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Outsourcing is one area of technology provision that is sure to cause concerns for IT directors. Computing examines the complicated details of various outsourcing agreements and analyses how IT directors can make the most from external provision.
Let’s start with basics – what is the difference between sourcing and outsourcing?
Any business has a number of options as to how it sources the services it requires. Outsourcing is one of those options.
When a business first enters into an outsourcing agreement it transfers an internal business function, in whole or in part, to a service provider. The provider supplies the business with services which replace functions previously carried out internally.
When this first agreement comes to an end, the customer may take the services back in-house or, more likely, may enter into a new agreement with the same service provider or a new service provider. Subsequent transactions are referred to as second, third and fourth-generation outsourcing.
Outsourcing seems to be associated with a lot of acronyms, such as ITO, BPO and FAO. What do I need to know?
Outsourcing began life in the IT department. Since the late 1990s, however, the process has divided into different business areas. ITO refers to IT outsourcing – a term that normally also includes telecoms and related technology infrastructure outsourcing.
BPO is a generic term covering all business process outsourcing. BPO used to be applied to every deal outside the remit of IT outsourcing. However, different business processes have increasingly spawned their own acronyms – so, for example, an FAO is a financial and accounting outsourcing agreement.
IT managers also need to be aware of HR outsourcing (HRO) and knowledge management outsourcing (KMO). The list of abbreviations is expanding inexorably and one of the more recent additions is legal services outsourcing (LSO).
How important is overseas provision and what are the legal considerations?
The market for outsourcing has expanded dramatically in recent years, and the rate of growth shows no sign of slowing. The increase in the number of businesses that turn to outsourcing as an option, and the types of business process that are outsourced, has been matched by a rise in the number of suppliers in the marketplace – and their location.
A few years ago, only the most advanced companies would have considered outsourcing any part of their services offshore, normally to India. Now globalisation has made it difficult to define where “offshore” is.
The US and European service providers all have operations in India as well as many other countries, and the Indian service providers have operations in Europe, the US, Asia-Pacific, Africa and Central and South America.
The picture is further complicated by the fact that personnel are often swapped between locations. So contracts might include one rate for an Indian software developer in Chennai, a second rate for an English software developer in Basingstoke and a different rate for an Indian developer from Chennai working in Basingstoke.
Distinctions are sometimes made between services provided in a country that is close to the customer’s main country of business and those further afield. An example might include services provided to a US customer from Canada (near-shoring), and services provided to the same company from Asia (offshoring).
While there are significant differences between locations in terms of labour costs, exchange rates, security, culture, infrastructure and legal regime, the terminology used to describe locations has little significance.
From a legal point of view, the main considerations when services are provided from another country usually concern security – particularly the security of data. Other important factors include the protection of intellectual property and confidentiality, and the stability and efficiency of the legal process. And there is little point in including impressive remedies in a contract if it will take five years to enforce clauses through the local court.
What about multi-sourcing – how could such an approach benefit my business?
In the past, when a major business – particularly a global business – looked to outsource a significant proportion of its IT provision, it had little choice but to use one of the large global service providers.
Only the big service providers could provide the scale of operations and the geographical coverage the business required. A single provider also offered further attractions, such as economies of scale, standardisation of products and processes, end-to-end service responsibility and stability.
But large businesses have recently started to see disadvantages in the single-supplier route. Charges were opaque and did not mirror price reductions in the market; standardisation translated too easily into inertia; end-to-end service responsibility resulted in lengthy negotiations about service credits every month, and one or two financial shocks raised questions about the stability of certain suppliers.
At the same time, market expansion meant more choice was available. Such choice led to the rise of multi-sourcing, an approach with two main aspects. The term is used to refer to the division of what was originally a single-sourced service into a number of services, often called service towers.
So, where most of the IT provision was previously outsourced to a single company, the business might divide IT provision into a number of separately sourced towers – such as end-user computing, hosting and application development.
But the term can also refer to the outsourcing of a single business process or tower to more than one service provider, creating a competitive environment throughout the life of the contract.
The attraction of multi-sourcing, as opposed to the single-source option, is that it gives the business the opportunity to choose the best provider for the job. No single service provider will be the best at providing each service tower in each location – and with multi-sourcing, the business does not have to compromise.
Because specialist service providers compete in specialist markets, their prices are more likely to reflect market levels, and they will be keen to keep a competitive position through innovation. Such an effect is heightened if more than one supplier is engaged to provide the same service.
While many of the smaller service providers will be less financially stable than the bigger providers, they are replaceable. And a failure does not bring down the whole outsourcing – and with it the business’s IT infrastructure – but only results in the replacement of one contractor among several.
Is multi-sourcing the best answer for my business?
Attractive as multi-sourcing may seem, there are legal and commercial issues that need to be carefully managed if the approach is to deliver on promises. The main issue is the difficulty of achieving a comprehensive service description.
Such an issue might not seem a problem at first because the task of agreeing service descriptions for each of the towers may seem straightforward. Each tower should represent recognised market sectors, and the terminology and expected scope for, say, a hosting service should be well understood.
However, when you try to put the service descriptions together and particularly when you try to define the dependencies and responsibilities between them the difficulties begin to emerge.
Service descriptions matter because one of the outcomes sought by most businesses that outsource is to transfer as much as possible of the day-to-day management, and ultimately the risk, of provision to their service providers.
For example, if something goes wrong with an application on a user’s desktop, the business wants it to be fixed as soon as possible. It does not want to become involved in a prolonged debate over whether the problem was caused by the provider of the desktop, the application, the network or the server.
For problems to be resolved without reference to the business, either the dependencies and processes between the service providers must be designed in a manner that allows them to manage issues internally, or the service providers must have some other incentive for successful co-operation.
How would I implement a multi-sourcing strategy?
There are a number of different approaches to multi-sourcing. The first is for the business to acknowledge the difficulty of apportioning end-to-end responsibility among the service providers, and to assume the risk itself.
Here, the business retains ultimate responsibility for service integration. It accepts that if there is a problem with an application on a desktop, it will have to chase down the issue through the various service provider contracts to establish who is responsible. In return, the business will probably be able to achieve very keen prices from the individual service providers, each of which will be operating in its comfort zone.
The second approach is to re-create end-to-end responsibility by appointing one of the service providers as a prime contractor and making the other providers its sub-contractors. If the business retains the right to force the prime contractor to change sub-contractors, it achieves some of the benefits of multi-sourcing although arguably the arrangement is not true multi-sourcing and the prime contractor will charge a risk premium.
The third approach is to make sure that the jigsaw pieces fit together and that the various service providers are bound by operating level agreements to ensure problems are resolved before they are raised with the business.
In this model, it is common for one of the providers to take a greater management and integration role than the others someone must be tasked with project resolution but the manager does not have the same responsibility for the other service providers as it has under the prime contractor model.
While the third approach is arguably the purest form of multi-sourcing, the model has to be introduced as part of a co-ordinated sourcing strategy and it is difficult to make the process work if some towers are already subject to existing contracts.
The fourth approach is to put in place other mechanisms that make it attractive for the service providers to work together. For example, providers could be made subject to common service levels, so they all suffer if the service does not perform as it was intended.
The trend towards multi-sourcing is likely to continue. Because multi-sourcing forces the parties to concentrate on relationships, there is a parallel trend towards greater focus on governance and co-operation forecast by some to result in more outcome-related contracts. Such contracts reward the service provider by reference to the business success of the customer.
It is certain that outsourcing will continue to evolve into different areas and different types of relationship.