Are We on the Right Track?

A company and its outsourcing provider are about to enter into a risky, long-term commitment. Mont Phelps, CEO of Netivity Solutions, a networking services company, uses a story about Formula-1 racing to explain what long-range planning is all about. He describes a swarm of cars streaking around hairpin curves. If drivers watch only the cars right in front of them, their rapid short-term adjustments will slow them down and make them constantly feel a little off balance. And they’ll never be able to look ahead to set their direction and find opportunities to pass. Executives will want to engage with their partner in joint long-term planning to validate their business model, explore opportunities for innovation, clarify directions for growth, and prospectively stress test their outsourcing relationship.

Validate the Company’s Ability to Address the Stakeholder Needs

You’re making a significant change in your organization’s business model; it is imperative to make sure the new model provides the benefits stakeholders want and produces the value you expect. If it does not, your transformation is likely to result in failure. For each stakeholder group, the team should be able to answer the question, ‘‘Why will our stakeholders continue to (or begin to) prefer our organization, given this new model?’’

Employees are a particularly problematic stakeholder in transformation. In the cryptic words of one executive experienced with transformational outsourcing, ‘‘You’re never going to convince turkeys that Christmas is a good idea.’’ We’ll talk more about the details behind workforce transition approaches in Chapter 8, but it is essential to consider this stakeholder group as you design your organization’s new business model. If your organization needs transformation to thrive in its business environment, you will probably be dislocating employees no matter how you implement the change. Some outsourcing options may, however, provide more advantages for employees than others. Articulating the benefits for employees that result from the transformation is just as important as anticipating the issues you will have to resolve.

Explore Innovative Approaches That Maximize Value

Having partners in the picture opens new opportunities. They bring skills and assets that can be factored into innovative new models that benefit you both. For example, an organization called the National Information Consortium operates the Web portals for 17 states in the United States under a model that works for both sides of its public/private partnerships. NIC builds and operates a Web portal for each state. The portal offers insurance companies access to government motor vehicle records for a modest fee. These fees compensate NIC for its work in developing, hosting, and maintaining the portal site. So the state government and its constituents have the benefits of a portal essentially for free.

The government of Hong Kong goes even further. Its government Web site presents both government transactions and related commercial offers in a one-stop-shopping mode. For example, couples applying for their marriage licenses can also arrange for flowers and a photographer for their wedding at the same time. The private companies pay advertising fees, which completely cover the cost of the Web site.^[4]

These examples are just meant to illustrate the potential variety of ways organizations can work together to create value for both. As you begin exploring the potential of outsourcing for transformation, you will want to invite a range of partners to discuss their ideas with you. Most companies find that the proposals they receive from different vendors vary quite widely. You can incorporate the best ideas from these diverse offers to create a composite model that maximizes the value for your organization. Of course, to get these benefits, you will have to convince at least one outsourcing provider to work with you in the way you describe. For example, the state of Connecticut solicited proposals for providers to take over its information-technology function and to consolidate operations into a shared services center. Because of its difficult fiscal situation at the time, the state wanted the vendor to begin charging immediately at a rate that anticipated the savings that would be gained through the consolidation. Concerned for its own profitability, its chosen vendor was unwilling to agree. The two parties abandoned the deal.^[5]

Thomas Cook shows an interesting contrast (see Chapter 6 for more details). Thomas Cook solicited proposals to outsource its finance and accounting, human resources administration, IT, and project management to a company that would consolidate all these processes into a single shared-services center. The CEO’s intention was to catalyze significant organizational change, integrating the fragments of the company that had been pieced together by acquisition. He sought to create a vertically integrated enterprise that acted as one company. In the process, he also intended to realize rapid improvement in reported earnings. So he was shopping for an outsourcing provider that could provide superb operational capabilities, but also one that had a good grasp of financial engineering. Of the four vendors that submitted proposals, only one was willing to use its own financial strength to provide the quick profits that Thomas Cook needed to make its transformation work.

Here’s how the financial proposition worked. Thomas Cook provided packaged holidays for which customers paid up front. The UK and Ireland subsidiary was short on profits, but its pay-first-travel-later business model gave it ready access to cheap capital. The successful outsourcing partner had the opposite financial position. It had strong profits, but was capital constrained. The two companies used their complementary financial profiles to create benefits for both. The outsourcing provider took over Thomas Cook’s operations at a guaranteed cost that instantly improved Thomas Cook’s reported earnings. Thomas Cook used its own cheap capital to pay for systems development and IT–related expenditures that could be capitalized. These would ‘‘trickle’’ into the income statement slowly, so the impact would be gradual.

Financial engineering of this sort is often associated with outsourcing. It is especially useful during transformational outsourcing because this is often a time when a company’s need for investment exceeds its resources. In this kind of situation, executives can team up with financially solid outsourcing partners to give their companies the financial slack they need to reestablish their ability to operate profitably.

Clarify How Their Company Might Grow and Change Over Time

A business model works in a competitive context. As important factors in the landscape change, it must be adjusted so that it continues to deliver value. Forward-thinking executives not only understand their current business model but they also have considered how it might change given different future scenarios. They have laid plans to shift their model appropriately.

In the early 1990s, when British Petroleum first outsourced its finance and accounting processes for its North Sea operations, its agenda was to catalyze deep organizational change. The enterprise’s majority owner had been the British government until 1987, and it still held the vestiges of a government bureaucracy. The newly appointed CEO of BP Exploration (BPX), John Browne, shattered whatever was left of the organization’s complacency by driving out waste, eliminating organizational layers, and outsourcing every function and process across the enterprise that was considered noncore. One executive described his objective at the time as: ‘‘to make his organization lean and mean.’’

