Outsourcing Survey 2006, Part 3: Success Factors in Selecting a Provider

We explore what factors are important when organizations choose their outsourcing partners. Price isn’t the primary consideration.

In the second part of our series, we explored the results of our 2006 Outsourcing Survey by looking at the reasons IT outsources work in the first place, where they send their work, and the success factors in choosing an outsourcing provider. This week we look at what factors IT should consider when choosing a provider, and offer a link to the full report in PDF format.

Selection Success Factors

When selecting a service provider, it's useful to draw upon the experience of those with successful projects. Six in 10 respondents said the most important factor was identifying a partner with a commitment to quality. That aspect was closely followed by price. About half of respondents cite scrutiny of a vendor's proven competencies as important. Only 37% specified technology fit as most vital factor to success. Flexible contract terms, geographic location, and cultural fit were near the bottom of the rankings.

One manager of IS for a large global publishing company, which signed a seven-year deal several years ago with IBM Global Services to take over data center operations, said it was obvious that IBM was committed to quality. "The management that came in brought in a series of processes and procedures, and they worked with us to make sure the quality was there," recalls the manager, who declined to be named. "It was fairly simple for them to do that -- they hired all the people who were here. Then they brought in a few people who took over the management role. They've had a few people leave and move and shuffle around. ... But the people they brought in were nothing but quality." When faced with a new person from IBM who had what he calls "the old internal IS attitude: It'll get done when it gets done," the company replaced that individual with others who were more "customer service oriented."

The former port company manager suggested putting price -- albeit important -- before other matters can be a mistake. "It comes down to relationship building. You want to pay a fair price," he said. "If you squeeze a vendor too hard, ultimately you're squeezing yourself. They're going to cut corners. They're not going to be as free with their information. The trust factor is going to start to take a hit. If they feel they're being squeezed into a corner, you are not going to be given the attention that your engagement really does deserve."

Although it was graded less important overall by survey respondents in identifying service provider fit, the manager said references and reputation ranked high for him. To do vendor checks, he calls on his network. "I'm a part of several associations -- the Help Desk Institute, itSMF [IT Service Management Forum]. I go to a lot of trade shows [and] focus groups. I get together with my network quarterly. It's an active approach... If I look to do something in my organization, there's a pretty good chance that somebody in my network has done it already. I want to know the pros and cons. What am I getting myself into?"

During the evaluation process, he advised spending a considerable amount of time evaluating the likelihood that the vendor is going to "be around." "Financial stability of the vendor is very important," he noted. "Who their channel partners are, who they are doing business with from a technology perspective, who are some of their short-term success stories in addition to their longer term success stories."

Table 1: Factors in Identifying
Service Provider Fit
 Commitment to quality 60%
 Price  57%
 Proven competencies  53%
 Technology fit  37%
 Flexible contract terms  26%
 Geographic location  23%
 Cultural fit  21%
 Scope of resources  18%
 References and/or reputation  12%
 Note: Multiple responses allowed.

Outsourcing Success Factors: Communication is Key

Once you've chosen a vendor, what are the most important factors in achieving success with your outsourcing? Nothing really overwhelms the discussion, but according to respondents, the top consideration was communication -- both between the client and service provider management and between the client and service provider personnel.

The publishing company's IS manager said his operations group meets weekly with IBM's operations group to "review the process and procedures." He calls communication "key to everything."

One area of communication that could have used improvement, according to the manager, was what his group was told about the contract his company signed with the service provider.

I'm sitting in an applications position where I have 50 or 60 people maintaining these three or four systems. I have a certain level of expectation of what I was going to get out of the data centers. Over the years, you develop relationships. People bend the rules a little once in a while for you.

The contract goes into force. We were never told what was included in the contract. We were going on our own merry way, expecting the service we were getting before. Suddenly, we were running into these little roadblocks. "Well, sorry, that's not in the contract" or "It's not in the contract." ...

That's one of the more important things. You don't have to tell people what the financial parts of the contract are, but you sure as hell should tell them, "Here's what expected of the vendor and here's what's expected of us."

