Custom Essays and Free Coursework

IT Research and Computing Essays | Outsourcing

POTENTIAL PROBLEMS IN INFORMATION TECHNOLOGY (IT) OUTSOURCING, A BRIEF LOOK:

· Transaction costs – complex, lengthy relationship with vendor
· Hidden costs
· Lack of flexibility
· Loss of control
· Human resource problems
· Poor bargaining position – “locked in”
· Data sensitivity
· Intellectual property
· Vendor “shirking”, monitoring performance
· Establishing a viable backup
· Coordination between internal users and vendor

IT outsourcing seems such an attractive proposition: simply hand over complicated IT matters to a specialized company, and smile when the results file in at a cost unachievable in-house. Unfortunately, all too often, the dream turns sour.

IT outsourcing, or “the significant contribution by external vendors of the physical and/or human resources associated with the entire or specific components of the IT infrastructure in the user organization,[1]” has been a multibillion pound industry since Eastman Kodak first handed over its data center operations to IBM[2] . Conventional economic wisdom assumes that economies of scale allow a dedicated third-party IT provider to lower equipment costs, while specialization allows for increased labor efficiency. However, past research has called this premise into question[3] , and subsequent academic models have shown that the actual cost-benefit analysis can be exceedingly complex, as vendors and outsourcers do not share the same motives towards profit .[4]
In navigating the plethora of difficulties associated with outsourcing, managers must utilize contracts complete with performance incentives and penalties for sub-par performance.

LOWERING TIDE
Since 2000, the deflating dotcom balloon and recessed economies have continued to limit the growth of the outsourcing market. Electronic Data Systems (EDS), the United States’ second-leading provider, has recently been described as “underweight” and “carries short term risks”[5] , and is currently the focus of an SEC investigation on its stock hedging efforts after depressed fourth quarter earnings [6]. The market suffers from being powered mainly by discretionary funds, rather than being an integral part of business problem solving. However, the relative newcomer Helwett-Packard has recently landed several large contracts with Proctor and Gamble and Ericsson[7] , indicating that outsourcing remains the lone flickering star in the IT sky (Frauenheim 2003a).

But how long that star will continue to flicker? A Gartner study cited in Comptergram Weekly forecasts a 50% failure rate in outsourcing contracts, with some 70% of outsourcers lacking formal planning .[8] What is going wrong?

KNOW WHERE YOU ARE HEADED AND WHY

The first step in making any outsourcing decision is to establish which business functions are far removed from core business operations. This requires careful strategic analysis to decide which functions are only tangentially involved in delivering products and performance that the customer values most. A value-chain analysis can prove useful in this regard: “the key is to integrate your value chain across the elements that drive the performance your customers value, and outsource the rest.[9]” All too often, managers focus on the immediate financial side of the decision, without considering how outsourcing specific IT functions fits into a cohesive strategic plan.

According to Michael Raynor ,[10] a month should be spent analyzing the basis for competition in your industry and how IT relates to that basis. Once competition trends have been established, it is possible to relate your company’s current IT infrastructure to the industry needs. Decide which processes can and cannot beautomated – those that require a limited degree of customization are more likely to be successfully outsourced. It is also worth attempting to anticipate shifts in customer demands. For instance, TCI cablevision outsourced its billing operations on the eve of a tremendous expansion of cable services. Prior to the outsourcing decisions, customer-care and billing operations were standardized, but the emerging services required dynamic reconfiguration of both operations [11]. While such large industry shifts are rarely predictable, trends can give clues as to which operations are likely to be relatively static in the short term. Of course, the inherent instability of business requires that any outsourcing deal is able to accommodate important changes, illustrating the importance of an appropriately drafted contract (see below).

In addition to strategic concerns, outsourcing the procedure in question must reduce costs. But as noted earlier, this is not always a straightforward calculation. Managers may find formal models [12]useful inestimating the likely costs involved in outsourcing, but even the best models are unlikely to incorporate all costs. For example, it can be very difficult to quantify the costs associated with exporting a significant fraction of IT staff to an outsourcer, since not all IT staff duties are properly formalized. Additionally, shifts in business operations can quickly add value to IT knowledge, which can be difficult to acquire once staff is lost. Additionally, legal setup fees, and human resource reorganization costs must be taken into account.

