The pros and cons of strategic outsourcing

by Kulashekar Prabhandam    Mar 11, 2010

In today’s competitive and continuously changing telecommunications environment, exercising cost control while providing a differentiated service mix to the market is regarded as the key to achieving a competitive advantage. Kulashekar Prabhandam, business lead-managed services (APAC), Tech Mahindra,  explains the pros and cons of greenfield operators opting for strategic outsourcing.

For a new operator seeking to enter any market, the IT division is today regarded as an essential means to enable a successful launch and to drive efficiencies in the organization. However, it is also the first area to be put under the scanner when budgets are under pressure and investments are to be made prudently. In this context, operators have realized an increasing need for a suitable ’strategic’ IT partner who can take-on ownership for their IT systems and operations, deliver the best solutions and services, and assist to develop a significant competitive advantage.

Providing a differentiated service mix to the market is regarded as the key to achieving a competitive advantage

The strategic outsourcing (S.O.) model has gained popularity over the past decade as a ‘non-invasive’ approach to outsourcing . In this engagement, the IT service vendors provide services, skills, competencies and support tailored to an operator’s business requirements while the client retains the flexibility to plan, implement and manage the lifecycle of their IT assets. This provides them the best of both worlds - control and flexibility over their IT systems without either the pain or risk of running them in-house (Figure 2). In order to understand the pros and cons of S.O engagements and in particular, the suitability of S.O engagements to the needs of Greenfield operators, it is essential to first understand the key nature of both these concepts and how they differ from the rest.

 Operators need control and flexibility over their IT systems without either the pain or risk of running them in-house

Nature of outsourcing engagements

The various types of IT outsourcing engagements prevalent in the industry today can be grouped under the three broad categories as:

1. Staff augmentation or ‘out-tasking’- This model primarily aims to provide skilled resources and is used to satisfy short-term time-to-market demands. Such engagements are based on a time and material commercial structure with the ownership and risk management being borne by the client. Also, the integration of different out-tasked outcomes may not be a seamless one. Typical examples involve the setup of a "development center" or "operations center" which act as an extended office for the operator.

2. Project-based outsourcing - This is an ‘outcome’ based commercial engagement, typically a fixed price engagement with payout linked to vendor deliverables, milestones achieved, quality and completeness of the work. This model holds the vendor accountable for an entire project, and shares the management and risk to a certain extent with the vendor.  However, it is a ‘piecemeal’ approach and the client retains its responsibility to consolidate various IT initiatives and manage multiple vendors within a unified governance framework. Most of the system integration engagements fall under this category and involve the implementation of one or more BSS / OSS systems, data communication network, datacenter etc.

3. Strategic Outsourcing - In the strategic outsourcing model, the vendor is responsible and accountable for formulating IT strategy and specific strategic business outcomes rather than individual projects, milestones or tasks. This model fosters the development of long-term, multi-year, SLA-based relationship with the vendor to provide an integrated IT solution across the enterprise. It enables the client to transfer majority of management burden to the vendor and retains minimal team in-house for governance and communication. The S.O model advocates a partnership based approach that allows the sharing of risks and rewards, encourage greater innovation, embrace business change and contribute significantly to the strategic goals of both the partners. A few examples of these are Airtel-IBM in India, Hutch-TechM in Indonesia, KPN- Atos Origin in Europe etc.

Key challenges for a greenfield operator
Apart from the business-as-usual tribulations of cost control, performance optimization, maximizing ROI and so on; a Greenfield operator has to deal with a few more weighty issues, such as:

> Acquiring the necessary investments and experienced staff to enable faster IT rollouts while addressing unrelenting time-to-market demands to ‘catch up’ with the incumbents,
> Meeting customers’ needs for real-time responses and on-demand services with a newly established service organization,
> Launching new services continually for staying "fresh" and maintaining  competitive advantage,
> Creating entry barriers for competition by doing things "FIRST", and
> Ensuring consistent customer service experience across channels, significant personalization, and cutting-edge functionality while systems and process are still evolving to maturity.

It is imperative for the success of any Greenfield operator that they need to design, build and roll-out operations within a few months and require IT systems and business processes that offer them a competitive advantage in a shorter time frame.

