July 8, 2014


Gen 2.0 Outsourcing: How to Create Lasting Success

It was fall of 2012; the corridors of the large entertainment conglomerate were relatively quiet. The service desk had a normal day and business leaders didn’t realize that the IT shared services department had just managed to shift the incumbent IT infrastructure service provider to a new Service Provider with no trace of business disruption. One of the biggest changes in the history of this Fortune 100 Company just went by….unnoticed.

Fast forward to the fall of 2013, suddenly things started to feel better for everyone in the organization. More than SLA compliance, it was the personalized touch to the quality of service that started to emerge slowly but steadily. It was first time someone started to take a customer centric view of service request trying to resolve all issues irrespective of the boundaries of scope that resulted in much faster turn- around time resulting in servers being available in days rather than weeks. Much of this was due to a customer-oriented team that listened to and addressed the concerns of business and IT users with complete transparency. Everyone soon realized that the change was not only good, but refreshing for the business through a flexible working model and completely new perspectives. How could a brand new Service Provider manage to not only transition one of the largest ITO deals in North America but run it extremely successfully, bringing in 60+ service improvements within first year of the relationship? Understanding what happened before and after – “THE CHANGE” – would be a good starting point:

Before we get deeper into the key success factors for managing the change, let’s first characterize these large multi-million dollar deals mostly happening at Fortune 500 customers.

First few years of the 21st century observed multi-year, large, billion dollars “Total Outsourcing (TOS)” deals when lot of the Fortune 500 organizations signed their first outsourcing contracts (Gen 1.0). These Gen 1.0 TOS deals were all inclusive contracts where service providers offered an end to end solution to take over control of IT infrastructure including people, technology and brought in their best practices with a promise to deliver better, cheaper and faster service. These were long term single vendor deals where customers ended up paying much more than initially anticipated cost and also lost visibility to the underlying technology, operations. The next renewal of outsourcing agreements, called Gen 2.0 had different structure where customers controlled the technology architecture, product selection, asset ownership hence got better operational visibility. The change from Gen 1.0 to a Gen 2.0 outsourcing agreement involves enormous effort in gaining the asset control back; striping down the contract with services only scope and managing the risk of vendor change with very little to no visibility of operations, underlying infrastructure architecture. It needs a detailed analysis of incumbent service provider’s contract to manage the risks of service provider change and any other associated liability. Following paragraphs describe some of the best practices that may help in managing these large transitions successfully.

  1. Design the contract to deal with ambiguity

The change from Gen 1.0 to Gen 2.0 outsourcing relationships can create a lot of ambiguity ranging from unknown environment/scope details to the environment growth pattern and veracity of SLA data. It’s very common to find the need for new SLAs and KPIs. However, lack of historical data and environment information makes it difficult to formalize these in the contract. So, have the provision to review the solution and focus on itemizing the price to get better visibility into the support effort. Use industry benchmarks as well as baseline data for initial support months to define the right support structure and SLAs. The key here is to have contractual flexibility that will allow change in the support structure and pricing with transparency of the real effort behind it. This has to be done without compromising the flexibility of the pay-per-use support model, in which the vendor is still carrying the risk of assigning the right number of people to support the environment.

  1. Provision to benefit from future technology standardization and automation

The pricing structure in Gen 2.0 outsourcing deals considers the future benefits of new technology that’s more stable and has the potential to reduce the number of incidents using automation and self-healing solutions. It also identifies key work-load metrics that will reflect the variation in effort on an ongoing basis, providing data to fine tune the pricing once a clear pattern of effort variation is established.

Variability in the cost structure requires a model that allows the customer to change both the fixed cost and scale up/down the unit price based on volume of work.

The ability to create a custom solution without compromising the service quality requires an agile partner and a deep relationship.

  1. Create the culture of transparency and innovation

It’s not uncommon to find customers who don’t have accurate inventory of underlying hardware, software licenses and the capacity utilization.  This lack of visibility leads to handing over the keys of the kingdom to vendors who exploit this opportunity to sell more hardware and software under the guise of transformation.

Choose product-agnostic vendors who have the process rigor to document and provide capacity and performance visibility regularly. Create incentives to innovate and use gain sharing models to promote transformation where each party gets to share the benefits of transformation/optimization.

  1. Price it right

Most Gen 1.0 contracts had pricing models that were based on Resource Unit (RU) consumption, bundling labor, asset, hosting, network, third party charges etc. The RU pricing provided cost predictability, aligning with the dynamic business demand as you pay per use. The model was extremely popular with CFOs as it sounded truly “On Demand”.  Customers soon realized the challenges with the model few years down the line, when the monthly bill started to balloon quickly as the environment grew rapidly. This added to the monthly charge because the P (Price) x Q (Quantity) pricing construct was fixed for the term of the deal. While the cost of hardware was falling and software products were becoming obsolete, the monthly cost was going up. True on-demand pricing has to consider following aspects to be more holistic:

  1. Right price the baseline environment support using historical workload data, technology and complexity of the environment.
  2. Create the framework to address variability using true effort drivers. The unit price for the resource unit should align to actual effort while taking into consideration future maturity, environment stability and other automation lead benefits.
  3. Itemize the pricing to get better understanding about fee structure.
  1. Avoid forklifting people to the other side of the table

Several Gen 1.0 deals had a large part of the workforce re-badged from the customer rolls to the service provider’s overnight This meant employees had to adjust to a new culture and environment while shifting to a service provider mindset. . Many of the employees had also not updated their skills or technology knowledge. It is important to maintain the right balance between the incumbent and new supplier’s team members to establish the right mix of experience and customer oriented mindset.

Shifting from one outsourcing partner to another can be costly and disruptive, if not handled carefully. While there is no one way to do this, the key is to pick a partner who wants to establish a relationship and not just a contract and whose core business strategy aligns with your goals.