Global Sourcing of Business and IT Services

Senior executives are bombarded with messages to source business services globally. Global outsourcing is prescribed for everything from back office services like information technology development, human resource transactions, and indirect procurement to core services such as innovation, research and development, marketing, and customer care. While the vision of global sourcing networks that are agile, effective, and cost efficient is certainly achievable, it requires an immense amount of detailed management to make it work. That is the message from over 17 years of research.

Outsourcing, whether of IT or business processes, onshore or offshore, continues to raise expectations and pose challenges for private and public sector organizations alike. Time and again, we have found even experienced organizations running into massive problems, suffering from slow organizational learning, and working in a reactive rather than an anticipatory mode.¹ The results are troubling. Here are some recent examples:

In 1998, Feeny and Willcocks published the core information technology (IT) capabilities framework that identified four strategic domains (business, technology, third-party sourcing, and governance) and nine capabilities for high performing IT functions.¹ This framework was subsequently adopted by many large organizations seeking to deliver highly effective and cost-efficient IT services. This chapter extends the framework beyond IT by applying it to other back offices, including human resources, accounting, finance, and procurement. The resulting framework offers a powerful model for creating high performing back offices in terms of strategic agility, service excellence, and cost-efficiency

The IT and Business Process Outsourcing (BPO) market is large and diverse, covering everything from the outsourcing of quite simple processes or call centers to, more recently, the transformation of entire back office functions of major corporations. The supplier base is equally diverse, stretching from locally based specialists in particular applications and/or industry sectors, through offshore providers who base their appeal on their ability to provide what may be well-qualified staff at low unit labor costs, to “transformational” outsourcers who apply a combination of sophisticated management techniques and technology investment to achieve new levels of process performance. Client organizations are challenged to identify a provider whose capabilities are most appropriate for their needs.

This is the first chapter where we explore deeply the outsourcing of one particular back office function, namely, human resources. For the first fifty years, HR outsourcing was limited to targeted HR activities such as payroll administration. The market for large-scale, transformational human resource outsourcing (HRO) accelerated in 1999 with the creation of two pioneering firms, Xchanging and Exult (now Hewitt). These HRO suppliers had the idea that the bulk of a large client’s decentralized HR transactional services could be outsourced in order to radically reduce costs and improve services. The client’s HR is transformed through the supplier’s transformation levers: creation of shared services from clients’ disparate HR departments, headcount reduction for redundant and low performing employees, retraining and empowerment for retained employees, process redesign and standardization, and significant technology enablement. These suppliers took over a myriad of their client’s HR activities, including HR information systems, benefits administration, compensation (salary administration and job descriptions), recruitment, training, career development, and regulatory compliance. Clients kept HR strategy (budgets, policies, workforce planning, organizational design), employee performance (assessment, counseling, career paths), and liaison roles in-house.

The previous chapter explored the use of outsourcing to transform human resources. The opportunities for cost savings are vast because HR is a labor intensive activity. Thus, the creation of technology-enabled shared services allows dramatic reductions in headcount. This chapter explores in depth the use of outsourcing to transform indirect procurement. (Procurement of direct materials and services is still considered strategic and kept in-house by most firms). This is a very different transformational model because procurement is not a labor intensive activity, but the dollars transacted are enormous. A handful of purchasing agents may transact US$100 million worth of indirect goods and services. Typically, a purchasing agent may be responsible for dozens of categories of indirect spend, and thus cannot gain deep expertise in each category. Thus, savings from indirect procurement outsourcing come from the supplier’s deep category expertise, as well as rigorous sourcing methods, tools, consolidated buying power, and the ability to attract and retain good suppliers. Studies have shown that customers have experienced significant cost savings from outsourcing indirect procurement. Aberdeen Group, for example, found that 83 percent of 720 senior executives reported achieving significant price reductions after outsourcing procurement.¹

While outsourcing is currently one of the biggest business trends (and highest growth sectors),¹ it is surprising that its knowledge management implications have received so little attention. What actually happens to knowledge when clients outsource? Our research shows that most clients lack the means and experience to assign value to the knowledge they are transferring and receiving. Furthermore, most clients have no real understanding of how new knowledge can be created in outsourcing situations, let alone exploited. Nor are they inclined to assign that much importance to knowledge management because the outsourced activities are considered “non-core.” But whatever the cause, managing knowledge when an organization outsources is a serious gap in practice. We address this gap by describing intellectual capital, and how it can be developed by harnessing social capital. We then apply these ideas to three outsourcing arrangements to show how intellectual, or knowledge, capital can either be a missed opportunity, or can be developed and leveraged to organizational advantage.

Some management consulting firms claim clients can save 50 percent off total costs by offshoring work.¹ But in a widely cited research report,² IT consulting firm Gartner estimated a 50 percent failure rate for offshore outsourcing initiatives. Despite this dismal news, IT consulting firm Meta Group forecasted that the annual growth rate of offshore outsourcing will continue to grow at 20 percent reaching US$10 billion in 2005. How can executives manage risks while successfully exploiting the benefits available in remote locations such as India and China?

Many organizations were initially excited about the value proposition of renting applications over the Internet, initially called “application service provision,” “ASP,” or more informally — “apps on tap.” This sourcing model promised to deliver best-of-breed business applications to customer desktops for a low monthly fee based on number of users or number of transactions at the customer site. In addition, business managers were promised:

When we began research in this area in 1989, the IT outsourcing (ITO) market was quite small, only an estimated US$3 billion market. Today, the global ITO market is a US$200 billion market, and, in terms of size the BPO market is rapidly catching up. Ironically, clients have sought the same benefits from outsourcing for the past 17 years. Clients typically seek operational, transformational, or strategic benefits from global sourcing (see Table 11.1). But despite the growth, learning has been painfully slow. And most disturbingly, outcomes rarely meet all the client’s and supplier’s a priori expectations.