At the time BPX had accounting organizations dotted all over the company. It worked with an outsourcing provider to pull these into a single finance and accounting center in Aberdeen, Scotland. Over the first four years of the relationship, this consolidation achieved significant cost savings. But that was only the beginning. The architects of the outsourcing model also wanted to take advantage of the fact that oil industry competitors were accustomed to collaborating. They envisioned capturing the benefits of further economies of scale by serving multiple companies in the North Sea with the same service center. Ultimately, six other oil companies and two service companies also contracted with the center to provide their accounting services. As a result, BPX’s finance and accounting costs declined 50 percent by 1997 at the same time as the amount of work done by the center doubled.

Now, as the economics of producing oil in the North Sea become less and less attractive, BPX is scaling back its operations in the area and, simultaneously, the resources it devotes to finance and accounting. According to the BPX executive who originally crafted the relationship, ‘‘We can turn on a dime.’’ BPX asked the outsourcing provider to downsize the operation to keep pace with BP’s reallocation of resources to other, more profitable oil fields.^[6]

Evaluate the Model from the Outsourcing Partner’s Point of View

Many executives have difficulty articulating even their own company’s business model. To test the strength of any long-term partnership, they should consider the model from their partner’s point of view. NS&I executives should put on Newport Systems hats, for example, and assess the value delivered to their stakeholders. Will this outsourcing arrangement meet the corporate parent’s standards for return on investment over time? Will customers buy more from Newport Systems because they value this new capability more highly than what competitors can provide? By going through this analysis, both partners can identify foreseeable risks and evaluate the long-term viability of their joint model.

For example, NS&I’s Peter Bareau surmised that Newport Systems’s UK practice would experience some ups and downs in earnings as it worked to execute the aggressive transformational agenda. He concluded he should form a relationship with executives of the parent company to ensure that the UK practice would get the support it needed from above when these issues arose. Peter Bareau and his team reached this conclusion by thinking through Newport’s stakeholders and business model as well as their own.

In retrospect, this kind of analysis seems like an obvious need. At the start of an outsourcing initiative, the need may not be so apparent. A few years back, for example, the central government of Australia decided to outsource its IT infrastructure using a unique, ‘‘cluster’’ approach. It created logical groups of government agencies that would be presumed to have similar IT needs—grouping social service agencies in one cluster and law enforcement agencies in another. Each cluster was mandated to outsource its IT infrastructure—mid-range hardware, desktops, help desk, and networks to a vendor that could reduce costs below the existing baseline. Some clusters issued requests for proposals while others were still organizing their information. The large, experienced vendors that bid on the earlier opportunities clearly factored two considerations into their ‘‘loss leader’’ prices. First, they intended to increase their revenue by charging for out-of-scope work. Second, by having an inside track, they would be more likely to win additional contracts with other clusters. Additionally, some less experienced vendors simply underestimated the costs they would experience.

With about half the cluster outsourcing deals completed, the Australian Parliament paused the mandate and commissioned an independent report on the situation. The Humphrey report^[7] pointed out that the cluster approach had failed to generate the anticipated savings. Progress on the second agenda—economic development—did not outweigh the perceived reductions in IT support and service quality. As a result, the cluster outsourcing mandate was withdrawn. Agencies were still encouraged to out- source either singly or in groups, but the decision authority about exactly what, when, and how to outsource was left with agency executives.

There are two business-model implications in this story worth noting. When the government changed its outsourcing approach, the clusters that had outsourced early in the process still had ongoing contracts to manage. By withdrawing the mandate, the government instantly shifted the revenue calculus for those sophisticated vendors that hoped to get more business by being on the inside track. Almost immediately, these vendors began ‘‘whining and complaining,’’ in the words of one government executive, that the deals were unprofitable and must be renegotiated. In some cases where executives had implemented careful change management to control extra charges for out-of-scope work, the vendors were particularly dissatisfied. One government executive charged that his cluster’s vendor responded passive-aggressively with service delays and poor quality in an attempt to force the government to the bargaining table.

The situation in another cluster was equally debilitating. Its unsophisticated vendor underpriced the contract. As a result, it never provided enough equipment or staff to offer the level of service to which it had agreed. Its ‘‘anarchistic’’ processes did not enable it to diagnose service issues and implement appropriate responses. The result was a consistently poor record of service. The government executive who crafted this deal stated, ‘‘Constructing deals comes down to common sense in the end. If it doesn’t seem right, then it’s probably not right. If the price looks low, don’t believe it. And if you do sign up for it, you can be sure you will have trouble later unless the outsourcer can convince you that they can provide the service and make a profit. A cheap deal is not a good deal unless it is sustainable. You get what you pay for.’’

I don’t want to lay the blame for these nightmarish experiences at the feet of the government executives. Their outsourcing providers as well as their central government policy makers certainly had a share in the responsibility. However, the architects of this approach may have avoided some of the pain if they had taken the time to project the providers’ business model as well as their own. They might have been able to anticipate the impact of withdrawing the opportunity for future business as well as the result of accepting a bid at an unsustainable cost.

^[4]Jane Linder and Thomas J. Healy, ‘‘Outsourcing in Government: Pathways to Value,’’ Accenture Government Executive Series Report, May 2003.

^[5]Jane Linder and Thomas J. Healy, ‘‘U.S. State and Local Outsourcing: Value in Leadership,’’ Accenture Government Executive Series Report, July 2003.

^[6]Geoff Gibbs, ‘‘BP Axes 800 North Sea Contract Jobs,’’ The Guardian, June 1, 2002, http://www.guardian.co.uk/recession/story/0,7369,725898,00.html.

^[7]Richard Humphrey AO, ‘‘Review of the Whole of Government Information Technology Outsourcing Initiative,’’ published by the government of Australia, December 2000, ISBN 0–642–74056–9.