, which tracks global outsourcing transactions, the trend toward lower-value individual contracts -- compared to larger "megadeals" of the past -- continues.

These smaller and shorter contracts mean outsourcing arrangements that are more dynamic and complex. Executives in our survey say that while they will continue to use the traditional approach to outsourcing -- relying on a single service provider -- newer models are gaining momentum. Half of the executives said that they expect to increase multisourcing (using more than one provider for a service), while 45 percent plan to increase their use of joint ventures, and 35 percent will ramp up their use of open, public business models.

Unlike traditional single-source transactional outsourcing, these more complex approaches intrinsically require more collaboration. They encompass multiple provider relationships, address both operational and performance management challenges, take innovative approaches to allocating incentives, and often center on intangibles such as intellectual property.

With more than just cost-cutting on the line, managing outsourcing relationships -- whether collaborative or more traditional -- requires considerable attention. In our survey, respondents pointed to deal structuring as the most challenging aspect, with 76 percent rating it as difficult. Other top areas that they would like to see improvement in: managing the transition (75 percent), ongoing management and monitoring (71 percent), strategy development (70 percent), renegotiation (69 percent), and business case development (66 percent).

In a more collaborative arrangement, these factors become even more crucial if both parties are to be rewarded for delivering economic and process enhancements. A strong governance structure shared by provider and client alike is needed. Unlike a traditional vendor relationship, more collaborative approaches seek input from the service provider on how the client operates and input from both the vendor and the business on more effective governance of the relationship. Such an arrangement emphasizes transparency and accountability, as well as results in better integration of the outsourced relationship with the client's organization while balancing the need for flexibility.

Like any strong relationships, those between customers and outsourcers will change and grow.

Collaborative arrangements are successful only inasmuch as they continue to meet current business needs and are well structured to accommodate future objectives. To achieve the benefits from outsourced relationships, businesses should clearly define and articulate their business objectives for outsourcing initiatives. They should also obtain internal buy-in for the business case for outsourcing. An upfront understanding of the drivers and expectations will be critical to effectively selecting the right service provider and structuring and executing the agreement.

Adopting a partnering outlook with a trusted service provider can release the strategic value of the relationship through collaborative behavior, such as sharing data freely, structuring incentives for innovative ways to deliver returns, or, when appropriate, inviting service provider input into operational decisions. It is important to treat an outsourced relationship as an extension of the client's existing organization at multiple levels -- but just with strict, if not
stricter, performance objectives and accountability requirements.