Outsourcing: Happily ever after

Outsourcing deals often have short honeymoons. The trick is to be forthright and flexible up front. 
Written by Jerry Rosa, Contributor on
Kris Brunk had heard all of the horror stories about outsourcing, including onerous contracts, unresponsive vendors, hyped-up expectations–to sum up, the full monty of regret.

So when it came time for her company, Geon, a maker of chemical compounds (since acquired by PolyOne), to outsource its desktop support operations, Brunk had a pretty good idea of what she didn’t want in a vendor–neither a dictator nor a passive partner.

"We were looking for a company that was going to work with us and not somebody that was just providing IT," says Brunk, who is now the SAP administrator at PolyOne. She considers the company fortunate to have chosen Compaq Global Services, which has brought to the partnership a combination of strong desktop expertise and a spirit of openness.

But for every Kris Brunk, there’s an IT manager who is less than satisfied with the whole outsourcing experience. And that is a source of considerable frustration in the US$56 billion global outsourcing industry.

On a theoretical level, it’s hard to find anyone who disputes the strategic benefits of farming out mission-critical operations to a reliable third-party. But in their dealings with customers, outsourcing providers continue to behave in ways that call into question their ability to provide reliable service. To hear customers and their attorneys talk, even the largest outsourcing firms have yet to figure out that there is more to this business than striking a good deal.

"Most of the problems that come up revolve around mistakes in getting the relationship started, because there is a level of mistrust and the vendor has to clear the air," says Robert Zahler, a partner at Shaw, Pittman, Potts & Trowbridge, a law firm specialising in negotiating outsourcing deals for Global 2000 customers.

John Halvey, an attorney who co-authored a major book on outsourcing in 1995, agrees that it’s the early flaws in the agreement that create the most mistrust and inevitably lead to legal wrangling down the road.

"A lot of the work outsourcing attorneys get involved in is to eliminate the friction," says Halvey, founder of the Global Technology Transaction Group at Milbank Tweed Hadley & McCloy.

A classic example was the ill-fated deal under which the State of Connecticut was to outsource all of its IT operations to EDS. Several major problems, including a lack of communication, internal confusion at EDS, labor union intransigence, and disputed contract language, led to the cancellation of the agreement in 1999 before it was even signed.

Sources say EDS has since made enormous strides in customer friendliness, financial flexibility and internal coordination, but back then it was a poster boy for poor customer relations. "That [deal] was a meltdown from the start," says Louis Gutierrez, the CTO at Harvard Pilgrim HealthCare, who followed the events in nearby Connecticut.

But perhaps the most unfortunate manifestation of ill will in the outsourcing process is the growing prevalence of contract terminations and renegotiations once the deals are already in operation. This particular legal niche barely existed a few years ago and today accounts for the bulk of major outsourcing transactions.

Industry observers remain bullish on the outsourcing market, from the data center, to app development and maintenance, and Web hosting. IDC, for one, expects outsourcing revenue to surpass US$100 billion by 2005.

But that heady projection may be in jeopardy, critics say, if providers don’t start getting their acts together. Maureen Bertocci, CTO of the Port Authority of Allegheny County, is one of the sceptics. "I’ve seen deals fall apart because the outsourcing vendor was more worried about the contract than the client," she says.

The following are the most common and potentially disastrous failings. Call them the five deadly sins of outsourcing. Avoid each of these sins, and you’ll go a long way toward keeping the peace with your customers.

No. 1: When speeds and feeds trump needs
Outsourcing customers continue to complain that their vendors treat them as afterthoughts, ignoring their real needs and instead spouting meaningless sales pitches.

The issue of neglect was central to PolyOne’s Brunk when she cast a net seeking prospective candidates. Brunk specifically wanted to know how the vendor would help the company move forward in the event of a merger, which is what occurred when Geon later got acquired by PolyOne.

"My definition of an outsourcing partner is one that would tell us what was coming down the line technology-and-business-wise, and how that would affect our company," says Brunk.

Michael Corbett, president of Corbett & Associates, an outsourcing advisory firm, believes too many vendors put too much focus on the deal, to the detriment of the relationship.

"Solution providers have to understand a company’s business problem and craft an outsourcing solution that goes after the problem instead of one that is based on speeds and feeds," Corbett says.

No. 2: Promises, promises
The outsourcing market is still characterised by vendor pitches soaked in sugar.

"Unfortunately," notes Dean Davison, a VP at Meta Group, "those sugary promises never appear in the contract."

The Meta exec recalls one failed engagement in which a large manufacturer was promised superior service and hundreds of thousands of dollars in IT savings. "The IT vendor told the management that they would take on the data center duties and desktop operations, but everything ran the same. There was no value-add. The service they promised was not up to speed, and they were locked into the contract. This happens all the time," Davison says.

Bob Zapfel, general manager of strategic outsourcing at IBM Global Services, says delivering on a promise means aligning goals and objectives up front. Put another way, Zapfel says vendors have to take the time to create synergies between their customers’ business goals and their IT functions. Too few providers bother to make this extra effort, he laments.

