Outsourcing or Ouch-sourcing?

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Outsourcing has been described as company’s giving away their brains and the major consequence of doing this is it is very difficult to get your brains back in the future! However, in the U.K. both Private Enterprise and the Public Sector seem to have acquired a worrying addiction to frontal lobotomy!

The trend towards Outsourcing and Off shoring is driven by the Management Consulting industry who have a vested interest in “Change”. Let’s face it, at their extraordinary fees they are hardly going to come into an enterprise and tell you “It ain’t broke so don’t fix it.” But these same reassuringly expensive Consulting Firms often bring to the table generic solutions and very little emphaty with your business. More worryingly, they are very rarely objective as they are often owned by companies which profit from the downstream activities associated with outsourcing. IBM’s press release when it paid a small fortune for PWC’s consulting arm in 2002 summarises the point.

“These skills (of PWC Consulting) need to be combined with large-scale implementation capabilities such as outsourcing, IT infrastructure skills, key technologies, and financing, where IBM is the market leader. IBM Business Consulting Services is now uniquely positioned to advise and enable clients to fully leverage these new models of business computing, driving greater return on IT investments.” Since the takeover of PWC Consulting by IBM Outsourcing and IT related services account for over half its income.

As with every other new business trend, from process re-engineering to quality management, the promise of dramatic performance improvement gives way to surveys revealing widespread dissatisfaction with what is actually achieved. Although not many have re-absorbed activities that failed to work in the outside world, many have experienced much smaller cost savings and service gains than they expected. If it’s potentially so advantageous, why does outsourcing go wrong? The main business criticism of outsourcing is that it fails to realize the business value that the outsourcer promised the client. So how should companies approach the issue? The following 6 pointers should provide the framework to keep the delivery of outsourced fulfilment focused on your business’s strategic objectives.

1. Set targets to measure effectiveness.

The temptation to outsource because rivals are doing it, trusting in them to have done the right calculations, should be resisted. The costs and expected savings from large outsourcing deals – in the public or private sectors – are not transparent and are rarely revealed, and it can’t be assumed that all are making a respectable return. Without detailed costing and rate-of-return calculations in advance, it will be impossible to set targets for an outsourcing project, and to know how well it is performing.

2. Assess against future needs to ensure scalability and the ability to add to the project.

Problems often arise when an outsource meets or exceeds the improvement target for the work first assigned to it – at which point the excited client passes more work out to them, only to find that performance has suddenly deteriorated. Suppliers must be chosen with a view to what you might want them to be doing at the end of a 5- or 7-year contract, as well as what they will be doing in the first phase. Problems can also arise if the primary supplier agrees to take on extra work, and then sub-contracts it to other companies to access the capacity or capability it doesn’t have. This leads to a loss of control, and can run into trouble if the primary outsourcing fails to manage its own outsource competently.

3. Avoid becoming a hostage to one supplier.

If an outsourcing relationship succeeds, and widens into new areas of activity, it can become increasingly difficult to consider re-tendering for a contract and changing the service provider. Partners must be given a reasonably long contract if they are to invest in providing specialist services, and be motivated to suggest improvements. If they get to the end without problems, and have delivered identifiable savings or service improvements, there is a tendency to renew the contract with little thought for alternatives.

But unless the present provider is compared with others available, it can be impossible to know whether they are delivering as good a service for as low a cost as possible. Once they become assured that a contract will continue without further contest, once hardworking and pro-active suppliers can be tempted to slacken off, or assign lower-quality resources to a contract. So even if there is periodic review before renewal, outsourcing can lose its edge through loss of convincing benchmarks. The risks of disruption when a sole supplier fails to deliver, or suffers a quality lapse, are a further strong reason for limiting the use of single sourcing, unless reliable alternatives can be summoned from the market at short notice.

This is a difficulty seen in the U.K. where consolidation has meant that, for instance, IT support contracts can only be tendered to a small number of large companies. The example of the 11 year saga for a computer system for Magistrates Courts in the U.K. illustrates the issue.

“A report published today by the National Audit Office (NAO) today makes it clear that although plans to create an IT system for magistrates courts has been under development for more than ten years, such a system has yet to be completed. The report highlights a number of errors including the lack of "competitive tension" surrounding the project after only one formal bidder remained at the end of the procurement process.

In July 1998 the Government chose ICL (now Fujitsu Services) as the preferred bidder with its bid of £146m over 11 years. Six months later when the contract was signed the price had increased to £184m. Since then the contract has been renegotiated twice and in May 2000 the cost of the project rose to £319m.”

