Outsourcing Vendor Selection and Defining What Services to Outsource

Slide: 1
Slide 1More free downloads and templates at: 1stOutsource Research
Vendor Selection Session 2
Royston E Morgan
roystonmorgan@1stoutsource.com

Slide: 2
Last time we saw that key to success is avoiding some
of the pitfalls
 Wrong function outsourced
 Wrong vendor selected
 Wrong process outsourced
 Outsourcing a core competence
 Outsourcing a critical process
 And so on…

Slide: 3
Supplier vendor procurement relations work best for
commodity services
 For frequent or occasional generic services
– Sourcing from market may be favoured
– Normal contracting and SLA‟s to monitor services
 Frequent specific or proprietary services (higher specificity)
– Selective sourcing from market may be best
– Relational type of contracts
– Constant checking for value
 Occasional specific or proprietary services
– Joint Governance

Slide: 4
The Outsource Lifecycle
Management Preparation
NegotiationTransition
Scoping
Relationship
Formation
Relationship
Maturity
Relationship
Engagement
The
Outsource
Lifecycle
Definition
Interpretation
Renegotiation
Terminate
Selection
Reconnaissance
Awareness of
need to improve

Slide: 5
Outsourcing is an operational improvement option
 Problem area in terms of issues.
– Operation mismatched to market requirement.
 Problem area in terms of improvement.
– Managers task is always to check resource balancing.
– Act to minimise costs (check if market can offer advantages).

Slide: 6
The rationale for outsourcing is to solve a business
issue
 Symptoms seen of poor performance.
– May be generated problem due to need to improve processes.
– General issues such as need to reduce organisational cost.
– Structural issues.
 The early stages of the outsource lifecycle is looking for
improvement options.
– (or correcting a problem) that points to a competitive sourcing approach.
– A an early stage the correct approach allows the ways of evaluating
success emerge.
Note: Outsourcing is not a problem but a solution option

Slide: 7
If we outsource to focus on core competences
make sure we know what they are…
 A core competence is a specific resource or capability that an
organisation sees as being central to the way it succeeds.
 It is embedded in the context of an organisation and often systemic
and integrated.
 A core competence fulfils three criteria:
– Provides a direct benefit to a customer and is a process that adds value
to the product or service.
– It is not easy for a competitor to replicate.
– It can be leveraged widely to many products and markets (has scope).

Slide: 8
A core competency can take various forms
 Technical and subject matter know-how.
 Expertise in a particular business (or technology) process.
– Note the cumulative nature of technology competence.
 Deep knowledge in a particular market or product trajectory (is an
aspect of collective learning).
– e.g. lighting for Philips
 Possession of a particular market entrance or relationship with
suppliers and/or clients.
 Pivotal position in the supply chain.

Slide: 9
A core competence is relative to other organisations
 Provides fundamental basis of added value and competitive edge.
 Found in added value parts and processes of organisations.
 Involves coordination and integration of technologies and
processes.
 No more than about six core competences in an organisation.
 Need to keep these close as they form the basis of survival in the
competitive environment.

Slide: 10
We can think about those we need to keep
Monitor Core
Non
Core
Question
Ability Competitors to follow or replicate
Traceablebenefittocustomer
Easy Hard
LowHigh

Slide: 11
Strategic sourcing balances criticality of
technology, business and experience
Wilcocks, Fitzgerald, Feeny (1995)
In House
Market
Test
Selective
Discrete
Only
Outsource
Core
Low
Low
High
High
Non-Core
Relative experience
with technology
vendor to client
Business
uncertainty
Low
High
Process
criticality of
technology

Slide: 12
Or the degree to which a process contributes to
competitive edge

Slide: 13
This leads to a basic decision at a high level about how
to proceed
McIvor (2005)
Invest to perform
internally OR
Outsource
Perform
internally
Outsource
Exploit OR Keep
Internal
Critical to
competitive
Advantage
Low High
Non critical to
competitive
Advantage
Relative capability

