Rapidly changing business and technology needs are forcing IT leaders to renegotiate their IT outsourcing contracts and rethink their sourcing portfolios sooner rather than later. Here’s how to do it.
As business needs—and the new technologies required to support them—evolve ever more rapidly, outsourcing contracts signed just a year or two ago are already getting stale. That’s why Mayer Brown business and sourcing technology partner Dan Masur is advising companies to revamp their outsourcing deals right now to not only access new options, but also to cut significant costs.
“There have been dramatic changes in how services are delivered, and those continue to evolve. New, non-traditional players have emerged offering different products and services. Digital strategy is now a strategic priority for every business. CIOs have to think about how they’re going to build things like mobility, big data, analytics, and cloud into their existing sourcing arrangements,” says Masur. “You can’t tell the business, ‘Sure we could do those things but our outsourcing deal doesn’t expire for another three years. We’ll get to it then.’”
Specifically, there are five areas—which Masur has dubbed the “Five ‘R’s”—that companies should examine to uncover where their current sourcing deals may no longer be serving them well:
- Re-Solutioning. There are a number of new ways to deliver IT services today. Cloud computing tops the list. But the use of autonomics—machines that are trained to perform tasks typically performed by humans—is also growing. Another emerging trend is the rise of “service utilities.” In financial services, for example, service providers are able to deliver higher quality and lower cost solutions to processes like anti-money laundering. And such options will soon be available in other industries. Masur recently renegotiated a deal for one bank to include such new delivery mechanisms, saving the company millions. “They could have waited until the end of the contract term but there was no reason to,” Masur says.
- Re-Sourcing. Now is a good time to consider alternative providers to perform some or all IT services, implementing a best-of-breed approach. “Take those things that can be performed better or cheaper by someone else and move it there, or use the competitive tension that comes from multisourcing,” Masur advises. “Years ago who would have thought of Google or Microsoft or Amazon as players for services. But there are now these enormous companies with very different business models and lots of smaller companies with targeted offerings.”
- Restructuring. Companies should consider organizing their outsourcing deals not around technology service levels, but rather things that matter to the business. Harvard Business School marketing professor Theodore Levitt has been credited with saying, “People don’t want to buy a quarter-inch drill. They want a quarter-inch hole!” The same holds true for outsourcing, says Masur. “Insurance companies are moving from agreements structured based on the number of IT devices or FTEs required to perform back-office work and moving to agreements where they pay by the number of annuity applications processed or claims administered,” Masur says. “They’re moving to the things that are important to the client not the provider.” Such outcome-based models give IT services customers greater control over what they’re buying.
- Retrofitting. Mobility, data analytics, social, Internet of Things—there’s a growing list of technologies increasingly important to bringing the business to market that may not be in existing outsourcing deals. “In some cases, a company may decide to seek out new deals focused exclusively on that, but in most cases it doesn’t make sense,” says Masur. “You have to examine existing deals and figure out how to layer them in.”
- Reconciling. This is the sort of recalibration that has typically gone on during the course of an outsourcing deal. Customers go back and renegotiate existing terms in areas where price or performance are out of line or where the business needs have increased or lessened.
4 ways to manage potential challenges when renegotiating an IT contract mid-stream
There are a number of potential impediments to reworking IT deals mid-stream—some within the client organization and others built into outsourcing contracts. But they can be managed says Masur.
- Change management. “Most companies don’t focus enough on this,” says Masur. “Change is scary; it creates uncertainty.” Both outsourcing customers and clients get used to the status quo. If changes are made to contracts, equal effort must be made to manage the change in people’s work lives and processes or the new deals will fail to deliver.
- Availability of Internal talent. IT leaders need to determine whether they have the ability to perform the kind of cost-benefit analysis to renegotiate existing contracts. If not, they’ll need to bring in third parties. Likewise, if moving to a multisourced model, they need to make sure they have the skills in-house to manage the new model.
- Negotiating leverage. Outsourcing customer must figure out how to get and keep it. “How you do these things may depend on nature of the relationship with your existing provider, how willing and capable you think they are, how cooperative they’ve been in dealing with change, and how well they’ve been performing to date,” Masur says.
- Financial considerations. Transition expenses, termination charges, and other sunk costs can potentially erode the potential cost savings of reworking deals. “Many contracts are structured in a way that makes it difficult to do this,” says Masur. IT leaders can, however, renegotiate things like termination fees and build other sunk costs into new deals which have significant savings associate with them.
“There are challenges and impediments [to renegotiating existing outsourcing deals],” says Masur. “But there are lots of ways to address and minimize them. There’s nothing that can’t be overcome if you are aware and build them into the strategy.”