Introduction

Outsourcing represents a long-term, results-oriented relationship between two

organizations. And, companies are no longer just outsourcing basic support services, such
as, cafeteria, cleaning or mailroom operations. Increasingly, they are outsourcing
activities integral to their operations, including such things as, customer sales and
support, information technology, integrated product design and manufacturing, logistics,
human resources and financial functions.
Sometimes, the activities being performed by the outsider are replacing in-house
operations. In other cases, they are new activities tied to the company's business growth
and new markets.
As organizations outsource more and more of their operations, it is the relationship itself
that becomes the new strategic asset. Outsourcing relationships demand the same care
and attention to sound management principles and practices as do in-house operations
and valued employees. Managed well, continuous improvement, increasing value, and
constant innovation can be expected. Managed poorly, the services and overall
relationship deteriorates resulting in higher costs, operational disruption and lost business
opportunities.
The primary purpose of this report is to identify the best practices for managing the
outsourcing relationship and to provide a road map for their implementation. Along the
way, the report looks at the central problems organizations face in managing outsourcing
relationships, identifies resources available to assist in addressing these problems, and
provides insight into the future challenges organizations can expect as they continue to
expand their use of outsourcing.
Today's Problems
Problems with outsourcing -- poor service, un-met expectations, cost overruns -- often
gain a high profile.
Sometimes the problems are only visible to the two parties. Sometimes they become
visible to the customer's customers. Sometimes they receive national notoriety. There
have certainly been very visible outsourcing failures. The reality is, however, that on the
whole, organizations are pleased with the results of their outsourcing efforts.
For example, at The 1998 Outsourcing World Summit, 70% of the attendees reported that
the results of their company's outsourcing efforts had met, exceeded, or significantly
exceeded their expectations. When problems do occur, they can typically be attributed to
a few common scenarios.
Poor Foundation-Setting
The first, is a failure to set a solid foundation for the outsourcing relationship.
The first aspect of this foundation is a clear understanding of why the organization is
outsourcing. Outsourcing is nothing more and nothing less than a management tool. It is
used to achieve specific management objectives. Organizations do not outsource because
they want to be outsourced, they outsource because they want to accomplish something.
In many cases, the goal is to reduce and control costs while meeting or improving service
levels, quality and other performance objectives. In others, the organization may be
outsourcing to better allocate capital dollars -- to make sure that it has only the most
productive assets on its books.
In still other cases, revenue growth may be the goal. Outsourcing may be being used to
get the right product, o the right market, as quickly as possible. Here the expertise and
resources of the outside organization is often the critical element in achieving the desired
end.
Whatever the reasons, in whatever mix of priorities, the problem is that too often
organizations do not understand these goals at the outset. The goals drive the actions.
There is no right or wrong, but there is right and wrong within the context of what the
organization is trying to accomplish. High-profile failures are often the simple result of
having entered into the wrong relationship for the wrong reasons -- mainly because the
organization didn't truly understand its goals in advance.
The second foundation element, which when poorly addressed leads to problems, is the
careful consideration as to what to outsource. The failure here is often one of outsourcing
what is instead of what should be.
Companies can set themselves and their providers up for failure by prescribing not only
the results they're looking for but how the work is to be done. Outsourcing along classic
organizational functional lines may not serve an organization very well when its business
processes need to be redefined. At the same time, the scope of the services selected is
critical. Set too large, the results may not be definable. Set too narrowly, the desired
results may not be obtainable because of the continuing internal dependencies.
The final foundation element is simply who. Who should be the provider? When
selecting an outsourcing provider it is their total capabilities that will matter in the long
run. It is also easy at this point to find judgment errors from the earlier steps
compounding. The organization finds that it has selected the wrong partner to outsource
to because it didn't understand why it was outsourcing and didn't do its homework on the
best way to package the desired services. When this happens, it is not uncommon to find
that the partner simply does not have the ability to meet the customers needs on anything
approaching a sustainable basis.
Problems with the Relationship Structure
Assuming that a solid foundation has been set, the next most common set of problems
can be found in the way the relationship is structured.
Possibly the most common problem of this type is as old as management itself.
Organizations can only achieve what they can measure. Organizations have reported
significant difficulty in measuring and reporting the things that matter most the quality of
the services they are receiving, continuous improvement, comparison to industry
standards, and the actual business value realized. They even report some difficulty in
measuring the more basic aspects of the services quantity, costs, and customer
satisfaction.
Other problems created during the formulation of the relationship are: over promising,
both internally and by the provider, which naturally leads to unrealistic expectations;
failure to budget and allocate sufficient resources for the ongoing management of the
relationship, and; an over reliance on penalty clauses, especially contract termination, as
the sole vehicle for ensuring shared interests between the organizations.
Problems with the Management Structure
Unresolved differences in culture and management styles between the organizations is a
frequently cited problem. Too often, no management system for the relationship is put in
place until after problems surface. Similarly, direct personality conflicts between
individuals with different organizational backgrounds can easily occur.
Even a lack of employee training on the workings of the new environment can cause
serious problems.
Problems with the Leadership Skills
No less important, managers simply do not, generally speaking, have the experience
needed to manage outside relationships. The traditional skills that made managers
successful technical skills within their field, operational planning and oversight, resource
allocation are not the skills needed for success in managing an outsourcing contract.
Establishing results-based goals, communications and negotiations are what is needed.
Dr. Michael Useem at Wharton refers to this as lateral leadership leading out instead of
managing down.
The good news is that none of these problems undermine the essential value proposition
for outsourcing. But, they do suggest that the anticipated benefits are not automatic and
that organizations both customers and providers need to do a better job of applying sound
management principles to this rapidly expanding business approach.

Improving Results... Moving Toward Best Practices

There are a number of very sound, very basic management principles that can be applied
to improve the results of an organization's outsourcing efforts. In many ways, they reflect
a maturing of our view of outsourcing and how it contributes to improved business
performance.
The overriding principle is that outsourcing is not abdicating, it is leveraging. Managers
need to move away from the notion that they are outsourcing activities because they are
unimportant or because they do not need to be managed. Nothing could be further from
the truth. Organizations are outsourcing because they want to leverage the unique skills
and resources of the other organization to the benefit of their company and their
company's customers.
With this in mind, the relationship between the company and the service provider needs
to develop out of a strategic analysis of both firms and of their potential for a long-term
fit. The goal is not to get the very best deal. The goal is to get the very best partner.
Because of this, the relationship must be one that can grow over time. Equally important,
the pricing and contract terms need to be designed so that both parties will have an
alignment of interests over a long-term relationship. A scorecard that clearly and simply
defines the desired results should be agreed to in advance. In fact, outsourcing in the
absence of an agreed to scorecard is a high-risk undertaking at best.
The relationship must then be surrounded by a cohesive management system. This
system should create organizational links between the companies at the operational,
tactical and strategic levels. Change must be expected and the process for dealing with
change understood by all. Problems must also be expected and the process for escalation
and resolution understood by all. Technology has become a powerful tool for managing
the relationship between the organizations. Videoconferencing, advanced
teleconferencing, email, collaborative online tools, intranets, extranets, and the internet
can all be used. Technology enables outsourcing, it also enables its management.
Finally, organizations need to really invest in developing the new leadership skills
demanded by outsourcing. The managers entrusted with these relationships should have a
desire to manage, not to do. They should be champions of change with a proven ability to
build trust. They need solid communications, negotiation, strategic planning, project
management, team leadership, and even marketing skills. What they need, is the skill set
historically associated with successful general managers.
The need for a balanced attention to the relationship structure, the management structure
and the leadership skills is a very important finding of this report. Companies that do not
focus, in a balanced way, on all three of these areas will not be successful. The notion
that organizations can create a turnkey relationship is simply not supported by the
findings. Outsourcing requires the same purposeful management as does any other
organizational activity.
Summary
Over the past two years, the attention on outsourcing has shifted from doing the deal to
managing the relationship. This shift is well justified. There have been notable, high-
profile failures. At the same time, the attention being paid to these failures has led some
to conclude that outsourcing relationships are difficult to manage, high-risk undertakings.
The reality is quite different. Most organizations are continuing to realize significant
benefits from outsourcing. The redefinition of organizations around core competencies
and long-term strategic outside relationships is expanding rapidly. As this happens, we
need to retool our management systems to keep pace.
Outsourcing is no more difficult than any other management activity, but it is different
and it does demand new thinking and new skills.

Outsourcing's Next Wave

Business changes come as waves gathering shape, gaining energy and momentum, then
crashing across the companies that find themselves in their path. Those companies that
anticipate and react quickly to these waves of change can often rise with the tide; those
that don’t are often crushed by the impact. Technology, reengineering, the Internet,
globalization, terrorism, Enron-itis are some of the waves reshaping business today.
Outsourcing is another.

James Brian Quinn, best-selling author and resident Dartmouth College business
visionary, calls outsourcing “One of the greatest organizational and industry structure
shifts of the century.” Harvard Business Review similarly ranks outsourcing on its list of
top business ideas of the past 100 years. Dun & Bradstreet estimates outsourcing to be a
$1 trillion global market and the Outsourcing Research Council reports that the typical
executive will soon be spending one-third of his or her budget on outsourcing. In fact,
some believe that it is still in its infancy. So, what will outsourcing’s next wave be?
And, where will it come from?

Harnessing the Power of Outsourcing's Next Wave - In Europe

A BRIEF HISTORY OF OUTSOURCING

According to Webster’s 10th Dictionary, the word outsourcing was coined in 1982.
However, the power of outsourcing to transform businesses really only began to be
widely discussed in the late 1980s.

At that time some of the early information technology outsourcing deals at places like
Kodak, American Standard, and the U.S. division of Rhone-Poulenc (now Aventis) began
to grab headlines. As Kathleen Hudson, then Kodak’s CIO, said, her goal was to “plug
into the wall and have data come out.” That type of thinking, spurred along by writings
such as Peter Drucker’s still-read 1989 Wall Street Journal op-ed piece entitled, “Sell the
Mailroom,” put outsourcing on the map.

Over the next few years, as outsourcing grew in recognition, it also grew in
controversy. Some asked if it was “fad” or “fantastic”; others compared it to a Trojan
horse, or simply labeled the whole idea “outsourcery.” But in spite of these trepidations
and characterizations, outsourcing gained momentum.

Fast-forward to today. In the past four years, outsourcing spending, as a percentage of

the average executive’s budget, has almost doubled — from 16 percent in 1998 to 31
percent by the end of 2002. And Europe is beginning to move into a central role.
Outsourcing spending in Europe is now growing faster than in the U.S. and is expected to
double from 2001 to 2003 — reaching 23 percent of total global outsourcing spending.

HOW OUTSOURCING CREATES VALUE

But, why is this happening? Why is it that large, vertically integrated firms are giving
way to today’s increasingly outsourced model? There are a number of factors, but I like
to point to three in particular.

First, the emergence of world-class service providers has been absolutely central. Often
these companies got their start responding to the demands of one or more of their current
customers; after all, you can’t outsource in a vacuum. But once the marketplace got
defined, the force of that free market economy took over and propelled it forward.

The second factor is technology. Technology has made much of the work of the modern
organization “placeless.” It no longer matters where information is processed, where
accounting is done or where a toll-free number call is answered. Once we break the
physical barrier of where the work is done, breaking the organizational barrier becomes a
whole lot easier.

The third factor is competition — local, global, bricks, and clicks. As competition
intensifies, organizations must simultaneously get more efficient and more effective to
survive. The idea that any organization can go it alone — that even the largest and best
funded companies can on their own out innovate and outperform every competitor and
every provider — is simply wrong.

But, there’s a final and most important factor: Outsourcing works. In the 2002
Strategic Outsourcing Study, conducted by my company and responded to by some 500
executives around the world, outsourcing got high marks for improving their
organization’s focus on core, reducing costs, increasing the speed of the business and
improving quality.

EUROPE’S OUTSOURCING JUGGERNAUT

 Outsourcing has taken on new energy in Europe as the areas being outsourced have
moved from the traditional “physical” aspects of the business, such as facilities
operations and manufacturing, to the more specialized information technology and
process operations.

I forecast that the greatest activity from 2001 through 2003 will be in information
technology and human resources outsourcing especially in the pharmaceutical, computer
and electronics, government and diversified financial services industries. Others agree.
According to Nelson Hall, the UK-BPO market grew 45 percent last year alone and Input
forecasts a 17 percent compound annual growth rate in government outsourcing in
Europe from 1998 through 2004 — more than twice that in the U.S.

Outsourcing in Europe is also going global. Certainly China (for manufacturing) and
India (for technology services) immediately come to mind. But, there are also “near-
shore” outsourcing opportunities in Iceland, Ireland, Eastern Europe and Russia — all
becoming equally attractive sources for a wide-range of reasons including the availability
of skilled labor and local government incentives.

In summary, outsourcing’s next wave in Europe is all about transforming business

operations by bringing in the best to help make companies even better. It’s all about
tapping that best where ever and whenever needed. It’s far from using outsourcing to
shore up weaknesses or to get a quick savings; it’s about creating powerful new
advantages for businesses and governments.

CUSTOMER TYPE DESCRIPTION

BAe Systems BPO $1.12b contract for human resources and procurement.
RCI Europe BPO 7-year contract for financial operations (accounting, payroll).
Thomas Cook ITO/BPO Create shared services centre to manage finance and IT for
the company's business in the UK.
UK, Ltd.
Finnair ITO 10-year, $400 million contract for the airline’s IT
infrastructure; established a jointly operated technology
development center.
iPSL ITO/BPO Barclays, Lloyds join with Unisys to create UK’s top check
 clearing operation.

AGENCY TYPE DESCRIPTION

U.K. Department ITO $3b 10-year contract for application development and system
of Social deployment and management.
Services
Consignia (UK FM* $1b-plus outsourcing and joint venture creating facilities
Post Office) management arm, Romec.
PPM (Sweden’s ITO Software and services to help the Swedish government
Pension implement state pension reform.
Authority
The Royal ITO Fulfillment, warehousing and distribution software to
Netherlands Air transform logistics operations.
Force

* Facilities Management.

Outsourcing’s Evolving Value Proposition

One wave is certainly outsourcing’s emerging power as a business tool of unique

versatility and flexibility. Because outsourcing’s impact comes from leveraging the
capabilities of outside providers and since businesses are getting better and better at
doing it well, it’s now more a question of how best to use outsourcing than one of
whether or not to outsource at all.

In fact, very few decisions that an executive can make have the ability to immediately
change every aspect of the operations of a business – its people, processes and
technologies; its financial structure; its relationship with its customers, suppliers, and
shareholders the way outsourcing does. As Peter Bourke, president of Spherion
Outsourcing, puts it, “Big gains in performance only come about through business
transformation.” And outsourcing has the power to do just that.
In some cases, outsourcing means essentially selling the existing assets of a company to
an outside service provider and then working with that provider’s experts to improve
those assets. The result: better use of capital and potential gains in quality, productivity,
and throughput.

In other cases, outsourcing is a way to take an existing fixed cost structure and turn it into
a variable one in which expenses can move up or down as the business climate dictates.

Even before September 11, businesses were beginning to realize the importance of this.

Today, having a more variable cost structure has become a real priority for most
executives. Creating that variability is now one of the top three reasons companies
outsource.

Why Companies Outsource

Cost reduction continues to matter and to be a key goal of outsourcing. Businesses must
constantly increase both their efficiency and quality and therein drive greater profits to
their bottom lines.

But almost as important as reducing costs is making sure that a business stays focused on
its core. Modern businesses are simply too complex, and attempting to excel on your
own at every aspect of your operations is just not possible. A classic example:
telecommunications networks. “Many companies have literally built mini telephone
companies within their businesses,” says Michael Dennis, Avaya group vice president,
services. “Outsourcing that to us allows them to put their energy into other activities
where they create greater value for their customers.”

Business Process Outsourcing

Another wave to watch for is business process outsourcing, or BPO. What businesses are
now realizing is that outsourcing “what is” can certainly provide marginal gains. Better
yet is to outsource “what should be,” and that’s where business process outsourcing
comes in.

Business process outsourcing means examining the processes that make up the business
and its functional units, and then working with specialized service providers to both
reengineer and outsource these at the same time.

What areas lend themselves to this approach? Certainly, all of the transaction-intensive
activities that exist within the finance department, human resources department, and
purchasing groups and others – not to mention document management. A company’s
documents are central to its business processes. As one IKON customer, Alcon
Laboratories, knows, a specialized partner in this field is a real asset. Troy King, Alcon’s
director of R&D operations services, says: “IKON’s copy center manager regularly
works with our researchers and executives to better understand their needs and the
nuances of our specialized regulatory documents.”

Offshore Outsourcing
Finally, there is offshore outsourcing. Although not new, this is an area that is clearly
gaining momentum, and it’s probably not long before any company that’s not leveraging
the global talent pool will find itself at a severe competitive disadvantage. India is
currently receiving a great deal of attention; however, Eastern Europe, the Philippines,
Vietnam, and, perhaps most notably China, are moving swiftly onto the playing field as
well.

