IT: In or Out

A Look at IT Outsourcing in the Manufacturing Industry

by Ian S. Hayes

Outsourcing has long been a common practice for manufacturing organizations, encompassing everything from cafeteria operations to components and logistics. It allows a manufacturer to concentrate on its strengths while obtaining goods and services from companies with core competencies in those areas. When executed properly, the results, an assemblage of best in class capabilities, provide performance and price advantages that exceed the abilities of any single company. An increasingly global market affords additional opportunities to capitalize on regional differences in labor rates. Add the availability of ever more sophisticated services, and it is hardly surprising that outsourcing is flourishing despite the slow economy. Nowhere are the advances more apparent than in IT outsourcing.

Originally a means of offloading data processing equipment and operations, IT outsourcing now offers an extraordinary array of creative options, allowing a manufacturer to source all or any part of their IT responsibilities. A company may elect to source a single development project to speed time-to-market and gain desired expertise, or offload all application support to free internal IT staff for other initiatives. Complete IT functions, such as desktop support, web development, or legacy application maintenance, can be outsourced and, through business process outsourcing, a company can divest responsibility for both the IT and business operations of a function such as accounting or fulfillment. Although traditional data center outsourcing continues, companies now have a myriad of additional options including outsourcing storage and servers, and purchasing processing power indirectly by renting a web-delivered application from an Application Service Provider (ASP). The final option is to outsource the entire IT organization to a provider who offers higher levels of service, increased efficiency or lower costs.

Along with a variety of options in types of outsourcing services, there are many options for how those services are delivered. Local on-site delivery appears the same as an internal organization and supports a high level of direct interaction between the outsourcer and clients. Offsite delivery provides staff and equipment through regional development centers, gaining economies of scale and capitalizing on geographic differences in staff and infrastructure costs. Near shore delivery uses development centers in nearby countries, such as Canada and Mexico for the United States, to expand the offsite benefits with lower international risks and less travel. Enabled by advances in networking, offshore delivery encompasses work in countries such as India, Philippines, Russia and China to tap highly skilled resources at the lowest possible labor rates. Companies can employ any of these options on their own, or they can contract with a larger outsourcer to spread their work across the different delivery options based on factors such as type of work, time and cost requirements and tolerance for risk.

Regardless of the type of service and delivery option, most outsourcing engagements occur in four phases. The first phase covers the analysis and planning of the engagement. In this phase, the company and outsourcer document the scope of the engagement and the services to be provided within a Statement of Work (SOW), establish performance standards and measurements for monitoring performance in a Service Level Agreement (SLA) and finalize the rules of engagement in the contract. Because these documents govern the entire outsourcing engagement, it is critical that they are accurate and well negotiated. The second phase transitions operational responsibility for the services described in the SOW from the client to the outsourcer. In a staff provision engagement, the outsourcer brings in its own staff, freeing client employees for other assignments as each function is assimilated. In a staff assumption engagement, client IT staffers are transferred, becoming employees of the outsourcer. The length of the transition depends on the size of the engagement, but typically lasts 12 to 16 weeks, concluding when the outsourcer has full responsibility for meeting the performance objectives in the SLA. The third phase, operations, covers the bulk of the engagement. During this phase, the outsourcer performs the SOW services to the level of performance commitments in the SLA. A client/vendor steering committee monitors performance, resolves issues and handles scope changes. The final phase, transition out, occurs at the conclusion of the engagement and functions as the reverse of the initial transition.

In the right circumstances, IT outsourcing offers many benefits. It enables companies to devote more attention to their core competencies by freeing executives from the demands and distractions of managing an IT organization, eliminating concerns over details such as hiring, firing and staff retention. IT is the core competence of an outsourcer. Their best practices will enhance IT performance, increasing effectiveness and providing higher and more predictable levels of service. These best practices significantly lower costs, particularly when an engagement can use near shore or offshore resources. With the right partner and properly negotiated contract, outsourcing can provide greater flexibility in adjusting IT to changing demands while increasing control over performance through the use of SLAs. Finally, outsourcing non-strategic functions can free internal resources for more valuable uses.

Given this background, how does a manufacturing company decide if IT outsourcing is a good solution for its needs? One company with significant experience in IT outsourcing is Carrier Corporation, a subsidiary of United Technologies and the world's largest manufacturer of air conditioning, heating and refrigeration equipment. As Tim Fleming, Director of Information Systems and Services explains, "In today's economic climate, maximizing the value we receive for the dollars we spend is imperative. Outsourcing is one of the tools that lets us achieve that goal."

