Outsourcing ­ – the transfer of the management of all or part of a business function to an external supplier ­ – has become an integral part of strategic decisions.

Demand for outsourcing arrangements is being driven by the naturally exponential curve of the increased use of technology throughout the business.

And the explosion in the amount of work needed to be undertaken by the often-limited resources of the IT department has led to a general rethink of the way that organisations resource and support IT.

For many companies, IT is no longer a core competency, while others do not have the resources in place to support the technology needed to further the growth and development of the business. For such companies, choosing to outsource some, or all, of its requirements to a third-party technology partner, either locally or offshore, becomes a tactical decision.

Samad Masood, analyst at Ovum, says some of the original outsourcing deals simply gave everything to one supplier, regardless of their expertise, so as to have a single point of contact should things go wrong.

“This was not always the cheapest way of doing things or one that used the best technologies, and organisations soon realised that multisourcing deals ­ – either using a prime contractor or by managing a mix of vendors ­ – gave the best return and was a better way of outsourcing,” he says.

A major trend over the past few years is the reduction in contract lengths and the size of the deals. “Today’s outsourcing arrangements are averaging out at between five and six years,” says Masood. “Three years ago outsourcing arrangements used to last closer to eight years.”

Pascal Matzke, vice president at Forrester Research, says we can also expect a change in the buying agenda, with the US entering a recession and the danger of something similar happening in the UK. “In the context of a downturn, I anticipate that the size of IT outsourcing deals will go up slightly. However, companies will be taking a more holistic view of procurement and there will be a tighter focus on cost-related goals rather than pricing based on outcomes,” he says.

A managed service ­ – buying IT services the same way that you buy electricity ­ – can reduce cost and increase profitability. Staff costs are often reduced by eliminating or transferring some of the full-time internal IT staff to the outsourcing company.

Insurance firm Pearl Group transferred 1,500 staff when it outsourced its business processing operation to the UK subsidiary of Indian offshore outsourcer Tata Consultancy Services in a 12-year deal worth £465m. Tony Kassimiotis, chief operating officer at Pearl, says the firm has been involved in the selective outsourcing of infrastructure, applications and elements of customer management.

“Pearl was used to outsourcing and had changed its internal culture to reflect this,” he says. “Prior to the TCS contract we had never before outsourced at this scale. Outsourcing has allowed us to transfer operational risk to a third party with no impact for our customers.

“It is a 12-year contract because we believe that it is hard for an outsourcer to come in and do things better, faster and cheaper unless they transform the model on which you are already operating.”

Mitsubishi Motors realised cost savings when it decided to outsource its disparate voice and data services to virtual network operator Vanco. Mitsubishi’s IT director John Tasker says there were immediate cost savings as Vanco focused on removing waste and inefficiencies from the existing infrastructure.

“During the transition process, Vanco audited, rationalised and drove out wasted cost by removing unused infrastructure, identifying inconsistency in billing rates and the unauthorised use of premium and international numbers, which had immediate positive impact on our data, voice and mobile service costs,” he says.

One of the biggest changes in outsourcing over the past few years is the rise in the number of independent, third-party advisers. Often individual consultants or small partnerships, independent advisers have had practical experience of managing outsourcing contracts and seek to offer their skills and services to companies embarking on the outsourcing route.

Bringing a structured process to the outsourcing decision, advisers are often helpful in bringing up-and-coming vendors to the notice of clients. “Ninety per cent of all outsourcing deals are now negotiated with the help of advisers,” says Forrester’s Matzke. “However, my concern is that these deals are all based on the same methodology, which may not be what the client really wants, and that clients are buying too easily into the arguments put forward.”

The situation presents a double-edged sword for firms looking for the best outsourcing arrangement ­ – they need an element of advice but overall they need to agree internally on what they really need in an outsourcing arrangement.

Tim Mann, customer services and technology director at pensions and investment group Skandia, says it is important that companies decide which parts of its business functions to keep, and which it wants to outsource to a partner.

“Skandia is skilled at designing financial solutions and developing long-term relationships, so we went looking for an organisation that could look after the other parts better than we could,” he says.

“We were poised for a decade of growth which needed technology investment to succeed. We therefore wanted a company that could provide us with more technology skills and competencies, that could integrate our services and do it all at a lower cost. Capacity, capability and cost has become our mantra for IT outsourcing.”

While outsourcing may seem like the answer for large companies, smaller organisations can also selectively outsource parts of their business. The Alz heimer’s Society, the care and research charity for people suffering from dementia, has taken an innovative approach to outsourcing.

Phil Shoesmith, head of IT for the society, says taking a co-operative approach to outsourcing its infrastructure support has paid dividends. Charityshare is a consortium IT venture, jointly owned by the NSPCC, The Children’s Society and the Alzheimer’s Society, to manage and support the charities’ IT services and infrastructures.

“One of the key differences between Charityshare and traditional outsourcing is that because we jointly own it there is no mark-up on prices and no service level agreement penalties,” says Shoesmith. “A key benefit is that Charityshare understands our business and provides efficient support to our 250 local branches.”

Gartner predicts spending on outsourcing will grow by 8.1 per cent this year. Indian firms will continue to dominate the offshore market, while firms will also look to China to maintain reduced costs in the light of an appreciating rupee and growing local inflation.

Now that the management of a company’s databases, desktops, servers, network, security and applications can be managed from remote locations, the uptake of remote infrastructure management (RIM) is set to increase as part of the drive to keep costs low.

Offshore players will be looking to gain a significant share of the RIM market, and may be prepared to undertake smaller, and shorter, contracts to build operational scale.

