How Vendor and Client Can Both Benefit in an Outsourcing Deal

IT executives entering into IT and business-process outsourcing arrangements seek a variety of benefits, including cost reductions, variable capacity and reduced management time spent on IT. But outsourcing succeeds only if the vendor, as well as the client, achieves expected benefits. Often client and vendor interests are not aligned. How can clients and vendors settle into a “sweet spot” where their interests coincide? New MIT CISR-CIO research has examined 90 outsourcing deals in 84 companies to help executives recognize opportunities for long-term benefits from outsourcing relationships.

The research found that the outsourcing sweet spot depends on the nature of the client-vendor relationship. There are three types of outsourcing relationships: 1. a transaction relationship in which an outsourcer executes a well-defined, repeatable process for a client; 2. a co-sourcing alliance in which client and vendor share management responsibility for project success; and 3. a strategic partnership in which an outsourcer takes on responsibilities for a bundle of client operational services.

The first article in this three-part series explored transaction relationships. This article focuses on co-sourcing alliances, describing how responsibilities are shared between the client and vendor, the value that each party seeks and the inherent tensions in the arrangement.

How to Maximize Value from Co-Sourcing Alliances

In a co-sourcing alliance, clients and vendors share management responsibilities, usually for application project initiatives. They draw on both the vendor’s specialized technical skills and the client’s deep business knowledge.

Client interest in co-sourcing arises from the desire to access lower-cost but higher-quality technology and project management expertise while maintaining control over the project. Vendors seek to develop industry and application knowledge as they deliver expertise at a cost that often mixes local and offshore labor rates. When the client and vendor both have strong capabilities, they create a mutually beneficial arrangement.

The contribution of the outsourcer in a co-sourcing alliance is difficult to isolate from the contribution of the client’s employees. For example, Dow Chemical, which deploys project teams with, on average, four vendor employees for every internal team member, has a set of metrics to assess team productivity on factors such as function points. But ultimately, Dow CIO David Kepler notes, the measure of success for the outsourcing arrangement is the project outcome. He considers his alliance a success because alliance teams consistently deliver high functionality on time and on budget. Kepler does not know—or care—whether outcomes would be different if the vendor were not involved. He has an affordable variable staffing model that works.

Co-sourcing alliances present risks to both clients and vendors. For clients, generating value requires relying on vendor expertise, but too much reliance can result in insufficient internal knowledge to apply new technologies effectively. Vendor risk results from the need to teach project methodology to the client. Vendors run the risk of working themselves out of a job as they strengthen their clients’ skills.

Understand the Three Types of Outsourcing Deals

Companies can become competent in all three types of relationships. It is important to match specific outsourcing needs with the appropriate type of relationship.

Clients managing transaction relationships as strategic partnerships incur expensive and unnecessary overhead. Co-sourcing that is treated like anything but a team environment is sure to suboptimize outcomes. And clients and vendors in strategic partnerships who refuse to regularly renegotiate will become embroiled in bitter contract battles. In all outsourcing relationships, both client and vendor should target the sweet spot to maximize benefits.