A common approach for deciding if outsourcing is appropriate is to focus on core competencies. Equipping, staffing, and managing an internal IT organization is costly and requires highly specialized skills. Many IT functions, such as supporting accounting systems, are relatively generic and offer no particular competitive advantages. Conversely, an advanced forecasting system or highly automated assembly line may offer critical advantages. Manufacturers that rely on IT primarily for generic, back-office functions are good targets for outsourcing to reduce management distraction and lower costs. Companies that use IT more strategically should question the quality of their performance in each IT function. If a function is strategic and its performance is best in class, it should remain in-house. If performance is an issue, a best in class outsourcer can bring significant improvements through its expertise and processes. Outsourcing is less suitable for functions that are very volatile, confidential or require a high level of company-specific knowledge.

Choosing the right partner is the most crucial step for launching a successful outsourcing engagement. IT outsourcing is a long-term relationship and obtaining a divorce in the middle of an engagement is problematic and costly. Before approaching potential partners, a manufacturer should have a good idea of the functions it is willing to outsource and be able to articulate the key business benefits that it wishes to receive. Although their underlying IT functions may be similar, each manufacturing organization has its own unique characteristics, culture and business objectives. These requirements define the best delivery approach and narrow vendor selection. For example, the best fit for a manufacturing organization seeking to lower application maintenance costs for its back office Human Resource applications is likely to be an offshore provider, while a defense contractor may be unwilling to consider any options that are not performed on site under its complete control.

Begin partner evaluation by carefully researching the capabilities, experience and culture of prospective outsourcers. Tim Fleming suggests, "When selecting an outsourcing partner, price shouldn't be in the top three requirements. More important considerations for long-term success are cultural match, contract flexibility, and value-added capabilities." Given the length of typical outsourcing arrangements, it is important to choose a partner with a breadth of capabilities, commitment to building a strong, mutually advantageous relationship and the flexibility to respond to inevitable changes over the life of the engagement. If cost reduction is a major objective, then offshore or near shore delivery capabilities are essential. If business user interaction or knowledge transfer between groups is critical, onsite staffing is required. Also, make sure a potential partner's skill sets and specialization match short and long-term requirements. To meet its objectives, Carrier uses CSC for its IT infrastructure outsourcing and Keane, Inc. for the majority of its application outsourcing. Keane's ability to provide a blend of onshore and offshore resources enables Carrier to better match work distribution to company objectives. "Keane has substantial expertise in the application space and its flexibility and change management skills are exceptional," states Fleming.

Although everyone hears war stories of IT outsourcing failures, problems are not inevitable. Most outsourcing engagements fail from cracks in their foundation and insufficient attention to relationship management. Fleming notes, "There are two critical stages for managing outsourcing engagements. The first stage is the start of the effort where the focus is on building effective governance structures and successfully launching the engagement. The real test of character comes during the second stage, years two through ten, when the engagement faces inevitable changes and no longer has the executive attention present during the launch." Typical issues in the early stage of an engagement include mismatched expectations, incompletely specified requirements, poorly defined and set SLAs and rocky initial transitions. Most of these issues arise from shortcuts during planning and analysis. Later stage issues appear when changing business needs cause the interests of the client and outsourcer to diverge.

Fortunately, all of these issues are avoidable. Considering the length, cost, benefits and importance of an outsourcing relationship, it is worth investing adequate time and resources to engagement start-up. Companies without experience in IT outsourcing should seriously consider retaining an independent outsourcing advisor to provide assistance during this crucial period. Proper planning and preparation before launching the engagement sets clear objectives for the engagement and ensures those objectives are met by the terms in the contract, SOW and SLA. Although the outsourcing partner can help, companies are well served by independently researching and defining their own scope and performance requirements. Producing thorough, accurate and detailed documents greatly reduces misunderstandings and increases the likelihood that the company will receive the quality of service it seeks. Establishing a strong governance structure to guide the engagement is also crucial. With participation from multiple levels in both companies, this structure is responsible for guiding the engagement over its life, maintaining alignment between client and partner objectives, and ensuring a productive working relationship. Treat the transition period as a shakedown cruise, actively seeking and correcting issues before they have a chance to affect the engagement. This period is a good test of the relationship with the outsourcing partner. If the partner is flexible and responsive to issues during the transition, the relationship is off to a good start.

Outsourcing is a longstanding and revered manufacturing strategy. Manufacturing executives were quick to recognize that concentrating on their organization's strengths while purchasing goods and services from "best in class" providers results in better overall performance and higher profitability. IT outsourcing offers a wide palette of services and delivery choices that can help manufacturers enhance the value and performance of their IT investments. As many manufacturers have found, it is an option well worth exploring.