The former port director cited a different aspect of communication: what employees are told as plans for outsourcing unfold.

When an IT person hears outsourcing, they think, ‘This is not a good thing. There is huge potential for job loss.' If you're not communicating frequently and effectively as to what this means -- I'm not saying be fictitious; sometimes it's going to be very difficult information that needs to be communicated -- [it's] better to communicate it often and effectively than not to communicate at all.

Paying attention to ongoing management and governance and selecting the right vendor rode closely on the area of communication as the most important aspects of successful outsourcing. These areas were specified by 41% of respondents.

The former port company director pointed out that "governance is not a one-time effort." Doing it well requires having in place metrics and KPIs -- key performance indicators. Otherwise, he said, "How can you tell whether you were adhering or not if you're not measuring?" He advises making sure "that roles are clearly defined and understood..." That will determine who gets what types of metrics and how frequently. "If you're on the front line in the network group, clearly you want frequent information on your metrics, in comparison to being CIO," he said. "Depending on who you ask and what role they play, you're going to get a different answer. And you should!"

Having a properly structured contract or service level agreements were specified by 38% and 33% of respondents respectively.

The former port director believes in calling on the experts as early as possible when setting up contracts or agreements. That includes both the procurement group and the legal department. How does he prevent procurement people from taking too much of a bottom-line perspective? "What you want to do is match your expertise -- what you're trying to accomplish -- providing tech services to assist with your organization to become more profitable -- with their expertise on contract negotiation, on things to look for in a contract that may raise a flag. The more time you spend with them upfront -- [explaining] what you're trying to accomplish -- the more effective they're going to be."

Table 2: Factors in Successful Outsourcing Initiatives
 Communication between client and service provider management  44%
 Communication between client and service provider personnel  42%
 On-going management/governance 41%
 Selecting the right vendor 41%
 Having a properly structured contract/outsourcing agreement  38%
 Having a properly structured service level agreement 33%
 Understanding the business goals internally 30%
 Strategic vision 25%
 Having previous outsourcing experience 18%
 Note: Multiple responses allowed.

There's much to worry about when it comes to outsourcing initiatives. Data confidentiality was the top concern, referenced by 34% of respondents. Security risk and exposure was number two, and tied with the experience level of service provider employees, at 33%. Rising expenses and employee turnover at the service provider were cited by about a quarter of respondents.

The publishing company manager cited data confidentiality as his number one concern. Why? "The more this [work] goes overseas, the more chance you have for data to be compromised. Other countries don't have the same rules, regulations, laws, [and] protections set up."

Table 3: Major Areas of Concern with Outsourcing
 Data confidentiality  34%
 Security risk/exposure  33%
 Experience level of service provider employees  33%
 Rising expenses 27%
 Employee turnover at service provider  24%
 Impact of outsourcing on internal staff  21%
 Lack of management oversight by our organization  19%
 Inadequate or improper service-level-agreement metrics  18%
 Culture clash 17%
 Conformance to regulations/company policies  16%
 Working attitude of service provider employees  14%
 Lack of management oversight by service provider  11%
 Domain knowledge of service provider employees  9%
 Executive visibility  7%
 Language 7%
 Time zone difference  6%
 Note: Multiple responses allowed.

Contract Cancellation Isn't the Norm

Respondents contradicted a common refrain from analysts, who often state that half of all outsourcing contracts are canceled or renegotiated before their termination date. Only 28% of organizations said they've canceled or renegotiated an outsourcing contract.

Among respondents who knew the reason for term changes or termination, the most common reason cited (by 38% of respondents) was that the service provider failed to meet the contract terms. A third said service quality was poor, 28% said there was a change in business strategy that mandated the change in outsourcing, and 21% told us outsourcing became more expensive than expected. A mere 10% said their organization found better terms with a different service provider.

Personnel Matters

Most companies don't displace anyone in an outsourcing engagement, according to 61% of respondents. Another 10% said only contractors were displaced, 21% said both contractors and employees were shifted, and 9% said only employees were displaced. (The total exceeds 100% due to rounding.)

