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ABC: An Introduction to Outsourcing

Everything you need to know to avoid the pitfalls of outsourcing.

By Stephanie Overby

PAGE 2

• What is outsourcing?
• Why outsource?
• ITO, BPO, KPO—what’s the difference?
• Why is outsourcing so hard?
• What about bundling?
• What is an SLA?
• What is the best length for an outsourcing contract?
• Should I outsource everything to one vendor? Or should I use a best-of-breed approach?
• How do I decide what vendor or vendors to work with?
• Can I get outside help with this decision?
• Do you have any tips for negotiations?
• What are the "hidden costs" of outsourcing?
• What do I need to know about the transition period?
• How important is ongoing relationship management to outsourcing success?
• Where’s the best place in the world to outsource IT?
• What if outsourcing doesn’t work out? Can I just bring the work back in?

ITO, BPO, KPO—what’s the difference?

Business process outsourcing—or BPO—is the outsourcing of a specific business process task, such as payroll. It’s often divided into two categories: back office outsourcing, which includes internal business functions such as billing or purchasing, and front office outsourcing, which includes customer-related services such as marketing or tech support. Information technology outsourcing (ITO), therefore, is a subset of business process outsourcing.

While most business process outsourcing involves executing standardized processes for a company, knowledge process outsourcing—or KPO—involves processes that demand advanced research and analytical, technical and decision-making skills. Less mature than the BPO industry, sample KPO work includes pharmaceutical R&D, data mining and patent research. The KPO industry is just beginning to gain acceptance in corporate America.

IT outsourcing clearly falls under the domain of the CIO. But often CIOs will be asked to be involved—or even oversee—non-ITO business process and knowledge process outsourcing efforts. CIOs are tapped not only because they often have developed skill in outsourcing, but also because business and knowledge process work being outsourced often goes hand in hand with IT systems and support.

Why is outsourcing so hard?

There’s no debate about it. Outsourcing is difficult. The failure rate of outsourcing relationships remains high. Depending on whom you ask, it can be anywhere from 40 to 70 percent. At the heart of the problem is the inherent conflict of interest in any outsourcing arrangement. The client is seeking to get better service, often at lower costs, than it would get by doing the work themselves. The vendor, however, wants to make a profit. That tension must be managed closely in order to ensure a successful outcome for both client and vendor.

Another cause of outsourcing failure is the rush to outsource in the absence of a good business case. Outsourcing is increasingly pursued by organizations as a "quick fix" cost-cutting maneuver rather than an investment designed to enhance capabilities, expand globally, increase agility and profitability, or bolster competitive advantage.

That said, according to a recent study by CIO magazine and MIT’s Center for Information Systems Research, some outsourcing arrangements are easier to make work than others. Transactional outsourcing deals, in which a company outsources discrete processes that have well-defined business rules, are successful a whopping 90 percent of the time. Co-sourcing alliances, in which client and vendor jointly manage projects (usually application development or maintenance work that goes offshore) are successful only 63 percent of the time. And "strategic partnerships", in which a single outsourcer takes responsibility for a big bundle of IT services, works only half the time.

Generally speaking, risks increase as the boundaries between client and vendor responsibilities blur and the scope of responsibilities expands. Whatever the type of outsourcing, the relationship will succeed only if both the vendor and the client achieve expected benefits. For more on how to target that sweet spot in managing outsourcing, see the CIO/CISR special report.

 

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