13 December 2012 | Nick Martindale
With enthusiasm for outsourcing wearing off in certain areas, Nick Martindale takes a look at how some organisations are now dividing their big contracts up into smaller packages.
Rather like political parties, attitudes to outsourcing tend to come in and out of fashion, roughly following the economic and political environment of the time. Over the past year, though, there has been a notable cooling off of the global market, both in the number and value of IT and business process outsourcing (BPO) deals.
According to figures from the Everest Group, the number of transactions recorded in the second quarter of 2012 stood at 411, down more than 25 per cent on the 516 recorded 12 months previously. “If we break this into different industry segments, we can see that the mature verticals like financial services, the public sector, defence and manufacturing mostly contributed to this slowdown,” says Salil Dani, practice director in Everest’s global sourcing team.
“Public sector outsourcing has notably dropped in the US, which is not surprising given that it’s an election year because there’s a lot of rhetoric around offshoring.” The financial uncertainty in Europe has also had an impact on the number of public sector deals, he adds, although newer sectors such as healthcare, technology, travel and hospitality have helped to stem the decline.
A survey by KPMG paints a similarly cautious picture, with more than half (51 per cent) of senior executives in global business and at IT service providers saying they expected customer demand to increase in the second half of 2012, compared with 61 per cent in the first quarter of this year and 74 per cent 12 months ago.
Size of deals
Shamus Rae, shared services and outsourcing partner at KPMG, suggests one reason for the decline in volumes could be companies reassessing arrangements when long-term deals signed in the outsourcing boom during the early 2000s expire.
“There are some big deals that have come up for maturity that are now being broken up, with some parts being brought back in-house and some being re-tendered,” he says. “People are now taking a more mature attitude towards their delivery model, looking at what should be retained in-house, what should be in a shared service centre and what should be outsourced. That doesn’t play to the big outsourcers.”
Dani suggests this desire to break up outsourcing contracts into smaller deals spread among more providers is particularly prominent in the BPO area. “On the BPO side, it’s relatively easy to break down the process work into different components and there are some specialist service providers that have started to emerge who can do it better,” he says. “So we’re getting into smaller value averages than we saw a couple of years back.” It’s a different case with technology deals, he says, where long-term, transformational “mega-deals” of anything up to $1 billion (£628 million) in value are still happening.
Yet while breaking up larger contracts may make sense from a risk and business continuity perspective, it can create issues around ongoing management, says Martyn Hart, chairman of the National Outsourcing Association. To counter this, two distinct but related trends are emerging. “If you’re thinking about business continuity and diversity of supply, you might be thinking of just two suppliers,” he says. “Often a company will buy goods from one and services from another, but they know that they could do each other’s job.” Where organisations are looking to multi-source, however, they might create one over-arching contract with a main service provider, but insist aspects are broken down to include smaller suppliers.
In the UK, one area that is bucking the trend is the public sector, where a combination of greater political will and economic necessity has led to a greater willingness to countenance outsourcing, including for the provision of public services that have until recently been seen as sacrosanct (see box).
A survey by Interserve released in July found local authorities intended to outsource an average of 32 per cent of services by 2015, with 38 per cent of those questioned saying everything would be considered, including children’s services and public protection, while a report by the CBI estimated involving the private sector in such areas could generate average savings of 11 per cent, potentially shaving as much as £22.6 billion off budgets across the country.
This greater appetite for outsourcing is something Gareth Moss, local government director at Serco, has noted, with a willingness to package up aspects again in stark contrast to the private sector. “Historically we saw individual services, but now there’s a tendency to increase that to cover a range of services, particularly in local government,” he says. “That might involve IT, contact centres, customer services, accounting, HR and payroll, and council tax collection.”
The current economic climate is also having an impact on the type of contracts negotiated between buyers and suppliers, with a greater emphasis on suppliers taking risk and sharing in any upsides and a tendency to pay for outcomes rather than more traditional measurements – something that Moss says poses challenges as well as potential benefits for procurement. “As budgets are squeezed, councils are looking to innovate with partners that are prepared to take risks and that’s a model we would embrace,” he says. “But that requires a change in mentality because it means companies have to loosen the strings on measuring the inputs. Some organisations have been reluctant to do that.”
Other businesses are already embracing this more entrepreneurial approach, challenging potential suppliers to come up with new solutions, which may not even be the result of a tendering process or recognised business need. Tom Casey, indirects procurement manager at Everything Everywhere, says his business has recently signed long-term arrangements in core areas such as IT and finance, as well as aspects of HR, so is looking for “something different” from potential partners.
“We’re looking for revenue-generating technical solutions,” he says. “We’re interested in companies that can come up with some sort of technical product to link our sales force with accounts payable and the finance system.” The business has entered into two such arrangements around technological solutions, he says, although he concedes such innovation is less feasible in areas such as HR.
The idea of challenging suppliers is something that is becoming more common in cases where relationships already exist, says Rae. “When a transaction is going through, providers bring their best salespeople and their best transition people to the table,” he says. “But once you sign the deal, 90 per cent of those people disappear.
