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According to SAP INFO Solutions, four out of five business process outsourcing (BPO) contracts inked today will need to be renegotiated within two years. And 20% of all such contracts will collapse. When BPO arrangements fail, companies and their outsourcing providers pay the price in lost time and money. Moreover, customer satisfaction and competitiveness can suffer as companies fail to achieve the efficiencies and cost savings promised by BPO.
Yet these scenarios can be avoided if companies carefully analyze the nature of the processes they are outsourcing and establish the right contractual relationship with their vendors. The correct fit between processes and BPO relationship governance can improve the odds that the arrangement will generate the competitive advantages that outsourcing promises, assert Deepa Mani, Anitesh Barua and Andrew B. Whinston in a May 2005 University of Texas at Austin working paper titled, Of Process Analysis and Alignment: A Model of Governance in BPO Relationships.
The authors, from the McCombs School of Business, draw their conclusions from a survey of 145 executives in a variety of organizations that have outsourced business processes. The survey instrument was a questionnaire comprising 50 items, asking respondents to describe the processes they outsourced; the contractual relationships they established with their vendors; and their level of satisfaction on criteria such as the reliability, responsiveness and accountability of the BPO arrangement, as well as the operational efficiencies gained.
The researchers found patterns in the data suggesting that BPO arrangements stand a better chance of generating the desired benefits if companies evaluate an outsourced process on several dimensions and then tailor the contract to fit those dimensions. According to the authors, three particularly relevant process dimensions are:
- Complexity: The extent to which the people performing the process must adopt different methods or procedures to do their work and the degree to which these individuals lack immediate, established solutions to process problems.
- Independence: The degree to which a process can be analyzed and changed without affecting other processes in the organization.
- Strategic importance: The extent to which the process affords the organization a competitive advantage.
Any process, the authors contend, can be a candidate for BPO. But to improve the odds of a successful outsourcing arrangement, the approach to relationship governance should reflect the nature of the process in question. That is, the two should be aligned — with the BPO governance structure matched to the nature of the outsourced process.
The authors describe two configurations as particularly aligned. In the first, the outsourced process is characterized by low complexity, high independence and low strategic importance. To outsource this kind of process, the authors suggest that a company would want to establish a BPO governance model that included an arm’s-length contract with a best-of-breed specialty provider, in which the user firm has little operational involvement in the management of the outsourced process. The contracts are also marked by low levels of information exchange and an emphasis on control tasks (for example, price negotiation, performance monitoring and resolution of operational problems).
The authors cite Qatar Airways’ outsourcing of its revenue accounting and recovery processes to India-based Kale Consultants in order to focus on its core business function — flying. This BPO arrangement stipulated a well-defined plan for transferring the process out of house, clearly defining service-level agreements and output metrics and technology and process investments made by the vendor, who assumed ownership of the process. The arrangement enabled Qatar Airways to reduce costs and improve efficiency.
In the second well-aligned configuration, the outsourced process is characterized by high complexity, low independence and high strategic importance. The authors suggest that an effective BPO governance model would include a partnership arrangement with the vendor. This would include joint ownership of the outsourced process; high levels of information exchange; and an emphasis on coordination tasks (such as strategic dialogues about continuous improvements, exchanges of ideas and plans, and frequent communication and interaction).
To illustrate this configuration, the authors cite Merrill Lynch’s outsourcing of the restructuring of its wealth-management workstation platform to Thomson Financial, headquartered in Stamford, Connecticut. Merrill Lynch executives maintained that the initiative would reduce the cost of providing Merrill Lynch’s financial advisers with relevant and timely information, as well as raise the cost of entry for potential new rivals —thereby generating a competitive advantage. Thus, the outsourced process was strategically important and marked by strong interdependencies (such as market data, financial planning tools and CRM capabilities), which further increased the process’s complexity.
Merrill therefore adopted a partnership approach in its contract with the vendor. The arrangement allowed for flexibility in case Merrill’s needs changed. And in addition to specifying service-level agreements and performance bonuses, the contract linked the vendor’s compensation to customer satisfaction levels. The project is marked by extensive interaction and communication between the firms, and the companies share ownership of the outsourced process.
As businesses increasingly look to outsourcing to provide competitive advantages, selecting a governance model that aligns with the unique characteristics of an outsourced process has become more important. By understanding the range of governance models available and tailoring them to the relative complexity, independence and strategic importance of an outsourced process, executives can improve the odds of sustaining a successful BPO relationship.