India, for example, has an enormous talent pool from which to draw highly skilled
outsourcing professionals. It has a population of more than 1 billion people, of which
300 million speak English. At any given moment, more than 6 million people are
enrolled in the subcontinent’s 200 universities, 5,000 colleges, and 100,000 secondary
schools. Technology is shrinking global distances to the point where, in reality, having
work performed halfway around the world is not that much different from having it done
in an office building across the street.

As outsourcing’s next wave hits, businesses that don’t figure out a way to ride it will be
sacrificing significant competitive advantage. Yet, as with all management tools, it will
continue to be the ability of forward-thinking executives to see around corners, anticipate
and adapt to change, and use outsourcing effectively within an overall framework of
continuous improvement that matters. As the recent dot-com implosion has indelibly
reminded all of us, the principles of sound business don’t change, just the techniques
available to us as managers for their execution.

Building a Case for BPO

Why haven't companies recognized the value proposition?
 Business process outsourcing (BPO) has been a highly
successful business solution strategy for several years now. Fortune 500 organizations
know the value proposition of outsourcing important, non-core business processes and
have adopted BPO as a cornerstone of their strategic objectives.

If you are a corporation that is accountable to shareholders, and you've not yet begun to
develop and execute an enterprise outsourcing strategy, you are behind the curve and will
find it more difficult to compete in a marketplace where your competitors are using BPO
as a means of focusing their time, talent, and capital on their core competencies.

Yet many executives still are trying to build the case for BPO in their organizations. This
is primarily because of misconceptions about what has been happening in the BPO arena
and also because many executives don't understand what business processes should be
considered for BPO - or why.

Lessons Learned in Recent Years

In the last two years, the volume and size of BPO transactions continues to increase;
indeed, several huge BPO deals in the finance and accounting (F&A) and human
resources (HR) space have changed the face of the industry.
Not unlike the IT outsourcing deals of the 60's, 70's and 80's, some BPO arrangements
were painful to transition and operate effectively. This does not mean, however, that BPO
doesn't work. What it tells us is companies need more expertise in structuring mutually
beneficial deals for both the buyer and the service provider.
Initially, IT deals were quite rocky. In the 1960's, EDS pioneered a deal to take over the
IT functions for Frito Lay. This deal became the foundation of IT outsourcing as we
know it today. IBM, which excelled in data processing, quickly countered this market
advance; and the IT outsourcing war began. Many more companies followed, including
Andersen Consulting (now known as Accenture), CSC and Digital Equipment Group
(acquired by Compaq Computer Corporation and now known as HP), among others.
While these companies were great at selling hardware and software, "renting" these
services to clients was a pretty new game, and there were some early disasters.
Despite some early disappointments, IT outsourcing successes thrived; and more than just
the Fortune 500 companies have have turned to some form of IT outsourcing. According
to Gartner, worldwide spending on IT outsourcing services reached almost $165 Billion
in 2001.
Although BPO is no longer just a trend and has now seen some striking successes, it is
still in early stages of developing the characteristics that ensure win-win situations. Even
so, BPO is set to change the face of business as we know it. Accenture, ACS, EDS, Exult,
KPMG and PwC (apparently it's good to have an acronym for a name to compete in the
outsourcing space) are just a few examples of companies that are already strong providers
in the BPO arena.

BPO Shifts Risk

In lieu of the highly competitive market conditions of the last few years, we have seen an
increased desire for companies to focus on their core business, and more importantly, a
recognition of the necessity to implement governance on an ongoing basis for business
solutions.
A good example of the need for ongoing governance is in the F&A space. With all the
accounting issues of late, I predict boards of directors and C-level executives (CEO,
COO, CFO, CIO, etc.) are going to want to shift accounting (don't confuse this with
auditing) and other potential financial process risks, to a third party with world-class
expertise in these functions. They are going to want a single neck to strangle when the
books aren't correct and shareholders start complaining. Thus, BPO of F&A processes is
becoming a necessity for companies.

FYI: F&A Is Not Core

Many chief financial officers have tried over the last few years to convince me that F&A
functions are core to their business and that their accounting department gives them a
distinct advantage over their competition. For some reason they are convinced that their
set of accountants are capable of processing financial transactions better than their
competition. Whether they are or not, why does it matter when a company produces
widgets?
In contrast, the chief executive officers of these same companies have told me that F&A
is not core to their business and their objective is to decrease costs while retaining access
to critical information.
Along these lines, there are a few F&A functions that are critical and core to most
businesses. Managing cash flow, budgeting, capital planning and financial analysis are
strategic and unique to a company. On the other hand, accounts payable (AP), accounts
receivable (AR), billing, (fixed asset) and general accounting are critical, but not core
functions. Aservice provider that can process AP, AR and other F&A functions for
multiple clients in the same facility can provide significant economies of scale leverage
and efficiencies, resulting in lower costs.
As an investor, I would be hesitant to invest in a company whose C-level management is
focused on running the best accounting shop in the business. Summary: Leave it to
people whose core business is accounting.

HR: People are Core, Administration is Not

In discussions with senior executives about HR outsourcing, I often hear that people are
the most important asset in a company. Thus, they are "not interested in outsourcing the
HR department."
On the surface, this argument makes sense. However, if you visit the HR department of
most companies, you will find they spend most of their time managing issues with third
parties on behalf of their employees. Benefits administration, payroll, 401(k), and some
aspects of recruiting (they aren't a valuable asset until you've actually hired them) are
necessary to run a company. But a technology products company, for example, doesn't
add to its top line by performing these functions.
On the other hand, team building, continuous learning (training), employee recognition
and overall corporate culture should be core to a business and will create a powerful and
unique organization if done properly. The HR staff members who have skills that can
contribute in these areas arecore to your business; the person who administers the
company dental plan is not core and should be folded into a BPO strategy.
Recently we at Everest have seen service providers gaining a lot of traction in the HR
outsourcing space. Companies like Accenture, Exult and a few others have been
groundbreakers for some HR functions that many companies previously considered off
limits to outsourcing. While HR outsourcing is taboo to many organizations, forward
thinkers are moving in this direction at a rapid pace. As more large F&A and HR deals
meet with success and companies recognize the value that BPO can add, we will see
these kinds of transactions becoming the norm.

For Buyers' Eyes Only

In Part One, published in the July issue of the BPO

Journal, I touched on core versus non-core functions and gave a few examples of each.
To summarize: A function that is core to your business is one that distinguishes your
company from your competitors; a non-core function is one that may be critical, but does
not directly contribute to shareholder value and the ability to distinctively compete in the
marketplace.

Unfortunately, many organizations struggle with deciphering critical versus core, making
it difficult to adopt a BPO strategy. The reality is that core versus non-core is still
difficult to determine for most organizations. For example, recently I spoke with a chief
financial officer (CFO) who was convinced that processing accounts payable and
accounts receivable was core to his company's business. I told him while I agree that both
of these processes (and the information they provide) are critical to any business, the
ability to process better and faster than the next guy simply is not core. It does not
differentiate his company from the competition.

How Do We Find Value in BPO?

The most important thing to identify as a buyer of BPO services is the benefits or value
you plan to gain from outsourcing. In our work with clients, we strive to help buyers
focus outsourcing efforts on the true value they can receive by outsourcing a function. In
many cases the outsourcing initiative is driven solely by a desire to reduce operating
costs, when, in fact, there are several other business issues that an outsourced solution
can address.
If the only value you plan to obtain is cost reduction, I would challenge you to look
deeper into your organization to discover what other business and strategic value you
could obtain through outsourcing. Some examples include increased speed, better
flexibility, improved financial insight, access to capital, etc. As we learned from the
history of IT outsourcing, relationships that focus strictly on cost and have no partnering
qualities often fail before they begin.

Buying BPO

Now that we have reviewed the fundamentals about core versus non-core, we can talk
about spending money wisely (we all like to spend, but nobody likes to waste). Here are
the four most common questions we hear from buyers:

1. What do I need to keep in mind as I go about the process?

2. How do I select a service provider?
3. How should I structure a win-win BPO deal?
4. Where can I go shopping? Who are the key players?

1. What do I need to keep in mind as I go about the process?

The best way to procure BPO and maintain a focus on adding value is to drive the
transaction from a strategic level and facilitate an interactive process with the potential
service providers. It is critical to keep the focus on the value and the outcomes, not the
cost. Otherwise, the aspects of success will be hard to maintain.
This often requires a different procurement process than most of us are used to. There are
two things to keep in mind. First, you must define your outsourcing objectives using the
criteria important to your organization. Then, you must formulate your buying criteria.
Your executives can do this by assessing which non-core processes could help meet your
company's strategic objectives and what outcomes a service provider would need to
deliver through better operation of those the non-core processes.
Second, in order to achieve the desired strategic and business outcomes of BPO, it is
critical to treat the potential service providers you are working with as partners. Engaging
a service provider early on in the "strategy" development phase will allow you to
understand its capabilities and incorporate its thinking into your solution. Developing a
concise set of specifications and desired outcomes will help you and the service providers
concentrate on the best solution.

2. How do I select a service provider?

Due to the complexity of BPO, it will be difficult to attempt the selection process if you
begin with more than a few service providers. It is critical to understand the service
providers' various skills in order to invite the right ones to the "dance." In order to find
the most appropriate service providers, you can research them yourself, rely on third-
party information, or hire a consultant who has worked with the service providers before
and understands their strengths and weaknesses.
In identifying the requirements, most companies we work with decide to pursue a
Request for Proposal (RFP) process. However, sole sourcing approaches are common in
cases where there is a long standing relationship in place, particularly for more
complicated BPO transactions that require a very strong buyer-service provider
relationship due to the lack of competition.
The RFP process is somewhat like a trip to the dentist for both the buyer and the service
provider. For BPO initiatives, it often becomes difficult to compare the service providers'
responses because their solutions vary based upon their competitive strengths. The
challenge becomes comparing apples to oranges. In these situations, the evaluation must
focus on the potential value provided by the solution.

3. How do I structure a win-win BPO deal?

The goal in structuring a successful BPO deal is to achieve the desired results while
building and maintaining a strong relationship. We often refer to outsourcing as a
marriage for a couple of reasons:

1. You are committing a significant amount of resources to the relationship.

2. No one wants this relationship to end before "death do us part" (or the period of
the contract.)

The most critical aspect of structuring the deal is to align the pricing and incentives with
the desired outcomes. Since recent trends have been towards driving greater business and
strategic value through BPO, pricing has shifted to reflect this new emphasis. We're
finding value-based pricing is becoming increasingly common. Value-based transactions
are structured around strategic outcomes and business profitability. In many cases,
performance incentives and gain sharing are put in place if these objectives are met or
exceeded. This changes the pricing method to one of investment and expected return
based on actual business results.

4. Where can I go shopping? Who are the key players?

The BPO landscape is changing rapidly. The most notable recent change was the July
announcement by IBM that it plans to acquire PwC Consulting (which includes its BPO
group) to complement its technology expertise with business process expertise.
The landscape of BPO service providers consists primarily of three distinct groups:

1. Big 5 players or spin-offs (e.g., Accenture, Deloitte Consulting, OPI/KPMG spin-

off, Cap Gemini Ernst & Young);
 2. Venture capital-funded niche players (e.g., Exult, SourceNet, Equitant, Creditek);
and
3. Traditional outsourcers (e.g., ACS, EDS, IBM, CSC)

The Big 5 players build upon traditional consulting strengths to enter the BPO
marketplace. In addition, strong executive level relationships and market permission
derived from their business consulting and process reengineering backgrounds have given
them traction in this space. In addition, many have "purchased" capacity in order to gain
quick acceptance and critical mass.
The strategy for the VC-funded niche players is to use capital infusions and technology to
gain a foothold in a single area (e.g., accounts payable, HR) for which they have a strong
value proposition but initially have limited delivery capability (often requiring them to
"acquire" a cornerstone client). After successfully establishing a foothold, the players
may begin moving into adjacent processes.
The traditional outsourcing firms are taking advantage of market opportunities to acquire
struggling BPO and finance and accounting (F&A) organizations. These companies
leverage their IT infrastructure capabilities along with strong client relationships in large
companies.
Across the three groups of competitors, there are no clear winners yet. Based on our
experience and market knowledge, we believe there will be further consolidation as well
as new entrants into the space.

From the Service Providers' Perspective

In earlier issues we've discussed business processes

outsourcing (BPO) in great detail. We've discussed how to assess core functions and
differentiate from non-core. We've discussed the issues that BPO buyers face in
developing a strategy, determining their goals, defining the specifications and ultimately
selecting the service provider that they are going to 'marry' for the next five to 10 years.
This segment looks at outsourcing from a service providers' viewpoint. The goal: to have
both parties in an outsourcing relationship focus on creating a win-win situation.

Due to the complexity of BPO, it is in the best interest of buyers and service providers to
focus on the true value that outsourcing can create, and the service providers' needs in
order to deliver on the promise of value creation.

Value Creation

As the BPO marketplace becomes increasingly competitive, BPO is in danger of

suffering a similar fate to that of ITO: commoditization. Service providers ought to look
deeply into their organizations and discover new ways to create value for their clients and
structure relationships accordingly. In addition, the necessity to continue to innovate and
revolutionize the industry is critical to the success of outsourcing as we know it.
However, buyers must also realize that in order to have a successful outsourcing
arrangement, the service provider needs to make money on the deal.
Many view the term 'value creation' as "consultantese," but the ability to differentiate
your services from that of the competition is what drives value creation. Furthermore, as
BPO increases in popularity, it will be increasingly important to offer services and
structure deals that will not fall into the bucket of commoditization. From a service
provider's perspective, creating value means bringing a solution to the buyer that will
meet or exceed his business needs at a price that will make his wallet smile. Given the
current economic conditions, companies are trying to reduce costs as much as possible
while meeting or increasing the quality of the service they receive from their current
operations.
As service providers strive to increase the value of their relationships, it is critical for
buyers to structure their specifications and Requests for Proposal (RFP) in a way that will
challenge the service provider to search for business value.
Understanding the Service Providers' Needs

Although most buyers envision their service providers as the enemy, in truth, their
intentions are generally good. At Everest we have had the opportunity to work with just
about every service provider in the BPO marketplace on at least one transaction. Most
service providers we've worked with have the desire to bring a meaningful solution to
their buyers that will have true business impact on their organizations for years to come.
Recently, we've actually seen service providers begin to back away from deals that they
know will not be viable or add value to the client in the future. Deals that are not
structured around business value - deals that have a valid approach for achieving cost
reduction and increased efficiency -- are destined to fail from Day One. The service
providers know this. All the major service players are accountable to their shareholders;
the only way to increase revenues and provide healthy profits is to sell and structure deals
that work for both the buyer and the provider.
Just because the service provider has to make a profit doesn't mean the opportunity to
significantly reduce costs through outsourcing doesn't exist, because it does. What is does
mean is this: In their efforts to get the best deal, buyers must recognize the service
provider has to make money for the relationship to work. Buyers must add this
perspective to their negotiating strategy.
For example, I recently purchased a new car, and despite my negotiating skills (or lack
thereof), the dealer wasn't willing to sell the car for less than invoice. He actually wanted
(and needed) to make money.
The bottom line is that service providers must share the rewards in order to continue to
fund the innovation, training, and improvements they will use to decrease the buyers'
costs over time and add strategic value to the relationship. Shared learning and leverage
are what give outsourcing its power in the marketplace.

Best Practices for Deciding What Should be Outsourced

Selecting the best candidates for outsourcing is a complex business issue. The decision is
at times obvious, at other times constrained by the realities of the economic and political
moment, and certainly influenced by the enduring corporate culture.

When the executive is faced with a blank slate the best advice is to begin with the end in
mind. What is the desired end-state of the business units and business activities in your
area of responsibility?

For some buyers of outsourcing services, thinking about the desired end-state means that
there is more time to focus on the activities that bring the most value to customers. Other
buyers are looking for relief from activities that are bogging down their own staff or
require skills and expertise that aren't available internally. In any case, when considering
the best candidates from among the business activities in your area of responsibility,
consider the goals and reasons for pursing a change and where your organization can
achieve the most value by using service providers. The selection of best candidates is not
only based on current productivity issues and sources of "pain" but also on the
possibilities of what could be accomplished with a change and a new approach to
business.

Six paths are offered for identifying the best candidates for outsourcing among the
business activities in your area of responsibility.

Best Practice #1: Select Non-Core Competencies

The first and most obvious candidates for outsourcing are those activities that are purely
administrative or supportive in nature—those activities that are the farthest from the
business' core activities. For reasons elaborated on elsewhere (see Discipline #2: Core
Competencies), business activities and processes that are far removed from the firm's
customers and those value chain links that deliver value to customers are prime
candidates for outsourcing.