Slide: 14
Here is a schematic of Retailers IT systems
Back Office Front Office
Physical
distribution
Warehousing
Scheduling &
Transport
Mgt
Tracking
SCM
Business
DSS
CRM
POS
system
Store
Operation
Catalogue
mgt
Returns
Mgt
Labels &
shelf Mgt
Barcode
systems
In store
HRM
Payments
Product
lifecycle
Mgt
Loyalty
Mgt
Promotions AR/AP & FA
Pricing &
discounts
Replenish
-ment
Order
fulfilment
Vender
management
Buying
Item
management
Import
export
Demand
forecasting
Space
planning
Item
management
Price
management
Goods
receipt
Returns
SCM

Slide: 15
What were the core processes to Sainsbury's
 Which processes were critical to Sainsbury's
success?
 Which capabilities do you think needed focus.
– What would have been your sourcing strategy and
why?

Slide: 16
Outsourcing Stage: Scoping
 Formulation of strategy
– Agreeing objectives
– Defining Options
– Base lining
– Benefits appraisal (expectations)
 … input for Business Case for Outsourcing

Slide: 17
Defining objectives (and constraints) for outsourcing
 The first thing to do in any outsource approach is to agree internally
what the objectives of the outsource are
– … and keep asking until this is clear and agreed
 Initial trigger can be cost but to be effective we need to extend beyond
this
 Objectives will differ by main functional group
– Finance = cost
– Operations = flexibility
– Technology = refresh
– HRM = access to new skills
– …
 … During initial stages of the decision gaining consensus for the broad
thrust is the main task and the priority
– Starts the process of agreeing evaluation criteria
 Setting the objectives correctly imprint the entire process outcome

Slide: 18
Objectives need to be SMART and Consistent
 Specific, measurable, achievable, relevant and time bound.
– These objectives provide evidence base to judge the outcome of the
outsource process.
 Objectives must be consistent.
– Watch asking for increased service and low cost at the same time.
– Asking for flexibility and customised service implies vendor cannot take
advantage of scale effects and cost may actually rise.
 Will need to be shared with the potential vendors.
– Clear objectives enable the vendor to pitch perfect for the business.
– Although be sure the objectives are real and will form the basis of
selection.

Slide: 19
For potential areas careful assessment of the
scope has to be formulated
 The areas: department processes and services.
– And positioned (contextualised) within the entire organisation
– People (roles) that may be outsourced.
– Enables organisational interfaces to be recognised later and the service
concept defined.
 Detailed modelling financially is usually needed.
– Discounted cash flow if talking of financial streams well out into the
future.
– Be careful how overheads are taken into account.
– Write down assumptions about cash flows and their timings.
– Ensure transition cost is accounted for (usually quite steeply).

Slide: 20
Scope can be shown covering headcount and
service
Management
Functional
heads
HR
Management
Payroll
Records
Benefits
HRM Director
1FTE
Functional
heads
6FTE
HR
processes
5FTE
Payroll 5FTE
+ 1FTE
accounting
Record
management
4FTE
Benefits and
compen-
sation
4FTE
Functional
heads
1FTE
1 FTE
covering
maternity
1FTE
vacancy
1FTE
vacancy
In-house Contract
Hiring &
Firing
Employment Personnel
Staff
development
Accounting Payroll
Records
management
Technical
support
Filing and
clerking
Benefits
Consulting
Compensation
planning
Staff
development
Process
Scenario One Scenario Two

Slide: 21
Kraljic Strategic Purchasing Model
Supply or Purchasing Risk
1st generation sourcing
ServicevalueorProfit
StrategicLeverage
Bottleneck
Low – Standard Product High – Specialised Product
2nd generation sourcing
Routine
LowValueHighValue
4th generation sourcing
3rd generation sourcing
Kraljic's purchasing portfolio model (1983)

Slide: 22
Each block in framework has an appropriate sourcing
approach.
 Strategic (high value/profit, high supply risk)
– Planning by developing long-term relationships, managing risk
regularly and making the item in-house rather than outsourcing.
 Leverage (high profit impact, low supply risk)
– Using purchasing power, dual source products or suppliers.
 Bottleneck (low profit impact, high supply risk)
– Over stocking when the item is available (availability is one of the most
common reasons that supply is unreliable) and tight control.
 Routine (low profit impact, low supply risk)
– Standardized products, monitoring and/or optimizing order volume, and
optimizing inventory.

