Outsourcing Survey, Part 2: More Than Cutting Costs

The results of the 2004 Enterprise Systems Outsourcing Survey are in. In the second article of our series we examine what's motivating our Outsourcing Survey respondents to move projects to other providers. Surprisingly, it's not just about cutting costs.

What's motivating survey respondents to move projects to other providers? Despite a popular notion, it's not just about cutting costs.

Conventional wisdom has it that a mandate to reduce costs, more than any other factor, is driving the rush to outsource. In one celebrated case, for example, professional services firm McKinsey & Co. estimated that offshore outsourcing can reduce an organization's costs by anywhere from 45 to 55 percent.

Cynthia Kroll, a senior regional economist at U.C. Berkeley’s Haas School of Business, says the potential cost-savings resulting from successful outsourcing experiences are in some cases staggering—particularly for organizations with extensive operations in high cost centers, such as the Silicon Valley. "The savings to a company from shifting work overseas can be very large," said Kroll in testimony before the Senate in March. "[W]ages in some occupations may be less than one-tenth the U.S. wage, and the gap is even wider for firms located in [the] Silicon Valley."

To some extent, this is born out by feedback we received from respondents, 25.5 percent of whom listed a mandate to reduce or control costs as the number one reason to outsource, and 24.7 percent of whom also cited price as the most important consideration they take into account when selecting an outsourcing services provider. What's more, a far greater number of executives (26.4 percent) rated pricing as the second most important selection factor, with only 16 percent identifying proven competency. All told, 51.1 percent of respondents rated pricing as the first or second most important factor in their outsourcing selection calculus—while only 44.8 percent identified proven competency.

The full report of our survey findings will be available as a downloadable PDF file in early November. Click here to be notified when the report becomes available.

Our survey also found that companies that valorize price tend to break for near-shore or offshore service providers at a clip (39.4 percent) that's significantly higher than is typical (23.4 percent) for the combined near-shore and offshore segments of our total respondents.

Why did your company decide to outsource its latest IT sourcing project? (Check all that apply)

Reduce or control costs 25.5%
Gain access to IT resources unavilable internally 16.5%
Free up internal resources 16.1%
Gain access to high quality resources 14.0%
Accelerate project 14.0%
Improve business focus 10.6%
Reduce time to market 6.6%
Accelerate company reorganization/transformation 5.5%
Gain access to management expertise unavailable internally 3.9%
Other 3.4%
Don't know 1.7%

Likewise, 60.6 percent citing cost reduction or control as a prime outsourcing impetus choose to partner with domestic service providers. This is well below the overall average for the domestic outsourcing segment (70.2 percent).

But price, it would seem, is also a secondary consideration for many decision-makers: An even greater number of respondents—almost 29 percent—rated an outsourcing provider's proven competency in a given area as the most important consideration. In response to our "Why outsource?" question, 74.5 percent of respondents cited reasons other than pricing or cost control.

The simple upshot, the director of IT infrastructure for a global investment management firm told us, is that outsourcing decisions should never be made on the basis of cost savings alone. Instead, this person argues, organizations must give particular weight to the "alignment of the [outsourcing] organization's s price and model" with their own needs.

What was the most important factor in selecting the service provider?

Proven competencies 28.8%
Price 24.7%
Commitment to quality 14.6%
Don't know 5.8%
References and/or reputation 5.2%
Scope of resources 5.2%
Other 5.0%
Flexible contract terms 4.9%
Cultural fit 3.3%
Geographic location 2.5%

In this respect, he says, the decision to outsource involves an altogether more complex calculus. "What are my outsourcing requirements? What am I trying to achieve? What tier players should I be considering—whether domestic, near-shore or off shore—[and] what are the current experiences or challenges of existing clients with these vendors?"

Respondents gave a range of additional reasons for selecting outsourcing providers, of course. Next to cost and proven competency, the third most-frequently cited factor—listed by 14.6 percent of respondents as the most important overall factor—concerned a provider's demonstrable commitment to quality (15.2 percent also listed this as the second most important overall factor).

Other factors included the scope of resources provided by an outsourcing vendor (5.2 percent ranked it first, 7.2 percent ranked it second); a provider's reputation and the testimony of customer references (5.2 percent, 6.9 percent); and an outsourcer's willingness to provide flexible contract terms (4.9 percent, 6.3 percent).

Beyond Price

Many companies conceive of outsourcing not just as a means to cut costs, but also as a way to more effectively deliver new applications or services, boost efficiencies and make their businesses more competitive, to boot.

For example, 16.5 percent of respondents opted for outsourcing in order to gain access to IT resources that would otherwise be unavailable to them internally. Many of these (56.7 percent) are companies with less than $500 million in annual revenues, which dovetails very nicely with the shopworn image of cash-strapped small and medium enterprises (SME) struggling to keep pace with their bigger competitors.

Similarly, 14 percent of respondents singled out outsourcing as the best way to gain access to high quality resources, presumably in the form of skills, hardware, software, etc. Once again, the breakdown of SMEs versus large enterprise environments follows a familiar pattern: 61.8 percent to 38.2 percent.

Clearly, then, cash-strapped SMEs aren't the only ones that have embraced outsourcing as a means to more effectively deliver new—or better—applications, services, processes, or other resources.

Elsewhere, 16.1 percent of respondents have embraced outsourcing as a strategy to free up their existing IT resources. Here again, the timeless image of the scrappy SME competitor trying to make the most of what it has is reflected in the data: A majority of these companies (56.3 percent) generate less than $500 million annually. A surprising number of organizations with annual revenues in excess of $500 million (43.7 percent) and $1 billion (35 percent) say they've embraced outsourcing for the same reason.

Thanks to outsourcing, Six Sigma-esque strategies such as IT and business realignment or process improvement aren't just for the big boys, either. About one in ten (10.6 percent) respondents believe outsourcing will help them focus more effectively on business concerns; of these, 44.8 percent are SME shops with annual revenues of $500 million or less. What's more, nearly a quarter (22.4 percent) of these SMEs help put the word "small" in the term "small enterprise," with revenues of less than $100 million annually.

Consider, too, project management, which—to be fair—is the bane of all companies great and small. Fully 14 percent of respondents identified project acceleration as their foremost outsourcing driver; of these, 44 percent were SMEs and 56 percent were large enterprises. The lesson is clear: Outsourcing is anything but the exclusive provenance of the billion-dollar-and-up organizations.