All Things Considered – The Right Price for Outsourcing Services | Article

price of outsourcingTwo noteworthy trends in the area of how companies purchase outsourcing services have emerged in the past 18 months. When integrated, they can build a foundation for achieving more value through outsourcing. But the first of these trends – alone – must be undertaken carefully because it has a built-in propensity for building an unsatisfactory outsourcing relationship.

Trend #1

The first trend is that more and more organizations are turning to their chief financial officers for the outsourcing go/no-go decision. There is a general perspective that the CFO has the most business acumen necessary to drive the business decisions for the company. As a consequence, the procurement organization – which usually reports to the CFO – often is being thrust into the middle of the decision process.

But in the majority of scenarios, the bottom line should never be the primary focus of an outsourcing initiative. Outsourcing is all about leveraging the strengths – expertise and resources – of the service provider for the buyer’s benefit. It’s about value.

Jane Doyon, director, customer care billing services and operations at Xcel Energy, warns fellow buyers of outsourcing services: “Don’t just consider price. You really want to build a partnership and leverage from someone you went to because of their core competencies. You will shortchange yourself if you focus only on price. Because of the provider’s knowledge and skills, they should be able to offer you a good price anyway.”

The Problem

When procurement organizations view purchasing decisions, they generally do so from a commodity perspective – one-time or short-term decisions based on cost. They are seldom looking at long-term relationship aspects. “Procurement organizations appear to be more intent on the immediate gratification of knocking five, 10 or 15 percent off the price,” comments Steve Sullivan, president of enterprise managed services at Getronics, a leading global provider of technology solutions and services with U.S. headquarters in Billerica, Massachusetts. “But they are not necessarily looking at the downstream implications of what they are doing,” he adds.

As an example of commodity-based principles at play, a hotly contested situation with competitor outsourcing providers could come down to the procurement organization simply choosing the lowest bidder – with no real demonstration that the lowest bidder can actually perform the required work profitably at that low price. The procurement organization’s perspective is that it doesn’t have to be concerned about this eventuality – it’s just the provider’s problem, and there are contractual provisions to penalize the provider and terminate the contract.

Asked to comment on this scenario, Sullivan says, “To a certain extent, that’s accurate. At the end of the day, it’s my experience that if you’re not getting value for your dollar, you are going to be disappointed and end up spending more time, energy and resources over the long haul to get what you really wanted or needed in the first place.”

The outsourcing model is based on a long-term relationship with flexibility for ongoing business changes. The buyer organization must own and take seriously all factors of relationship management and problem resolution. Whether these activities are handled by a purchasing entity, a “center of excellence,” or by others on a management team is a decision that varies within each organization. But it’s crucial that these activities are not only an ongoing priority within the buyer organization but also that they are structured into the relationship at the outset. The individuals tasked with this responsibility need relationship-building skills as well as an enterprise-wide perspective. In many organizations, the purchasing/procurement entity is less attuned to the need for this bigger-picture approach.

The Costs Craze Really Costs

In the current craze to remove costs from operations, some decision-making corners are being cut. Eventually, those can come back and cause significant problems for the organizations that make these narrow-view decisions. Three years from today many of those companies will regret some of the decisions they’re making today.

The risk is that, once the economy turns around, the buyer will be stuck with an existing relationship that provides no value beyond low price for the provider’s services. A buyer may end up with a provider tired of losing money on the relationship and no longer interested in making investments to benefit the buyer – thus destroying the reason to outsource in the first place. A buyer’s pain will set in quickly when it has to find a replacement for a disgruntled provider.

Rather than solely using procurement principles to make an outsourcing decision, buyers need to consider what kind of relationship they want with their providers. An outsourcing relationship has to work well for both parties for several years.

Trend #2 – A Structured Decision-Making Approach

Although outsourcing is now an accepted business model, pervasive in all leading organizations around the world, it is not – in and of itself – a commodity and should never be purchased from that perspective. Still, a structured approach is highly advised.

To that end, the second trend is that some companies (and associations) are now designing and promulgating for their business units (or member organizations) a framework that clearly helps decision-makers understand the various components of the larger decision. The framework focuses on both short-term gains and downstream consequences or outcomes in order to ensure more ROI and value in outsourcing arrangements.

BITS, the Technology Group for The Financial Services Roundtable, for example, is developing the “BITS Framework for Managing Technology Risk for IT Service Provider Relationships,” designed to cover most aspects of managing outsourced IT in financial institutions.

Everest Group, a leading business advisory consultancy, developed its Value Capture Analysis(SM) in 2002. VCA is a proprietary analysis framework designed to create business solutions. It evaluates risks and internal constraints and allows best leverage of a service provider’s resources and capabilities.p>

This framework’s trend has carried over into the methodology of several first- and second-tier service providers, which have also developed decision-making frameworks for their potential clients.

Comparing a procurement/commodity perspective to one of total value, Xcel Energy’s Doyon sums up what should be the decision criteria for all outsourcing buyers: “There probably will always be providers that can do the work cheaper. But the question is, can do they do it better?”

And that’s the real bottom line.

Lessons from the Outsourcing Journal:

  • Focusing on the bottom line, more and more organizations are turning to their chief financial officers for the outsourcing go/no-go decision; this brings a potentially cost-focused approach to the decision, rather than a value approach.
  • Procurement organizations appear to be more intent on the immediate gratification of knocking off a percentage of the price for services and are not looking at the downstream implications of what they are doing and how that relationship will work on a long-term basis.
  • Some companies and associations are now designing and promulgating frameworks that clearly help decision-makers understand the various components of the larger decision (both short-term gains and downstream consequences or outcomes) in order to ensure more return on investment and value in outsourcing arrangements.


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