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How Changes in the Market Changed the Face of Outsourcing

Wipro Voice: A conservation on market changes with Richard Penn, PhD, Global Business Head, Transformation Consulting & Systems Integration, Technology Infrastructure Services, and Member, Wipro Council for Industry Research

LEAN, green, and savings now are the mantras of IT buyers today, says Penn. The days of simply adding a server when the enterprise purchased new software have gone the way of the 16-bit processor. Buyers won’t wait more than 12 months for a return on their investment (as opposed to seven years). Even IT pricing is experiencing a metamorphosis. Penn shares the market changes – what buyers and suppliers need to know – in today’s brave new ITO world.

IT Infrastructure then and now

Fifteen years ago, “IT was nothing more than a necessary evil,” Penn says. Enterprises hoped to outsource IT in its entirely because they wanted to concentrate on their core competencies. Enterprises expected the outsourcer to take over the work and do it cheaper. They expected to see savings, but back then “reliability and core focus were the driving forces,” he recalls.

Deal structure included the supplier agreeing to finance the cost of the deal over its term. “This accounting game allowed people to move capital around,” Penn observes.

Today few if any companies will wait for a return on their investment. Penn says he was with CSC when Raytheon outsourced its IT. The $1.8 billion deal was for 10 years. “The break even was around year six,” Penn reports. “Back then, that was great! Today our buyers want an immediate return. If we can’t improve their bottom line in the first year, we are out of the ball game,” he continues.

In addition, Penn reports suppliers “have to get the maximum horsepower out of their current servers.” If the enterprise purchases new software, the IT provider no longer buys new infrastructure. Instead, it searches for excess capacity and installs it there. “Today it’s about getting more done with fewer dollars,” says Penn.

Smarter buyers

Ten years ago, buyers prepared their own RFPs. Many selected just one supplier for negotiations, “then handed everything to them,” he recalls.

Today buyers “are much smarter.” Most ITO buyers hire a third-party advisor or consultant “to prepare an RFP properly.” They go through dual negotiations while determining the best way to do things. He says buyers are “capitalizing on the consultants’ expertise. Suppliers can’t do things they did 10 years ago.”

Another thing smarter buyers are doing is selecting a variety of suppliers to do what they do best, then implementing operational level agreements (OLA) to ensure they all work together well. For example, a buyer may hire Accenture to be the general contractor, so to speak. The enterprise also hires IBM for its mainframe needs and Wipro to handle the help desk because those suppliers are known for their expertise in those areas. The OLA “defines how the managing company works with its subcontractors,” he explains.

In addition, buyers want to reduce their physical and carbon footprints, Penn observes. “Buyers no longer want excess servers sitting there spinning. That’s costing them electricity, floor space, capital, maintenance and license,” he says. Today, the operating word is optimize. “They are moving to servers with lower wattage to save consumption costs. They are even ordering environmental studies to determine hot and cold spots. It’s a complete mind set change,” Penn reports.

The refresh dilemma

Before the market metamorphosis, Penn says suppliers rarely considered cost changes that come with new technology. Earlier in his career Penn describes a 10-year relationship where the supplier contractually agreed to reduce IT costs eight percent a year based on desktop refresh. That translated into a savings of eight percent off the basic price of $562 per desktop to the buyer, compounding year over year.

When the two companies signed their original agreement, a new computer did cost $562. But when it went to replace an older machine with an identical Pentium 3 two gigahertz processor several years later, it now cost 30 percent less, but it couldn’t run the new software everyone now needs. In fact, during the course of this contract dual core processors appeared, but they weren’t in the contract’s cost model.

In this case, refreshing the technology became a problem because the new technology actually cost more. “Buyers today have to be cautious. They have to make sure their contracts allow them to stay current with technology. They have to be able to make course corrections so they stay current or at the least generation “N” minus one,” advises Penn.

How virtualization is changing the pricing model

Before virtualization and philosophy changes like cloud computing, Penn says older outsourcing deals were priced by the number of CPUs the supplier was responsible for. Virtualization, however, turns that model on its head. “There’s a negative impact on the supplier to reduce the number of CPUs under the old model” he explains.

For example, a buyer running an old Unix system uses a large number of processors. Today it can replace that with a new quad-core server. “That can cut a supplier’s revenue by 80 percent,” he explains.

Today IT pricing is moving to paying for each virtual instance. One CPU with four cores with VMware can do the work of 32 CPUs in many instances. That would be numerous virtual instances. Buyers can potentially get up to 40 instances on one box when running a Web server, Penn continues. “This new pricing model allows the buyer to refresh,” Penn explains.

He adds, “The same thing applies to both networks and storage. He says Cisco’s Data Center 3.0 optimizes the data center by including as much as possible in as few boxes as possible. He says its network switch also serves as storage fabric to eliminate some boxes. “Cisco is actually putting processing power in routers,” he continues.

The technology has changed so the pricing theory has to change, too. “It’s a new market,” he concludes.

Lessons from the Outsourcing Journal:

  • Today companies won’t wait years for a return on their ITO investment — they demand savings in the first 12 months.
  • Instead of adding new servers, companies want to optimize what they already have. Reducing the footprint also saves electrical and real estate costs.
  • Virtualization is changing the ITO pricing model. Today pricing by virtual instance instead of the number of CPUs allows buyers to refresh their technology appropriately.
  • Instead of giving the work to one supplier, buyers are using operational level agreements so they can contract with the best suppliers for different processes.

Wipro set up the Council for Industry Research, comprised of domain and technology experts from the organization, to address the needs of customers. It specifically looks at innovative strategies that will help them gain competitive advantage in the market. The Council in collaboration with leading academic institutions and industry bodies studies market trends to equip organizations with insights that facilitate their IT and business strategies. For more information on the Research Council visit or e-mail [email protected].


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