Best Practice #2: Select work processes where the resistance to change is low, and
the need for change is the greatest

Best candidates for outsourcing are those areas where the internal resistance to change
will be weakest, and the need for change is the greatest. There may be elements of the
organization that welcome and invite the opportunity to fundamentally alter the way they
work, and begin to partner with an outside provider. Units that find themselves
overwhelmed with their work loads, chronically under staffed, unable to retain
employees, and looking to change focus may welcome a change. Conversely, business
activities that are consistently under performing represent areas for increased managerial
attention and change. Outsourcing is one viable change option.

Best Practice #3: Select work processes where the chances of success are high

Our research consistently finds that those who use outsourcing the most and those who
are most successful with outsourcing are those who have used outsourcing in the past.
Managers and organizations that are experienced with outsourcing tend to use
outsourcing in new situations. Early successes with outsourcing build confidence in the
usefulness of the tool and also build experience with the process of enabling future
applications of outsourcing in ways that add increasing levels of value to the
organization. The area of the organization where the chances of success are highest varies
and may be a combination of a host of situational factors. Frequently, a good place to
start is with a limited and well-defined set of business activities, and a set that many
organizations already outsource, like payroll or applications development, where the
value proposition is easily made and the business case can be built.

Best Candidates #4: Select Work Processes where change is already afoot Change
presents a significant opportunity to introduce outsourcing. Change and changing
business conditions often present an opportunity for outsourcing because the need for
change has already been recognized and much of the resistance to change has already
been overcome. For example, when Egghead Software moved its corporate headquarters
across the state of Washington, many of the employees in human resources were reluctant
to move. Because many employees were choosing to leave the firm and not move,
Egghead used that change as an opportunity to introduce outsourcing in the HR function.
Other situations such as the introduction of new products lines or businesses represent
opportunities for outsourcing. Reengineering efforts are often followed by drives to
outsource the work when the benefits of reengineering begin to diminish.

Best Candidates #5: Select work processes that will transform the organization

Selecting best candidates for outsourcing based on where outside providers can provide
the most leverage to transform the company represents a more recent approach to using
outsourcing. Managers are increasingly looking at the new skills and processes that a
world-class outsourcing provider can offer. They are also envisioning their organization's
highest goals achieved where internal limitations and constraints previously stood in the
way. Mission Foods is a perfect example of a firm reaching for new goals with the
assistance of an outsourcing provider. Mission Foods is reaching a national and
international market with its products through a partnership with Ryder Logistics.
Best Candidates #6: Select work processes that are discrete and separable

Candidate areas for outsourcing should include activities that are discrete and that are
separable parts of the firm. These are areas where an outside organization can manage the
process with their own staff and where a great deal of intertwined activities do not take
place. For example, a discrete candidate for outsourcing might be a hospital's
transcription services. The work of the provider is separate and discrete—it may be time
sensitive and important—but as a process it is an independent work activity. By
outsourcing activities that are easier to pull out of an organizations' workflow, a firm can
use more of its time working on activities that require a continuous interaction, and that
are more central to the company's core competencies.

The Toronto Hospital: A Case Study

Toronto Hospital's efforts to outsource in the mid 1990s are a great example of an
organization shedding its non-core activities and shifting from being vertically integrated
to using outsourcing providers.
At Toronto Hospital the primary objective is delivering top-notch health care to patients,
and the hospital's core competencies are centered around direct patient care, research, and
training medical professionals. The core competencies, and those activities that contribute
to them, did not include parking management, grounds maintenance, and facilities
management. These activities were deemed to be the best candidates for outsourcing at
Toronto Hospital.

Toronto Hospital is the major teaching hospital at the University of Toronto. In 1993, the
Toronto Hospital began a program of creating relationships with a large number of
organizations in the private sector in order to reduce the operating costs of the hospital,
while improving quality and productivity. According to James Stonehouse, formerly of
The Toronto Hospital, "…the hospital offers a broad range of medical and surgical
specialties and actively supports the research and teaching activities associated with
them. The Toronto Hospital manages revenues of $475 million and employs about 6,000
full-time equivalent employees." A number of pressing internal issues pushed the hospital
to consider outsourcing. These issues involved severe financial pressures, along with a
number of complexities concerning the hospitals operations. "A strategic decision was
made to alter the traditional pattern of in-house services, and an assortment of private-
public partnerships had emerged."

Outsourcing is typically done when a company decides that it is more beneficial to

withdraw from certain activities that other firms can do better and at a lower cost. Now
The Toronto Hospital has relationships with many different providers. James Stonehouse
points out that "…each relationship is tailored to the hospital's requirements and takes
into account a myriad of human resources issues, statutory obligations and internal
performance expectations. It is fair to say that having made the decision to leverage
external skills and resources to reduce costs and sustain levels of productivity, Toronto
Hospital proceeded to identify opportunities that would give it the greatest return in the
shortest time."

When outsourcing activities for the first time, risks may be introduced into an
organization. Toronto Hospital was aware of the risks of possibly not selecting the right
providers, not defining the right requirements. However, their approach was to identify
each risk and manage to it.

Opportunities

The opportunities for The Toronto Hospital centered on focusing on core competencies
(and therefore positively effecting revenues) and reducing costs. The functional areas in
the hospital with the highest potential for cost reductions, as well as the highest potential
for generating new revenue streams, were in Nutrition Services, Plant Operations and
Maintenance, Housekeeping, Transportation, Materials Management/Logistics and
Laboratory Services. These areas represented important activities to the hospital, yet they
were not deemed critical to direct patient care.
Selecting Providers

When looking for the right providers, The Toronto Hospital looked for partners that
would "…take the time to understand the dynamics of the organization and be willing to
take the longer view of things. Unconventional solutions were sought, and exposure to
risk was not shunned but rather viewed as something to be managed." If the structure of a
deal was not satisfactory for both parties, then a relationship would not be pursued, since
it would most likely be problematic. Stonehouse explains that "…if the relationship is
right, the contract itself becomes more of a legal artifact than a daily scorecard or
mechanism of enforcement."

When the Toronto Hospital first began outsourcing, it certainly had some lessons to learn.
In one case, the hospital had failed to set specific service standards for one of its
providers, which resulted in poor performance with an Information Technology provider.
In 1995 a provider was chosen to deliver a wide variety of IT support services for the The
Toronto Hospital's network of 4,000 users. Aileen Crowley of PC Week Online, reported
that "…within two years, the hospital knew it needed to change providers." Karalee
Miller, Director of Corporate Planning at Toronto Hospital, explained that the
outsourcing arrangement was "…a bad situation on both sides—they were losing money
and we weren't getting the services we needed." Miller and her colleagues learned a
valuable lesson from the not-so-great performance of the first IT services provider. The
reason that the original deal did so poorly was because requirements weren't laid out with
enough detail. Also, there were no provisions for enforcement, except through
termination.

After that particular IT outsourcing deal went sour for The Toronto Hospital, Miller and
her colleagues moved to including a third party consultant in the discussions and
negotiations with potential providers. Analysts from Compass America joined Miller as
she arranged and negotiated the next outsourcing relationship. This new IT agreement
involved clearly defined mission-critical service levels. Server down time was a critical
issue for the patient care servers because if there was even 30 minutes of downtime, it
could be life threatening for patients—where a downtime of 60 minutes on the help desk
servers did not pose a real problem. This type of service level specification was not
included in Toronto Hospital's prior outsourcing arrangement.

In its new 5-year contract with Digital Equipment of Canada, now Compaq Computer,
Toronto Hospital has special provisions in place in order to ensure that designated service
levels are met. Toronto Hospital also has the right to terminate the contract at any time
without penalty after three years. This new agreement costs 40% more than Toronto
Hospitals' IT services contract with its first provider. However, Miller and her team feel
that the cost is well worth it. Now they can concentrate their efforts on creating new
services, instead of reacting to emergencies.

The Importance of Project Teams to Outsourcing Success

Project teams are usually necessary for any large and complicated undertaking.
Outsourcing often covers many activities requiring an organization to bring to bear a
number of skills.

Teams are often necessary because many outsourcing engagements require the
involvement of organizational members with wide reaching responsibilities and decision-
making authority.

Outsourcing involves distinct phases. The fact that outsourcing contracts run many years
means many skills are necessary to successfully initiate and execute the contract.

Project teams cross three crucial dimensions of an outsourcing engagement.

Phase One: Strategic Team

The beginning of the project centers on developing a general vision for the relationship
and the goals for outsourcing. By its nature this phase involves high level executives and
takes place long before any intentions are announced. A strategic team will typically
involve people with expertise in finance, legal issues, human resources, and operations.
The heads of these areas are frequently strategic team members.
The importance of the strategic team's buy-in and mandate are critical. Outsourcing is
very much a top down change at the inception.

The strategic team will often either have or conduct a thorough strategic review. This
involves reviewing the current strategy, analyzing market forces, and examining the
competition. The team updates the strategy as necessary. This group with its wide-
ranging corporate perspective discusses and identifies core competencies. Typically this
team will do or oversee a decomposition of those core competencies to identify all the
critical supporting activities and processes and finally deliver an initial best candidates
list for outsourcing.

The traditional approach is for the strategic team to develop and set aside a list of core
competencies and direct supporting activities. The tendency to include traditional core
competencies on the best candidate list is growing. However, the best candidates list
usually starts with the non-core activities of the firm. A second list of longer-term
outsourcing candidates is also selected. Opportunities may arise for longer-term
candidates to be bundled with initial candidates in the right situation. If the decision to
investigate more deeply is made in any one area then a transactional team is put together.

Phase Two: Transactional Team

This team is put together around performing the outsourcing transaction. This team
begins with the initial best candidates and reviews the list. This team engages the
marketplace for information, and ultimately for proposals. This team plans the transaction
—a contract—and the transition to outside services. Finally, this team lays the ground
work for performance measurement and on-going relationship management. The
transaction team represents a critical bridge from the vision and goals to the
implementation and everyday management.

The team will typically include the functional executive whose area of responsibility is
under consideration. They bring the authority and experience and a direct line to the
strategic team. The senior functional managers and process experts bring hands-on
experience with the work. Consultants are brought in for perspective on the work,
experience with the provider community, and insight on the outsourcing process itself.
Purchasing and legal departments are included for their insights and expertise. Finance
and human resources are important considerations in any outsourcing initiative and bring
critical perspectives to the transactional team.

The transaction team will typically make final recommendations on best candidates,
collect and manage supplier information, present recommendations on provider selection
to the strategic team, and put together a transition plan. The transition plan includes
information on timing and processes for switching over to the supplier's services,
compensation packages and plans for all affected employees, and plans for the transfer of
assets if applicable.

The skills necessary at this phase include defining requirements, negotiating and
contracting, communications, human resources, and performance management. All of
these are considered later in Disciplines five through eight.

Phase Three: Implementation and Management Teams

As the decision to outsource is made and a relationship is established, an implementation

and management team is identified. A management team is created when an outsourcing
deal is imminent. This team implements the transition plan, manages the on-going
relationship, and seeks out new opportunities for continuous improvement.

The team is formed after a transition plan is established identifying personnel remaining
connected to the work activity. This team may include up to three sub-teams (executive
committee, management committee, and operations committee) depending on the size
and complexity of the relationship.

The team has three committees each serving a distinct purpose in the on-going
management of the relationship. This team includes executives from different levels of
management.
The first set of responsibilities of the implementation and management team are those of
the executive committee. They review strategic plans, monitor the relationship, and
resolve major issues. This executive committee may meet annually but represents a
senior level of dispute resolution if it becomes necessary. Members of the executive
committee of the implementation and management team may also have been senior
members of the transaction team or strategy team at one point.

The management committee meets quarterly. This committee reviews and approves key
contract deliverables and changes, reviews functional and operating plans on a regular
basis, approves new service levels and new customer requirements, resolves general
issues, and conducts performance management using balanced scorecards (see Discipline
11).

Finally, the operating committee may meet on an on-going basis or at least be in

continuous contact. These managers and supervisors have day-to-day responsibility for
over-seeing the work.

Moving Forward: Pricing Models that Share Gains

Pricing methodologies for outsourcing contracts have changed significantly since the late
1980s and continue to evolve today. The trend is to tie the performance to compensation.
The original and most basic pricing methodologies are simple definitions of the units
provided multiplied by a rate or price to be charged for each unit.

Services can be measured in terms of such units as:

• People employed — such as hours or days, categorized by skill level, such as

junior or senior, or by time of day, such as normal hours or off-hours
• Resources employed — such as call center workstations dedicated, machine
cycles utilized, equipment hours expended, and supplies consumed
• Events handled — such as customer calls taken/placed, units shipped, square feet
cleaned, automobiles maintained, and transactions processed

Similarly, prices for these units of service can be expressed in many different ways:

• Fixed price per unit

• Fixed price with guaranteed minimum and maximum utilization
• Variable price per unit based on consumption ranges or other factors
• Prices based on cost plus profit margin
• Prices based on prevailing marketplace rates

The goal of this most basic pricing model is to determine both the amount paid based on
the amount of services provided and the price for each consumed unit.
Few, if any, outsourcing contracts written today rely on this simplistic formula because
the incentives for this pricing formulation work against the expressed desire of both
parties to create and sustain a long-term, mutually beneficial relationship. Under a simple
units-of-service-times-price model, the provider has incentive over time to drive up the
amount of services consumed by the client and to drive down their own per unit costs,
thereby ensuring increased revenues and higher profit margins. The client, on the other
hand, has incentive to reduce the units of service consumed and to constantly "shop
around" for lower per unit rates. Over time, the interests of the two parties diverge and
the relationship ends.
Consequently, modern outsourcing contracts will, at a minimum, layer service level and
performance criteria over the basic unit-of-services-times-price model. Service level
guarantees will put some percent of the provider's revenue at risk based on its ability to
deliver the services at or above specified performance levels measured in terms of
quality, timeliness, and the like. These can also be indexed to industry-wide performance
standards for the activities involved — with the intent of achieving continuous
improvement. Closely related to this model is the further addition of customer
satisfaction measures which provide both incentives and penalties for the provider to not
only deliver against objective performance measures but also against the more subjective
expectations of the ultimate end user.
Other techniques can be added as well to the basic pricing model so that both parties have
the incentive to perform in each other's mutual best interests. A common example is the
addition of a gain-sharing clause to the contract. In this case, the provider has incentive to
continually drive down the cost of services to the customer by giving the provider an
opportunity to share in the savings. The provider might, for example, receive 50% of the
first year's savings for any improvements that reduce client costs. Similarly, the client
might receive revenue credits for helping the vendor win new business or for additional
revenue accrued through leveraging the client's resources that were transferred to the
provider as part of the transaction. Adding incentives to the basic model is common
practice for many of today's outsourcing contracts.
Most recently, however, pricing methodologies have developed which link the provider
even closer to the client's ability to achieve its business objectives. These types of
contracts, often referred to as business-value based, include:

• Contracts tied to production targets or similar measures of the client's business

volumes
• Contracts based on a percent of the total savings realized by the customer
• Contracts based on a percent of the revenue realized by the client from the process
supported
• Contracts with the same performance measures as those of the client company's
executive management
• Contracts that include stock options or other incentives for the vendor based on
the client company's overall financial performance
 The following chart lists a number of outsourcing contracts that have significant
business-value components of the pricing methodology. Examples of Gain
Sharing Contracts

Customer/Provider How gain-sharing applied

Mercedes-Benz/IBM
Duke Medical Center/Baxter
Grand River Hospital/HBO & Co. Jointly created new revenue-
British Petroleum/I-Net, Inc.
Elf Atochern/Keane, Inc.
The Toronto Hospital/Multiple
Mutual of New York/CSC
Compensation tied to achieving
production quota
50/50 split of cost savings or
cost overruns
based Information Services
(ISO)
Payments based on percent of
cost saving produced
Provider's profits tied to
specific performance targets
Client receive revenue credits
based on helping providers
develop new business
Created Insurance Technology
Center and share results

Principles for Negotiating a Win-Win Relationship

Negotiation is an integral part of outsourcing that takes place throughout the process.
Successful negotiating involves both parties understanding their values and goals. Every
agreement is unique and the goal is to achieve the best price and performance reasonable
given the responsibility and risks involved; and every negotiation is an opportunity to
build the relationship.
Principle #1: Focus on Interests

In negotiation, it is important to focus on interests, not opinions. Negotiating works only

when both parties are satisfied with the outcomes, making it necessary to create as many
mutually beneficial options as possible. Using objective criteria is also important when
measuring outcomes.

Principle #2: Continuous Negotiation

With outsourcing, there is continuous negotiation. There is negotiation internally and

negotiation externally with the provider. Much of the meaningful negotiation takes place
after the contract is signed. Managers are negotiating to try to come up with creative
solutions that are really going to make a difference.

In one negotiation scenario, Kodak actually sent its key project people and the provider's
key project liaisons to the same negotiating program together, because what it really
wanted to do was recognize that this was going to be an integral part of the ongoing
relationship. Kodak wanted to develop a principal set of negotiating techniques that both
organizations were comfortable with.