No. 3: A contract, not a cage
Among the most deadly of the five sins is the drawing up of an ironclad contract that doesn’t allow for flexibility, argues Timothy Barry, VP of application outsourcing at Keane. "Contracts written so strict can put the relationship in a bind. A client’s needs are going to change over time, especially with 10-year contracts."

Barry says in the very worst cases, inflexible contracts can drive trapped customers to the very brink of disaster. "We’ve seen the situation where a client had to go Chapter 11 to get out of a contract," says Barry.

John Howell, a partner at Hughes & Luce who negotiated the watershed 1986 outsourcing accord between General Motors and EDS, says a good contract will have some firm boundaries around the scope of the work but will allow for pricing flexibility as technologies and markets change over the course of the agreement.

Having contract flexibility, for example, has been a particular blessing for the Port Authority of Allegheny County, which is in the 28th month of a three-year legacy system outsourcing deaAl with Integris, a unit of France-based Bull.

Bertocci says that if the Port Authority needs something that is not specifically called for in the contract, the lawyers from both sides work out the details without having to go back and rewrite the original document.

Curt Haines, director of the Bureau of Consolidated Computer Services in the Governor’s Office of Administration in Pennsylvania, says no deal will work unless the vendor has the flexibility to provide deliverables not actually specified in the agreement.

Haines oversees a seven-year, US$515 million mainframe operations pact with Unisys that is considered a model of effective state government IT outsourcing. "It is an extremely flexible contract with proper change/ order documents. We haven’t had to change one word in the terms and conditions," says Haines.

Mary Jo Morris, the president of Computer Sciences Corp.’s Technology Management unit, argues that contract flexibility on the vendor’s part is essential to doing business because the economic climate has shifted into lower gear. "We have a situation where a client was in a significant growth mode and we structured a contract that wanted to be responsive to the growth," she says. "Now, with the economy like it is, we are working to help them consolidate."

While many outsourcing vendors have had no problem delivering a commodity service, they have found it more difficult to create value propositions around that service, suggests Mary Tolan, managing partner of Accenture’s Global Resources Market unit.

Some firms, including Accenture and IBM Global Services, have attempted to move up the value chain from routine operations and maintenance to the realm of "transformational outsourcing".

This can be done in part by bundling strategic consulting services into a long-term outsourcing pact, advises Peter Bendor-Samuel, CEO of outsourcing consultancy The Everest Group.

No. 5: The worst policy
Finally, nothing can sour a client relationship faster than a dishonest vendor. Attorneys say this cardinal sin tends to rear its ugly head most often in the sensitive area of pricing.

Vendors, notes attorney Zahler, typically apply pressure on the clients to sign the deals and leave the matter of pricing until the 11th hour. "Some [outsourcers] are misleading the client a little bit to price some of these deals, due to the fact that a lot of the vendors do not do the due diligence early on and have to go through their own managers to approve the pricing," he says.

High-pressure sales tactics and misleading pricing schemes undermine the fundamental trust that is essential to a successful deal, says Harvard Pilgrim’s Gutierrez. "If I can’t trust a vendor from the start, there is no way I will trust them with our network," he says.

Consider yourself warned.

Transformational outsourcing is rapidly gaining traction among vendors and customers.

Simply put, transformational outsourcing involves rolling up IT outsourcing, consulting, business-process outsourcing and change management into a comprehensive package of services to help customers transform their businesses. Customers are naturally attracted to the underlying "value proposition," say industry observers, while partners like Accenture, EDS and IBM Global Services see it as a way to get the C-level executive’s attention.

Commodity outsourcing deals, by contrast, are generally not a priority consideration in the executive boardroom, says Mary Tolan, managing partner in charge of Accenture’s $2 billion outsourcing division. "Transformational outsourcing tends to be a CEO issue because it will have material impact on the share price," she says.

For instance, Accenture recently signed a deal with Janesbury, the UK’s largest grocery chain, which calls for not only taking over the customer’s IT functions, but also for helping Janesbury improve its supply chain and in-store operations. A similar deal with Hydro 1, Canada’s largest utility, requires Accenture to run five in-house business processes, including HR, finance, supply chain, customer care and IT. That frees up the customer to focus on its core business and thus should have a major impact on revenues and profits.

By the numbers

Though many customers aren’t satisfied with their outsourcing relationships, the outsourcing boom isn’t expected to end anytime soon. Here’s a sampling of data:

  • 95 percent: More than nine out of 10 companies will outsource one or more IT functions by 2003, up from 70 percent today
  • 57 percent: Compound annual growth rate for e-logistics outsourcing through 2004
  • 60 percent: More than half of midsize companies outsource their HR functions, including related IT systems
  • $100 billion: Annual outsourcing revenue will hit that mark in 2003, reflecting 10 percent-plus annual growth

Sources: IDC, Meta Group

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