The Art of Successful Information Systems Outsourcing

David Gefen

• Publisher: Business Expert Press
• Year: 2011
• Print ISBN: 9781606491614
• eBook ISBN: 9781606491621
• Topic: Business
• Subtopic: Information Management
• Index: Business

This book is unique in that it does not simply discuss an author's practitioner experience or present a summary of academic research on what makes projects succeed. Rather, this book does not hide the real complexity of the issue and does not attempt to introduce the reader to some elusive nonexistent boilerplate solution. The book does include real world experience and does summarize academic research, but it also treats outsourcing for what it is -- an incredibly complex process. There are however many steps managers can take to understand outsourcing for what it really is and manage this process accordingly. It is this focus on the correct mindset, rather than the methodological steps alone, that makes this book unique, and that is why the title of the book is about outsourcing as an art and philosophy.

Chapter 1

What It Is All About

—Sun Tsu¹

Overview of IS Outsourcing

Outsourcing is about letting out work that might have been done in-house to another company, with all the benefits and risks such a step entails. This book is about coaching the reader in the management of a special kind of outsourcing, that of information systems (IS) and information technology (IT).² In the interest of brevity we shall refer to both contexts as IS outsourcing because of the overlap in risk analyses in both.

The decision to outsource IS development, service, or maintenance is often a crucial one because in many organizations IS strategy and organizational strategy are two sides of the same coin. Information systems through information technology integrate and standardize the organization and its operations. IS provide the bottom-up information flow from the employees who service the customer or manufacture the goods to senior management who, thanks to IS, can have a real-time picture of exactly what is happening and where. And, most importantly, IS provide the top-down command and control structure through which senior management determines what these employees can and cannot do by enforcing organizational policy and work flow in a manner unattainable without IS. It is because of this symbiotic relationship that strategic IS decisions are often strategic organizational decisions and that strategic organizational decisions depend on IS to be fulfilled. In fact, the symbiosis between the organization and its IS is such that IS are often described as the nervous system of the organization.³ Outsourcing the nervous system may have its benefits and, as we shall discuss, may be necessary and sometimes even an unavoidable consequence of the technology and its rapid evolution, but it is risky. And that leads to the theme of this book:

The key to successful IS outsourcing is to know these risks and to take the right steps to control them.

As you read the book you may say to yourself, “But in my company this is not how we did it.” That may indeed be the case. Things differ across organizations because of project characteristics, because of IT maturity levels, because projects are born and borne differently, and so on. Still, at a higher level of abstraction, a proverbial 30,000-foot view, there are many parallels to why outsourcing projects do and do not succeed. And so, although there is no silver bullet because every project, technology, team, requirements, vendor, company, risks, and so on are unique, there is a correct and mostly recurring mind-set when these projects do make it. This book is about these overall principles as seen at this proverbial 30,000-foot view.

What you need to remember as you read this book is that outsourcing is about allocating the risks and responsibilities to another company. It is about having someone else do something for you because they can do it cheaper, faster, or better, for example, by reusing their expertise to gain economies of scale.⁴ Outsourcing is not about abrogating your responsibility or externalizing internal headaches such as a malfunctioning IT department.

As we progress through the book we shall discuss these risks in ever increasing circles, starting with the risks of not understanding what outsourcing is and what it is not in this chapter. We shall then discuss the risks related to the evolution of the technology, and specifically to the maturity of the way the organization uses its IS in view of the diffusion of innovation theory⁵ in chapter 3, progressing through the need to recognize and address risks in one’s own company before taking any steps toward outsourcing outside the realm of the company in chapters 4 and 5.

Even if you the reader are not directly interested in IS outsourcing management but you are interested in outsourcing in other contexts, you should consider reading this book because what applies to IS applies to other industries too—except that IS move so much faster, with a new technology with revolutions every 5 years or so and new technologies every 1.5 to 2 years. Indeed, as you read the book you will probably see the parallels with other high-tech industries such as pharmaceuticals.

