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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 theway, 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.

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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

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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.

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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

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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

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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 dont 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 outsourcings 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 Websters 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

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to grab headlines. As Kathleen Hudson, then Kodaks 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 Druckers 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 executives 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 todays 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

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customers; after all, you cant 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, theres 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

organizations focus on core, reducing costs, increasing the speed of the business and

improving quality.

EUROPES OUTSOURCING JUGGERNAUT

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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, outsourcings next wave in Europe is all about transforming business

operations by bringing in the best to help make companies even better. Its all abouttapping that best where ever and whenever needed. Its far from using outsourcing to

shore up weaknesses or to get a quick savings; its 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

UK, Ltd.

ITO/BPO Create shared services centre to manage finance and IT for

the company's business in the UK.

Finnair ITO 10-year, $400 million contract for the airlines IT

infrastructure; established a jointly operated technology

development center.

iPSL ITO/BPO Barclays, Lloyds join with Unisys to create UKs top check

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clearing operation.

AGENCY TYPE DESCRIPTION

U.K. Department

of SocialServices

ITO $3b 10-year contract for application development and system

deployment and management.

Consignia (UK

Post Office)

FM* $1b-plus outsourcing and joint venture creating facilities

management arm, Romec.

PPM (Swedens

Pension

Authority

ITO Software and services to help the Swedish government

implement state pension reform.

The Royal

Netherlands Air

Force

ITO Fulfillment, warehousing and distribution software to

transform logistics operations.

* Facilities Management.

Outsourcings Evolving Value Proposition

One wave is certainly outsourcings emerging power as a business tool of unique

versatility and flexibility. Because outsourcings impact comes from leveraging the

capabilities of outside providers and since businesses are getting better and better at

doing it well, its 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, andshareholders 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.

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In some cases, outsourcing means essentially selling the existing assets of a company to

an outside service provider and then working with that providers 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

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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 thats 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 companys

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, Alcons

director of R&D operations services, says: IKONs 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

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Finally, there is offshore outsourcing. Although not new, this is an area that is clearly

gaining momentum, and its probably not long before any company thats 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 subcontinents 200 universities, 5,000 colleges, and 100,000 secondary

schools. Technology is shrinking global distances to the point where, in reality, havingwork performed halfway around the world is not that much different from having it done

in an office building across the street.

As outsourcings next wave hits, businesses that dont 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 dont 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?

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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 beconsidered 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 arrangementswere 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

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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 asHP), 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 andPwC (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

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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.

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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

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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?

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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'

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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);

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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

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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 differentiateyour 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.

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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. Otherbuyers 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

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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 naturethose 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

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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 forchange 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.

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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 discreteit may be time

sensitive and importantbut 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.

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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

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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 takesinto 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.

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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 sidesthey 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 patientswhere a downtime of 60 minutes on the help desk

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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 SuccessProject 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.

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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 contractand 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,

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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.

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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.

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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

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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

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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 Compensation tied to achieving

production quota

Duke Medical Center/Baxter 50/50 split of cost savings or

cost overruns

Grand River Hospital/HBO & Co. Jointly created new revenue-

based Information Services

(ISO)

British Petroleum/I-Net, Inc. Payments based on percent of

cost saving produced

Elf Atochern/Keane, Inc. Provider's profits tied to

specific performance targets

The Toronto Hospital/Multiple Client receive revenue credits

based on helping providers

develop new business

Mutual of New York/CSC 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

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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 andnegotiation 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

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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 dealone 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

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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

outsourcingespecially 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

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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

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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

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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 companys

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 outsourcings benefits are seen as coming at the

expense of the companys 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

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Of course, changes in the workplace like outsourcing are unavoidable. Any organization

that isnt constantly changing simply cant survive, let alone prosper. As Englands 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

todays very unstable business environment.

To be successful in managing outsourcings 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 employees job. Financially,

the amount and structure of their pay and benefits packages may change. So