Slide: 23
Plot the scope on the strategic procurement model
Supply or Purchasing Risk
1st generation sourcing
Servicevalueorprofit
StrategicLeverage
Bottleneck
Low – Standard Product High – Specialised Product
2nd generation sourcing
Routine
LowValueHighValue
Routine
Helpdesk & desktop
management
Application
management
Infrastructure
HW & SW
4th generation sourcing
3rd generation sourcing

Slide: 24
Sainsbury’s outsourced most of their IT processes to
Accenture
 Which services added most value to Sainsbury's
competitive edge?
 Assess the purchase risk of the sourcing
approach.
 And define the procurement approach you would
have used.

Slide: 25
Preparing the business case for outsourcing
 Sets down the rationale for outsourcing.
– Reasons for outsourcing.
– Assumptions behind the decision.
– The agreed position over the benefits.
– How we will approach this large business change.
 Can change over time as circumstances change.
– Needs to be reviewed and updated.
– Can mean that case becomes invalid (what do we do then!).

Slide: 26
Main Contents
 Reasons
– The reason for the outsource (problem centred).
 Options
– All those considered and rationale for selection.
– Include desired governance and contract approach.
– Financially model each option.
 Benefits
– Tangible and intangible benefits expected.
 Risks
– Quantifiable (if risk > benefit reconsider options).
– Risk mitigation strategies.
 Cost timescales
– Include initial estimates (will update as we get closer to the deal).
 Investment appraisal
– DCF or Break Even Analysis (with some aspect of sensitivity analysis).
– GAP analysis (Good Bad Pessimistic).

Slide: 27
Business Case
 Summarise the first three elements of the Business Case
 Why Outsource?
 What are the Options?
 What are the Benefits expected?
 … and report back

Slide: 28
The main differences between the RFP and the RFI
RFP
 Small number of final
vendors, 4 or less
 Comprehensive
 Information gathering tool
on specific vendors
 Asks for pricing
RFI
 Large number of potential
vendors >5
 Limited in scope
 Information gathering tool
on the industry
 May not ask for pricing

Slide: 29
Vendor Selection Approach
 Outsourcing team defines selection criteria in advance.
 Due diligence can be used as a vehicle to attain buy-in.
 Key Vendor selection criteria:
– Cultural/Organizational fit,
– Domain experience,
– Resource quality,
– Technical capabilities,
– Risk/reward balance.
 Establish good two-way communication with final two/three before
negotiation begins.
– Start to develop a relationship (ensures rapport and mitigates faking).

Slide: 30
Due Diligence Best Practices
 Look objectively at vendor qualifications - stay focused on proven
capabilities & real industry experience.
– Most will claim specific sector experience that needs to be evaluated.
 Be prepared outsourcing firms have savvy salespeople.
 Get to know the people who will actually be delivering the service
(not just the sales staff).
– Visit vendor and perform random interviews with resources performing
similar work for other clients.
– Ask for several reference visits and visit without vendor.
 Any industry class vendor has no problem with this.
– Watch account teams gate keeping.

Slide: 31
Due diligence validates the vendor information on
processes, financials, experience and performance.
 It helps you find out what the vendor can do right now.
 Confirms the information in the RFP and addresses:
– Company profile, strategy, mission and reputation,
– Financial Status,
– Customer references - from similar outsource situations,
– Process expertise, methodology and effectiveness,
– Quality compliance and certifications,
– Technology, infrastructure stability and applications,
– Security and audit controls (very important),
– Legal and regulatory compliance, including any outstanding complaints
or litigation (this also applies to you in their due-diligence),
– Use of subcontractors (off shoring for example),
– Insurance,
– DR, security and business continuity policies.

