While the era of big outsourcing deals is all but over a new demand evolves in organizations. In the third wave of outsourcing we saw that companies form consortia to cooperate on outsourcing deals. This requires alliance management as tool to make an outsourcing deal work. This rises two questions: (1) Who’s steering the result of the deal, and (2) what will happen when the real large companies start outsourcing?

Recent examples of a consortium of companies acquiring a outsourcing contract, also called multi-sourcing or co-sourcing, show that outsourcing has entered new forms. The first wave of outsourcing is characterized by large contracts, managed by a single vendor. Examples are the IBM-Kodak ($8bn), EDS-Xerox ($10bn) and EDS-GM ($16bn). Since 1990s however the outsourcing field has changed. While outsourcing should lead to increased flexibility and lower costs it appeared that the large contracts delivered actually the opposite. Since the late 1990s we see a reduction in size of the outsourcing agreements.

In the late 1990s new players entered the outsourcing field. Thanks to lower labor costs and abundant availability high-skilled software engineers, new outsourcing companies emerged in India. This third wave is still present today. And not only the vendor-side has changed, but also the character of the outsourcing agreement has changed. The size of the deal is still small, but the number of vendors involved in a single agreement has increased. An example of this is the ABN AMRO outsourcing agreement of September 05, where a consortium of companies (of which IBM, Tata, Infosys and Patni) jointly got the deal.

Losing control on your operations has been present in outsourcing deals since the first wave. Common drawbacks, e.g. loss of service quality can be explained by agency theory and led in some cases to in-sourcing the previously outsourced operations. Sony learned their lesson and brought customer service back in-house following customer complaints. A recent survey of the Dutch financial paper, Financieele Dagblad argued that service quality has dropped at Dutch banks because of recent IT outsourcing activities. (I doubt though that doing nothing is the way to proceed).

This all leads to the question by who is driving the outsourcing operations. In most of the multi-sourcing deals there is one guardian, often the one getting the biggest chunk of the pie. When this guardian is taking a lead there is the danger of them being in charge of the outsourcing strategy. And that’s where the guardian is crossing a line. The principal company should be able to steer the results. This requires on the one hand that the principal company retain certain level of knowledge about the outsourced activities (which in my opinion is a challenge in itself!) and on the other hand a new capability: Alliance management.

Literature[1] suggests that there are three alliance governance structures: (1) General Assembly, (2) Equity Core, (3) Dominant Firm. I wonder whether companies will be able to establish a UN like General assembly structure. The Equity Core structure has been proven effective with Joint Ventures as mechanisms for collaborative activities. Many outsourcing contracts fall under the Dominant Firm structure.

Interesting however is that IT companies are the current dominant firms. However, analysts say that many big companies, including Merrill Lynch, Lehman Brothers, Fidelity, Wells Fargo and GE are looking at outsourcing significant parts of their software development work to Indian software firms. When this happens we might enter a fourth wave of outsourcing, where the principal company is - because of its size - steering the results of the outsourcing agreement.

suggested reading

• [1] Gomes-Casseres and Bamford in The Allianced Enterprise, 2001
• de Man et al, 2001, The Allianced Enterprise, Global Strategies for Corporate Collaboration, Imperial College Press, London

This entry was posted on Monday, August 21st, 2006 at 12:31 pm and is filed under Digital Library, Theory Building blocks, Book review, Innovation, Outside-Inside Learning. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.