Guide to ICT Sourcing - Phase I: Case for Change
Phase I: Case for Change
Contents for this Chapter:
- Business Alignment – Understand Business Priorities and Corresponding ICT Requirements
- Heed the Lessons of Experience
- Understand the Costs
- Assess Current Satisfaction
- Articulate the Trigger Point for Change
The purpose of Phase I is to develop a clear understanding of the agency’s current ICT sourcing situation. This perspective can be used to build a case for either changing or keeping the existing sourcing arrangements. It is based on four modules:
- Business Alignment: What are the most critical ICT activities?
- Heed the lessons of experience: What can be leveraged from our own and other organisations’ experiences?
- Understand the costs: How do the agency’s costs compare to alternatives?
- Assess current satisfaction: How satisfied is the agency with its current ICT sourcing?
At the end of these modules, agencies should perform a trigger point analysis to determine whether alternatives need to be considered. If this confirms the case for change, agencies then need to understand the effort to change – are they in a position to transition from their existing sourcing solution?
Business Alignment – Understand Business Priorities and Corresponding ICT Requirements
Business priorities will drive ICT requirements. Throughout the ICT lifecycle, agencies must never lose sight of this link; a sourcing strategy will only be successful if it provides ICT that can fulfill the agency’s business priorities.
To understand this link, agencies should identify and categorise their business activities against the following categories:
- Vital: These activities are the reason the agency exists. They are generally unique to the agency. If the agency cannot perform a vital activity, the impact will be immediate and profound. For example, managing the Federal Budget is a vital activity for the Department of Finance and Administration (Finance).
- Duty-bound: These activities are part of the agency’s mission. They are important, but other agencies could potentially perform them. For example, managing Ministerial and Parliamentary support services is part of Finance’s mission, but another agency could potentially take responsibility.
- Discretionary and support: These activities are neither strategic nor core. Nevertheless, faults or disruptions to these activities can still affect an agency’s ability to fulfill its mission. They represent all activities that do not fall in the previous two categories. These are usually common across several agencies, such as accounting and personnel services.
Once business activities are identified and categorised, agencies should determine the corresponding ICT needs for each category. The relative priorities can differ by agency. For example, storage and easy retrieval of documentation may be vital to the National Library, whereas other agencies may consider it a support function.
At the end of this assessment, agencies should have a clear understanding of the key success factors for the agency (defined as business priorities) and the corresponding key success factors for ICT. This understanding should provide the context – a sense of purpose for ICT sourcing, in general – for the rest of the ICT lifecycle.
This assessment should be performed after any government-driven events that reallocate business activities among agencies or that create, merge, or split agencies, as these actions could modify an agency’s business priorities.
This assessment also has a risk management application. Agencies should recognise that relying on external vendors to manage components of ICT involves certain risks, primarily from relinquishing control over those components. Although vendors may be contracted to share some of the operational risks, the agency will ultimately be accountable for the functions it is meant to provide. The link between business priorities and ICT needs will, therefore, be an important factor in developing a sourcing strategy and in informing potential vendors about the agency’s expectations.
Heed the Lessons of Experience
When building a case for change, agencies should share sourcing lessons, particularly with agencies that have similar business or ICT characteristics. This should reveal whether other agencies have been able to achieve stronger economic or strategic benefits through their sourcing arrangements, and could provide an initial indication about the ‘competitiveness’ of an existing sourcing strategy.
Establishment of the IT Sourcing Inter-Agency Forum (ITSIAF) by the Chief Information Officers’ Committee (CIOC) Sourcing Working Group has provided an arena for the exchange of ideas and lessons learnt on ICT sourcing in an Australian Government agency environment. The purpose of the ITSIAF is to enable agencies to develop a broad understanding of the issues integral to IT sourcing – both technical and administrative. This is achieved by:
- exchanging lessons learned
- sharing sourcing strategies
- collecting data and exchanging materials
- receiving input from industry forums, such as the Australian Information Industry Association (AIIA)
- conducting roundtable discussions on topics of interest.
Sharing these lessons among agencies has been difficult in the absence of standard frameworks and terminology. This guide should help establish a common language to facilitate information sharing.
Agencies should also look for lessons outside government and outside Australia. Much can be learned from the way businesses, both here and overseas, have dealt with the challenges of executing a successful ICT sourcing strategy.
A 2007 International Association for Commercial and Contract Management (IACCM) survey 4 found that experienced practitioners believe outsourcing deals and relationships are more likely to be successful if there is a cross-functional ‘centre of excellence’ supporting them. This view was especially strong in multi-vendor environments and survey respondents suggested that organisations could drive significant improvements in performance if they revised their approach to the organisation and management of their outsourced relationships.5
The survey also revealed that one of the major problems when outsourcing was that in many cases executives failed to consider the skill sets needed to lead the outsourcing process. Instead, they allowed the business unit whose work was being outsourced to continue to lead either the bid phase (38%) or the post-award management phase (59%). The survey noted that in most cases the necessary skill set did not reside in the business unit, with only 9 per cent of experienced practitioners in agreement that the business unit should lead in the post-award phase and 23 per cent in pre-award phase.
