Developing and sticking to an outsourcing strategy has been anything but simple in the past couple of years. Squeezed by the worst recession in decades, IT budgets dipped, and CIOs got busy renegotiating outsourcing contracts.
In 2009, when the U.S. economy was on the brink of collapse, 50% of 1,074 organizations surveyed by consultancy Gartner Inc. reported a sharp uptick in contract renegotiations. Then they hunkered down.
Outsourcing was flat in 2010, according to TPI Inc, an IT advisory firm based in The Woodlands, Texas. Buyers of outsourcing services typically do not like economic uncertainty, the sourcing group at law firm Morrison & Foerster LLP explained in its recent look at global outsourcing trends. The potentially game-changing advent of cloud computing services offered new opportunities and risks. Through all this, SearchCIO.com plied experts with requests to explain the mistakes, miscues and miscommunications that can torpedo an outsourcing agreement. Here is a guide to their advice, as you gear up in 2011.
- What are some common mistakes to avoid when an outsourcing strategy is being forged?
- What are the signs that an outsourcing contract is at risk?
- Which IT functions and applications are best suited for outsourcing?
- How is cloud computing technology affecting outsourcing solutions?
- More resources
| What are some common mistakes to avoid when forging an outsourcing strategy?
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Many CIOs make innovation a central component of their outsourcing strategy, and complain when their provider doesn't deliver. "The key to a successful outsourcing agreement is documentation, and innovation is difficult to document," said Thomas Young, partner and managing director in the CIO Services-Infrastructure group at TPI. In fact, innovation of the never-been-seen-before variety is rare under any circumstances.
Continuous improvement is another matter, however. TPI's Young has found that many organizations are better off leaning on internal research and development teams for innovation, and holding their outsourcing providers' feet to the fire for such continuous improvements as productivity gains, the cornerstone of Lean principles . Even then, CIOs should spell out their target numbers and realize that anything greater than the norm doesn't come at discount prices. Providers that can give you IT productivity gains greater than the typical 3% to 4% improvement, or that can deliver significant cost reductions, also are investing in the new tools, automation and new methods that produce such results. "It is totally fallacious that you can take out 5% to 10% costs every year and do it without investing in technology innovation," said Allie Young, research vice president and distinguished analyst in Gartner Inc.'s technology and service provider group.
Forging an outsourcing strategy that does not take into account company culture is another surprisingly common mistake. TPI's Young gave the example of a large outsourcing firm brought in to consolidate a company's IT environment as part of a business transformation program. The mission was straightforward: to virtualize a 3,500-server farm running at a 15% utilization rate. The provider guaranteed the work, against Young's advice. Although the technical requirements were eminently doable, he knew the CIO did not have control of his application development teams. As a result, he could not get them to consent to any changes for recompiling or adjusting code, or freezing code to allow for testing. In addition, the CIO did not have application performance metrics, so any negative change in response time was chalked up to the provider's virtualization efforts. "The political environment jeopardized success," he said, adding that the provider ending up walking away from the deal.
Learn more about developing a strong outsourcing strategy.
Here is another resource on forging a sound IT outsourcing strategy.
Read about mistakes to avoid when picking an outsourcing service provider.
| What are the signs that an outsourcing contract is at risk?
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Some outsourcing contract risks are straightforward. Having your account manager removed from the job without your approval is a red flag. When your provider's turnover rate is on par with industry standards but your turnover is higher than the norm -- that's a danger sign. If turnover is high for all customers, however, the problem is with the vendor, and the turnover level might be your cue to take your business elsewhere.
Even red flags, however, come in many shades, cautioned Christine Ferrusi Ross, vice president for the Sourcing and Vendor Management Council at Cambridge, Mass.-based Forrester Research Inc. For example, an outsourcing provider experiencing financial difficulty poses a risk to your deal, but when do you sound the alarm bell? After one quarter, when the losses hit double-digits? Or do you wait it out a year? "The challenge is, how do you "operationalize" risk," she said. Such decisions will vary according to the provider's reputation, but any move you make should be consistent with your organization's tolerance for risk, and might warrant airing at the steering committee level.