Principle #3: Every Situation is Unique

Because of so many variables, it is important to recognize that every outsourcing effort,

negotiation, and outcome are unique. There are many different pricing structures,
categorized into different areas. Recognize the fact that organizations don't enter into
deals to get the lowest price, but rather, to get the lowest total cost and reasonable prices
based on the risks and responsibilities, making the negotiating a critical step.

Dr. Fisher, from Harvard's Negotiation Project, commented that when negotiation is
really thought about properly, managers will come around to the notion that every
negotiation is an opportunity to build the relationship between the organizations. This
view breaks with the traditional win-lose approach that comes into most of the
negotiation, where the net result is a diminished relationship. If negotiations are
approached properly, with the right kind of perspective, managers will get to the point
where they realize that negotiations are very healthy and they build the relationship.

Principle #4: Negotiate Internally First

Negotiating occurs with an organization on a continual basis. In fact, negotiations should

be done inside the organization first before sitting down to negotiate specific points with
potential providers. The negotiation process should be used as a way to surface the
interests of the organizations and see what is important to the organizations. The
negotiation should be used as an opportunity to invent options for mutual gain, thereby
utilizing negotiation as a way to strengthen and build the relationship.

Principle #5: Identify the Role of Competition within Outsourcing

In the competitive marketplace there are a number of high-quality service providers who
are advancing their capabilities and competing for businesses looking to outsource certain
non-core activities. Organizations may be aware of the competitiveness of providers and
use that to negotiate too good of a deal—one that ends up being unfair or too unrealistic
in the providers eyes. Executives need to be aware of the role of competition, but also use
it to find the most appropriate and effective deal with a supplier whose capabilities best
fit the organization's outsourcing needs.

Principle #6: Use Objective Criteria

Insisting on the use of objective criteria is crucial for negotiation. One of the best ways to
take the position-battling out of negotiation is for both organizations to agree in advance
that as they are working together, the focus will be on developing objective criteria for
making the right decisions.

Principle #7: Separate the People from the Problem

Separate the people from the problem. Recognize that there might be a very serious
problem that needs resolution. Thus, it is important to separate the personal relationships
from the problem.
When negotiating, it is critical to move to a relationship where both parties are sitting
next to each other on the same side of that table looking at solving the problem, instead of
sitting across from each other. Negotiating should bring parties together, not push people
away from each other.

Principle #8: Know Your BATNA

One concept that should really be focused on is the concept of a BATNA, which is the
Best Alternative To a Negotiated Agreement. Real strength in negotiation comes from
strengthening your BATNA. The better an executive understands his/her BATNA, the
better his/her negotiation power will be. When an executive knows his/her BATNA, it
means he/she has a fallback position in place if the initial negotiation is not successful. It
is not a question of staking out positions, but rather a question of seeing what can be done
without a negotiated agreement. By having a decision plan in place if negotiations are
unsuccessful, an executive will be fully prepared to follow alternate means of achieving
success and capturing his/her organization's interests.

Principle #9: Train the Players

Receiving formal training in negotiating is critical for managers who are involved in
outsourcing—especially if they have not had formal training or formal life experience in
negotiating. The outcomes are better when negotiating is conducted by experienced
people. Attending a class or studying (by reading some of the materials available) is also
helpful in learning the discipline. Negotiating is an integral part of the outsourcing
process and executives need to develop these skills.

There are two highly recommended programs for negotiation training. First, one program
is Conflict Management Inc. (CMI), which was started by some students of Dr. Fisher at
Harvard. Dr. Fisher, head of Harvard's negotiation project, is the author of "Getting to
Yes" and has written several other texts on the subject. His students created CMI and do
training on negotiating. Another highly recommended training program on negotiation is
The Negotiation School at MIT.
This skill is necessary throughout the life of an outsourcing agreement. There is a general
conception that negotiation only takes place in preparation for signing the contract. In
other words, as soon as the contract is signed, people think the negotiation is over.

Best Practices for Negotiating a Win-Win Relationship

Learn the best practices for negotiating a win-win relationship. This simple negotiation
checklist will help executives form better contracts and enhance their relationships with
outsourcing providers.

Guidelines for Negotiating a Win-Win Relationship

· Focus on interests, not opinions

The key to negotiating a win-win relationship is achieving mutually satisfying terms for
each party. Focusing on interests relative to both parties' needs enables groups to be
equally satisfied with negotiation outcomes.

· Both parties have to be satisfied with the outcomes

When both parties are equally satisfied with the outcomes of negotiation, they have
satisfied each other's needs and are content that positive outcomes for each party have
arose from the negotiation. This equal satisfaction is an element that further nourishes a
lasting win-win relationship.

· Your negotiations should focus on interest, as opposed to positions

When individuals take positions on issues during negotiation, the process of attaining
equal satisfaction in the interests of both parties is hindered. When interests can be
shared, the relationship is more likely to be mutually beneficial.

· Agree in advance that you (both organizations) are working together

When both companies agree that they are working together, it allows the relationship to
move forward with both companies acting as a team, working towards mutually
beneficial interests.
· Sit on the same side of the table when looking at solving the problem
If a relationship is going to be win-win, both parties should not sit on the opposite sides
of the table, but rather, on the same side. Both groups are entering the relationship
together to meet common goals and interests. Mutually beneficial relationships begin
when both parties are sitting on the same side of the table when solving a problem.

· Have a complete understanding of the other organization's values and interests

Showing a genuine concern for the other organization's interests reveals a company's
compassion for attaining the best interests of all involved.

· Be flexible and creative

Being flexible and creative involves getting all the principles, issues, and things that need
attention out in the open for discussion. While going through the negotiation process, it's
important to call a time-out if unanticipated issues arise. This way, an organization will
have more time to internally discuss the matter, instead of being unprepared while talking
over the issue.

· An executive should be rigid about his/her commitment to the process

A rigid commitment to the negotiation process shows that although an organization is
open to the interests of the other party, it stands on solid ground for capturing its interests.

· Be innovative and flexible in terms of inventing solutions

With both parties developing solutions for a problem, there is an opportunity to develop
innovative and flexible resolutions. These solutions occur since more minds are available
to brainstorm potential resolutions to issues.

· An organization should put forth the same amount of effort that they would anticipate
the selling side put forth
By putting forth a large amount of effort, an executive reveals that he/she is genuinely
concerned with the outcome of the negotiation, with the hope that both sides' best
interests will come to fruition.
Managing the People Impact of Outsourcing

Through outsourcing, executives can redefine virtually every aspect of their company’s
operations — not only how the work gets done, but how much it costs, how capital
dollars are spent, and how the company relates to its suppliers and customers. The results
can often be lower, more flexible costs, an increased focus on those unique activities that
produce the greatest value for customers (the so-called core competencies of the
business), better quality, faster speed, better use of capital, increased innovation, and
even new sources of revenue.

But, how do executives both improve the operations of their company through
outsourcing and create better opportunities for their employees at the same time?

When an organization outsources an activity, it is directly affecting the jobs and careers
of the employees currently doing that work — and, indirectly, the jobs and careers of all
of its employees. Too frequently outsourcing’s benefits are seen as coming at the
expense of the company’s current employees.

For “in-scope” employees, their jobs change immediately. They may be offered a job
with the new outsourcing company, offered a different job within their current company,
or may be told that they no longer have a job.

Things change, although far less dramatically, for “out-of-scope” employees, as well.
They will now be working not with fellow employees but employees of the new
contractor. Outsourcing affects their view of the company and the way it treats its
employees. They may wonder: “Am I next?”

How outsourcing impacts employees

Of course, changes in the workplace like outsourcing are unavoidable. Any organization
that isn’t constantly changing simply can’t survive, let alone prosper. As England’s 19th
century Prime Minister Disraeli said, “Change is inevitable. Change is constant.”
Outsourcing is just one of many changes being thrust upon people at work, especially in
today’s very unstable business environment.

To be successful in managing outsourcing’s impact on employees, executives must first

understand how their employees will be impacted and then take personal responsibility in
shaping that impact. Outsourcing need not be a zero-sum game -- the outcomes can be
made positive for both the company and its employees.

Keep in mind that outsourcing impacts every aspect of the employee’s job. Financially,
the amount and structure of their pay and benefits packages may change. So will their
job – the nature of their work, who their boss is, their company, work location and future
opportunities.

The employee may not have chosen to be outsourced, but management did. Therefore,
management is responsible for each and every aspect of that decision – what to
outsource, what provider to outsource to, and the resulting character and scope of its
impact on employees.

Creating positive employee outcomes

There are a number of keys to creating positive employee outcomes.

The first is recognizing that in most cases, the customer’s current employees are critical
to the service provider’s ability to deliver high-quality results. If designed into the
outsourcing initiative from the beginning, it is possible to seek service providers who can
offer better training and long-term career opportunities for employees than they currently
have.

When employees go to work for an outsourcing service provider, they have the
opportunity to align their personal ‘core competencies’ with those of their new employer.
A decade ago Peter Drucker first pointed out how outsourcing can create new
opportunities for employees. “In one large hospital-maintenance company, some of the
women who started 12 or 15 years ago pushing vacuum cleaners are now division heads
or vice presidents. As hospital employees, most of them would still be pushing vacuum
cleaners,” he wrote.

Other career building opportunities can be created, even for employees staying with the
customer organization. Joint management and quality improvement teams can expose
employees to new skills and new ways of doing things. Rotational and permanent job
opportunities can be created. Outsourcing can provide an important opportunity for
reassessing and retraining a company’s employees.

Management action determines results

As leaders, the organization’s management has the responsibility to make certain that
employees understand the business, how it operates, and the key measures and drivers of
its success. The goal is to help the organization’s employees come to see that as changes
take place, whatever they are, they are not gratuitous — that is, they are sound responses
on the part of management to the opportunities and challenges that the business faces, as
opposed to unjustified and unreasonable actions by management.

Management must be prepared to work with people to help them work through the
personal and professional impacts of the decisions management makes. It can not and
should not abdicate this responsibility.

Finally, management must itself have and then articulate a positive vision for the future –
a vision that demonstrates that everyone will be ultimately better off once they adjust to
the ever-changing environment in which businesses now operate.

Management’s action must follow its words. The vision must be clear, the goals and
measures of success defined, and the commitment to achieving positive outcomes for
both the employees and the organization unquestionable.

Problem Statement
Problem #1: Organizations only achieve what they can measure.

Organizations report significant difficulty in measuring and reporting the quality of the
services they are receiving through their outsourcing contract, the relevant continuous
improvement in these services, how they compare to industry norms for those services
and, most importantly, measuring and reporting the business value actually realized as a
result of the outsourcing contract. Some difficulty in measuring and reporting more basic
characteristics as service quantities, costs and customer satisfaction are also reported.

Problem #2: Managers don't know how to manage relationships.

Outsourcing demands an entirely new management style. In fact, the very technical,
operational and administrative skills that make the traditional executive successful, have
far less importance when it comes to managing an outsourcing contract.
Communications, negotiations, and lateral leadership leading out instead of managing
down are critical to success in the outsourced world. Similar problems exist on the
provider side with undeveloped skills in the areas of: industry expertise, operational
facilitation, credibility development, and mentoring and coaching.

Problem #3: Over promising creates unobtainable expectations.

Gaps between expectations and outcomes can occur as a result of over promising during
the decision process. Both providers and internal champions can cause this. This,
combined with a lack of attention to details during the early transition phases, can result
in negative early experiences which then become very difficult to overcome.

Problem #4: Under investment in management resources.

The number of people and supporting systems needed to effectively manage the
outsourcing contract are typically much higher than customers anticipate. There is a
pervasive attitude that since the work is outsourced the relationship doesn't need to be
managed. As a result, the oversight team is ill prepared to ensure that the relationship is
driven toward achievement of the intended results. Some experts suggest that 5-10% of
the contract value should be spent in creating and sustaining the management resources
and systems needed to keep the relationship on track. Overall customers report that the
amount resources required to manage the relationship are, in fact, generally the same as
those required to manage internal operations. Customers report that this amounts to at
least 1-3% of the annual contract costs. Similarly, providers are under-investing in the
areas of ongoing investigation of the client's business objectives and needs.

Problem #5: Penalties are poor motivators of good performance.

The most common form of performance incentive is the threat of early contract
termination. The absence of performance incentives makes it difficult to drive the overall
relationship, let alone the performance of the individuals delivering the service, toward
continuous improvement and increased value.

Problem #6: Differences in organizational and management personalities.

One expert suggests that 75% of failed partnerships are due to corporate personality
problems; 68% involve individual managers' personalities, and 57% have to do with
project priority differentials. Cultural differences between organizations erode the
relationship over time.

Problem #7: Lack of employee training on the new environment.

Adoption of the specialized service provider's systems and technologies is often central to
the anticipated value. This requires an investment in training of company employees.
Without this training results will be below expectations and relationships will be strained.
Creating an effective working relationship between in-house and outside employees is
particularly important during the transition phase. The same issues exist in training the
provider's employees on the clients business environment and objectives.
A Diagnostic Tool

One way to improve current performance in the management of an outsourcing

relationship is to compare is in an objective way to the best practices discussed earlier.

The following Diagnostic Tool does exactly that. Each of the seven Best Practices is
broken down into its elements and then each element is presented on a scale from needs
improvement through achieves best practices. A description of what would be seen in an
organization performing at that level on the scale is presented. By comparing an
organization's current performance to these points on the scale, a the gap between current
performance and best practices can be gauged. This gap analysis then forms the basis for
identifying where improvement is most needed and what the desired state would look
like.

1. Objective Performance Criteria are Negotiated, Measured, and Reviewed

Successful outsourcing relationships focus on results not activities and resources. To be

meaningful, these results must be objectively measured, that is, described in quantifiable
terms, and must be compared on an ongoing basis against pre-established performance
criteria.

Improvement Meets Minimal Standards Achieves Best Practices

Recommended

Measurements of Objective criteria for Objective criteria are Continuous improvement

service quantity service quantities defined, measured, and realized through joint action
and costs. and costs are not reviewed on a regular basis plans, follow-up, and
defined, or, if by both the customer and benchmarking against world-
defined, are not the provider. class standards of
collected and performance.
reviewed.
Measurements of Objective criteria are Objective criteria for Objective criteria based on
service levels, not defined or are service levels, quality and business-value achieved are
quality, customer not collected and customer satisfaction are defined, measured, and are the
satisfaction and reviewed. defined, measured, and basis for continuous
business value. reviewed on a regular basis improvement.
by both the customer and
the provider.

2. Formal Management Reporting Structure

A formal, typically multilevel, management reporting structure exists linking the

customer and vendor. Each level is comprised of teams that have clearly defined roles,
responsibilities, agendas, frequency of meetings, and relationships to the other teams and
to each organization.

Improvement Meets Minimal Standards Achieves Best Practices

Recommended

Management Contract managers Contract managers Multi-level teams exist,

reporting (customer and (customer and provider) with day-to-day, tactical
structure provider) not identified with clearly and strategic roles and
identified, or roles defined roles and responsibility defined.
and responsibilities responsibilities.
not clearly defined.

Meeting Meetings occur on an Regularly planned meetings Regularly planned meetings

frequency, ad hoc or crisis-only take place with take place with
regularity basis predetermined agenda and predetermined agenda and
consistent attendance consistent attendance

Issue Resolution of Problems are recognized as Meetings are highly

identification and problems occurs only they occur and are resolved. interactive resulting in
resolution after a crisis. identification and resolution
of problems, often.

3. Performance-Based Pricing

Performance-based pricing ensures that the provider is continuously incented to meet or

exceed the stated performance criteria. Incentives exist at both the organizational and
individual level.

Improvement Meets Minimal Achieves Best Practices

Recommended Standards

Organizational Provider payments are Incentives and Incentives exist for

Incentives based solely on amount of penalties are continuous improvement and
service delivered and a fee specifically tied to ongoing value engineering.
for unit of service. performance criteria.

Individual Individual incentive plans Some individual All key personnel for both the
Incentives do not exist or are not tied incentives tied to provider and the customer
to organizational organizational have individual incentives
incentives. incentives related directly to
organizational incentives.

4. Internal Training and Communications on Business Goals and Relationship

Management

The individuals responsible for managing the outsourcing relationship for the customer
receive specific training on how to do this job. Furthermore, this same information is
communicated to the larger end-user community.
 Improvement Meets Minimal Standards Achieves Best Practices
Recommended

Relationship Relationship Managers Relationship managers Role of relationship manager

Manager receive No formal receive detailed guidance is treated as a specialized
Training Training on the organization's goals, skill, supported by ongoing
intended relationship and training, feedback, and
the manager's role and continuous process
responsibilities. improvement.

End-user Little or no formal Formal communications of Ongoing formal

Training communications of goals, objectives, and communications to identify
goals and objectives to management structure at and resolve problems and
the end-users of the time of transition. facilitate continuous
provider's services. improvement.