What did that displacement look like? It varied. About a quarter were laid off permanently. A third were either hired by the service provider or were offered positions elsewhere in the client company. In 42% of the situations where people were moved, the client company employed a combination of layoffs and transfers.

How many were affected? On average about 928 people, though the median was a much smaller 121, indicating how a few large projects overshadowed others (the largest number of companies displaced fewer than 50 people).

The IBM contract with the publishing company involved the transfer of between 50 and 60 people. That, said the manager, exposed a weakness in the plan. "We cut way too deep... The tech people [IBM] brought in knew the product, knew SAP. They didn't understand our application of SAP; they didn't understand our business process. We have since been very fortunate. We have been able to hire back several people and put them into positions we call business systems analyst."

Participation in Outsourcing

Three-quarters of respondents work for U.S.-based companies. The average revenue of these organizations is $3.8 billion -- a notch above mid-market size (which we peg at $3 billion per year in revenue) but not by much.

That said, the largest industry represented in the survey is government (21%), followed by computer and IT services (18%), finance/banking/accounting (11%), non-computer manufacturing (9%), defense/military (8%), and transportation/utilities (8%).

As shown in Table 4, 12% of respondents hold C-level or senior executive positions. A fourth have technical or line-of-business staff job titles. One fifth are directors, VPs, or managers of a business function (such as accounting or marketing), and a tenth have similar titles on the IT side. Another 14% are project managers with IT responsibilities and 9% are project managers with business responsibilities.

Table 4: Job Titles
 CEO/CFO/COO/CIO/CTO/President/Owner  12%
 Technical or line of business staff  25%
 Director/VP/Manager of business function  21%
 Director/VP/Manager of an IT function  11%
 Project Manager with IT responsibility 14%
 Project Manager with business responsibility  9%
 Consultant  7%
 Other  2%

Nearly two-thirds of respondents consider themselves part of the IT functional group. The business or executive functional groups represent another 17%.

Personnel involvement in the entire outsourcing lifecycle varies widely. Just under a third have absolutely no involvement at all. Of the remainder, slightly more than half participate in evaluating responses from service providers and slightly fewer than half help develop the strategy to outsource and select potential service providers.

Table 5: Involvement in Data Center Outsourcing Work
 Develop strategy to outsource  45%
 Develop outsourcing budget  31%
 Authorize the decision to outsource  21%
 Develop RFI or RFP  41%
 Select potential service providers  48%
 Choose geographic location to outsource to  17%
 Evaluate responses from service providers  51%
 Meet with service providers finalists  41%
 Perform due diligence on service provider finalists  32%
 Choose winning service provider(s) 31%
 Develop outsourcing contract  31%
 Provide legal guidance  9%
 Sign contract(s) 17%
 Benchmark internal service levels  32%
 Develop service levels  32%
 Act as IT liaison to service provider  41%
 Act as project management liaison to service provider  31%
 Act as business liaison to service provider  28%
 Perform project management or governance  29%
 Renegotiate the outsourcing contract  16%
 No involvement 29%
 Note: Multiple responses allowed.

Conclusion

The globalization of services will continue, reaching beyond the IT core that has defined outsourcing for the past decade. More companies have outsourced human resources management processes, finance and accounting, and, of late, legal services, product development, R&D, and training. The shock and awe experienced by IT rank and file -- as well as management -- in witnessing the shifting Tectonic plates of employment will soon be felt by people in all divisions of the corporation.

Those in IT have had plenty of time to regain their sense of balance. That means they have the chance to play a role as leaders in future outsourcing endeavors within their companies. They know how to work with vendors. They know how to define what the job consists of -- apart from how it needs to be done. They know that even if a function can be sent down the wire to be performed somewhere else in the country or the world, that doesn't mean it should be or will be.

Outsourcing Survey Available as PDF

The full report from our 2006 Outsourcing Survey is available in a compact PDF file available for free download.

James E. Powell contributed to this article.