Is the strategic outsourcing model more suitable for greenfield operators?
With the understanding on outsourcing models as described earlier, if we examine the strategic alternatives that a greenfield operator would face and the suitability of an S.O based engagement model, the following key advantages emerge:

1. Reduced Capex burden: The S.O model would reduce the CapEx burden needed to setup adequate IT infrastructure, thus freeing up capital for the operator to invest in marketing and brand-building initiatives. This becomes a greater advantage in difficult credit markets (more so, in the current economic scenario in emerging markets), with the IT vendor having greater leeway mobilizing required capital, thus, minimizing entry barriers.

2. Reduced time to market: The S.O vendor would provide the operator the advantage of their economies of scale, standardized processes, pre-integrated BSS/OSS systems and processes to address time to market pressures. This is further accelerated by the prevalence of the "Telco-in-a-box" solutions offered by many S.O. vendors that would help diminish the time, attention and resources dedicated by the operator for the implementation of systems and business processes.

3. Reduced risk:
In this model, the burden of management and risks of running day-to-day operations is transferred to the S.O. vendor. Their performance & payment is linked to performance against achieving business outcomes. Further performance guarantees and bonds that are enforced contractually also act as an ‘insurance’ against the risk of non-performance of the vendor.

4. Being future-proof:
An S.O. model also places the responsibility for future evolution and long range planning of IT systems on the vendor. In this regard, the operator is assured of the currency of the IT systems and can leverage the global relationships many S.O. vendors have with ISVs and OEMs to guide their IT plans.

5. Skilled staff: A key issue for any new operator is the availability of experienced staff and to locate people with right skills quickly. An S.O partner would not only have a greater advantage here, but would also have the means and training programs to train the operators’ business users.

However, as with any strategic business decision, there are few complexities that would also need to be weighed against a decision to undertake a strategic outsourcing based engagement by a greenfield operator. These are enumerated as below:

1. Reduced operational control: One of the key aspects of an S.O engagement is the transfer of management responsibility to the vendor. The fallout is reduced control on day to day operations by the operator. In this model it is critical that the governance model and the vendor performance parameters be well defined to not only provide adequate leeway to both parties but also avoid frequent disputes.

2. Confidentiality & security: As an S.O engagement places greater control in the hands of an external party, there is a greater risk to the confidentiality and security of data. For a greenfield operator seeking to break into a new market, the associated risk would be perceived to be slightly more than it would be for an incumbent. Hence, It becomes imperative that the operator would not only need to choose the S.O partner carefully but also have adequate contractual and governance controls to mitigate this risk.

3. Fear of hidden costs: An S.O. deal is complex in its financial structure and may also not be completely transparent to the buyer in terms of the costs incurred by the vendor. The accurate definition of measurable business outcomes, well defined scope of work and service levels become vital to avoid misunderstandings and disputes related to the cost structure of the engagement.

4. Longer contractual process: Since an S.O deal is inherently more complex and overarching than other types of outsourcing engagement, it would necessitate a greater amount of time and effort be spent in the preparation of contracts, particularly for a greenfield operator without a well-oiled procurement / legal departments to manage the contracting process.

The business case for new entrants in the telecom market is very strongly based on having a lower cost structure, a faster time to market, agility and innovation in service bundling. In response to address these, Greenfield operators have shown a propensity over the past few years, to engage in strategic outsourcing deals rather than setup in-house IT shops. Most of the greenfield operators in India, both incumbent and greenfield (for e.g. Datacom, Uninor, Etisalat DB, Loop telecom, S Tel to name a few) have opted for long-term S.O deals, and in particular, deals based on the build-operate-transfer (BOT) model of strategic outsourcing..

This shows that there is an established perception in the telecom market that the advantages presented by the S.O. model, especially for greenfield operators are in general considered to be greater than the challenges inherent in such an engagement. Further, IT vendors have also evolved new service offerings (for e.g. Telco-in-a-box), delivery models, financial models and contract structures in order to address and mitigate the key drawbacks perceived by an operator in an S.O deal and present a far more advantageous partnership to the operator.