The Ubiquity of IS Outsourcing

Indeed, IS outsourcing, with its increased benefits and risks, is all around us. It is unavoidable. Although it may be unknown to you, you too are probably already outsourcing with what is currently called Cloud computing or SaaS computing (SaaS, standing for software as a service, is the current buzz word for what used to be called application service providers, or ASP, some time ago). When you use Gmail and Google Docs instead of the e-mail and word-processing applications, respectively, that come with Microsoft Office on your PC, or when you use TurboTax on the web instead of as an application you install on your laptop, or when you use Lala.com to access music on the web wherever you are instead of the limited service iTunes gives you only on your own PC—in all these cases you are technically outsourcing the IS services you are using.⁶ And you are not alone. Several universities have already decided to adopt Gmail as their standard e-mail service, thus cutting their expenses while increasing the quality and uptime of their service. Google’s new operating system Chrome OS will take this common experience of outsourcing to the next stage: even your operating system will be mostly outsourced and in the process might even be better, certainly cheaper (well, it is free), automatically updateable, and, importantly, mostly on a remote server of which you are totally unaware. Having all this on a remote server has the distinct advantage of saving you or your company the headache, and considerable cost, of upgrading the CPU and memory and key applications every time a new operating system or other resource-devouring software you are dependent on is released. Outsourcing IS services has its benefits. And just as it is beneficial to you as an individual, so it can be beneficial to organizations, providing, in both cases, that it is outsourced while you and your company realize what the risks are and take appropriate steps to control these risks.

It should come as no surprise, then, that IS outsourcing is growing at an incredible speed, according to some industry reports attributed to Gartner assessing the worldwide IT outsourcing services. These reports include IS, at $806 billion in 2008, an increase of 8.2% over 2007, with IBM, HP, and Accenture holding the top market-share positions.⁷ Already in 2005, 95% of Fortune 1000 companies outsourced, although most of them only selectively, while among smaller companies outsourcing took on a much slower rate with only 19% of companies outsourcing, according to Dominguez.⁸ Average cost savings all together stands at an average of about 10%, although in 28% of the companies the result was actually increased costs⁹ A chief information officers’ (CIO) roundtable I attended in Detroit in 2009 confirmed this pattern: Larger companies tend to outsource more, the smaller ones do not, and all emphasized that cost savings, provided the outsourcing is done correctly, is probably around the 10% mark only and not the 40% mark some vendors claim. Indeed, in a survey the consulting firm Deloitte published,¹⁰ in which they studied some of the companies in the Fortune 500 listing, they found that outsourcing is fraught with risks and that although 70% of the companies outsourced to save costs, 38% of those incurred hidden costs that cut into their expected profits. The reason for this, adds Deloitte, is that outsourcing is a very complex process and that its risks cannot be completely mitigated. Still, 30% of the world’s largest 1,000 firms already outsourced offshore by 2005.¹¹

The Lack of a Boilerplate Solution to IS Outsourcing

There is no boilerplate methodology for IS outsourcing. There are mistakes you can learn to avoid by a risk-conscious mind-set, but the truth is that outsourcing IS projects successfully is overwhelmingly complex unless you stick to very standardized types of services such as Gmail. To demonstrate this complexity, imagine a medium-sized IS project. This type of project will be based on a requirements document, which even in a small IS project may span over 5,000 pages. My experience as a systems analyst and project manager leads me to be skeptical of how many people actually read all the pages of such a document, let alone try to identify potential overlaps and conflicts within it. Seeing all the conflicting details and missing pieces just from reading the requirements document is impossible, even among the few, including the project manager and systems analysts, who do try to do so. This complexity in developing IS projects can be likened to a large puzzle. One never knows if pieces are missing or are not cut correctly around the corners until one puts almost all the puzzle together—except that a large IS has many more pieces than the several hundred of a jigsaw puzzle. Now, when the IS project is managed inside the company many of these issues of missing or wrongly defined software modules, the equivalent of the proverbial jigsaw puzzle pieces, can be more easily resolved—albeit industry numbers have been putting in-house (in-house means developing and maintaining the IS inside the organization, rather than outsourcing it) IS project failure rates at around 30% for years.¹² Add to this complexity the additional distance between developers and users that outsourcing brings, and add to this the fact that the outsourcing client cannot go back and change the details because a contract is a contract, and the consequences of outsourcing makes the management of such IS projects so much more complex. It is in fact so complex that economic theory has not yet converged on a proper way to manage this.¹³ Indeed, the failure rate in IS outsourcing is estimated by Gartner at around 50%.¹⁴

There may be no boilerplate, but there is a correct mind-set: Treat outsourcing as an iceberg. With an iceberg one sees lots of serious dangers and one may be able to navigate around them, but the real danger lies in the submerged part. It is because one never quite sees the whole picture that it is imperative to treat the risks with the utmost respect. Nonetheless, because IS outsourcing is here to stay, this book does provide at the end of this chapter a tentative boilerplate guideline to assist the reader in trying to steer away from the iceberg. This is important because it is estimated that only about 10% of IS outsourcing contracts actually save money,¹⁵ while in most cases—according to industry surveys—companies have had second thoughts about outsourcing their IS and have decided to bring it back in-house.¹⁶ Although there is no silver bullet because every project, technology, team, requirements, vendor, company, risks, and so on are unique, there is a correct and mostly recurring mind-set. The tentative boilerplate is geared to create awareness in that direction.

