Outsourcing: An Interview With Clients

I recently had the opportunity to ask some of my clients a few questions about their outsourcing deals. The following is based on those discussions…

1. What is one of the biggest challenges you faced at the procurement stage of an outsourcing and how did you manage that challenge?

Procurement of long-term, high-value outsourcing contracts is complex. You need to be able to negotiate appropriate risk transfer, service levels and pricing, while maintaining competitive tension between vendors bidding for the work. It is not as simple as firing off an RFP with pre-defined services and waiting for a crate of apples to choose from. 

The biggest challenge in carrying this off successfully is getting the right team in place. As the service recipient, you will be sitting across from a very sophisticated and tireless global team that will want you to use their paper and get things done as quickly as possible (which may mean leaving some details for later). Matching talent for talent is critical. 

There are three essential components to a well-matched team: 

  • A business lead with dedicated operational managers bringing deep knowledge of current state operations and outputs.
  • Top notch deal expertise (find an economic modeller, legal support, and negotiation support that has done this before – successfully and on deals with similar scope). This is almost always external unless you have a portfolio of deals that allows you to have a deal team constantly deployed. Remember the vendor team across the table from you does this for a living. The team should also include internal procurement, finance and project management resources.
  • Dedicated executive leadership with decision making authority, courage and credibility. This is an art and a science. Take it seriously. Daily escalations, conflict, team management, and managing up to executives is a full time job. 

A key role for the business lead and executive will be managing and mentoring the operational managers. The transition from operational control to a focus on performance and contract management is a tricky one. When setting service levels, assessing process and service redundancy and transforming organizational structure and accountabilities it is essential to have deep knowledge of current operations and outputs. At the same time diplomacy and delicate coaching is necessary to move the focus beyond protection or defence of the status quo.

With robust expertise in place, your procurement exercise can move from a vendor controlled sales effort to a true negotiation of a commercial relationship. When we enter into multi-year, multi-hundred million arrangements at stake the services recipient can afford no less.

2. In a mature outsourcing, what do you see as the most significant challenge as you move into the end state of the agreement? 

One of the key issues in the last few years of an outsourcing from the service recipient’s perspective, is getting to a decision as to whether the outsourced services will be repatriated, re-procured, or renewed (if that option exists in the contract), on the whole or in part, when the contract expires. My client is finding that when the service delivery is meeting or exceeding the contract requirements and expectations and the relationship is generally going well, the last thing the business team wants to focus on is dealing with the end state. But in order to make that decision, a team comprised of subject matter experts needs to be assembled to carry out a certain amount of due diligence (including assessing the pros and cons of the three scenarios, conducting market research on the current industry best practices, assessing the organization’s internal capability and capacity to take back the services and other considerations unique to the services or organization). Even getting executives or the board to assemble and focus the business team to carry out that due diligence when the outsourcing arrangement is running smoothly and successfully is a challenge. Equally, if the relationship is not going well there are often other more immediate issues to resolve than what will happen in 2 to 5 years… but that’s input for a future SLAW article. 

3. How important is understanding the BAU to negotiating a successful outsourcing?

The business as usual financial model is typically established by the service recipient organization in advance of going into an outsourcing deal. The BAU establishes the financial status quo based upon the current way the business is being delivered internally within an organization (the BAU usually includes budgeted work-in-progress but excludes significant transformative projects). 

From the perspective of the financial expert engaged in business process outsourcing, the BAU is critical to a service recipient organization when analyzing an outsourcing proposal because it establishes a baseline cost model relative to the current risk environment. This is important in terms of evaluating the vendor’s proposal (specifically the scope of services and risk transfer for the price). The BAU is also an important tool in the negotiation of the outsourcing contract, and can also be a valuable in obtaining internal approvals that the service recipient may require.

From the financial perspective, when the service recipient receives a services proposal from a vendor setting out the scope of services and pricing, a well developed BAU allows the business team to assess the value that the organization may be getting from the new service model compared to the risk being transferred to the vendor (for example the amount of technology or infrastructure risk, people risk, project risk, etc. that may be transferred under the proposal to the vendor). As well, having a well developed BAU allows the financial expert to run certain scenarios and sensitivity analysis on the information to validate the proposal. For example, where the price of the new services proposed by the vendor is $2M higher than the BAU, the financial expert will assess whether, given an additional $2M, the service recipient organization could manage/mitigate the same amount risk or undertake the same scope of business transformation for the money. This helps the business team to determine whether the incremental cost over the BAU is reasonable for the scope of service being offered and the extent of the risk being transferred to the vendor.

From a negotiation perspective, the BAU is an invaluable tool for the business team or deal negotiator to measure or benchmark the value of the proposal and to better understand and negotiate the price for the risk transfer. The BAU can also prove be a valuable tool in instances where the service recipient organization is required to develop an internal business case and obtain senior executive approval of the negotiated deal prior to contract signing.

Many thanks to the clients I spoke with for their input.

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