While gathering and processing information needed in making the outsourcing decision itself is often lengthy and costly, the process carries its own benefit. As noted by the Australian Computer Society [13], a company can frequently gain many of the benefits of outsourcing by simply evaluating the outsourcing option. That is, by organizing and formalizing the role of IT in your business, you are able to streamline functions considerably, regardless of whether or not the decision is made to outsource.

FINDING THE RIGHT VENDOR
So you’ve weighed the values and costs associated with outsourcing a particular function, and you have decided to go ahead. Now what?

Not all vendors are created equal, and bigger isn’t always better. Once you have established the role of the candidate operation in your business, you can decide which companies are best prepared to support that role. Take, for instance, a telephone company looking to outsource its customer services and billing operations. The high level of interdependency between billing, customer feedback, sales, and marketing requires tremendous infrastructure and maintenance. A phone company looking to outsource these duties must ensure that the prospective vendor is capable of delivering on such a large scale and has experience in similar situations. References from previous customers can be helpful in ensuring service credibility.It is also important to check on the financial integrity of the prospective vendor. Mike Jones, President and CEO of (i)Structure, says: “You need to take a hard look at financial stability, scope, and flexibility. Financialstability means the company has staying power and substantial control over its ownership structure.[14]” Control over ownership is essential in evaluating the likelihood of continued services over the length of the contract.

THE C-WORD
Which brings us to the all-important contract. It is important to bear in mind[15] that the effective delivery of outsourced services requires a lengthy and maintained relationship between the outsourcer and the vendor. And ultimately, personal responsibilities are crucial in seeing that performance is delivered. While a contract must protect both parties, an overly rigid or legalistic contract can poison the relationship and doom the outsourcing venture to failure.

That in mind, contracts must address the following points :

· Scope of services: definition of services and their intended function.
· Level of service: incentives to provide a defined level of service and/or compensation for not performing at a minimal level.
· Expandability: leave clear areas for growth in an established manner as the need arises, but maintain the spirit of the original agreement.
· Rights and responsibilities: this includes intellectual property rights distinctions.
· Termination: how and under what circumstances the agreement will end, and what the consequences are for both parties.
· Data handling: frequently, outsourcing involves sensitive information, and there must be well-establishedrules for handling the data and clear delineations of responsibility should privacy be compromised.
· Oversight of relationship: description of who will evaluate performance, how frequently, and what the consequences are.
· Protection from unscrupulous “opportunistic bargaining” on the part of the vendor.The last point is related to the inflexibility that outsourcing frequently imposes on the outsourcer.[16] That is, outsourcing involves significant setup costs and, depending on the situation, there may be large economic barriers to providing services in-house. In such situations, it is advantageous to the vendor to impose inflated charges on the outsourcer . This has resulted in a number of embarrassing situations for outsourcers, as some have been forced to accept exorbitant prices for standard infrastructure. One example is the Australian Taxation Office, which admitted to paying over double market value for acombinationscanner/printer/fax/copier .[17]

But the process does not simply end with the contract. It is imperative that the outsourcing company establish clear protocol to both coordinate the needs to the internal users with the vendor and to oversee the delivery of the vendor’s product. As the relationship develops with changing needs, this ombudsman serves a critical role.

FUTURE
Despite the difficulties in arranging outsourcing, the industry is likely to continue to grow. Customers are expecting – and competitors are offering – an increasing range of services across industries, and the vast infrastructure needs in delivering those services will increasingly prevent non-specialized companies from fulfilling IT needs in house.But the long-term trend towards outsourcing shouldn’t induce companies to embrace the procedure too readily. While IT outsourcing can indeed deliver, the process involves more workthan simply waking up to find reduced costs and flawless IT integration.