Many companies that have outsourced their Information Technology functions now are beginning to backsource, pulling those functions back in-house as outsourcing contracts expire or are terminated. That bleak picture of the outsourcing industry, which flies in the face of most industry projections, is the opinion of Rudy Hirschheim, Ph.D., professor of information systems in the college of business administration, University of Houston. He bases his opinion on nine years of research on outsourcing, conducted with his associate, Mary Lacity, Ph.D.
“Whether, in the future, all companies will go to a backsourcing environment is hard to tell,” said Hirschheim, “but there’s an inexorable move toward backsourcing among companies that outsource. I think the trend is unmistakable.” He and Lacity were the first academics to look at the broad area of information technology outsourcing, according to Hirschheim. Their interest began with a concern about all of the positive press coverage being given to outsourcing ‘success stories’ in the late 1980s and early 1990s.
“There was a whole slew of companies that had gone outsourcing, and they were examples of the future, of how companies could turn over IT to third parties with great effect,” he said.
Those stories were consistent with research findings that a company’s stock prices usually rose after an outsourcing announcement was made.
Looking for Answers
“Mary and I wondered why this happened,” said Hirschheim. “Companies were clearly enamored by all the success stories of outsourcing that had appeared in the press, and the internal consistency and logical and intuitive appeal made sense…but this didn’t really describe what happened to them. So Mary and I asked if we could study a number of companies who had implemented outsourcing over a period of time.”
They studied 14 organizations that had two to ten years of outsourcing experience. Within the organizations, they tried to get multiple perspectives, from senior executives and IT personnel to actual users of the technology. Then they spent two years analyzing the data.
“A lot of the myths associated with outsourcing were largely shattered by what we found,” said Hirschheim. “One of the realities was that organizations had often implemented outsourcing for reasons other than cost efficiency. Many senior executives felt they could no longer control what was happening in IT, and it should be turned over to somebody who could control it. IT was perceived as a headache best left to somebody else.”
Another finding, he said, was that the economies of scale and other competitive edges turned out to be ‘illusory.’
“The economies of scale that outsourcers could get in buying new technology or software licenses were really not much different than most big organizations could get on a discount front,” said Hirschheim. “A small company that outsources clearly could not get the same kind of vendor discounts, but large organizations could be every bit as ruthless in getting discounts as the vendors.”
Outsourcing vendors generally did save companies money, he said, but that largely was accomplished with cost savings measures or strategies that an internal IT department probably could do on its own.
Contracts were a ‘particularly thorny’ problem, he said, in that contracts written in the late 1980s and early 1990s contained ‘a fair bit of ambiguity.’ That led to disagreements on the kinds of technology and service levels expected to be delivered.
“The result of our research in outsourcing showed, at least in our own minds, that outsourcing was not all it was cracked up to be,” said Hirschheim. “The press reported outsourcing arrangements during what we call the honeymoon period, the first year or even first month or two of an outsourcing deal when both vendor and client are happy and talking highly of one another. They never reported what happened to companies some time into their implementation.”
The Insourcing Story
The researchers also were concerned about the fact that most of the cost savings appeared to come from strategies and policies that could have been used by the internal IT department. “We wondered why the internal IT department didn’t do exactly the same thing,” said Hirschheim. “What exactly did the outsourcing vendors have that the internal departments didn’t have.”
That curiosity led them to a second project, which was to study organizations that had gone through an outsourcing evaluations but decided to let their internal IT department bid for the business. The researchers focused on companies that had chosen the internal department bid as the better option because it was less expensive.
“Our view was that an internal bid should be less expensive, because the internal department does not need to make any profit in the delivery of IT services,” said Hirschheim. “An outsourcing vendor, of course, need to make profit. So it seems to us that if the playing field is leveled, the internal department would probably always win on a head-to-head basis with a vendor.”
He and Lacity studied six or seven organizations that met their criteria. They found that, in all cases, the insourcers met their stated bid requirement to lower costs and, in some cases, exceeded expectations.
They also discovered that organizations often overlook or ignore the relationship between cost and quality of service. “The relationship is a simple one,” said Hirschheim. “If you want to differentiate your IT service, provide the highest quality service and the highest quality products, it generally costs more. If the decision is IT costs too much, it is relatively straightforward to reduce IT costs, but commensurately you also reduce service.”
…And Now Backsourcing
Over the past few years, Hirschheim and Lacity have continued to follow companies that now have more time involved in both outsourcing and industry. That study is the basis for Hirschheim’s startling projection on backsourcing.
“Many companies that have gone through large scale outsourcing exercises are finding that their flexibility is not as enhanced as they thought it would be with outsourcing, and that service levels they thought would improve have actually dropped,” he said. “They’re beginning to find that outsourcing is not the panacea they hoped for when they initially outsourced.”
This development, according to Hirschheim, has led to a large number of contracts being renegotiated and, more recently, contracts being terminated. As the contracts end, he said, many of the companies are pulling their IT functions back in-house.
“This is the so-called backsourcing scenario,” said Hirschheim. “Our prediction is that backsourcing is one of the latest trends in the outsourcing arena. One might be tempted to say that outsourcing is like a pendulum. It started with companies developing their own IT departments, then it swung totally to an environment where the IT service was provided by an external party. The pendulum, I would contend, is now swinging back the other way.”
Lessons from the Outsourcing Primer:
- Early on, some companies outsourced to get rid of the headache of IT.
- The outsourcing success stories in the media during the late 1980s and the early 1990s were written during the relationships’ honeymoon periods.
- Many outsourcing cost savings were generated through measures or strategies the internal IT department could have used.
- When internal IT departments are allowed to bid against outsourcing vendors, the internal group’s bid usually is lower.
- There is a growing trend toward backsourcing.
Rudy Hirschheim holds a Ph.D. in Information Systems from the University of London. He is a consulting editor of the John Wiley Series in Information Systems and is on the editorial boards of several IT journals. He has published 13 books, including two co-authored with Mary Lacity on the subject of outsourcing. The outsourcing books are Myths, Metaphors and Realities and Beyond the Information Systems Outsourcing Bandwagon, both published by J. Wiley & Sons.