Moving Up the Strategic Ladder | Article

Little men on ladderThe old information technology (IT) outsourcing model is changing. While many companies still choose to use the much-used model, innovative customers and suppliers are approaching outsourcing from different angles, and in the process are advancing the model to meet new demands. In today’s business world, outsourcing is becoming more strategic as well as more complex.

Vijay Gurbaxani, professor of information systems and management at the University of California at Irvine, has seen it first hand through his research. Gurbaxani has found that more companies are not only outsourcing to reduce costs and enhance efficiency, but companies are now outsourcing to enhance business impact and for commercial exploitation.

“What many people assume is that IT outsourcing is explicitly about IS improvement,” Gurbaxani says. “What we began to glean after we interviewed fifty different companies that are outsourcing, is that outsourcing decisions are not just about IS improvement, but there are many objectives that are driving why companies outsource.”

According to a paper written by Gurbaxani and Anthony DiRomualdo titled “Strategic Intent for IT Outsourcing,” one IT executive that was interviewed said, “Initially our objectives for outsourcing was to do better those things that we were already doing, as well as bring in new skills, tools and competencies. As our business changed, our objectives for outsourcing expanded to delivering bottom-line business benefits from IT in a way that was not done before.”

The majority of the outsourcing contracts still fall into IS improvement, which is about 70 to 80 percent of deals, Gurbaxani says. But About 10 to 15 percent are using outsourcing arrangements for business impact as well, and 5 to 10 percent are using it for commercial exploitation.

IS Improvement and Business Impact

Companies that are using outsourcing as a way to improve IS are looking to enhance their IT resources, Gurbaxani says. They want improvements in hardware, software, processes and/or people. They usually enter into an outsourcing arrangement because they feel that a supplier is better equipped to perform their IT functions, and, because of economies of scale, the vendor can probably do it at less cost too.

“Most companies that I have talked to have accepted that there is no way in the world they can provide all of their information technology services in house,” he says. “So increasingly companies have to have a partnership model where some services are offered in house and some are provided by external vendors. It is getting harder and harder every day to run your own internal IT because you just can’t get the people or keep up with the technology.”

If a company’s only intent is for IS improvement, it is only at the threshold of strategic intent. The next step is business impact, which is an extension of IS improvement. Recognizing that an outsourcer has the skills and resources to do the job better, companies now feel they can improve their business results if done correctly. Now the customer wants to improve productivity or speed of delivery and in the process improve customer satisfaction. The companies also use outsourcing as a way of freeing up management to focus more on the business and less on how the information systems are running.

“This step takes extra effort by the supplier to really know the business they work for,” he says. “And the customer must focus on working jointly with the vendor to develop complimentary skills rather than just leaning on the vendor.”

Selling the Product

Commercial exploitation is the next step. By moving into this category a company’s aim is to generate revenue in order to get a return on the outsourcing investment either by offsetting the costs or actually making a profit. While it is good to have a strategic alliance or preferred supplier relationship in the business impact scenario, it is arguably a necessity if the outsourcing relationship extends into this step. “It is very hard to pin down future investments and revenues, so it is a good idea to have a joint venture,” Gurbaxani says.

A good example of this type of relationship is Lufthansa and EDS, which have a deal where the two formed a separate subsidiary. The two outsourced Lufthansa’s IT to the newly formed subsidiary. Lufthansa held onto 75 percent of the company and EDS took a 25 percent stake in this new company. So it has an outsourcing contract with Lufthansa, but much of what they are doing is selling software systems to airlines, which is the industry the systems are geared towards.

“Lufthansa has the expertise in airline software and EDS has the marketing and distribution channels, and the ability to support ongoing installations and to port solutions from one hardware platform to another,” he says.

This is most often the case in deals like this. Companies find it difficult to acquire and retain the technical know-how to maintain and implement new systems. And IS organizations very rarely have the know-how to commercialize and sell products and services that were developed for use by a single company.

Gurbaxani foresees an increase in these types of relationships because IT and business processes are becoming more intertwined and the market is demanding, more and more, industry-specific applications. But there is something to look out for. “Companies have to ensure that the original customer continues to get serviced and that the focus doesn’t only become revenue-chasing rather than supporting the original businesses,” he says.

The full, 14-page article titled “Strategic Intent for IT Outsourcing” can be found in the Summer 1998 issue of the Sloan Management Review or on the publication’s Web site. Besides Gurbaxani’s work at the University of California at Irvine, he also lectures to executives and consults on strategic outsourcing. He can be reached at [email protected] or 949-824-5215.

Lessons From the Outsourcing Primer

  • More companies are using outsourcing with a strategic intent.
  • Most companies are still using outsourcing to improve IS performance, but they are also using it to enhance business impact and for commercial exploitation.
  • By using outsourcing for commercial exploitation, companies are aiming to make a profit or offset the costs of the arrangement by generating revenue.
  • Companies that are outsourcing for commercial exploitation have to ensure that the original customer continues to get serviced and that the focus doesn’t become revenue chasing.

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