The Power of IT Outsourcing: More Than a Cost-Saving Device, Outsourcing is Now a Strategic Part of Today's Enterprise Management Plan

Outsourcing is growing by leaps and bounds, and is expected to hit $123 billion by 2002. Find out how outsourcing can not only save you the big bucks, but how to make it an integral part of your IT strategy.

• 08/01/1999

As a frontline fighter in America’s war on crime, the U.S. Bureau of Alcohol, Tobacco and Firearms has long depended on the rapid exchange of information among its 230 field offices. But by 1997, the agency’s aging IT infrastructure could no longer keep up with that imperative. And when officials embarked on a project to upgrade ATF’s networks, computer servers and some 4,000 desktop and laptop PCs, it became clear the bureau simply couldn’t handle such a complex project on its own.

"We looked at doing it in-house," says Larry Jurcich, Chief of Information Services Division/Deputy CIO for ATF. "But we just didn’t have the people or the logistical support to deploy that much equipment."

So like a growing number of data-dependent organizations, ATF handed the job to an outside expert – in this case, Unisys. Under a three-year, $33 million outsourcing deal, Unisys is upgrading ATF’s networks and computers, training users and taking over help desk operations – all for a per-user, or "seat," cost of less than $3,500 a year. In addition to cost savings, ATF is benefiting from a faster, standardized IT environment it doesn’t have to micromanage – leaving Jurcich and other agency executives to "focus on the mission-critical business of ATF."

Outsourcing success stories, like ATF’s, are becoming common in both business and government as organizations turn to outside providers for everything from back-office business operations to complex network migrations. The past year has seen fast growth not only in the number of firms outsourcing, but also in the scope and complexity of the outsourcing projects – often multibillion-dollar engagements involving entire consortiums of vendors. By 2002, firms worldwide will spend $123 billion on outsourcing, says Dataquest (San Jose, Calif.) – up from $50 billion the year ATF began executing its plan.

Yet as much as outsourcing is booming, it’s also changing – from a cost-cutting tactic to a sophisticated strategy for adding value. More CEOs – and CIOs – realize that by outsourcing their routine, non-essential operations, they can better focus on the core competencies that truly differentiate them from competitors. "As companies realize they can’t do everything exceptionally, outsourcing has moved from being merely acceptable to, in many cases, absolutely necessary," says Robert Evans, Vice President and General Manager of Outsourcing at Unisys.

Nowhere is that realization dawning more clearly than in the realm of IT. Even as companies become more reliant on their networks, information stores and other aspects of their IT infrastructure, the process of designing, implementing and maintaining these systems is becoming burdensomely complex. Many organizations simply don’t have the wherewithal to deal with the complexity, believes Perry Harris, Director of Management Strategies at Yankee Group (Boston) – especially firms whose main focus isn’t technology, and whose limited IT staff may already be overwhelmed by the Year 2000 problem, Euro conversions and other make-or-break IT issues.

"Every Fortune 1000 company today is running on numerous [computer] platforms, developing a Web presence, performing data mining, deploying new technologies, all via a global infrastructure," Harris points out. "You can try to do all that in-house, pulling IT staff off whatever they’re already doing, training them on new systems, and then starting implementation from scratch. Or you can have someone who is already an expert do it for you."

Adding to the dilemma, the already painful shortage of IT workers will last at least another four years, perhaps longer, according to Dataquest. That means even technology-savvy companies that might ordinarily handle projects in-house will have difficulty finding talent. "Recruiting and retaining technical talent is just going to get harder," warns Kevin Young, Managing Director of Marketing and Business Management for Outsourcing at Unisys. "Organizations need to look at their technology needs over the next several years and determine whether they have – or can obtain – the talent they need."

Yet if the argument for outsourcing is getting stronger, deciding how to approach it remains complex. For one thing, although organizations that outsource today will continue to outsource tomorrow, many have not been as satisfied with the outsourcing experience as they had hoped, according to studies by both IDC (Framingham, Mass.) and GartnerGroup (Stamford, Conn.). And while outsourcers have been working hard to correct early shortcomings, observers believe some problems lie on the customer side: Many companies that elect to outsource simply don’t understand what they’re getting into.

Small wonder, given the confusing welter of IT outsourcing services offered. Desktop management, data-center operations, network integration, application development, e-commerce: All can be handed off to outsourcers. Yet which functions should be outsourced? And should you hire a single vendor to handle everything, or take the best-of-breed approach, assigning different tasks to different vendors? Further, how do you ensure that your outsourcing agreements can cope with the inevitable changes in both technology and business models? And what happens if the relationship sours?

"There’s still a lot of uncertainty among customers looking into outsourcing," points out Cynthia Murphy, Senior Outsourcing Analyst at IDC. "Some companies are fearful of giving away all that proprietary information to an outsider. Others worry about losing skills sets: Once you outsource a particular function, will you have the expertise to bring it back in-house if you need to?"