4. Protect external sources from internal politics.

Savings and service improvements are noticed when first achieved, but then get rapidly taken for granted – until someone interferes with the outsourced relationship, or something goes wrong with it. The possibility of such disruption arises as soon as the original sponsor of an outsourcing relationship moves upwards or out of the company, leaving no-one to argue its merits when questions are raised about it. The trigger for such disruption tends to be when new managers arrive at a division that has outsourced, and seek to establish their authority by implementing quick changes. Finding that key areas have been passed to an external supplier, and having to work through them, can be a source of frustration that causes the out-of-house work to be viewed unduly harshly.

Even if their original sponsor is still on hand to remind the company of why it outsourced, and how performance improved as a result, the supplier is recommended to make contact with new management to explain the rationale, and to suggest what could now be improved. This way, the new drive for change can be channelled into moving to the next level of outsourcing benefits, rather than swinging the pendulum and taking work back in-house – or changing supplier – only to discover that you can’t beat what was there.

5. Prevent ‘parallel insourcing’.

Keeping some of a division’s work in-house, and outsourcing another part, can be a valuable way of benchmarking the two options and avoiding the all-or-nothing risk of spinning everything out. But the division between what goes out and what stays in must be clearly drawn, and adhered to while the comparisons are being made. And this is often most appropriate in the early stages of outsourcing, when its feasibility and the best people to do it are still being assessed.
A more damaging tendency, which tends to occur when arrangements have been in place for longer, is to allow in-house activity to stray into the same areas that have been handed to an outsource. The U.K. Public Sector again provides an example where Governments (especially after two terms) are often accused of building up a ‘parallel administration’ of special advisers and chiefs-of-staff who start to duplicate, and ultimately override, the activities and decisions of the civil servants they are meant to work through. The same can happen in companies, as managers who resent the loss of operational control to an external supplier start to rebuild the same capacity in-house. This ‘creeping re-insourcing’ leads at best to a waste of resources, at worst to a loss of coherence as confusion grows over who is responsible for which task, and cooperation breaks down.

6. Move on from initial assignment to performance assessment and re-tendering.

While some areas are still going out-of-house for the first time, many long-established outsourcing arrangements are now coming up for renewal, often not for the first time. After the move from initial investigation of the outsourcing market to the award and management of the first contract, the management task evolves again, to the assessment of performance and arrangement for re-tendering. The renewal of a contract gives an opportunity not only to assess whether the outsource has done well enough within the contract parameters, but also to check that the parameters were sensibly set. When reviewing their initial experience.

While IT was initially popular because new computing and communication technology was seen as exotic, requiring handling by specialists, new and more user-friendly machines may allow the basic functions to come back in-house, with outsourced fulfilment needed instead for more complex functions such as software development, database management and analytics. So a contract may need to be re-tendered not just because other suppliers could do the job better, but also because a different job may need to be done.

Generally the U.K. Public Sector and the large grey area of the economy has had a bad record in outsourcing functions, particularly around I.T., and has not achieved an effective risk transfer to the Private Sector because they simply are not commercial and when placed head-to-head with sharp and incentivised negotiators on the other side they will have insufficient knowledge to achieve an optimum result. One area of giving part of your brain away is the issue of “Moral Hazard”.

Moral hazard is exemplified in outsourcing of public sector IT services. In outsourced public sector services, the supplier owns the intellectual property before the system is even delivered. Removing the supplier means, in effect, a total restart of the project. This is a significant, if not the major, risk (and moral hazard) in public sector outsourcing. Where private sector funding is providing the majority (normally 90 per cent) of the investment, it makes no sense in PFI contracts to call a halt to the projects. The most that government or public sector authorities may do is to extract compensation for failures to deliver, but this is normally capped in the outsourcing contract.

PFI contracts make no sense, where the supplier provides the investment, unless the public sector secures a charge over the intellectual property until it is satisfied with the delivery. Indeed, it would make more sense for the public sector to be an equal investor in the intellectual property. Providers would then no longer have the power of ownership over the intellectual property.

Finally, Best practice is key in the success of outsourcing projects, liaising correctly with all involved and working with suppliers to get the best deal. Handled properly, hopefully the public sector can work towards a more efficient, cost effective way of working, and to those departments that would like a helping hand there is always the NOA! Perhaps one of the reasons Public Sector outsourcing had had such a bad press is just that, the results are public and can be examined. If the interlinked Consulting, Outsourcing and Off shoring industries are to regain credibility there will need to be greater transparency in terms of costs and outcomes in the Private and Public sectors to make a proper judgement as to whether Outsourcing is really Ouch-sourcing?

http://daithaic.blogspot.com/2007/10/outsourcing-or-ouch-sourcing.html
David Caldwell

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