The most overlooked risks to an outsourcing contract often are the ones right under your nose, according to Gartner's Young. Is your CEO is crowing about the provider's lowering IT costs by 10% while your users are complaining that IT no longer serves their needs? That's a disconnect that needs to be addressed. Other imbalances are more subtle. Miscommunication due to cultural differences means you don't have the right process or methodology in place to manage cultural differences, a situation that could warrant reducing your offshore workforce until you do. "Before you find the speck in another's eye, look for the log in your own," she said.
Learn more about other outsourcing contract risks.
| Which IT functions should stay in-house?
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One of the toughest outsourcing challenges is finding the bright line between IT functions that can be farmed out and areas that should be kept in-house. In general, routine IT functions that can be performed by a set of rules and procedures lend themselves well to third-party contracts, experts agree. Strategic planning is a CIO's job. Policies for IT security, privacy and compliance, for example, should be set in-house before a function is handed over to a vendor. The same goes for developing an organization's enterprise architecture plan. "You don't want to give the person providing the service the keys to the kingdom," TPI's Young said.
Organizations are tempted to outsource IT functions and applications that are unstable. Experts strongly advise they hold off, if possible. "If it is something that can be fixed internally, you should do that first," said Steve Martin, partner at Pace Harmon LLC, a Vienna, Va.-based outsourcing advisory firm. Farming out a suboptimized operation might save you money due to labor arbitrage, but the benefits realized from optimizing that operation will inure to the provider. In fact, it is not uncommon for companies that have outsourced a mess to pay a premium for getting it fixed, then wind up taking it back, he said.
If an application is nearing retirement, CIOs should expect to pay premium prices because outsourcing providers make their money by capitalizing on their up-front work over time. "The business case for the shorter legacy application is not strong, Martin said. The exception is when companies want to make a clean break from a legacy application and the resources that support it.
Read more about how to determine whichIT functions and applications should be part of your outsourcing strategy.
| How is cloud computing technology affecting outsourcing solutions?
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Cloud computing -- with its scalability and promise of cost savings -- is poised to turn traditional IT outsourcing models upside down -- or so say IT prognosticators. TPI found that 78% of its 149 global clients are evaluating ways to incorporate cloud computing into their IT service delivery strategies. Major outsourcing providers are moving to cloud services and quietly testing out "creative combination models" on customers, said TPI partner Kevin Smilie. Cloud computing has been No. 1 or No 2 on Gartner Inc.'s top 10 strategic technologies for three years running.
How quickly evaluation turns into action, however, is the $6 million (or is it $68 billion?) question. "While they are talking about it, only 20 [of 140 TPI clients] have actually put together a strategy for how to use cloud," Smilie said. Security risks and data privacy remain big concerns for CIOs and chief information security officers.
Meantime, CIOs, especially those at enterprise companies, tell SearchCIO.com they are more inclined to develop private clouds to reap the benefits of utility computing than to figure out the liability limits of public cloud providers.
Still, as one Gartner analyst pointed out in his recent assessment of offshore locations for IT outsourcing, more and more IT work is and will be driven through the industrialization of computing. Cloud computing and Software as a Service, or SaaS, are game-changers for IT outsourcing providers. That goes especially for the offshore providers whose chief siren call is cheap labor. The more computing moves from a labor-intensive focus to greater automation, the fewer people will be required to do the work. That already has and will continue to have a dramatic effect on the domestic workforce. The trend to automation also changes the dynamic for large global providers, such as IBM and Accenture PLC, that have made huge investments in low-cost locales.
Read more about how cloud computing is affecting IT outsourcing services.
| More resources
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Outsourcing trends: Waiting on cloud, CIOs eye two-tier ERP model
Let us know what you think about the story; email Linda Tucci, Senior News Writer.