Outsourcing mania

When officials at upstart DirecTv, Inc. launched their direct satellite television service, the company farmed out its billing and data center management operations to Digital Equipment Corp. for an undisclosed sum.

Likewise, Arkwright Mutual Insurance Co. jobbed out a major WAN upgrade rather than dump the work on its tiny IS staff. And software giant Microsoft Corp. has embraced outsourcing as a core business practice, contracting out everything from catering to support and maintenance of its 16,000 PCs.

Outsourcing is hot. International Data Corp. (IDC), a market research firm in Framing- ham, Mass., estimates IT-related outsourcing revenues are growing 14.4% annually and will bust the $26 billion revenue mark by 1998. Net outsourcing revenue, IDC says, is growing even faster - at a bit more than 19% each year - and will almost double from $1.3 billion today to over $2.3 billion in 1998.

So how do you determine whether you should take the outsourcing plunge and, if so, how deep should you dive?

Outsourcing practitioners and consultants say you need a structured approach to appraising your outsourcing needs that addresses strategic business and cost goals, as well as technology issues. And don't overlook the personnel considerations that could ensnare you in legal entanglements from an outsourcing deal (see story, this page).

Identify core competencies

Senior management - meaning the corporate executive committee level - should decide which processes are vital to the company mission and must remain in-house, says Dennis Torkko, a managing partner with Arthur Andersen & Co. who advises clients on outsourcing. The goal is to separate core strategic functions, which include those that provide competitive advantage, from less essential services.

That's the path DirecTv took. The firm, which started with just six employees, investigated billing operations at major companies and found it to be a staff-intensive operation that involved data center management and computer hardware support - definitely not core competencies.

So the company handed the whole affair off to Digital. "We decided to hire a company that does this well and take advantage of what they have already learned," says Bill Butterworth, an ex-ecutive vice president with DirecTv.

That's the same type of thinking Mi-crosoft uses to find business partners. "All costs being equal, you benefit by handing it off because the other company is passionately devoted to being the best in that area," says Michael Brown, chief financial officer at the software giant.

But not every noncore function is ripe for outsourcing, says Chuck Papageorgiou, a managing director with consultancy M.F. Smith Associates, Inc. in Atlanta. "If a noncore function is a competitive advantage or keeps you close to customers, outsourcing may not be the right move," he says.

Outsourcing may also be inappropriate if it's considered solely from a tactical perspective. Sometimes a central organization decides the company will never be able to bring a particular function under control - such as network support or data center management - due to politics with business units.

"The belief is, if you give the problem away, the third party will be able to magically make it disappear," says Jerry Cooperman, vice president and research director with Gartner Group, Inc., a consultancy in Stamford, Conn. This tactic generally doesn't succeed, he says, because the client hasn't invested the time to address the underlying business processes that may need reengineering.

Once an organization has identified those functions that must be performed in-house, the remaining essential services and functions are fair game for outsourcing. That's when you begin taking them one by one and asking lots of questions, including:

Will outsourcing this function improve our management focus?

Will outsourcing provide gains in flexibility, scope and expertise for the function?

How will outsourcing the function affect relationships with customers and employees?

What does it cost to perform the function in-house vs. via an outside provider? How much of the function should be outsourced?

When Bill Stella, vice president of information services at Arkwright Mutual Insurance in Waltham, Mass., asked those questions, flexibility and time savings surfaced as the chief reasons to job out a major WAN router upgrade. With a staff of just four employees supporting a nationwide network of more than 1,000 users, Stella didn't want to burden his staff with the product implementation.

"We could have struggled through the project ourselves, but it was more important to get the job done while maintaining existing service levels," Stella says. While Digital handled the project management for the implementation, Stella's staff spent time training on the new routers so it could hit the ground running when they went live.

"Outsourcing allows us to take some burden off our IS people and let them concentrate on more critical things," he adds.

The proper partner

The next step is to find the service provider that's right for you.

This involves deciding on the type of outsourcing relationship you need, which Torkko says is a decision driven by the scale and complexity of the function or process being outsourced. If you decide to outsource data network operations, you may want a more strategic relationship than if you jobbed out PC support service to a vendor.

You also need to understand your provider's cost structure, including its profit margins and what it needs to take away from the deal, just as the vendor needs to understand your needs, Torkko says.

Papageorgiou adds that you should consider the project personnel the vendor intends to put in place and reserve the right in your contract to have team members replaced at your discretion. "You don't want your company to be a training ground for any vendor," he says.

By the same token, Cooperman says outsourcing service providers should "not only share in the losses, but should benefit from the profits, too." Toward that end, contracts should spell out penalties if performance levels are not met and the rewards providers will receive should they exceed expectations. "You're looking for a partner," agrees Microsoft's Brown. "You want them to succeed, too."

Monitor and evaluate

Contracts should also detail performance goals and a specific methodology for ongoing improvements, Torkko adds.

Indeed, as part of some outsourcing deals, Cooperman has seen parties agree to have an independent auditor regularly evaluate the demands issued by the client against the service provided.

But all that monitoring and performance evaluation isn't worth it, users say, unless the project is focused on meeting business goals. "Outsourcing is all about economies of scale," says Brown. "If I outsource PC support to a global services company, I can bring that expertise to bear worldwide in an instant. That's an efficient relationship."

Adds Arkwright's Stella: "It's a very effective way to work, but it takes commitment from both sides."