TDC Seminar on the Pros & Cons of Outsourcing

Dr. Gilbert Wong

Executive Director

Poon Kam Kai Institute of Management

University of Hong Kong

The University of Hong KongPoon Kam Kai Institute of Management

HKU-PKKI

Reasons for outsourcing

Examples of outsourcing A credit card company outsource it data capture and

customers expenditure reporting IT function A hotel outsource its laundry services The university outsource its catering service

Reasons ‘Contain’ cost because of the lack of ‘competence’ &

sharing the vendor’ economies of scale Avoid specific investments Improve service Refocus resource strategically

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The context for outsourcing

Intensified competition leading to Need for building distinctive competence Organizational downsizing Need for flexibility The need for diverse inputs in businesses in

the ‘new economy’ e.g. delivery health care service on the net

But are these ‘alliances/partnering’ or ‘outsourcing’?

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Why ‘in-sourcing’ in the first place?

Theory of the ‘firm’ as resource coordinator – but why not the ‘market’ e.g why do hotels have an ‘Engineering’ department?

Transaction cost theory – organizations ‘in-source’ to minimize transaction cost arising out of: Uncertainty in the demand

Possible ‘opportunistic’ behavior of supplier

The cost of writing a detailed contract and the cost of enforcing the contract

Developing the distinctive competence of the organization – in specific activities e.g. software development or the coordination of activities e.g. sales and IT team

>> what to ‘outsource’ and the nature of the ‘outsourcing’ relationships

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What to outsource?

Two dimensions: Useful vs. critical function Commodity vs. differentiator

Two dimensions: Useful vs. critical function Commodity vs. differentiator

Useful commodity - activities that do not distinguish the company from its competitors e.g. payroll, accounting system - outsource

Critical commodity - activities that are important but does not ‘differentiate’ e.g. aircraft maintenance – outsource or in-source depending on strategy

Useful differentiator - differentiate the company but not in a critical way – good IT team developing special application outside the company’s main business – migrate or integrate

Critical differentiator e.g. research in an investment bank – keep in house

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What to outsource?

Internal or External provider

Internal or External provider

Internal provider

Internal provider

External provider

External provider

Migrate or integrate

Migrate or integrate

Critical

Useful

Commodity Differentiate

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The transition to outsourcing

Contractual issues how to draft the contracts who should be involved, transition process

People issues What will happen to existing staff, how the ‘insiders’ relate to the ‘outsider’

Organizational adjustment

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Types of inter-firm relationships

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From outsourcing to partnering

From outsourcing contracts on a one-off basis to relationship management

From exchange of interest to mutual learning

From hard to hard AND soft benefits

From close ended to open ended relationships

From legalist rights to honor & obligations

From having control to sharing control

From ‘contractual deliveries’ to organizational adjustments

From dealing at the strategic level to partnering at all levels

Its all about managing a network of relationships

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Dimensions of a successful outsourcing relationship

Relationship structure where the parties define the goals of the relationship – What

they hope to accomplish, and most importantly, how they will measure success

The management structure defines how both organizations will work together to ensure

success and, when necessary, take corrective actions on less-than-desired outcomes

Ref: www.firmbuilder.com

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Relationship structure

1. Define relationship strategically – creating a basis for LT cooperation

2. Capturing the intent, not just the terms of the relationship

3. Manage expectation carefully – chances of repeated business?

4. Defined scorecard

5. Differentiate between the client and the Customers

6. Match pricing & contractual terms to the goals and culture of the partners

7. Create incentives for improvements

8. Define management structure in advance

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Management structure

1. Keep strategic responsibilities close to the top, but create multilevel organizational links

2. Conduct regular goal oriented meetings

3. Encourage lateral, multi-channel communications

4. Define escalation process

5. Use scorecard to keep track of performance

6. Reward providers employees

7. Implement a change process

8. Treat the relationship as a valuable organizational asset

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