Thursday, April 29, 2004

Business Process Outsourcing: The Vendor's Perspective

Applying technology to business improvement

Most businesses are under intense pressure to cut costs, cut resources, cut headcount and improve their use of capital. Although these short-term goals can be achieved through outsourcing, they should not be pursued in isolation. Economic theory and history both show that when an industry embarks on this kind of cost reduction, individual firms always end up in the same place: The market eventually equalizes, but with a lower price for everyone.

Long-term competitive advantage is more affected by the now systemic and aggressive reduction in what economists call transaction costs. From the 1960s to the 1990s, organizations drove down production costs to the extent that blue-collar productivity increased 40-fold in Western economies. However, over the same period, transaction costs, and therefore white-collar costs, varied by only two percent. This massive difference was partly because the technology was focused on automation and basic accountancy; and partly because we had a lot to learn about how to apply technology to business improvement.

Today’s technology — pervasive computing, the Internet, mobile technologies and business process management — is geared to driving down transaction costs. Two things will emerge. One is the same kind of 40-fold improvement in white-collar productivity that we saw in blue-collar productivity; the other is that businesses will disaggregate where it costs less to perform an activity outside the organization than inside it. So if a 40- to 50-fold improvement in transaction costs occurs, we should expect to see new kinds of organizations, and all the assumptions that we make currently about industry configuration, company organization and achievable levels of productivity will change radically.

Managing at the level of business processes

We are already beginning to see a move toward looser, more disaggregated organizational structures. As transaction costs fall further, more companies are becoming capability-based organizations. This new form of disaggregation suggests that as transaction costs become sufficiently low, organizations can afford to be world-class at everything.

For activities at which it is world-class but not profitable, a business should look for partners; and for activities at which it cannot be world-class, it should devise a sourcing strategy. The choice is no longer a stark one between insourcing and outsourcing, but involves weaving a much smarter strategy about what should be done internally, and what should be sold — outsourcing, partnering, and in some cases, monetizing assets.

The skills that are required to manage disaggregated organizations go way beyond today’s concepts of vendor and partner management. Aggregation and orchestration must be undertaken at the process level, and management must cover process collaboration and process synergies, which is a much more sophisticated requirement than simple vendor management.

To buyers, it would appear there is a wide choice of solutions. However, there are two considerations to take into account. The first is that, even if this market grows as fast as predicted, it is not a single, monolithic, distinguishable market like ITO. BPO, for all the processes on offer, represents probably 20 to 30 immature markets.

The second consideration has to do with critical employees. In ITO the service provider can replace just about any employee without affecting the service. This is not the case in BPO because processes are never fully documented or fully automated. They consist of a mish-mash of automated, semi-automated and manual processes with workarounds and fixes, because nobody knows how to do them any other way. The people who know how the processes really work are important. Their knowledge cannot be uncovered by due diligence as it can be for ITO. Potential BPO clients must not undersell their knowledge of their processes.

Knowing your business processes
True process outsourcing and true process transformation demand a level of industry knowledge and domain skills that make it extraordinarily unlikely that, at least under the current model, the equivalent of IBM, CSC or EDS in the ITO market is going to materialize in BPO. Disaggregation and BPO are going to mean managing 30, 40 or even 50 providers of business process services, and processes will span many organizations.

The issue is not one of management, because no organization can manage 40 of anything, but is about aggregation and orchestration. Outsourcing to different vendors complicates the realization of synergy. Once organizations have outsourced six processes to six companies, how do they exploit the synergies?

A potential solution is emerging in the form of an Enterprise Process Repository. This enables both customers and vendors to understand the current state and the planned future state of all processes, so that they can identify synergies, collaboration opportunities and consequential opportunities. Once customers have that plan, they can source more intelligently and vendors can understand the potential for the future.

Different deals, different approaches

Because continuous fundamental change and innovation are crucial to successful BPO, BPO deals cannot be handled in the same way as ITO deals. The approach is different, the outcomes are different and the value drivers are different — so don’t treat them the same. Every ITO deal that we have witnessed has featured heated debate about who controls architecture, who controls strategy and who decides if the vendor should buy from Dell or HP; but none of this actually affects the success of the deal.

BPM as the enabler of BPO

If vendors are to offer BPO at anything approaching world-class level, they need outsourcing “science.” Vendors should be more interested in business process management (BPM), which gives them a method for managing collaborative processes and a method for managing processes across multiple clients and multiple enterprises. BPO is impossible without a method for intelligently aggregating, orchestrating and controlling processes. Thus BPM is the enabler of BPO.

BPM enables the process outsourcer and process aggregator to discover, design, deploy, execute and redesign business processes. Running processes that were designed for single company operation and getting economies of scale and scope across multiple clients is a nontrivial task. BPO vendors need to demonstrate mastery of complex program management, including the ability to manage people, behavioral and cultural issues. If vendors do not understand change management and behavioral management, they should not be offering BPO.

BPM and BPO should be key parts of every business’ sourcing strategy. The strategy should recognize that successful BPO requires a very different approach to ITO and facilities management. BPO is about continuous innovation, collaboration, iteration and co-creation. It needs a process aggregator. Smart vendors should be working on exactly how they will fulfill that role.

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