What’s the No. 1 Enemy of Outsourcing? Not Economic Recession.

As the economy worsens, the prospects for outsourcing and offshoring improve. Throughout 2008, the key word for the economy was “uncertainty.” While facing uncertainty, CIOs avoided significant changes to internal organizations or operations, including evaluating or implementing outsourcing. Most outsourcing initiatives are driven by a strong need for change and “economic uncertainty” hindered that need.

Now that the economy is officially in a recession and the 2009 outlook is dire, two changes are taking place. First, CIOs are making cuts to projects and programs, including those staffed by outsourcing firms. Second, beginning in 2009, IT organizations will pursue outsourcing as a method to reduce costs.

Cost Cutting

As CIOs mandate immediate program cuts, some will inevitably impact existing outsourcing agreements. The software development services market, including globalization, will feel the majority of the impact as discretionary projects are cut. At the same time, customers with infrastructure contracts indicate that they are already increasing pressure on existing providers. For companies that have outsourced a majority of their infrastructure, the outsourcing provider is one of the few place to look for potential cost reductions. Financial analysts will continue the “doomsday” forecast for outsourcing providers as they see reductions to current contracts as a foreboding omen to industry growth.

Near term, clients and providers alike are agreeing to reduce prices, resulting in short-term price deflation. Large clients are under pressure to reduce costs; large vendors are under pressure to sign contracts. Even the largest offshore providers are reportedly agreeing to lower prices with select clients.

Increased Outsourcing

Evaluating outsourcing requires 3 to 9 months for an IT organization. The company begins to consider outsourcing as an option, determine services to outsource, and finally evaluate providers. Given the length of this process, changes will not appear in provider financials before March 2009, even for clients that are already beginning to consider new outsourcing initiatives.

Moreover, cost savings from outsourcing are not immediate. While simple contracts such as staff augmentation can realize savings within a few weeks, financial benefits from complex projects can take six months or more. CIOs embarking on outsourcing evaluations are cognizant of the time required for financial returns and usually align projects with internal budget cycles, meaning that CIOs will begin in early 2009 and expect to show results during the same calendar year.

Market changes will appear to reduce outsourcing, but within 3 to 4 months, outsourcing providers will report an increase in sales channel activity and resume announcing new contracts. Globalization companies will benefit the most, but the impact will include all outsourcing services and hybrid solutions such as Software as a Service (SaaS) as well. As the market recovers, service providers will return to their core business of delivering services and reducing costs mandated by CIOs.

Dean Davison is a leading authority on the subjects of outsourcing and globalization. He has published hundreds of articles and facilitated coaching sessions with CIOs on six continents in regards to outsourcing and globalization. He began his outsourcing work at META Group and had also worked at firms such as EDS, neoIT, and now Collabera, a $300M, privately-held globalization provider headquartered in Morristown, NJ.