There’s no magic solution, experts agree. But organizations can reduce outsourcing anxiety – and boost their chances for success – by carefully assessing their needs, finding outsourcers that match those needs and, above all, engaging those outsourcers in a functional, committed relationship. More and more, outsourcing deals are not being patterned after the traditional vendor/client relationship but are being forged as intensive, long-term and highly interdependent partnerships in which value and risk are shared. "These days, the relationship you have with your outsourcer is more like a marriage than a vendor contract," says Evans of Unisys. "Whatever happens to one party affects the other."

Most executives recognize that the point of outsourcing is to hand off non-strategic functions so the organization can focus on those that add value. What’s often less clear is that even core functions may be candidates for outsourcing if they can’t be executed at best-in-class levels or if the cost of getting to those levels is prohibitive. "Time-to-market is the most critical factor in determining a need for outsourcing," says Evans. "If you can’t be first or second to get into the market with a new service or product, or if you don’t have the time or expertise to focus on it, and yet it’s key to your market leadership – that’s the time to step back and find someone who can get it into the market first. Because you can bet your competitors are trying to do the same."

Systems integration and application development, for example – two strategic functions that were once considered highly proprietary – are increasingly being peeled off and turned over to outsourcers. In fact, nearly half of all outsourcing business will address these areas by 2001, says Dataquest. And a growing number of firms are turning over management of their entire IT infrastructure to outside vendors.

Such a decision is complex – so complex that many organizations are bringing in third parties to help them determine their outsourcing needs. These consultants have the assessment expertise and objectivity to make the hard calls. For example, one key factor in determining whether to outsource a function is how much your company spends to keep it in-house – and that can be difficult to calculate. The total cost for a data center, for example, includes not only staffing, equipment and office space but also the share of staffing and facility costs in other departments, such as human resources, that indirectly support the data center. "You’d be shocked by how many companies simply have no idea how much they’re actually spending on IT," reports Evans.

Given the growing complexity of IT and the difficulty many organizations have identifying their own IT weaknesses, experts are emphatic that companies take pains to carefully evaluate the functions they plan to outsource and what they hope to achieve by doing so – usually with the participation of prospective outsourcers. In fact, organizations that perform such due diligence are far more likely to succeed with their outsourcing initiatives, according to a study by IDC and Technology & Business Integrators (TBI; Woodcliff Lake, N.J.). By nailing down particulars, both client and vendor can better understand outsourcing needs and objectives up-front. That helps minimize surprises down the road and, just as important, lets both sides set realistic expectations for success.

And with the growing reliance on outsourcing to cut costs, boost productivity and enable a focus on core competencies, expectations are a critical factor in developing an outsourcing agreement. Take the question of cost cutting versus adding value – two different outsourcing strategies that often have two different solution sets. When cost cutting is the goal, outsourcing typically means having the outsourcer perform the same function – only for less money. In contrast, when the objective is adding value, outsourcing can mean adding new functions, such as e-commerce, that may cost more but will pay for themselves in new revenues or expanded market share.

The problem, say experts like Yankee Group’s Harris, is that even when companies want to add value through outsourcing, many still harbor expectations that they will also save money. "Often companies aren’t honest with themselves about why they want to outsource," believes Harris. "They’ll say they want to add value, that cost is not an issue. But in the eleventh hour they balk, because suddenly it’s all about cost." That’s an expensive mistake, says Harris, and one that can be avoided by a more rigorous up-front internal assessment.

Case in point: When $200 million travel agency First Travel (Raleigh, N.C.) began researching the outsourcing of its back-office functions, management quickly realized that cost savings couldn’t be the main driver. The company handles 375,000 transactions a year, most of them small-dollar, repetitive functions that soak up labor and represent an ideal candidate for outsourcing. Yet handing over that function to Unisys cut First Travel’s back-office costs, "We were never looking for big savings," emphasizes Ken Taylor, Senior Vice President of Finance and Accounting. Instead, Taylor says, his company sought mainly to add value by freeing up its staff to "think about how to serve our customers, as opposed to how to manage transactions."

Selecting the right partner is, not surprisingly, critical to outsourcing success. Yet in today’s rapidly expanding market, selection is complicated by the number of outsourcers and the categories of service. You can turn over your entire IT operations to a large, single-source provider. Or you can segment your functions and hand them off to various niche specialists for help desk or network management. Which way you go depends on the number and kinds of IT functions you’re outsourcing, and on how involved you want to be in managing the process.

Going with a single outsourcer often makes sense if you plan to offload only a portion of your IT infrastructure. But "if the contract involves multiple components such as data center operations, wide area networking and desktop applications, it probably pays to find individual providers whose skills match those components," says Evans. IDC’s Murphy agrees: "No one vendor can do everything well."

On the other hand, opting for a single outsourcer means you’re dealing with only one partner. "You can develop a long-term relationship with a single provider," points out Evans, "and that provider is solely responsible for the project’s success." But a single provider exposes you to greater risk, because if the company stumbles, the project stumbles as well.