“So there’s a new governance model, which people are putting into contracts, that requires the outsource provider to attend a Dragons’ Den-type meeting, where they are asked to provide business cases for changing the processes and they get either a green or red light,” he says. “If you have a red after six months and then another after 12 months, a termination clause can be implemented. It means the outsourcing providers bring their best solutions people back to the table every six months to look again at the solution they previously sold and see whether it could be enhanced.”
To make any such arrangements work effectively though, procurement needs to ensure it remains involved in monitoring performance, says Steve Wills, managing director of Procurement Central, who headed the contracting process for security at London 2012 on behalf of the London Organising Committee of the Olympic and Paralympic Games (LOCOG) – one that would be tested once it became clear G4S was unable to deliver on its commitments.
“Procurement tends to be heavily involved with the legal function and the wider business in putting a very strong contract in place with key performance indicators, gain-share agreements or penalties and mechanisms to make the contract work over a period of time,” he says. “But in a lot of cases – particularly with IT – it gets handed over to someone else so procurement aren’t the ones who manage it. I have seen projects go awry with overspend and all kinds of non-performance issues and I can’t help but think there is some link with the fact that the people who are managing it, whether they’re in marketing, IT or HR, are not contractual experts.”
For some, the answer could lie in the insourcing of staff from a provider into an in-house team. This was the approach put forward by Ian Bolger, now a principal at Efficio Consulting, but previously head of supply chain at Thames Water, where he oversaw what was effectively his own outsourcing.
“We’ve tried to term it a number of things, but it always gets confused,” he says. “You’re bringing in the talent expertise and wrapping it around your existing process so it de-risks it significantly. Our model at Thames was quite radical, but I really can’t understand why, if you believe something is much better, you would only apply it to the really insignificant spend. We could see the model could be extremely compelling from an internal service perspective so we put all our spend into it and we only left out the purchase-to-pay operations.”
The outsourcing of procurement itself is something of an emerging trend. Research by Everest Group released in May suggests the market for procurement outsourcing will grow for a third consecutive year in 2012, with a total of £139 billion globally being handled by third parties. Much of this growth, it concluded, would come from smaller companies.
This is no surprise to Peter Rushton, chief executive of Optimum Procurement, who has seen a rising interest in the concept from chief-level executives as well as procurement. “They love the idea of being able to talk about return on investment. They want a flexible and transparent engagement model and for each pound they’re going to invest in our services they’re looking for a minimum return of four to one,” he says. “That’s very different now to how it was three years ago.” His company recently won a contract to procure all non-playing-related purchases at Everton Football Club, as well as a larger £100 million deal with energy management and technology business GSH Group.
While outsourcing as a concept may fall in and out of favour, the reality is that in the current climate it remains very much part of the business environment. For Wills, the variety of models and options presents an opportunity for procurement to identify, implement and manage the most appropriate solution for a business’s requirements. “It’s fair to say that the present crisis is not going to go away,” he says. “Procurement needs to be very business-minded and much more commercial in how it can assist businesses in removing cost. I think we’ll see a lot more of this.”
Case study: Hertfordshire County Council
When Hertfordshire County Council was faced with retendering for a back-office shared services contract to start in April 2011, it took the unusual step of inviting bidders to submit additional business plans to outline how else they could help the organisation, with everything potentially on the table.
The main contract was awarded to incumbent supplier Serco, which also submitted 16 further business cases, including two in the area of adult social care. “Just after it got the contract, our management board for social services agreed to take forward an innovative new business case we called the social care access service,” says Iain MacBeath, assistant director of health and community services at the council.
Under this additional arrangement, which went live in April this year, 128 social care posts were transferred to Serco, but a core part was that Serco would introduce a new health and social care website and booking system, which would eventually enable it to reduce headcount. For its part, Serco agreed to improve performance in areas such as call waiting times and deliver gross annual savings to the council of more than £3.4 million.
MacBeath says the council has developed a number of key performance indicators around specific areas, such as referrals of urgent cases, with financial penalties for failing to hit these, and has also developed a joint “partnerships and quality unit” to monitor performance, staffed by senior individuals on both sides.
The council currently has no plans to outsource further services, but MacBeath says nothing should be ruled out in the future. “Our mantra is that if the private sector can do the job more cheaply than the council, then we will consider it,” he says.
Offshoring: horses for courses
A combination of rising labour costs, cultural issues and political and weather-based risk is forcing many organisations to reassess offshoring arrangements and consider basing operations onshore or nearshore, says Martyn Hart, chairman of the National Outsourcing Association.
“It’s a case of picking horses for courses,” he says. “So India may be a great base for writing very large-scale software programs requiring thousands of programmers, but not so good at writing text for a screen for a first-time user to work out how to use an application,” he says.
This is something of which Tom Casey, indirects procurement manager at Everything Everywhere, is all too aware. “The maturity levels, intelligence and capability of the outsourcers in places like India and the Philippines are incredible and you could practically outsource everything in your function,” he says.
“The only point where that doesn’t work is call centres, where there has been a backlash from consumers. Now we have 80 per cent of our call centres onshore and 20 per cent offshore, just manning certain hours for us.”
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