5. Vendor Training on Customer's Business Environment and Goals

The fifth best practice is training for the vendor's personnel on the customer's business
environment and goals. Although the vendor personnel are experts in their field, they
require specific, ongoing training on the client's business and its goals. In this way, they
develop the needed sensitivity to the issues driving their client's needs and how their
services relate to them.

Improvement Meets Minimal Standards Achieves Best Practices

Recommended

Vendor Vendor personnel receive Key vendor personnel All relevant vendor personnel
personnel no training on client's receive formal training on receive ongoing training to
Training business and its goals. client's business and goals integrate them into the
as part of transition. business and goals of the
 client.

6. Cultural Normalization

The culture of an organization reflects its value system, what is and what isn't important.
As such, it is a powerful factor in establishing how individuals perform their jobs and
how they respond to various situations.

Improvement Meets Minimal Achieves Best Practices

Recommended Standards

Cultural No effort to Relationship managers Relationship managers have identified

awareness understand have identified cultural cultural differences and meet regularly
organizational differences. to discuss and refine their mutual
cultures. understanding.

Culture No formal Regular joint meetings Multi-faceted program including:

integration program to blend to facilitate integration
• meetings and social events;
organizational of cultures.
• education on company heritage
cultures.
and history;
• rotating employees;
• participation in "internal"
meetings;

• participation in the partner's

internal improvement programs,
such as quality teams; jointly
sponsored recognition.
7. Ongoing Exchange of Knowledge and Expertise

The ongoing, free exchange of knowledge and expertise between the companies is a
trademark of successful outsourcing engagements. Each partner has their own specialties
which when shared, contribute to both the success of the relationship and the success of
the partner.

Improvement Meets Minimal Achieves Best Practices

Recommended Standards

Programs for Little or no exchange Ad hoc exchange of Formal programs for identifying
Ongoing of expertise between expertise as opportunities and exchanging
exchange of the organizations. opportunities are expertise between organizations.
expertise. identified. Might include:

• Seminars,
• On-the-job experiences,
• Access to experts,

• Participation in jointly
sponsored task forces.

What's Driving the Growth of BPO?

The Impact of Labor Arbitrage
 To the casual observer, the fundamental sources of
leverage - technology, best practices and scale -- that were behind the growth of IT
outsourcing are now driving the pace of BPO outsourcing. But a deeper look reveals that
the primary driver is the combination of labor arbitrage with these leverage points.

Labor arbitrage modifies the fundamentals of outsourcing. This article outlines those
changes.

Adding Labor Arbitrage To the Outsourcing Tool Box

Labor arbitrage is simply the ability to pay one labor pool less than another labor pool for
accomplishing the same work, typically by substituting labor in one geography for labor
in a different locale. The outsourcing industry is now applying labor arbitrage widely; it
is transitioning from a novel approach to a competitive requirement. India, Eastern
Europe, Latin America, Southeast Asia, and other regions are all serving as labor markets
for outsourcing of activities.
Historically, companies have applied labor arbitrage to manufacturing activities.
Manufacturing moves tangible product from one geography to another; outsourcing
moves information. Successfully doing this requires significant thought regarding work
segmentation. Outsourcers have to break apart the work process into well-defined sub-
activities that can then be assigned to different resources in different geographies. The
challenge of managing across geographies heightens the importance of a careful
segmentation.
Additionally, labor arbitrage poses a significant challenge in managing risks (e.g.,
political and civil unrest, languages, currency, taxes) and in sustaining a labor arbitrage
benefit as the demand for labor in a market increases.
Done correctly, the leverage gained can be significant, ranging from a 30 to 80 percent
savings. Some of these potential savings are "given back" through the increased cost of
managing remotely and implementing a disciplined process, but companies are willing to
carefully think through these other issues in order to achieve a significant impact. In
Everest's experience, the best case scenario purely from exploiting labor arbitrage after
all additional costs have been added back is in the 50 to 60 percent range.
So, when is labor arbitrage an appropriate strategy? Typically, the content of the process
to be moved offshore is people intensive with at least 40 percent of the process cost
relating to labor expenses. Examples include software application development, claims
processing, and many clerical functions. Clearly, the labor content is not the only factor
impacting the decision or else face-to-face sales forces would be gone forever! Indeed,
the decision on what, if anything, to move offshore must be taken seriously.
Although the exact approach will differ, a tiered philosophy is emerging as the preferred
strategy. In this strategy, customer intimate functions are performed on-site, high trust
functions such as inbound call center are in-country or near shore (e.g., Canada), and
well-defined transaction processing is performed at offshore locations.

Impact on Technology's Role

The segmenting of work flows required to use labor arbitrage as a leverage point
typically changes the role of technology: It now plays a larger role in the process and it
requires different types of technologies. For example, in paper-driven processes like
benefits or claims processing, the paper must be converted into digital images that can be
quickly and economically transferred across the globe.
The actual activities completed by the lower cost labor may not be significantly different,
but the process utilizes technology more intensively (i.e., electronic filing of forms, not
paper). Additionally, suppliers deploy new technologies to make the redesigned process
efficient (e.g., imaging equipment, telecommunications networks). In some cases, these
new technologies must address multi-lingual issues not previously considered.
This technological "turbocharging" of formerly mundane processes has a cost that
frequently diminishes some of the potential labor-only savings.

Impact on Best Practices

The tremendous economic benefits of labor arbitrage also drive increased investment in
reengineering the process for maximum efficiency and effectiveness. Traditionally,
outsourcers have expended some effort on reengineering people processes, but seldom at
the level required in offshore situations. Additionally, the reengineered processes are
more rigid in order to drive the standardization that allows for management of the process
across geographies. Since no one person can literally see what is going on, the process
must be so well-defined that issues seldom arise and when they do, the trouble-shooting
process is straightforward.
Outsourcers face another challenge in developing best practices: allowing some degree of
customer-specific customization without losing the benefits of standardization. The trick
in overcoming this challenge is to define the overall process in such a way that the buyer
can tailor the most important requirements, while still allowing the outsourcing supplier
to retain the required leverage points. In short, the best practice must reflect both the
supplier's need for operational efficiency and buyer's need for customization.
In an IT environment this can generally be handled through some level of automation -
not so with labor arbitrage. The customization impacts employee training and required
skills sets.

Impact on Scale

In an offshore labor arbitrage situation, scale must be managed at three different levels:
in-home country, local offshore sites, and across offshore sites.
In-home country
The infrastructure required to transmit the work material to the offshore site must be
designed to achieve sufficient scale. In some cases, the required scale can be significant.
For example, imaging centers only become economical when designed for high volumes
with 24 hour operations. However, the transportation cost of paper (both time and
money) to an imaging center can also be significant. In this situation, outsourcing
suppliers must be able to create regional imaging centers that achieve the required scale.
Offshore sites
In many cases offshore efforts require that the outsourcing supplier develop an entire
"community" within a country. These sites typically employ thousands of resources
(people), thereby requiring large scale recruiting and training efforts (and sometimes even
housing). The facilities must also be operationally robust, often requiring redundant
power systems, satellite up-links for data transmission, and large-scale computer systems.
Across offshore countries
Over time outsourcing suppliers are developing the ability to move work between
different offshore sites. The potential for short-term disruptions or longer-term changes in
the labor market necessitate that work become "portable" across sites. This places another
burden of scale on suppliers and their ability to quickly and cost-effectively rebalance
work across different geographic regions.
Labor arbitrage is playing a significant role in accelerating the pace of BPO. However,
buyers and suppliers must not forget that labor arbitrage is only part of leverage equation
for successful outsourcing relationships. When labor arbitrage utilizes best practice
processes designed around appropriate technologies and is executed at scale, the power of
the solution can be tremendous.

What's Driving the Growth of BPO?

The Emergence of Transaction Engines
 In Part 1 in November's BPO Journal, we discussed how labor
arbitrage impacts the ability of outsourcing providers to capture leverage benefits. Due to
the significant cost savings potential offered purely by labor arbitrage (30 to 80 percent
depending upon the geography), outsourcing providers are compelled to find new ways to
utilize other sources of leverage such as technology, best practices, and scale. After
applying those additional sources of leverage, the maximum potential cost savings is
typically reduced to 50 to 60 percent because of the additional cost of remotely running
and managing operations in a lower cost labor market.

We term the resulting solution that an outsourcing provider offers by applying labor
arbitrage with other sources of leverage a "transaction engine."

Definition of a "Transaction Engine"

The term transaction engine is intended to capture the repetitive and scalable nature of the
solutions outsourcing providers develop to provide BPO services through the use of labor
arbitrage.
"Transaction" refers to the well defined and repeatable nature of how an outsourcing
provider manages the activities of the solution. For example, as described in Part 1 of this
series, the outsourced process must be carefully defined and disaggregated to ensure that
roles and responsibilities are exceptionally clear for a process to be managed across time
zones, cultures, and multiple locations. This is not to suggest that the activities are simple
or completely automated, but rather that the inputs, outputs, and working rules are so
well-defined that there is no doubt as to how the work will be completed.
"Engine" refers to the scalable nature of the solutions of providers. Much like the engine
of an automobile, many different components (or companies) can draw power from the
engine. In an automobile, the transmission, air conditioner, and radio all draw power
from the engine. Similarly, in a BPO transaction engine, different companies can derive
similar benefits (power) from the engine, although each company's benefits may be put to
slightly different uses.
For example, an outsourced human resources (HR) service may provide each client with
reliable and efficient management of employee records, payroll, and benefits. However,
some companies may capture value from this service through simple cost reductions
while others may receive benefits from the ability to more quickly scale their
organizations and operations through mergers and divestitures. Accordingly, the service
offering is typically built around the principle of "mass customization" - the ability to
tailor critical aspects of the service while retaining the underlying leverage provided by
the scalable solution.

The Two Types of Repetitive Activities in a Transaction Engine

Much of the transaction engine is designed to handle activities that are automated.
However, not all of these activities are completed by computer systems transferring
information to and fro. Some automated activities are completed by humans working
within explicit guidelines that leave no room for judgment or analysis. For example,
clerical resources may work from scanned images to code the information on an
application or invoice into an information system.
In addition to automated activities, a second set of activities that we call analytical
activities are critical components of transaction engines. These activities may be
significantly supported by information systems, but, at the end of the day require human
judgment and analysis. Example activities requiring analysis include:

• Finance and Accounting

o Exercising discretion in release of payments.
o Deciding whether customers meet conditions to receive discounts.
o Identifying additional opportunities to reduce working capital.
 o Appropriately interpreting tax laws or amortization guidelines for items
booked to the general ledger.
• HR
o Counseling employees on understanding benefits or 401k plans
o Coaching managers on how to apply HR policies

Although the analysis activities are not naturally top-of-mind when people think about
BPO, they are often critical components of the transaction engines developed by
providers. These analysis activities become critical because the ability of a provider to
deliver business impact beyond simple cost savings is directly linked to the provider's
ability to develop and act upon insights that aid in better managing the business impact of
the processes for which they are responsible.

Synergy Across the Two Types of Repetitive Activities

By combining both automated activities and analysis activities into the transaction
engine, an important synergy is released: self-service. Self-service is the ability of a user
to input, access, and utilize information without the support of another human. Shifting
some of the work to the user (e.g., new employees filling out forms at a kiosk in HR)
creates a more efficient use of time for both the company and the user.
For example, when an employee wishes to change her benefit plan, a self-service model
that can be completed in the evening allows input from the employee's spouse. In this
situation, no human resource from the company must be involved in the process and the
employee is able to make changes at a time convenient for her (and likely to have an
easier decision process with her spouse).

Synergies of Grouping Processes into the Transaction Engine

By combining an appropriate scope of processes into a transaction engine, an outsourcing

provider is able to capture synergies across processes that buyers of outsourcing services
often don't recognize in their initial outsourcing plans.
Examples of cross-process synergies include:
 • Linking benefits and payroll systems allows a change to benefits to be
automatically reflected in payroll, thereby reducing clerical work.
• Creating a single HR system helps uncover the total healthcare costs and plan
usage to better negotiate coverage and policies with insurance companies.
• Implementing a single GL/AP vehicle allows better analysis of spend across
vendors, thereby supporting the ability to gain optimal discounts in procurement
efforts.

In short, these cross-process synergies provided by a transaction engine provide increased

visibility into the operation of the company. This increased visibility provides an
opportunity for an outsourcing provider to both:

1. Collect new information that provides insights, and

2. Act on these insights to gain benefit for their customers.

With transaction engines, buyers of outsourcing services can now hold providers of the
transaction engines accountable for identifying and delivering impact from cross-process
synergies. However, the scope of the processes included in the relationship must be
consistent with the desire to capture cross-process synergies.
Transaction engines are a powerful, new addition to BPO. Companies considering a BPO
solution should carefully investigate the capabilities of different transaction engines and
determine which ones are appropriate for their needs.

What's Driving the Growth of BPO?

Examples of Transaction Engines
By Eric Simonson, Everest Group
 In Part 2 in December's BPO Outsourcing Journal, we
defined the term "transaction engine." Transaction engines have emerged in BPO to
provide solutions to repetitive activities. These engines incorporate labor arbitrage and
economies of scale into the leverage (creation of benefits) provided by the solution.
Additionally, repetitive activities in a transaction engine include both "automated"
activities (clear rules) and "analysis activities" (some level of judgment). As a result,
transaction engines can capture additional synergies through self-service and
appropriately grouping processes to capture cross-process synergies. Here is a profile of
the different types of transaction engines that are emerging.

The Landscape of Transaction Engines

Transaction engines should be analyzed using two primary dimensions:

1. Maturity of the solution provided by the transaction engine.

2. Relative importance of labor arbitrage to improve the overall value proposition of
the solution.

The maturity of a transaction engine relates to the degree to which the solution has been
"packaged" to become a standardized and repeatable platform across multiple customers
(versus being highly customized for each customer). To become mature, a solution must
identify the critical components of the processes that can be used across different
customers and then build the solution to provide this platform. The more mature the
solution, the greater the benefit to buyers of the solution because:
 • The supplier's solution can be used "off the shelf," eliminating the need to invest
in building a solution for the next customer and more efficiently spreading the
benefit of ongoing investments in the solution to all customers of the solution.
• More of the process can be built around principles of self-service, which further
improves the value proposition. Self-service can both decrease the cost of the
process (e.g., shifting work to employees or customers) and improve the service
levels of the solution (e.g., information is more readily available, transactions can
be completed quickly and easily).
• A common platform provides additional opportunities to aggregate the
procurement of services and products (e.g., tax filing, COBRA administration,
employee benefits) within the solution, thereby helping achieve greater
purchasing power on behalf of all customers of the solution.

Not surprisingly, transaction engine solutions often reach maturity when focused on an
industry with common issues, conventions and sub-processes around which the solution
can be built. Accordingly, finance and accounting (F&A) solutions, which must often
reflect the differences of industries (e.g., revenue recognition rules, accounting
conventions), are typically not as mature as human resources (HR) solutions, which focus
on processes that tend to be more common across industries (e.g., maintaining employee
records, payroll, managing benefits).
Depending upon the labor content in the scope of work, labor arbitrage becomes more or
less important to developing a powerful transaction engine. In some cases, the relatively
small share of labor in the overall cost structure of a transaction engine suggests little, if
any, offshore labor components. For those processes with significant labor requirements,
effectively utilizing offshore approaches has become a strategic imperative.
Given this understanding of the two primary dimensions that help define transaction
engines, we will now review four examples of transaction engines.

Example #1: TPA for Life Insurance Policies

Third-Party Administration (TPA) for servicing customers of life insurance policies is
among the oldest and most mature of transaction engines, although historically not
broadly utilized. This is on the verge of changing significantly.
For many years life insurance companies have used TPA suppliers to take over "closed
book" policies (often acquired during a merger, bankruptcy or market exit) or to provide
the initial support for entering new markets that do not yet warrant significant investment
on the part of the insurance provider. This modest use of an outsourced TPA solution was
driven by the economic case in which transition costs generally outweighed the modest
ongoing cost savings. The exceptions were situations in which investment was required
regardless of who supported the ongoing solution.
Since TPA has a tremendous component of labor, the emergence of labor arbitrage is
fundamentally changing the ongoing cost structure, thereby altering the economic case to
favor outsourced solutions.