Slide: 32
Check the transition model
 Analyze the delivery approach of the vendor:
– Does their transition methodology integrate with your own?
– Is there sufficient flexibility and contingency?
– Assess how vendor manages cultural barriers.
– Assess how well change is managed.
 Assess level of onsite work required at existing clients for the
Vendor to prepare the outsource.
 Leverage internal outsourcing expertise:
– Contact your industry group.
– Contact competitors!

Slide: 33
Due Diligence
 You have to plan a site visit to a client of an
outsourcing vendor?
 Who do you need to see and what questions do
you need to ask?

Slide: 34
Negotiation best practices
 Outsourcing firms are hungry – customers have the advantage (be
aggressive but reasonable).
 Agreements are complex – do it once and think long-term (avoid
“nickel-n-dime” charges later).
 Mature firms are excellent negotiators.
 Get quality guarantees/penalties.
 Name specific account management resources in the contract:
– Interview resources first (including proposed service manager).
– Guarantee for 18-24 months by name to ensure momentum.

Slide: 35
Negotiation Best Practices (Continued)
 Define the organisational resources required from Vendor:
– Be specific about the skills you need/foresee,
– Guarantee skillset availability at contract price,
– Define experience levels required,
– Tiered volume pricing by skillset works well,
– Price Onsite, Onshore and Offshore separately,
– Negotiate travel cost as a fixed price per week for short-term
onsite/onshore assignments (do not include in hourly rate budget
separately).
 Define your own resource plan and check with the vendor.
 Plan carefully and be as specific as possible.
– Making changes later very costly.

Slide: 36
Define your position before you start any negotiations
Issue Outline of Issue Preferred Tolerable Required
Term of the
contract
The length of the
contract and
extension terms
5 years then re-
contract
5 years 1 year
agreed extension
then re-contract
Maximum 6 years
then re-contract
Insourcing
guarantee
Ability to in source
after contract end
Transfer no cost 3
months transition
support
Transfer no cost 3
months transition
fixed fee if for
convenience
Transfer no cost 3
months transition
support no cost if
for cause
Transfer
assistance
Support in service
transfer to new
supplier
Full handover cost
within contract
Full handover +
agree fixed fee
above contract
service
Full handover +
cost above contract
level
Pricing structure
Service payment
and guarantees
Service credit of 5%
contracted value in
period
Fee reduced to
delivered service
level
Fee reduced to
delivered service
level + penalty after
1 month
One tool that is useful is the PTR chart to define your negotiating position

Slide: 37
Transition Risk in Outsourcing
 During the Outsource cycle vendor performance must be clarified:
– In terms of protection of rights.
– In measure of trust between parties.

Slide: 38
During the Outsource selection high level choices and
factors to balance
Process
Technology
Balance
Source: Adler, P. (2003) Sloan Management Review
Dependency
risks
Spill over
risks
Trust
Strategic
Capabilities
High Level
considerations

Slide: 39
Process Technology Balance
 If there is uncertainty or criticality in technology.
– And doubt over future value of the supported process then outsource
but check vendor capability.
– If a core process is dependent on the technology being outsourced
vendor reliability is critical (could be better managed in house?).
– If a technology is a core competence of either party source in the
direction of the competence.
 Focus on the core competence and its relation to other processes
– and how this connects with the vendor offer.

Slide: 40
If there is a degree of joint specificity there can be a
dependency risk
 Joint specificity refers to the degree to which client and/or vendor need to invest
and specialise in an activity to provide the service to an acceptable level.
– For example a specialised support process that cannot be shared with other clients.
 If doubt over the value of a process then risk is low.
– Still have to watch for dependency risk.
 If a core process is critical and doubts over delivery arise may need to de-scope
(likely best to keep in house anyway).
 If a process could become a source of competitive advantage then keep in
house (e.g. SCM but not the transport element).

Slide: 41
During vendor assessment spill over risk has to be
carefully monitored
 Risk of exposure to breaches of confidentiality.
– Your processes etc. become „available‟ for other vendor clients.
 Risk of compliancy breaches:
– Data losses such as credit card details appearing on open market.
– FSA fines Norwich Union Life £1.26m for slack security at an outsourced
call centre (compliancy cannot be outsourced).
 Exposure to IPR or propriety secrets loss
– Cases in America of outsource vendor entering market with a competitive
product.
– NDA‟s are also not taken seriously in some countries.

