Idea 36 - Outsourcing (50 Management ideas you really need to know)

Idea 36 - Outsourcing

In 2003, Procter &: Gamble caused a few jaws to drop by outsourcing its IT functions to Hewlett-Packard, its human resources department to IBM and its facilities management to Jones Lang LaSalle. It reasoned that specialists in each process would be able to beef up efficiency and service. Not only has it not been disappointed, but it has been pleasantly surprised at the scale of the improvement. So far, the exercise has been a classic example of why management reaches for outsourcing.

Not all outsourcing fits that description, by any means. Many who have tried it say it is very difficult to pull off, and the failure rate remains high - anything from 40-70%, depending on whom you ask. A series of very visible outsourcing calamities at big companies like Dell and Lehman Brothers (which re-insourced helpdesks) and JP Morgan (which clawed back its IT functions) raised doubts over whether the practice had a future at all. Certain British government agencies have had a similarly dismal record with third-party IT projects. Yet outsourcing volumes keep growing, along with the categories of work involved.
It may be hard to do but it's not a complicated idea. Outsourcing is farming· out a particular function, perhaps an entire process, to a third party. If you pay someone to come in and water the plants in the reception area that's outsourcing, even if it's at the easy end of the implementation scale. In concept, outsourcing has been around nearly as long as manufacturing. Contracting with a parts supplier to make components for you is outsourcing, strictly speaking, but that's not what people really mean by it. Instead, they are talking about contracting out services and processes.
It all began to gather steam in the 1980s and early 1990s. Michael Porter's value chain analysis was gaining a following at the time, and there were the first stirrings of a strategic return to the core. What is our core business, and where do we add value, management asked itself. The logic was that if you didn't have superior skills in a function and it didn't add value, why do it? Someone else could do it better and, probably, cheaper.

Running the canteen Computer bureau had been an early form of outsourcing provider for those who couldn't afford computing power or time, and IT remains one of the most outsourced functions to this day. The next candidates were services like managing the company's buildings and facilities, or running the canteen. It became standard practice for the outsourcer to take on at least some of the existing staff from those departments and, if there were any assets involved, to acquire those too and pay for them.
Firms gradually developed enough confidence in the concept, and the providers, to begin handing over entire business processes, starting with payroll, data entry and insurance claims. This was 'business process outsourcing', or BPO to its friends. IT outsourcing (ITO) is a subset of BPO. The principle widened to include processes like billing, purchasing and finance - what Indian contractors call 'non-voice' work. Along a separate trajectory, it spread, notoriously, to customer relations management and technical support via call centers that were often located in other countries.

Some call this 'offshoring' though purists insist that the word means relocating part of your business abroad, not relinquishing ownership. Paying a call center in Calcutta to deal with your customers is merely offshore outsourcing. Either way, it is a sensitive issue, both politically and for the people who lose their jobs - unlike domestic outsourcing, they can't cross the street for a job with the new service provider.

BPO is largely concerned with carrying out routine processes, albeit in some curious niches. One London outsourcing provider handles employees' expense claims over the Internet. So-called 'knowledge process outsourcing' - yes, KPO - farms out brainpower, in the shape of research, analysis and technical skills.

What benefits do companies expect! For those feeling the pinch, the asset sales and payroll cuts can be enough to prompt the switch, though outsourcing experts will tell you that this is a bad reason. None the less, outsourcing does lower costs, either because the provider has better economies of scale or, if the outsourced work goes offshore, through lower labor costs. Other compelling motives may include getting work done more efficiently or effectively and tighter budget control through more predictable costs.

Maintaining quality and security of information are perennial concerns for many companies, and the cost savings are not as dramatic as some anticipate, which is why they need a properly thought-out business case to justify the change. Whatever price the contract may specify, specialists say users should add 10% to set up the arrangement and manage it, and anything up to 65% if the work is going offshore, thanks to travel costs and the complexities of cultural alignment. Other costs may include benchmarking and analysis to check that this really is the right choice, and redundancies. The transition period - 'the valley of despair' to some insiders - can last from a few months to a couple of years and is often marked by a drop in productivity as things settle down.

Polarizing market among suppliers of outsourcing services, the market is polarizing, as markets do, into a small number of big full-service providers at home and abroad, and a raft of smaller specialist suppliers. In time, it may evolve to provide a la carte menus of services, easier to access than today's offerings.

While India dominates the offshore market, particularly in software work, other popular destinations include Ireland, the Philippines, Russia, Poland and the Czech Republic. Yet there is already a reverse flow, with small providers popping up in rural America.

The iron rule is never to outsource strategy. That apart, is anything else beyond outsourcing's reach? Possibly not. Outsourcing's most useful contribution to the practice of management may be that it is embedding a discipline of looking at absolutely everything in the business and asking: 'Should we really be doing this?'

Reference: 50 Management Ideas You Really Need to Know

Book by Edward Russell-Walling

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