In contrast, multiple providers diffuse risk and promote competitive bidding and, consequently, price flexibility. However, "if you go with multiple vendors," says Murphy, "you may get best-of-breed for each solution, but are you ready to deal with five separate vendors and five separate relationships?"

For many organizations, the solution to the single-source versus best-of-breed dilemma is a hybrid arrangement. In this scenario you outsource different functions to different providers, but a single outsourcer acts as project manager and is ultimately responsible for the project’s success. The approach is proving attractive for a growing number of organizations. For example, last December the U.S. Internal Revenue Service hired a consortium of outsourcers – led by Computer Sciences Corp. and including Unisys, Lucent and IBM – to upgrade the agency’s massive information system. That same month the state of Connecticut handed over most of its data operations to another outsourcing consortium, this one led by Electronic Data Systems and including Unisys, Xerox and four others.

Outsourcer expertise is only part of the equation. A successful outsourcing engagement involves an extraordinary amount of corporate intimacy, with the outsourcer and your own staff working so closely they seem to be part of the same organization. Such harmony requires compatible goals – and cultures. In fact, experts urge companies to pay attention to the "feel" of the outsourcer during the bidding and due-diligence stages. After all, if you’re not comfortable with the provider during the sales process, you probably won’t grow more comfortable later on.

Experts also warn against rushing through the contract phase. Because outsourcing goals are complex, many companies are tempted to make contract language vague, leaving specific goals "to be determined." In fact, both customer and provider benefit from agreements that clearly state who is responsible for what aspects of the project, and when goals must be reached.

But that doesn’t mean contracts have to be cast in concrete. The best outsourcing agreements are flexible enough to allow for changing circumstances – in your company and in the market. This is especially true for projects that involve desktop or network management, or for global packages that include regions with unpredictable infrastructures or economic situations. "Outsourcing engagements involve long-term projects that have to be subject to change," says Evans. "Technology changes. Business models change. The solution is to craft an agreement that is highly specific but also flexible enough to accommodate change."

Finally, no matter how carefully your outsourcing project is planned, it will struggle to succeed without support from employees – many of whom may feel threatened. The key is communication. Convey as early as possible your intent to outsource, and explain in detail what it means for employees and the organization as a whole. And emphasize the opportunities: In large outsourcing engagements, existing staff can often transition to the outsourcer’s team.

What’s important is that rumors don’t escalate and key employees don’t jump ship before a crucial flow of information can occur between existing staff and your new outsourcer. Such knowledge sharing is critical to the future of the project – and sets the tone for the entire relationship. Because whether you outsource a single function or your entire IT operations, whether you go with a single provider or a range of niche experts, outsourcing is most successful when risks are spread and rewards are shared among all partners.

About the Author: Paul Roberts is a freelance writer specializing in business and technology. He is based in Leavenworth, Wash.

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When UnitedHealth Group, America’s second-largest managed care company, sought to outsource its data processing, it looked for an outsourcer with both expertise and speed. In 1996, Minneapolis-based UnitedHealth brought in Unisys and developed a dynamic, highly functional partnership that recently was named Best Integrated Relationship by InfoServer magazine, watchdog of the outsourcing industry.

"We wanted to recognize the close and beneficial working relationship these two companies have been able to create," says Peter Bendor-Samuel, InfoServer editor. "Unisys has not only provided UnitedHealth with all of its data processing, but it has done so in such a way that the service is clearly an extension of the customer’s company."

UnitedHealth needed to leverage the latest in IT to manage its red-hot growth – 20 percent a year – without losing control of costs. That meant having the capacity to expand data processing functions as needed, while paying only for the levels of service actually used. The key was a fast, flexible level of delivery. "We are a dynamic company," Tom Dougherty, UnitedHealth Vice President of Strategic Relations, explains. "So we have requirements that pop up out of the woodwork and need us to move fast."

Under the 10-year agreement, Unisys has assumed nearly all of UnitedHealth’s data-processing tasks, from claims processing and membership management to a decision-support system that can massage the data for reports and operational activities. Unisys also took on UnitedHealth’s 59 data-processing employees, moving most to a Unisys site nearby. In their long-term goals, Unisys will centralize monitoring and operations, further integrate existing systems and help UnitedHealth staff to fine-tune applications – all while keeping an eye on costs. "Each year, we may be spending more money with them, but the cost per unit of what they are giving us continues to decrease," Dougherty says.

UnitedHealth executives cite several factors underlying the success of the engagement. First, the agreement was carefully crafted and left little room for surprises or guesswork. Both sides agree, for example, that benchmarking would determine the best of breed in pricing and delivery. Second, UnitedHealth has worked hard to treat Unisys "as a partner rather than as a supplier."

Just as important is the level of access Unisys has to UnitedHealth management. Each month, a management committee reviews performance. Every three to four months an executive committee with two players from each company gathers to monitor the engagement, refine strategy and, when necessary, deal with problems.