Slide: 42
Relative Proficiency between Client and Vendor
 Knowledge and know how will be transferred to the vendor as part of the outsource
(assume this will happen).
– Plan for retention and control (as you may have to take back)
– Knowhow and how to manage and acquire?
 Technology competence accumulates over time.
– Apparent stability hides high level tacit understanding.
– Tacit competence in how to work in a crisis can be lost.
– Organisational slack taken up in outsource can cost flexibility.
 A core process tightly integrated with technology can become a hostage to fortune
(be very careful).
 Scaling effects may not be as great an advantage.
– Big clients usually have greater competence in the specific application of the technology than
the vendor so…
– … plan to hold onto this!

Slide: 43
The need to retain strategic flexibility
 Processes that contributes to competitive edge.
– Doubtful whether to outsource?
 Critical Processes
– Those that are not core but highly dependent on those that are could be
also candidates for retention.
During the vendor assessment phase due diligence helps to focus on
your own strategic demands as well as confirming the contribution of the
supplier.

Slide: 44
Reflection
 You are asked to prepare a proposal to
outsource research and development.
 What would you say?
 What controls might be needed to protect your
own interests?

Slide: 45
At the deeper levels of outsourcing trust and
relationships need to be built up but …
Conditional & Fragile
Takes time to develop
If low between the
parties
– Implies high
maintenance
– Implies high costs
Develops by real
interactions
Learning
Environment
Task
Process
Goals
Evaluation
Efficiency
Equity
Flexibility
Revision
Task definition
Routines
Interface
Expectations
Initial conditions
Task
Expectations
Interface
Routines
Based on cooperation in alliances Doz (1996)

Slide: 46
The partner trust positive spiral
Efficiency
Equity
Flexibility
Initial positive
expectations
Heightened
expectations
Willingness
new roles
Improves
initial
conditions
Search for better
ways of working
together
Willingness to
make irreversible
commitments
Desire to
increase the
stakes and scope
of partnership
Clarity of value
creation

Slide: 47
Frequent interactions key to forming successful
relationship
 Evidence shows frequent interactions mitigate against opportunism:
– Avoids an „arms length‟ relationship.
– Increases trust.
– If there is trust reduces need for extensive and expensive monitoring of the
contract later on.
 Lots of interactions and not just in an account way.
– Demonstrate real concern for business.
– Demonstrate concern to get it right and take the hit when it is wrong.

Slide: 48
Explicit communication channels needed to build trust
 In a hierarchical organisation tacit knowledge accumulated over time.
– Transmitted by people in the form of everyday decisions
– If it works and the „guidance‟ accepted then becomes part of the body of
knowledge.
 Mechanisms across organisations are less explicit.
– Day to day discourse not in place.
– Means much more engagement needed to explicitly handle problems.
– Need good channels to handle the fires that will happen in any deal to avoid
creating an adversarial environment.

Slide: 49
Reflection
 You are outsourcing desk-top services and a supplier
proposes a partnership model to simplify the contracting?
 What could be the problems or issues?
 What would you do?

Slide: 50
During contract negotiation phase need to address
Vendor transition capabilities
 Evaluation of vendor HR processes and capabilities key task.
– Need to prepare long term engagement between HR‟s
– Vendor client team may have to be formed if large numbers transferred.
 Determine/evaluate service structure of vendor.
– Degree offshore/onshore and implications.
– Likely implications for any transferred staff.
 Set up personnel management structure/processes to manage
outsource staff.
– TUPE in the UK needs to be accounted for.

Slide: 51
In summary outsourcing effects critical
dimensions of the task between the parties
Systems & Procedures - How people are regulated in order to get the job done
Task - What must be done and why (is there a shared view across parties?)
Process - How the interactions take place between the Client and Vendor
Governance – Control of activity
Systems &
procedures
Tasks
Processes
Change Outcomes
Governance
As Outsource managers we have to understand what we are changing in detail

Slide: 52
The Service level Agreement
 Purpose:
– Assures service commitment to the customer has teeth.
– Enables supplier to focus on what is important.
– Mediates the service delivery.
 With a good SLA in place there is rarely any need for things
like credits.
– Service credits do not compensate for consequent loss anyway.
– Always a difficult problem to get compensation per se.