“For UK firms, outsourcing will continue to be considered a good option,” says Masood. “Experience and expertise will continue to grow in the next few years as more of the market enters its second generation of deals.”

Next week: the second part of Computing’s definitive guide to outsourcing looks at how IT managers are dealing with the challenges

Five organisations that could change your approach to outsourcing

Diligenta
Established in 2005 and specialising in the provision of business process outsourcing for the UK life and pensions market, Diligenta is a prime example of an offshore vendor spotting an opportunity and moving its business onshore. Diligenta is a UK-based Financial Services Authority-regulated subsidiary of Tata Consultancy Services, one of the largest Indian outsourcing companies. Expect to see more hopefuls following suit in the coming years.
www.diligenta.co.uk

National Outsourcing Association (NOA)
The NOA promotes best practice and is the UK’s only trade association with a focus purely on outsourcing. The association offers advice and information to members, not only about outsourcing vendors, but also the glut of legal and regulatory issues that surround contracts. The NOA site is a useful starting point for any company.
www.noa.co.uk

Luxoft
Luxoft is one of the new breed of outsourcers with its eye on the lucrative North American and European markets, especially custom software development. With its headquarters in Russia, Luxoft has offshore research and development centres in Moscow, St Petersburg, Dubna and Omsk, as well as in the Ukraine and Canada, and sales offices across the US and Europe. Luxoft is building a track record with companies across the globe, and although 80 per cent of the company focus is on software applications, the supplier is looking to expand into other technology services including remote infrastructure management.
www.luxoft.com

Grange Consultants
Grange Consultants is one of a growing number of small consultancies offering specialist advice on strategic IT sourcing. Claiming that highly-qualified, ex perienced consultants will help to reduce costs using strong processes and methodologies, Grange aims to improve IT service and business process performance through strategies that can include outsourcing. Grange is headed by a team of consultants with board-level experience.
www.grange.uk.com

Crossroads Global
Before embarking on any outsourcing contract, especially one with an offshore element, it is important to understand the culture of suppliers. Branding itself as an intercultural training, coaching and consulting firm, Crossroads Global has recognised the importance of developing intercultural intelligence, to build relationships in key geographic areas. The firm aims to provide participants with the necessary tools to trade successfully with other countries. Crossroads offers its Building Cultural Bridges training across a range of countries, including India, China, Poland, Russia, Japan and the UK.
www.crossroads-global.com

Five outsourcing approaches to look out for during the next three years

Increased use of third-party advisers
The use of third-party advisers (TPAs) – companies with expertise in brokering successful outsourcing deals – will become more common. Designed to reduce risk, provide expertise and ensure a successful partnership between users and vendors, TPAs can help companies find the right partner, negotiate substantial deals and benchmark performance. However, as internal expertise increases, the role and methodology of the TPA may have to change.

Remote infrastructure management
While remote infrastructure management (RIM) is not new, its adoption is set to increase significantly in the next few years. RIM is traditionally the remit of geographically local vendors. But low-cost, reliable communications has opened the market up to the offshore providers. Expect to see services and bids from Indian, Chinese and even Russian outsourcing companies, all hungry for a bite of the RIM pie.

Cultural awareness appreciation
The well-trodden path to the Indian outsourcer is still fraught with dangers, despite having been in place for many years . The success of an outsourcing contract is highly dependent on the relationships that are built on all levels throughout both organisations. To prepare the business before embarking on its major outsourcing deal with HCL, Skandia provided its board with intensive coaching about the Indian culture, the way the provider prefers to work and the reactions internal employees were likely to encounter. Skandia then sent key workers to meet their counterparts in India.

Vendor eco-systems
The eco-systems of vendor partnerships will develop as outsourcing companies structure their alliances to provide the most comprehensive services across a range of technologies. The single sourcing model, where one company offers to undertake everything, has become outdated. New outsourcing contracts will bring in a range of expertise with a single partner acting as the aggregator and key contact for the client. Partnerships will be developed by outsourcing vendors to build the eco-system that can deliver the new services that clients will be demanding.

More innovation
One of the biggest criticisms from IT managers is that their outsourcing partners are failing to bring innovation to their business. When it comes to measuring general satisfaction against service level agreements and value, the score is high – but what users really want is for their outsourcing vendor to start driving change and innovation. Second-generation outsourcing contracts may become less focused on the delivery of a lean, scalable, service at the lowest cost and will start to look towards bringing transformation and innovation to the business.

Five best practice tips for getting the most from Indian offshore providers

Sudin Apte, senior analyst, Forrester Research

Start rewarding outcome
The most popular offshoring pricing model is based on time and materials – but the structure appears to reward providers for project delays. Reward suppliers who work smart. Commitment and innovation steps up when the payments are linked to outcome.

Include penalties for excessive staff turnover
Frequent staff changes hamper projects, but the provider’s loss is limited to delayed billing. In fact, many operating managers expect users to accept high turnover. Institute a substantial penalty if the provider is unable to meet deadlines, or if its timelines lag because of staff turnover.

Make sure your provider can swap locations
As a user’s location needs change, it may not be necessary to change providers – provided the supplier can also swap locations. Sourcing professionals should push providers to clearly articulate and demonstrate plans to swap work from one location to another.

Insist on human resources representation
Visibility into the user’s recruitment plan, human resource (HR) policies and related issues have gained importance so sourcing professionals must maintain conversation with HR workers. Continuous involvement in offshore project progress reviews leads to more attention on people issues.

Assess the provider’s delivery progress
Users need to understand their supplier’s global delivery model plan, especially as offshore working demands a shift from labour arbitrage to internet protocol. Sourcers should seek regular updates on satellite centres, vertical skills and real-time collaboration tools. Users must understand the provider’s road map for incorporating new locations.