Example #2: Human Resources

HR transaction engines are reaching maturity, although they typically do not merit the
same level of offshore labor arbitrage as TPA. The rapid emergence of broad, multi-
process HR solutions has been aided by the fact that companies have outsourced a subset
of the broad solution processes--like payroll and benefits administration--for some time.
The solutions of Accenture and Exult are the furthest along on this path.
Exult's myHRSM toolkit has basically reached "plug and play" status for those
companies willing to implement a solution that can be shared basically "as-is." This
solution is highly automated and built upon self-service principles, thereby limiting the
amount of labor content required to deliver the overall solution. Exult conducts much of
the application development and maintenance of the solution offshore but operates its call
center support in the United States.
Kevin Campbell, Exult Chief Operating Officer, says, "While each client has different
needs for its self-service HR applications, we've found large employers desire many of
the same functions. myHR's flexible tool kit allows us to quickly enhance the
employee/manager experience without re-inventing the wheel each time. And because we
have experience implementing self-service across multiple clients, we apply the
cumulative lessons learned to continually enhance the speed and ease of use of each new
implementation."
Indeed, the ability to reduce customization of existing solutions is an important driver for
capturing value. According to Glenn Davidson, head of marketing for Accenture HR
Services, "The less customization required by the client, the better the solution's
economics."
Besides those suppliers that already have leverageable, multi-customer solutions, other
suppliers are in the process of aggressively building their own solutions. A good example
is ACS's acquisition of Motorola's business. Over time, ACS will seek to take this
customized solution and convert it into a more broadly applicable option.

Example #3: Finance and Accounting

No mature transaction engine has yet emerged in the F&A space, although a number of
solutions are starting to take form. For example, IBM is currently serving a number of
customers out of its Tulsa operations center. The typical solution supports accounts
payable, accounts receivable, general ledger, financial reporting, and other processes.
F&A transaction engines should emerge more slowly than their HR counterparts for two
reasons:

1. Many F&A processes are specific to individual industries, thereby requiring a

longer timeframe to develop sufficient scale within an industry.
2. A significant portion of F&A processes contain significant labor components,
thereby compelling providers to eventually establish offshore capabilities. In
some cases this is being done from the inception of the solution, in other cases
providers are evaluating how to move existing solutions offshore.

As an example of the industry-specific nature of F&A solutions, many providers are

creating "revenue cycle management" capabilities for the healthcare industry. The
solutions seek to dramatically shorten the cycle time from provision of services to
reimbursement from insurance companies while also capturing a higher yield of
reimbursement--clear value add to the bottom line.
Other industries for which specific solutions are being discussed include the oil and gas
sector (complicated mineral rights and revenue recognition issues) and the railway sector
(tracking the financials off hand-offs of freight between different railroads).

Example #4: Procurement

Many F&A transaction engines are being developed with an end goal of reaching deeply
into procurement processes to create even more leverage from the solution. These
solutions are clearly amongst the most nascent in the marketplace. However, Everest
Group has seen the potential for tremendous value creation from these solutions--in some
cases exceeding $100 million per year. The nature of procurement functions suggests that
these solutions have the potential to mature rather quickly (comparatively easy to
leverage across industries), but will not be significantly impacted by labor arbitrage
(automated nature of solutions minimize the labor component of the process).
Typically these solutions are designed to address two issues: the cost of the item being
purchased and the cost of procurement transaction itself. Although few in number, these
solutions can generally be utilized across industries, thereby gaining tremendous
purchasing power for the provider and providing broad visibility into demand for
balancing the flow of goods and services. This allows the outsourcing provider to reduce
the total cost of the item being purchased.
Additionally, by implementing a highly automated transaction interface, the provider
gains the benefit of a lower cost purchasing interface. This interface, often in a self-
service arrangement, provides two other ancillary benefits that help drive down the cost
of the purchased items.
The first ancillary benefit is that the automated interface facilitates analysis of spend,
thereby supporting negotiations with vendors, aggregation of spend across vendors, and
many other efforts focused on decreasing the cost of purchased materials (e.g., capture of
volume discounts). The second ancillary benefit is that the self-service nature of the
automated engine facilitates greater compliance from across the organization, thereby
ensuring benefits of vendor relationships are captured and bring even more volume into
the system.
Transaction engines are powerful new solutions, although the maturity of different
transaction engines varies widely. Potential buyers of outsourcing services should
carefully investigate which options are available to them and how the engines might
mature to provide increased benefits over time.

Building an Outsourcing Practice

When Jim Smolesky got into the facilities management business, he

figured he'd have to be part plumber, part electrician, even part structural engineer. But
he never guessed he'd have to be part psychologist, too.

Smolesky, executive vice president for Facilities West Inc., an outsourcing provider in
Scottsdale, Arizona, had signed an outsourcing contract with a government agency. The
agency had been housed in a building that was erected in the early 1900's which was now
being modernized. Building codes today, however, are much more restrictive than they
were 100 years ago.

The Americans With Disabilities Act significantly reduced the useable office space
because that law required wider aisles to allow a wheelchair to pass between the desks.
Losing this much space turned out to be a big handicap for the government agency.

Smolesky and his staff had to sit down with each department and tell them squarely about
their reduced square footage. Then the outsourcing expert had to determine what items
the agency, which had been parked in commodious leased space, could actually return to
the new digs. An even bigger dilemma was what to do with the items that would no
longer fit.
Condensing office space turned out to be harder than fixing an air conditioning
condenser. These workers had collected lots of stuff that had sentimental value to them
which now wasn't going to fit. "It was a real selling job," says Smolesky with a sigh.

Experience to Handle Every Problem

Smolesky says companies that have multiple satellite offices form the foundation of the
vendor's call center business. "Customers like it because it's a one call system," he
reports.
Every month the outsourcing provider sends each customer a synopsis of all its repair
costs. Some clients even outsource the facility's bill payments to Facilities West.
The firm also provides on site management staff. One corporate client has a call center
located a long way from its corporate headquarters. The top executives want to
concentrate on the activities of the call center and don't want to worry about the
plumbing. So a Facilities West employee provides the facility manager who works with
all repair crews.
If this manager runs across a problem s/he is unable to handle, help is close at hand.
Facilities West has 50 employees on its payroll, all expert in some specialty. "There's
always someone on our staff who has dealt with that issue before," says Smolesky.
Smolesky says facilities outsourcing makes sense because executives today don't have
time to manage half a dozen different contracts or call someone else if an esoteric
problem arises. Outsourcing is also the perfect solution for short term projects.
Facilities West has been known to turn down business. Some prospects have shown up on
the doorstep wanting to outsource "because the building down the street did." The vendor
studies every prospect and then makes a recommendation. "We have told clients, 'We'd
love to have your business, but outsourcing is not in your best interest,'" he reports.
Smolesky says outsourcing relationships work when both parties view the contract as a
partnership. "Our ideal client is a company that views outsourcing as a way to enhance
their business," says the executive.
Working Out Disputes Until the Client is Happy

The firm purposely has no service level agreements (SLA), although it would be happy to
include them in a contract if the client asks. "We try to avoid anything that would cause
us to say, 'No, that's not in the contract,'" says Smolesky. If Facilities West is not meeting
a client's expectations, the vendor sits down with the client to reconfigure the program to
make them happy. "We don't want to be in a confrontational relationship," he explains.

The BPO juggernaut starts rolling

How technology compresses change! It is no longer the age of software, which has
matured, is facing pricing pressure and has lost its stock market shine. It is now the age of
business process outsourcing.

Till some time ago it used to be called IT-enabled services, denoting the manner in which
individual services like data entry, responding to calls, medical transcription and simple
data processing were delivered. But somewhere along the line, entire business processes
began to get outsourced, giving rise to BPO.

The pioneers in India who first began to host outsourced services in the country were
American Express and British Airways.

The big break came when GE began to set up large call centres around Delhi, thus
demonstrating the scalability of the operations high visibility.

Today BPO is the rage. In two years time, the total number of people employed in BPO
has gone up tenfold to 200,000 and on current reckoning a similar tenfold growth will
take place in another couple of years.

Clearly, taking after software, India has emerged as the preferred destination for
companies in mature economies seeking to beat down costs and improve productivities
by outsourcing entire business processes at both the front and back office.
Ireland, the Philippines, Australia and China (to serve Japan) are all competitors but, in
this volume business only India has the numbers not just today, but also is likely to in the
foreseeable future.

As numbers come with a skill tag attached to them, Indian ability to deliver numbers also
means the ability to ensure quality which keeps improving.

By all accounts, in terms of potential, cross-border outsourcing has barely scratched the
surface. For example, an important outsourced service, HR functions, has barely begun in
India.

The largest outsourcing deals to come to India so far have been under $200 million,
whereas large deals within developed economies are upwards of $1 billion. Besides,
notions of what can be outsourced are changing by the day.

Indian ability to gain from this outsourcing potential is based on the gradual acceptance
of and familiarisation with the India brand.

Says a US-based Indian software professional, "The taxi driver's opening gambit
nowadays is, on seeing that you are Indian, to ask you if you are in software."

It is slowly becoming unnecessary for call centre agents to adopt non-Indian names.
Indian names are OK so long as they are not very complicated.

The Western customer now knows and accepts that his call is being answered from
conceivably anywhere in the world and there is also a realisation and expectation that if
the response is from India, then his technical problem will be taken care of.

Within India outsourcing has followed several paths. First it was the MNCs that set up
their captive centres to establish the proof of concept. Then the Indian third party BPO
operations had to do the proving all over again.

Thereafter has come the stage of dualism whereby outsourcers have both their own
operations and access third party services.
The latest trend consists of more and more complex services like technical support 'my
PC or our ERP has this glitch' and processing of tax returns under US GAAP being
outsourced.

And growth results from rapid upscaling. A company comes in with one process and
then, within months, decides to bring in several more proceeds with rapid hiring and
acquisition of office space.

In the general satisfaction in India over the success in BPO taking up the slack in
software growth, there is as yet inadequate realisation of its implication on a much wider
area beyond its immediate vicinity.

The first and most significant impact is on education. Just as software has changed the
face of India's technical education, BPO will transform the market for language and
professional skills. The stifling of white collar job growth as a result of all round
downsizing in the organised sector will end.

Already a new vista is opening up before middle class Indians: that of working in large
numbers for, if not MNCs then their surrogates. Education till the undergraduate level is
likely to become more skills and capabilities oriented and expand the market for private
education.

The rapidly expanding BPO industry is also having an impact on office space. Not only
has BPO thrown a lifeline to the gasping property market, it has also forced standards to
go up.

There is an increasing demand for construction to conform to international standards and

cities which fail to measure up are losing out.

But the impact goes deeper. A rare bandh in Bangalore over Cauvery waters last year had
BPO managers struggling to explain to their clients what a bandh was and how it
wouldn't affect operations.
A state big in BPO cannot afford to have any kind of disruption, be it over traffic, civic
amenities, electricity or even law and order.

If you are manning contact centres for half the Fortune 500 companies, your show must
never stop.

The BPO impact does not end there. It has strategic implications. If a large chunk of
corporate America and a bit of corporate Europe has a stake in Indian stability and
business continuity, irresponsible Indian leaders who glibly talk of teaching Pakistan a
lesson will have to be disciplined.

Conversely, export of terrorism from Pakistan which destabilises India will not be
tolerated by those companies. By developing a symbiotic link with Western business so
that it has to depend on you for its day to day operations, you get them on your side.

As US back and front offices sprout in India, its ability to lobby in Washington will
improve, courtesy its MNC clients. These are some of the extensive ramifications of what
BPO will be doing for India, which will go way beyond what software has so far done.

How Outsourcing Builds Shareholder Value

One of the great benefits to outsourcing is that it builds an organization's shareholder
value. We will look at the three main components of shareholder value and discuss how
outsourcing contributes to each one.

Costs

Reducing Operational Costs

To begin with, outsourcing can impact the cost side of the profit and loss equation.
Michael F. Corbett's research has shown that by outsourcing many organizations show an
immediate 10-15% reductions in operating costs. These lower costs are the result of
applying best in class business processes and technology. Achieving and sustaining
operational cost savings requires working with a provider to change people, process and
technology, or some combination. The provider must be given the discretion to apply
their judgement and expertise in ways that will by necessity deviate from the current way
of doing business. Aramark, the major operations and food service provider, took on the
task of delivering 16,000 meals a day at the Houston Public School District and
projecting saving $16.7 million over five years, or better than 10% annually. In this case
Aramark is compelled to do it without changing staff levels except by attrition. Aramark
is succeeding because they radically changed the technology of food delivery, reducing
spoilage and loss and revamped the management system creating huge efficiencies.

Accelerate Reengineering Benefits

Outsourcing is often a byproduct of another powerful management tool - business process

reengineering. By outsourcing non-core activities many organizations accelerate the
benefits of existing redesign or reengineering programs. Instead of being alternative
strategies, outsourcing and reengineering can work hand in hand. Outsourcing allows an
organization to immediately realize the anticipated benefits of reengineering by having an
outside organization - one that is already reengineered to world-class standards - take
over the process.

Address Operational Shortcomings

Where organizations are failing to stay within budget, using outsourcing service
providers to deliver services is a major cost savings. In the early 1990's Blue Cross and
Blue Shield or Massachusetts poured millions of dollars into a new computer system, the
infamous System 21. The insurer lacked the technical and managerial ability to bring the
new system on-line anywhere within sight of budget. Outsourcing was a good alternative.
There are countless examples of organizations lacking the internal skills and resources to
deliver world-class service, and not wanting to make the investment to get them. The
Detroit Medical Center, which in 1999 signed an information services outsourcing
contract for $1 Billion over ten years, believes that by working with Compucom they can
address the information and technology bottlenecks in the hospital to improve accounting
and payments and drive revenue, increase service levels to medical staff creating
enhanced efficiency and effectiveness, and returning the hospital system to financial good
health. All this value will be created by outsourcing information technology and working
with a provider who has the capability to make the hospital system better and the
wherewithal to make the investments and commitments to technology. They will make
these investments because they can leverage them with other clients (see Arthur
Andersen and General Motors for another recent example).

Assets

Reduced Competition for Capital Funds

When a business activity is outsourced the capital investments become the responsibility
of the provider. It's of tremendous benefit to the buyer of outsourcing services because it
frees their capital dollars to be directed toward the activities critical to their business.
Kathy Hudson, former CIO of Kodak, explained one of the driving forces behind their
decision to outsource in 1989 as being just this reason. When faced with the need to
invest $90 Million in a new computer center she and Kodak made the decision that the
shareholder's monies could be better invested in the company's core business. Kodak
outsourced to IBM in a landmark deal that was a watershed for outsourcing in the 1990's.

Cash Infusion

When McDonnell Douglas outsourced it's information technology in 1993 it sold some of
the assets to the provider and realized a significant cash infusion as a result. Many firms
have done this with their infrastructure, facilities, and discrete assets like data centers. For
McDonnell Douglas the money couldn't have come at a better time, it converted a fixed
asset to cash so it could be used elsewhere. These kinds of benefits only exist when large
assets are in the picture, but assets take many forms including intellectual property and
human capital. Later McDonnell Douglas was bought by Boeing and which had a very
difference culture when it came to outsourcing functions like information technology. In
1999 Boeing outsourced a major part of information technology and was trying to change
it's culture to embrace outsourcing.
Shared Risks

In a well-know print ad ADP, the giant payroll processing outsourcing service provider,
states in a caption that congress gives corporate America hundreds of new reasons to
work with ADP each year. Those reasons are changes to the US tax code and other
legislation associated with payroll. ADP is reminding us that we all can't keep up with
every little payroll related change, and that it's too risky to go it alone without the expert
advice of a firm that can and will expend the effort to keep up. ADP adds value to all of
its client by taking on the burden of monitoring environmental change and the risk of
change—namely mistakes. This ability to share risk, to in a way shift the risk to those
better equipped and prepared to manage it—whether they be risks associated with the
regulatory environment with ADP, the labor market with Professional Employment
Organizations (PEOs), or energy prices with companies like Excelon and Enron Energy
Services—is critical to an organization being able to focus its own attention
constructively. Think of it this way, how would your organization be able to concentrate,
focus and add value to your customers if you always had to worry about every
environmental contingency that came up. Outsourcing is a way to share risks with firms
who are better able to manage those risks, it's economic efficiency.

Revenue

Improve Business Focus

It's difficult to imagine that by outsourcing something like facilities management,

information technology, or administrative services the firm can increase its revenue but
it's true. It may be indirect but by improving the business' focus by pealing off the non-
core activities the firm improves its ability to focus on revenue generating activities. Do
your company's top business development executives answer the main switchboard and
worry about updating routers? Probably not. In your organization you've developed a
division of labor which more or less assigns jobs to people and salary levels to jobs based
on their relative talents, worth and contribution. Any smart CEO doesn't distract their
business development people with other duties because it will ultimately affect their
ability to generate revenue. Conversely, if you can remove distractions from their work
life the additional focus should allow the business development executives to generate
more revenue. Extend the ideas of the division of labor and labor market beyond the
artificial boundary of your organization. If you can engage another firm to perform some
of the tasks that distract from your firm's ability to focus on customers and generating
revenue then you are far ahead.

Leverage World-Class Expertise

Outsourcing can leverage world-class expertise when a non-core activity is outsourced. A

provider with greater skill sets and competencies in that specific area can add tremendous
value to the organization through their performance of the work. By outsourcing to
providers who are best-in-class their expertise becomes funnels into your company and
enables your organization to notch up to ever higher levels in your own core
competencies.

