IT Scan

October 19, 2005
Outsourcing as a strategic resource

NEW DELHI -- Outsourcing is no longer a mere cost reduction exercise but a strategic resource for corporations to retain and improve their competitive advantage, said a recently released report “Governance of Ousourcing” that the IT Governance Institute based in Rolling Meadows in the US has brought out.

“The organisation that outsources is effectively reconfiguring its value chain by identifying those activities that are core to its business, retaining them and making non-core activities candidates for outsourcing,” the report pointed out.

“Understanding this in the light of governance is the key, not only because well-governed organisations have been shown to increase shareholder value, but more important, because every organisation is competing in an increasingly aggressive, global and dynamic market,” the report added.

Outsourcing in the US alone is a 180 billion dollar industry and is growing further. Over 75 percent of IT organisations in the US were using it in some form or the other, the report said. On why outsource non-core services, the report says that the reason is the increasing costs of retaining within an organisation the internal technical expertise in a 24x7x365 global, dynamic market.

The report is based on a survey that the institute did in 2004 along with Lighthouse Global surveying 200 IT professionals from 14 countries in the Americas, Asia-Pacific and Europe. The survey found that the benefits of outsourcing were no longer about price only. The benefits extend to service quality improvements, scalability, better risk management and the freeing up of internal resources to focus on core, value-adding activities.

For us in India, the recent developments of outsourcing within the country are also instructive of the vast scope for this emerging industry. The leading private company in telecom, Bharti, outsourced its network management to Ericsson and Nokia, then the IT services to IBM India. Soon afterwards, Bharti and IBM India found that they could together take up outsouring of ICT from other clients with Bharti doing the communications part and IBM India doing the IT part. TCS and Infosys bagging the IT services of ABN AMRO Bank along with IBM in a billion dollar outsourcing bid, is a story by itself. All these reveal the widening reach of the industry.

However, the survey findings have a word of caution. That is about regulations in the client’s country. Outsourcing companies assume that their suppliers would factor in possible changes in the regulatory environment in the interface between the two but actually the required levels of governance are not reliably extended into the relationships with the service provider when service provision is outsourced.

“It is no longer a company’s ownership of capabilities that matters but rather its ability to control and make the most of critical capabilities, whether or not they reside on the company’s balance sheet,” the report noted. The report discusses the various aspects of the governance process that would protect both the outsourcing company and the supplier of these services. The objective of the outsourcing contracts would be to ensure continuity of service at the appropriate levels, profitability and commitment value-addition to sustain the commercial viability of both parties.

“Experience has shown that many companies make assumptions about what is included in the outsource proposition, whereas it is neither possible nor cost-effective to define contractually every detail and action, the governance process provides the mechanism to balance risk, service demand, service provision and cost,” according to the report. The suppliers of services could not count always on lower labour costs as favouring them. The report points out that these countries themselves would be facing pressures on labour costs due to larger business flowing to them like India being challenged by China in outsourcing.

Another problem is that the cost reduction does not necessarily mean that value is always retained or created. There is also the possibility that the decoupling of the service from the users and its provision by the intercession of longer process paths can create extra costs within the existing service overhead. The survey showed that lack of internal technical expertise was the reason for outsourcing according to 48 percent of the respondents; out of this segment 42 percent said reduction of labour costs was the reason. The other causes were cost reduction requirement, business alignment, inflexible first pass contract governance processes. Under each one of these four categories there were other issues like risk reduction, internal politics, etc.

The survey concluded that governance “should be preplanned and built into the contract as part of the service cost optimisation. The defined governance processes should evolve as the needs and conditions of the outsourcing relationship adapt to changes to service demand and delivery and to technology innovation.”