The Driving Forces Behind IS Outsourcing

There are many driving forces in the marketplace that contribute to why outsourcing is becoming so prevalent and unavoidable. Among the more common reasons, which we shall review in this chapter, are (a) the escalating costs of IS development combined with limited resources; (b) the limited availability of high-quality staff; and (c) the ready availability of standardized packages. Let’s examine these one at a time.

Escalating Costs

A key problem CIOs have is the need to do more with less. Many U.S. and European companies face budget freezes, including a freeze on hiring new IS staff, coupled with the need to continue maintaining services on existing IS. According to some reports, already 70% of IS budget goes to maintenance.¹⁷ This means most of the budget goes to managing and supporting existing systems. This gives IS managers very little wiggle room in financing new IS, although the need is clearly there. Without the ability to hire new staff, but still being compelled to provide new services, there is little wonder many CIOs outsource either the development of new IS or the maintenance of their legacy systems so they can release their staff to develop new systems. Outsourcing is the answer.

This need to do more with less is compounded by shrinking IT budgets. The average IT budget as a percent of company revenue declined from a high of 3.88% in 2001 to only 2.80% in 2008.¹⁸ Combine this with evidence that industry concentration (the market share held by the top 20 largest firms) is growing, especially among high-IT companies and that the composition of these top 20 companies annually changes more in high-IT companies, and that the performance in gross profit margin between the 25th percentile and the 75th percentile is growing “dramatically,”¹⁹ and the obvious imperative to outsource is at least partly there.

Outsourcing in theory allows CIOs to get things done faster and cheaper. Importantly, it also allows CIOs to deliver new IS without the need to hire a lot of new personnel to build the new IS and then fire many of them when it is ready. Hiring and firing are expensive financially and emotionally, and these are not things CIOs want to spend all their time doing. CIOs can rely instead on outsourcing, especially as software and its related services have become considerably more standardized and integrated over the years. Indeed, as a CIO in Phoenix, Arizona, told me in December 2009, he often has to outsource simply because he does not have the personnel to develop necessary IS otherwise. Important for the next chapters, this CIO also added that when he does outsource he explains to his IT group that he is going to outsource because, even if they worked overtime, they could not complete the tasks on time.

The market imperative to support outsourcing is there, too. Customizing an enterprise resource planning (ERP) system or developing a website requires a lot of initial learning, representing substantial setup costs, but customizing subsequent ERP systems or building other websites once the first one has been done correctly is substantially cheaper. As a result, a vendor has economies of scales in providing these services. The vendor can deliver the new IS at a considerably cheaper price and much faster. Moreover, since the vendor has already done so many times in the past, the vendor can promise a reliable delivery schedule, something an in-house team developing such a system for the first time cannot so easily do. And, no less important in the context of software projects, the software the vendor will be delivering will probably be of higher quality, even if it does not include all kinds of additional, unstandardized features the in-house team may add.

Availability of High-Quality Staff

Such an outsourcing vendor will also have the advantage of already having the trained staff it needs. Software vendors tend to specialize in specific topics, and this is what gives them the advantage of economies of scale. Specializing in this manner allows these vendors to search and then hire the experts they need for these specialties. This is an important consideration because these experts are not readily available, and when they are, their salaries might be out of proportion to what other employees in the client company make. The experts too have an incentive to prefer working for a vendor. Wit...

Table of contents

• Title Page
• Copyright
• Table of Contents
• Prologue
• Chapter 1: What It Is All About
• Chapter 2: Review of Current IS Outsourcing Topology and Trends
• Chapter 3: The Technology Imperative
• Chapter 4: Agency and Outsourcing Risk Management
• Chapter 5: Internal Risks During Outsourcing
• Chapter 6: Managing Risks in Interacting With the Agent
• Notes
• References