Leverage World-Class Resources

By the very nature of their specialization, outsourcing providers bring extensive world-
class resources to meeting the needs of their customers. Partnering with an organization
that has world-class capabilities can offer access to new technology, tools, and techniques
that the organization may not currently possess; better career opportunities for personnel
who transition to the outsourcing provider; more structured methodologies, procedures,
and documentation; as well as a competitive advantage through expanded skills.
How Do You Buy a BPO?

Metrics Measure Performance

One of the reasons BPO outsourcing can provide economies of scale and leverage (which
gives outsourcing its power) is because the finance and accounting function is similar
across both industries and companies. Much of the process has been standardized. I'd
estimate as much as 80 percent of the finance and accounting process is similar for each
buyer. That means buyers have a limited amount of customization to make BPO fit their
unique needs.
This significant standardization makes BPO boundaries relatively clear. The Outsourcing
Exchange provides our buyers with detailed process descriptions that have definite
process boundaries, so there will be little or no misunderstanding later.
The second important consideration is the metrics associated with performance. As I
mentioned in my book, you get what you inspect, not what you expect. Metrics and
service level agreements (SLA) provide a quantifiable yardstick for the outsourcing
relationship. They show buyers they got what they paid for.
Governance becomes important once the outsourcing relationship begins. Managing an
outsourcing relationship is necessary for both parties to succeed. The Outsourcing
Exchange includes a detailed governance module.
BPO buyers must also consider the switching and implementation costs. What is the
transition really going to cost? The transition period is another place where
responsibilities must be clearly defined. Who is going to do what? And both sides must
agree on an appropriate time frame.
All of these elements become part of your outsourcing contract. You should be able to
tell your prospective vendors:

• What you want to buy;

• How you want to measure results;
• How you plan to manage the relationship;
• The price you want to pay.

Negotiate Price Last

Price is last on that list for a reason. I maintain price is the final element the two parties
should discuss. As I outlined in the book, too many buyers negotiated the price first and
then discussed everything else after the dollars were set in stone. What happens during
the course of the relationship is the price goes up to get the services you really wanted or
the quality of the work goes down because the vendor attempts to get everything done as
cheaply as possible to remain in your price parameters.
It's far better to negotiate the exact services you want. Then determine a price for them.
If you want to drive down the price, use competition between vendors to do that. I advise
having multiple vendors bidding on your process. Price becomes part of the competition.
If you select a single vendor at the outset, you might get some unpleasant surprises down
the road.
How do you find a vendor? In finance and accounting, you can look at traditional leaders
like Arthur Andersen or PricewaterhouseCoopers. New BPO outsourcers like LeapSource
are coming on strong. The Outsourcing Center has the largest BPO supplier database on
the Internet. Buyers can easily sort through the extensive supplier list to build a short list
that fits their needs.
Outsourcing a business process can be a complicated affair. We designed our
Outsourcing Exchange to assure our buyers a high quality product that can be customized
to fit their needs. The Exchange compresses the contract negotiation time and
substantially lowers the cost of the outsourcing contract process.
In today's new economy, outsourcing may be the key to economic survival. Learning how
to buy a BPO provider can be a very important lesson.

How to Select a BPO Supplier

Is there a difference in the methodology of selecting a BPO

supplier as opposed to a traditional IT outsourcing supplier? Robert Joslin, senior
consultant with the Everest Group, says there are definitely some crucial factors that need
to be taken into consideration. He sorts through the issues and here presents key points as
a guide for buyers embarking into the world of BPO.

Assessment

You should establish a team of key people to consider all aspects of whether to outsource.
The team's first task is to look at the organization's reasons to outsource. It might be to
reduce or control operating costs, free up resources to be able to focus on core business,
gain access to technology capabilities or any number of other reasons. Then identify areas
that would fit with outsourcing. Establish your current baseline costs and the level of
performance you have achieved. Your team then needs to analyze whether it makes sense
to go forward with outsourcing. You should confirm that all team members understand
the ramifications of outsourcing in that your organization will be turning over the control
of your outsourced process to a supplier. The supplier will manage the process, and you'll
be managing the supplier.

Distinguishing Features

Joslin explains the most important characteristics to seek in a BPO supplier. "You should
look first at the market presence of the supplier," he advises. "Is your supplier a niche
player or a major player? Does it provide the scope and scale of services and service
levels you are going to need?" Process expertise is always going to be a critical factor.
Secondly, he says, "The BPO world sometimes reaches fingers into a lot more areas." If
your outsourced process is financials or HR, for example, those processes touch
everything in your organization; and you'll need a suppler with capability to integrate or
interface. This is even more critical if your organization is going to outsource other
processes to other vendors. You need to know how well the supplier will work with other
vendors. "You don't want your supplier ever to be a roadblock to getting things done," he
advises.
A third critical factor is to choose a supplier that has a solid change management process
and mechanism and one that can integrate into your corporate change management
process.

Planning for a Goal of Continual Process Improvement

When it is determined that a change of process is needed, your Request for Quote (RFQ)
should define the direction your company is headed toward with the process. "The RFQ
must let the bidding suppliers know that you are have an expectation for continual
process improvement, and that the eventual contract is to be structured as such. In this
way, the suppliers will be able to map a continual improvement into their bids."
Joslin recommends identifying business drivers and structuring continual process
improvement around those drivers. For example, in an objective to revamp your accounts
receivable process, the goal would be to improve your cash flow. One driver might be the
aging of the bills. One of your targets for continual improvement, then, might be to have
the bills on hand for a shorter timeframe, thus decreasing the aging of the bills and
increasing your cash flow.
Regarding targets the supplier will aim to hit, he advises buyers to raise the bar annually.
"Even if the supplier is already exceeding what your target for that year is, you continue
raising the bar so that there won't be any slipping down in the level of service." All of the
targets and algorithms are set out in detail in the contract and service level agreement.

Steer Clear of Hazards

Unfortunately, buyers run into problems if they don't adequately and clearly describe the
scope and boundaries of the process definition. Issues arise when you think you included
something in the process scope but, in reality, neglected to include it. Another challenge
is not being able to isolate a component of the process as being out of scope so that you
can control it. Joslin says the buyer must determine what it needs and wants and then tell
the supplier what that is.
Joslin advises buyers to get multiple suppliers' input and not to approach a single supplier
to design solutions, even if the supplier has a consulting alliance. "It's better to drive the
solution through an RFQ process and let the market help you decide what to do." This
frequently happens when buyers already have a relationship with a supplier or already
know of the world-renowned resources and capabilities of the supplier. "It almost seems
to make logical sense to go to them and have them design a solution for you" he says.
"But you don't get the advantage of multiple viewpoints. If you go to the supplier to
design a solution, you will get an isolated perspective; and you'll get the version that fits
best in the supplier's environment." The best way to handle it is to state the outcome you
want and let multiple suppliers run it through their solution process. "You may still end
up with the world-class supplier you had already considered, but they will probably
sharpen the pencil a little bit more when they are competing with somebody else," Joslin
explains.

After 15 years of experience working with several suppliers, Joslin saw that deals went a
lot smoother for both parties when there was an external consultant advising the buyer.
He decided to "get in the middle" and assist buyers. Now with two years of helping
Everest Group clients in North America, Australia, South Africa and Europe with large
BPO and IT agreements, his primary recommendation to buyers who have not been
through an outsourcing process before is to get external assistance. "The facts clearly
show that the success of your engagement is built upon how solid your initial contract,
service definitions and metrics are."

Learning to live with BPO success

Not so long ago, the news that HCL Technologies has won the largest ever business
process outsourcing deal from a global leader like British Telecom would have been
received with unalloyed joy as a sign that bigger and bigger orders are coming to India.
But today the good feeling will be tempered by two considerations.

The lesser one is that HCL Technologies has had to compete mightily to get this deal and
must have had to quote very fine prices. (Is it left with anything?) Primarily a software
services company which is doing none too well in its main line of business, the BPO deal
will be a shot in the arm for it.

If you read this along with the market expectation that the guidances to be issued by
software companies for the just commenced year (2003-04) will be none too positive, a
sobering thought strikes you: Is the BPO growth coming along with a sharp slowdown in
software growth?

Considering the fact that billing rates for BPO are far lower than for software services,
the development has its own implication. If overall software and services export growth
(software plus IT enabled services) remains below 30 per cent for too long, then the
grand goal of $ 50 billion exports by this sector by 2008, now five years away, will be
missed. To ensure that it is not, two strategies have to be adopted.

One, get software services to grow faster and two, remove the impediments in the way of
BPO services growing at 50 per cent plus for at least a few years. While the former is
linked to global technology spend, over which India has little control, the latter is an
opportunity that has effectively arrived for India. It is emerging as a prime destination for
BPO and everything has to be done to make the best out of that opportunity.

The good feeling over the BT order has to be tempered for a second and very serious
reason. A month ago the British trade union had made a strong protest against jobs
leaving Britain through BPO. As Indian companies score more and more successes on the
outsourcing front leading to job losses in the developed economies, resentment against
the Indian IT sector is likely to grow.

This is going to find expression in several ways: public campaign and protest against
outsourcing, lobbying for legislation to restrict it (outlawing it is not possible) and action
against the visible face of Indian IT in the developed economies -- the professionals who
work onsite with customers.

This brings us to the turmoil within the Indian IT sector created by the Dutch government
action against Indian IT professionals. Indians have to be mentally prepared for more
such developments which will be directly proportional to the success in securing BPO or
software outsourcing orders.

IT Minister Arun Shourie has said that Indians must realise that in this matter India is a
first world country (an exporter of competitively priced skills) and mentally prepare
themselves accordingly.

The Japanese automobile industry has had to live with every conceivable accusation
against its trade practices by the US automobile industry and bullying (fixing of export
quotas) by the US government. What is needed now is mental strength so as not to get
rattled and a proper strategy.

The strategy has to come mainly from the commerce ministry. India should strive for the
right sort of provisions to be incorporated in the General Agreement on Trade in Services
at the Millennium round of trade negotiations currently on.
It should work for GATS quotas for visas, over and above the visas currently being
issued on a discretionary basis, so that professionals can move and work freely in WTO
member countries. India has made proposals in this regard but so far no serious response
has come from developed countries.

GATS was brought into the Uruguay round of agreements against initial opposition by
India. It is a reflection of the changing nature of parts of the India economy that the
agreement that developed countries sought and obtained to retain a degree of trade
advantage, by opening up services as manufacturing activity slowly slipped out of their
hands, should become a weapon in Indian hands.

Says trade expert Arun Goyal, "It will be much better to get something out of GATS with
binding commitments and WTO rules behind them, rather than discretionary quotas given
bilaterally and withdrawn arbitrarily."

Look at the German green card, issued with fanfare one day, and its withdrawal
announced another day; or look at the US H1B visas whose numbers are altered at will.

Visas stand at the root of the disorientation currently faced by Indian IT firms and
professionals. It takes inordinately long to get a work permit issued. So to do a quick
services job the business visa is often resorted to. But views differ on what you can do
with a business visa.

Senior IT managers say that the rules are that you can go and sell and implement a sale
on a business visa, but if you have to do a maintenance job for which you are going to bill
the client, then you should get a work permit. Visa issuing countries would tend to agree
with this.

But they have so far willingly turned a blind eye to the so called misuse of the business
visa, that is until the job market changed and Indian IT professionals working onsite
became a domestic political issue.
So the solution is two fold. One, be mentally prepared to live with trade friction and two,
work within the WTO with a long-term focus and not be brought shouting and screaming
to the signing table for agreements every time.

Haste Makes Waste:

How to Avoid Outsourcing Problems
Background
A study of lessons learned in 50 outsourcing relationships was undertaken with the intent
of determining the most frequently encountered relationship problems and learning how
the parties worked together to resolve those challenges. The fact is, the study reveals a
more significant finding: why the problems occurred. That finding, together with
conclusions and recommendations on how to avoid the problems, is the topic of this
paper.

Characteristics of the Case Studies

• Examined from the buyer’s perspective
• Represent government and private sectors
• Represent scenarios in Europe, Asia-Pacific, China, Canada and the U.S.
• Outsourced processes include: call center, insurance claims administration and
systems, contract manufacturing, eLearning, total IT, facilities management,
human resources, finance and accounting, application development, healthcare
systems
• Large, mid-size and small companies
• Assessment, due diligence and contract negotiation phases occurred in 1998-
2001
The research indicates two broad categories for the types of lessons learned, as illustrated
in Figure 1 below. This paper discusses the impacts and makes recommendations only for
the set of problems described below as “underestimations and miscalculations.”

Mistaken Approach
Within the case studies are a number of different scenarios with the common theme of
buyers’ underestimations and miscalculations. However, the real point of error is an
approach to outsourcing that relies on an understanding that potential problems can be
handled adequately in contract negotiations and real problems can be solved after the fact
if the parties are flexible.
While this understanding is correct, it does not take into account the impact of a problem
or the cost to resolve it at a later stage. The better approach is to rely on methods for early
detection of possible problems, eliminating or mitigating them at the point of awareness
of potential existence.
This approach not only addresses issues at a point in time when they are more easily
handled, but it also avoids the negative impacts resulting from undetected problems.

In examining which party could have avoided the problems uncovered in the lessons
learned from these case studies, as well as the point of time that it could have occurred, it
became evident that the buyer was the responsible party for identifying potential
problems, and the optimal time of awareness was during the assessment or due diligence
phases of the relationship.

Case Study Findings

The buyers’ underestimations and miscalculations in the case studies are best viewed
according to where the impacts manifest themselves once a problem has arisen.

Among the case studies, these inherent problems were uncovered:

• Buyer is not prepared at various stages of the process;
• Buyer has unrealistic expectations; and
• Buyer makes poor judgments.
The study reveals that, without early detection of potential problems, one or both parties
is unaware of these existing problems until their full impact hits the relationship. Figures
3 and 4 illustrate the types of impacts from problems discovered in the case study
relationships.
Examination of the case study scenarios points to common characteristics.
Problem: Buyer is not prepared at various stages of the process
Common characteristics in this category include not knowing the value of assets (IT and
human resources), lacking enough people on the buyer side to work through the transition
/ implementation phase, having inadequate management controls over the relationship on
an ongoing basis, and transferring bad data to the provider. Frequently there are
contractual ambiguities that could have been clarified early, but asset value should not be
one of them. With the exception of adding risk-reward structures to an existing contract
to enhance the value in the relationship, contract modification most likely impacts
pricing. It is better to have gathered asset value figures up front than to deal with hurdles
on the back end once the contract is in place with incorrect data. Lacking enough people
in the buyer organization assigned to work through the transition is the most frequently
cited problem. Often, there is pressure to meet quick deadlines,
making the problem even worse. It leads to impacts like additional costs, delays and
blaming the other party. Even worse, the delays become the source of negative
impressions of the buyer’s performance or of outsourcing itself, thus eroding the
relationship. Obviously, there frequently will be unknowns during a transition or
implementation phase. Nevertheless, the solution to the problem is to ask the provider
during due diligence to identify up front the risk areas and critical pathways. The buyer
can then budget extra time and money for errors or delays, rather than having to justify
cost overruns on the back end. Having adequate management controls over the ongoing
relationship is crucial to success. Among the negative impacts manifesting themselves in
connection with this problem are bills not paid, administrative things slipping through the
crack, and finger-pointing. Buyers should ensure they have in place an executive who is
accountable for management of the ongoing relationship.
Transferring bad data from the buyer organization to the provider is the second most
frequently cited problem. Its impact is in delayed transition / implementation milestones
or delayed progress in functionality of IT or business process. Increased costs, and even
time to market, are associated with the delays. The after-the-fact solution is to put more
resources on the project (thus increasing costs). However, the problem could have been
detected before it occurred. The due diligence phase is the ideal time for buyers to learn
of their own obligations and responsibilities in the scope of services. The parties must
communicate risks and assumptions. Is either party, for example, operating on the
assumption that the buyer’s data is clean? If not, is there a clear understanding as to who
is responsible for the clean-up process?
Problem: Buyer has unrealistic expectations
Buyers in this category do not understand their own roles and responsibilities, do not
understand that change does not occur overnight or without hurdles and do not
understand their cost drivers.
Frequently, buyers assume that, once the process is outsourced, neither party needs real
visibility into the process on the other party’s side. This incorrect assumption will lead to
impacts such as a gap in accountability for resolving issues, finger-pointing, a lack of
insight into where the problem lies, and no clear understanding of process interfaces or
how to implement change in the process.
The solution is to produce a process map showing the touch points and responsible
parties. Such a map is a component of the assessment phase and, again, during due
diligence to understand the touch points that will still interface with other processes at the
buyer organization after outsourcing.
Impacts from not understanding the fact that change does not occur quickly include
blaming and credibility loss. The due diligence phase should provide realistic
expectations of the timeline for incremental process improvements.
Buyers that do not understand their cost drivers will suffer significant negative impacts.
First, they will not be able to quantify cost savings from the outsourced process; nor can
they quantify benefits of moving from a variable cost structure to fixed costs (or vice
versa). More importantly they are likely to be overpaying for a level of service.
Conversely, the provider may be underpaid for services because of cost overruns. Both
parties need to understand drivers (cost for a particular function) and baseline costs when
new services are requested.