Slide: 53
The Service level Agreement (SLA) in outsourcing is
the key document
 It helps manage the strategic relationship between the outsourcing company
and the supplier.
 It is an Agreement and includes:
– The responsibilities of the parties (key when processes change).
– The services to be delivered.
 Successful outsourcing relationships focus on results.
 And these results must be objective and SMART.
– Specific Measurable Achievable Relevant and Time-bound.
– quantifiable, and comparable against re-established criteria.

Slide: 54
The SLA starts from considering what we actually need
 Overly high specification can lead to increased costs.
– We can end up paying for a service we do not actually need.
 General Guidelines:
– Ask for the service we need so carefully assess what is required (at least to start with).
– Don‟t be too generic in the service demand performance requirement depends on the
function using service.
– Define terms (precisely) and include timescales.
– Worst and Best case bandwidth for the service.
– Consequences for service performance failure.
 Go for resolution techniques rather than credits.
– Include adjustments for service improvement.

Slide: 55
Need to avoid micro management
No remote
management of the
service.
– Prevents supplier
innovation.
Need to let go and let
the supplier manage
the delivery.
– Whilst you manage
and monitor the
outcome.

Slide: 56
Ask for continuous improvement and put this in the
SLA
 Need to raise the bar as far as
service requirement.
– Watch being over greedy.
 Best of breed is only today.
– Jointly consider best in class and
agree to share improvements.
– Encourage active innovation.

Slide: 57
Focus on important issues
 „Less is more‟ need to have appropriate number of SLAS.
– May need to consider CFA, SFA, SLA structure.
CFA
SFA1
SLA11
SLA12
SFA2
SLA21
SLA22
SLA23
SLA24
SFA3
SLA31
SLA32
SLA33

Slide: 58
Reflection
 There are systemic stock-outs in your store operation being
blamed on your logistics provider and you have been asked
to investigate?
 What would you do?

Slide: 59
Look for clarity in service definition avoid averages
Average downtime < 5%
Average time to resolution
< 5hrs
Average time to close
CR < 2 weeks
Average availability of LAN
95%
better
better
better
better
Unplanned downtime during
0900 to 1800 <2hours in any
rolling month
% of errors resolution time
> 5hrs 10%
% of CR’ s open after 2
weeks <20% after 4 weeks
<2%
% availability during 0900 to
1800 Monday to Friday
>98%

Slide: 60
What to do in the case of a continuous service failure.
 Prepare exit scenario and include in SLA.
– Be as detailed as needed and agree criteria in the termination of
services section.
– Agree the precise process of invocation.
 Supplier cannot agree to more than the margin.
– Need to be big enough to cover cost of managing them and
enough of a deterrent if you use these to force action.
 Need clear process to actual service resolution else situation
can perpetuate.
– This is actually what is important.

Slide: 61
Define clear boundaries and responsibilities
 Measurement of performance and relative contribution
is a critical issue…
 … and can lead to problems if not done well.
– Supplier needs to be treated fairly if performance is good.
– Each task needs a RACI.
– What is out of scope is just as important as what is in.
– Sainsbury recriminations Accenture believed their
responsibility ended with managing their IT systems
whereas the customer through it broadly extended to
cover the logistics.

Slide: 62
Contents of a SLA
 Terms and service conditions.
 The service levels required.
– Perhaps in the form of a catalogue showing how the service levels will be measured.
 The process of measuring.
– Who will do the measuring (perhaps independent?).
– Accuracy required and measurement periods.
– Cost of the measurement and how this is covered (and by whom).
 Reporting procedures.
 Review processes and governance.
 Termination procedures.
– Including guarantees for continuity.

Slide: 63
Implementing the SLA
 Keep track on agreement by careful monitoring.
 Unless implemented nothing has happened.
 A SLA is an agreement so… must be agreed!

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