Problem: Buyer makes poor judgments

These problems usually manifest themselves in impacts surrounding ineffective service
level specifications, underestimated value achievable in the relationship, or provider
selection based solely on a prior existing relationship. Impacts from all three of these
problems result in less-than optimal value from the relationship. In addition, each is
likely to end in contract renegotiations.
Ineffective service levels will cause the provider to drive its services to compliance and
satisfaction of the wrong objectives. In this case, neither party will be happy. The desired
level of service, together with effective metrics, should be determined in the assessment
phase so the information can be included as a component of the Request for Proposal.
Today’s buyers and providers often enter into sophisticated outsourcing arrangements
that capture additional value by creating a new revenue stream, or gainsharing from
innovations, so that both parties benefit from their efforts and aligned interests. The due
diligence phase is the time to explore whether a provider might be amenable to such a
value-added activity. By discovering this possibilty later in the relationship, the buyer
will have missed an opportunity up front to create positive energy around the initiative if
the employees understand the “big picture.”
Buyers who sole source an outsourcing initiatve, selecting a provider with whom they
have a prior relationship having nothing to do with the new outsourcing initiative, err in
judgment. Without going through a formal Request for Proposal process and due
diligence, the impact is likely to be miscalculated capabilities to meet objectives. While
trust is an important factor in relationships, it should not be the basis of a judgment on
continued competency. Just as one should not assume a skilled plumber is also a skilled
electrician, buyers should not make analogous assumptions regarding providers.

Conclusions and Recommendations

In each case study, it is evident that the negative impacts from problems such as those
shown in Figure 5 could have been avoided through early detection and activities in the
assessment or due diligence phases to eliminate or mitigate the potential problems.
Most providers manage by assumptions and even price their services based on certain
assumptions.
Conversely, most buyers manage to compliance standards and the perception of outcomes
that were “sold” to management and employees. Unfortunately, these are not always
stated in the Request for Proposal or the contract as, indeed, they should be. Clearly, both
parties are naturally prone to manage something other than their jointly pooled risks and
interests. They need to spend time during due diligence gaining an understanding of each
other’s assumptions, both also communicating their requirements and expectations. Both
need to discuss their visions.
As pointed out in the background section of this paper, it is a mistake to assume that
problems can be easily resolved during the transition or ongoing relationship phases;
impacts resulting from the problems are costly. Figures 6, 7 depict the teeter-totter
difference in results of the two approaches. They illustrate the importance of supporting
outcomes of an outsourcing relationship with early detection or awareness of potential
problems, rather than dealing with the weight of negative impacts after the fact.
Figure 8 portrays the important (but not all-inclusive) activities in the assessment and due
diligence phases which, if undertaken, will enable buyers to avoid or mitigate potential
problems.
When problems are not avoided or mitigated earlier in the process, the resulting negative
impacts will cause more costs (in time, IT and people resources, or both) for measures to
bear up the relationship thrown off balance by the negative impacts. Figure 9 portrays
this reality of after-the-fact remedies for existing problems.
However, the case study data concludes that buyers often skip important components of
the assessment and due diligence phases (or entirely skip those phases of the process),
thus eliminating their chances of early detection or awareness of potential problems and
mitigating the potential impact. As the time-proven maxim states: haste makes waste. The
importance of early detection opportunities in these two phases, as illustrated by the
alternative consequences in Figure 9, cannot be overlooked.
Finally, comments from buyers in these case studies reveal the causes for their
overlooking the importance of assessment and due diligence. Together, they form a
model (as illustrated in Figure10) for potential failed relationships because of negative
impacts from future problems.
The best-practice recommendation and key for a successful outsourcing relationship is
for buyers to take steps to avoid the attitudes and thought processes indicated in the Haste
Makes Waste Model for Potential Failure, as illustrated in Figure 10. They are the cause
of missing early detection or awareness opportunities for potential problems that can
sabotage the parties’ ability to work together in a win-win manner to achieve mutual
objectives and benefits.

BPO is as large as you want it to be

How large is the BPO (business process outsourcing) market really? The truth of the
matter is: the BPO market is as big as you want it to be since it is a supplier created
market.

It is not being driven by customers or events such as Y2K or the euro. But how different
is it from software services outsourcing? This issue is still a struggle for many companies
while developing their strategies for the transition from software services to BPO, or for
expansion into BPO.

Although there are some basic similarities by virtue of the fact that both belong to the
‘outsourcing’ pedigree there are many differences. Do we use the same marketing
professionals? Do we need the same traditional skills to acquire customers? Do we still
need to set up offices overseas to woo customers in spite of not having to place
professionals for prolonged periods at client sites? The fact is that most customers and to
some extent marketing professionals are still grappling with the complex issues in the
BPO space. The traditional software services outsourcing ‘mould’ needs to be broken.
The BPO outsourcing market is young and offshore BPO is still in its infancy.

With regard to market size, there are hundreds of BPO reports and analyses in different
marketable forms screaming out the size and potential of the market. It is estimated that
the world outsourcing market was in the range of US$40 bn in 1998 and that the US had
the prized share of 40% with Europe claiming 30% and the rest of the world claiming the
balance 30%. The geographical market shares seem likely to continue with the world
market estimated to grow to around $100 bn by 2005. But it is common knowledge that it
may be relatively easy to forecast figures for future years because when the time arrives
most of these reports may not get a second look. What is more important for Indian
companies , is what the market holds for them in the coming months and 2004.

The good news about the software outsourcing and the BPO market is that it will
continue to grow. There are enough indications and good evidence to back that. The
India factor is strong in spite of recent happenings in Malaysia, Indonesia and The
Netherlands, that have tended to undermine the seemingly unstoppable tide of our
‘software super power status’. These are but inevitable hiccups that every success story
must face, but not brush aside. For example, the BPO market in the UK is expected to
grow to around £10 bn by the year 2005 and evidence of this is clearly seen in the large
outsourcing deals that are taking place. This has also propelled an offshore thrust since
most ‘outsourcing’ is now linked with an offshore element. With this in mind, many
Indian companies have eagerly spun off BPO units or attempted to associate with BPO in
different forms.

There is much news about Indian software in the local software community and quite
often offshoring is seen as an inevitable necessity in global dynamics of survival.
However, one must exert some caution here as both the US and Europe are also
considering near-shore pastures which apparently yield good commercial benefit. The US
is increasingly considering Mexico and Canada among others and Europe has started to
look more closely at its eastern neighbours such as Hungary, Poland and the Czech
Republic.

There are abundant examples of this to be found all around. PriceWaterhouse Coopers
has been delivering BPO services mainly in the areas of finance and accounting from its
Krakow centre in Poland, Accenture has been delivering services from its specialised
BPO centre in Prague in the Czech Republic and ACS apart from its interest in India has
operations in Mexico and Guatemala. Or for that matter the recent establishment of the e-
centre in Warsaw by Carlson Wagonlit for its client GE. In addition, competitive
differentiators cannot be ignored when considering a strategy for Europe. Scottish call
centres have developed expertise in 23 languages including French, German, Italian and
Spanish. WNS are reported to be offering French speaking personnel from its operations
in Mumbai. The list goes on.

We had not seen this surge of global development with software services outsourcing.
One of the important factors about BPO competition is that there is very little onsite
element involved. This creates a whole new business dynamic for supplier software
companies involved with BPO. The whole gamut of mastering the traditional onsite-
offshore-onsite is drowned to some extent in having ‘process’ and ‘project management’
experience. With BPO, you also have several foreign professionals spending months or
years in India in setting up their captive units or helping their Indian partners in
developing a sophisticated operation. It is almost the reverse when we had Indian project
managers travelling overseas to client locations to set up project teams and get involved
with account management. The manager was involved with getting the project off the
ground overseas and once the critical onsite stage was reached, to send the modules
offshore for further development.

The local landscape is another platform to view the comparisons between the two forms
of outsourcing. During the height of software services outsourcing many overseas
companies such as Intel, Motorola, SAP, Logica , EDS among others had set up shop to
take advantage of the offshore experience. Many started off as captive units catering
purely to their own software needs. Some companies approached the market differently
by also offering their services to the Indian market such as EDS (with their PLM
solutions) and Logica. In the BPO space, we observe a somewhat similar trend. WNS
started as a captive unit of British Airways, established mainly to cater to the ‘processing’
needs of BA. Though it still caters to BA it has several other overseas customers. We also
have the likes of GE, HSBC, Standard Chartered among others which are captive units.
On the other side of the spectrum we are increasingly seeing the emergence of companies
such as Convergys, ACS and others catering to customer requirements around the world
from India. They are unlikely at the moment to cater to any form of domestic need. That
possibly would be a major differentiator for BPO. Companies doing ‘processing’, be it
transaction based, niche or comprehensive will almost predominantly cater to overseas
clients from their India base.

In some cases the lines between BPO and software services are blurring. Customers may
view BPO as an extended service from their existing software supplier. In other cases,
they may feel the need for specialist BPO suppliers or pure play BPO companies who
possess the relevant ‘business process’ and ‘infrastructural’ experience. It isn’t getting
easy for customers. As suppliers struggle with strategies and new ways of market entry
and penetration, customers are faced with a whole new range of offshore offerings,
sometimes bewildering, which they are unaccustomed to. It is a challenge for both
parties.

The experiences of companies with software services outsourcing provides a ready-

reckoner on many issues relating to the basic principles of outsourcing to India. But in the
case of offshore BPO, the rules of this new game are being written all over the world, as
deals are being struck with Indian companies and as captive units are born.

BPO segment to witness consolidation:

MUMBAI: Business Process Outsourcing (BPO), a fast growing segment of India's IT
industry, will witness a consolidation including mergers in the medium term to garner a
larger share of the global BPO market, estimated to touch $234 billion by 2005,
according to a Rabo India Finance study.

The existing players will drive consolidation activity by acquiring/merging with specialist
small outfits in the BPO segment, Rabo Finance, a investment banking outfit said.

BPO involves the transfer of non-core business processes to an external vendor thus
allowing the orgainsation to focus on core business activity. Some key BPO areas are
financial accounting, tele marketing and supply chain management.

The small and medium sized players with 300-500 seats capacity would fall short of
meeting the challenges that arise unless they do not merge to attain a critical size to get
acquired, Rabo said.

Two-third of the growth in the sector would come from capitive business and these
companies would emerge as potential targets for consolidation.

Multinational companies planning to establish outsourcing facilities in India taking

advantage of inherent skilled manpower, low costs would be active in driving the
consolidation process, Rabo said.

Indian IT services companies would begin to move into the space by establishing BPO
comapanies like Progeon, an Infosys venture or buying existing BPO comapanies as in
the case of Wipro acquiring control in Delhi-based Spectramind to offer end-to-end
solutions to clients, Rabo said.
BPOs lose out for want of CEOs
MUMBAI: This might seem a little strange, especially considering that Corporate India's
countless layoffs have actually created a huge talent pool for head hunters to tap into.
But, business process outsourcing (BPO) companies sprouting in India have been hunting
high and low for CEOs to run their businesses.

And they haven't met with much luck.

The severe shortage of CEOs has forced some foreign companies to put their Indian BPO
plans on hold. "The issue here is to make sure the fit is right.

The CEO of a paint company would not fit into a BPO. Everyone is looking for domain
expertise, and BPOs — given the nascent stage they are in — do not have a lot of people
with that experience," says Prakash Gurbaxani, CEO, Transworks Information Services, a
Mumbai-based BPO services company.

GE Capital, the oldest player in the Indian BPO business, quite naturally has been the
favourite poaching ground of companies looking to set up shop in India. Scope
International, Standard Chartered Bank's global back-office processing business based
out of Chennai, recently roped in Romi Malhotra from GE Capital to head its operations
in the country.

"While a lot of Indians are capable of executing on BPO skills, they are not really
equipped to head a company," says R Suresh of Stanton Chase International, an executive
search firm. JP MorganChase, which plans to set up a BPO company in India, has been
looking for a CEO for more than four months now.
Needless to say, it hasn't found the right person yet. Though the easiest way out of the
problem is to bring in expatriate CEOs, people in the business feel this is not a long-term
solution.

"You may be sourcing business from overseas markets, but ultimately, you are running
an Indian operation, managing Indian employees," says Mr Gurbaxani. First Ring, which
recently hired Rick Singer as CEO, is the only known BPO services company to have
gone for an expatriate hire.

"While there are a lot of very good managers in India with an IT background, they don't
have the critical service-level concept that is required to run BPO services companies,"
says Sunit Mehra of Horton International, a CEO search firm.

Research and consulting firm, Gartner Inc., estimates that the BPO business will be worth
$234bn globally by ‘05, growing at a compounded annual growth rate of 14% from the
year ‘00.

Nasscom estimates that remote processing services in India could touch $17bn by '08.
But, the bulk of this will be the work of foreign units or joint ventures. During the year
ended March 31, '02, India's revenues from BPO, both captive and third-party, are
estimated to have grown 107% to $583m (Rs 2,915 crore), employing 35,000 people.

Some of the biggest global names already have their own BPO operations in India. GE
Capital, American Express, British Airways, Ford Motors, the World Bank, HSBC and
Pfizer are just some of them.

Not a lot of people know that Bangalore-based Global e-Business Operations, a wholly-
owned subsidiary of Hewlett Packard Europe, handles the key accounting functions of
the group's world-wide operations. Or that the global accounts of American Express
Travel Related Services are consolidated in Gurgaon.
A clear objective for multinationals setting up captive BPO operations in India is cost
savings, primarily from the lower cost of labour in India. Outsourcing HP's accounts to
India reduces costs to just a sixth of what it might have been in the US, without
compromising on quality.

Amazon, for instance, uses an Indian vendor in Gurgaon to outsource a significant

portion of its customer support.

For Amazon, such an arrangement makes immense sense. It pays a full-time customer
service representative based in Seattle an average of $1,900 per month whereas an
equivalent customer service representative in India costs only $109-175 per month.

The BPO question: To specialise or not

Although the BPO (Business Process Outsourcing) market is not mature enough for a
detailed process specialisation by country yet, global research firm Gartner has said
companies with a niche focus on a particular process or industry would be able to
differentiate themselves in the long run.

Indian BPO companies would now need to seriously consider whether they want to be
full service providers or niche specialists in a particular area, such as human resource or
accounting, according to Gartner Dataquest’s, senior analyst for business process
outsourcing, Rebecca Scholl.

Countries wanting to get a larger share of the BPO market would need to equip
themselves with specific skills, such as change management, business process consulting
and human resources in order to have an edge over competing markets or countries.

Gartner, as of the moment, has not classified countries or markets based on specialisation
as the research firm feels the Indian market is too immature.
“I do not think India, as a country should specialise in any vertical or process as the
industry is too immature for such specialisation, unlike the Philippines that boasts of
strong skills in finance and accounting”, Ms Scholl says.

However Indian BPO outfits have a different story to tell. According to the CEO of
Mumbai-based TransWorks, Prakash Gurbaxani, specialising in a niche industry can
prove dangerous.

“The risk is far greater if you’re too specialised as opposed to undertaking an array of
back-end services, particularly considering cases such as 9/11”, Mr Gurbaxani says.

“I don’t expect the trend to be towards niche services as the opportunity is far greater
than just one vertical. It would take between 3 to 5 years for BPO companies to begin
offering niche consulting services in a full fledged manner,” Gurbaxani says.

BPO players feel there’s a need to demonstrate domain (vertical) expertise in the business
for positioning. Indian outfits are still learning the ropes, industry watchers say. To be
able to specialise, every company needs to demonstrate differentiators. At present, none
of them have domain expertise in a particular sector.

Satyam Computer Services’, BPO subsidiary Nipuna Services, for instance, is positioning
itself as a full services provider by delivering services like transaction processing, process
management and function management. Nipuna banks on its parent’s expertise and client
base.

“We have been handling all aspects of IT services and the BPO entity is just an extension
of this, so it would obviously focus on all services and not restrict ourselves to a niche
area”, says the company’s spokesperson.
But Infowavz’s, CEO, Zia Shiekh seems to agree with Gartner’s analysis. According to
him, customers in most mature markets such as the US and UK are used to dealing with
BPO companies that specialise in process industries.

“As a logical extension, if Indian companies want a lucrative share of that market, they
need to follow suit, as business will flow to only those players that have a focused
approach,” Shiekh says.

Infowavz has identified activities such as payment processing, loans and claims
processing under transaction processing to position itself as a niche BPO services
provider.

Although detailed specialisation is still a far cry, there should be a clearly outlined
strategy for people, process and technology within a company to eliminate the chances of
failure in delivery, companies say.