While knowledge of the subject-area is a key factor, successful deals are driven by strong leadership, supported by good negotiators, thorough understanding of requirements and proactive performance management. Project management, communication and business case experience are also highly valued capabilities.
The survey highlights that 21st century organisations need a much more coherent approach to the way they structure and manage their portfolio of strategic relationships. This means they should pool critical skills within a cross-functional ‘centre of excellence’ that can offer not only deal-based leadership, but can also ensure coherency across relationships, consistency of treatment and cross-organisational learning.
Leadership is identified in the survey as the most important skill and also highlighted as the skill most frequently lacking. Requirements analysis and negotiation were also considered to be areas of weakness. Leadership skills continue to be the most important for the transition and post-award phases, with communications and project management being the next most important skills.
Understand the Costs
Experience has shown that many organisations base their sourcing strategies on the perceived, rather than the real, value of an arrangement. For this reason, this guide places a strong focus on helping agencies understand the costs associated with sourcing. In particular, we have developed an economic diagnosis tool, which is described in Appendix A. Agencies can use the tool at various points in the first two phases of the lifecycle, including this module.
ICT sourcing decisions are traditionally based on perceived value
To begin, agencies should develop a view of the perceived value of their existing sourcing strategy. To do this, they need to understand the economic drivers that explain the cost difference between self-managing an ICT component and sourcing it externally. This difference is called the perceived value (Figure 6).
Figure 6: Perceived value of your existing sourcing strategy
As Figure 6 shows, several factors contribute to explaining the difference in cost-to-serve (that is, the total cost necessary to run and maintain the IT operations that serve business activities). These are offset by a vendor’s margin, which then makes both cost bases comparable from the agency’s point of view. Broadly, the types of economic benefit are:
- Scale and cost position, which involves the benefits associated with higher volumes and advantages, such as lower cost of technology or labour.
- Quality and efficiency, which involves advantages such as more efficient, simplified processes, and improved access to better skills and expertise.
- Risk exposure, which involves advantages such as lower costs to cover the same risks, or lower costs to repair damages if and when they occur.
The economic diagnosis tool describes three steps for calculating perceived value. First, agencies should understand their current ICT costs. Second, they should understand, in broad terms, how these costs compare with hypothetical alternatives. Third, they should disaggregate perceived value into its major components – in other words, how does perceived value break down along the four drivers shown in Figure 6?
The tool describes three approaches agencies can take to perform the second step. In each of these approaches, the actual process of analysis will vary according to an agency’s current strategy. An agency that self-manages ICT will begin on the left-hand side of Figure 6, with the initial annual cost base for ICT, and will use one of these approaches to derive the value on the right-hand side. An agency that has a single or multi-sourcing strategy will begin on the right-hand side of Figure 6, with the annual face price of each existing arrangement, and will use one of these approaches to derive the value on the left-hand side. In both cases, an agency should be able to compare the costs of its current sourcing strategy with the estimated cost of an alterative.
To perform the third step, agencies need to disaggregate perceived value, regardless of how it was calculated, into its four drivers: scale and cost position, quality and efficiency, risk exposure, and vendor margin. The specific elements that typically make up these drivers are described in the economic diagnosis tool.
This step is primarily to explain the difference between the self-managed option and an external arrangement – to highlight the most significant factors that account for this difference. It is therefore more important for agencies to understand these drivers, broadly, than it is to get an exact value for each one.
With this calculation complete, agencies should have a clear view of the overall magnitude of perceived value, along with its key sources. However, this is only the first step towards understanding the costs and value of a proposed ICT sourcing strategy.
ICT sourcing decisions must consider the real value of an arrangement
Agencies need to recognise that perceived value excludes other costs that are incurred solely because of the sourcing arrangement – these costs need to be assessed in order to understand the real value of a sourcing arrangement. For instance, substantial transition costs will be incurred when moving the ICT activity from one model to another. These include significant project management, communication and change management costs for governance and contract management, and termination costs, which entail the cost to maintain access to work in progress, or to ICT staff and resources, once the contract expires.
Factoring these costs into the perceived value produces a picture of the real value of either an existing or hypothesised sourcing arrangement (Figure 7).
Figure 7: Calculate the real cost of transition, management and termination
Agencies that self-manage ICT will work their way towards a real value calculation by using benchmarks to estimate the three components that sit between perceived value and real value: transition, management and termination costs. The tool provides checklists of the various costs for which agencies should plan. These costs will be compiled on top of the annual face price of an optimal single or multi-sourcing strategy (as derived during the perceived value calculation).
Agencies that have single or multi-sourcing strategies will, on the other hand, estimate these costs based on historical information for transition costs, current data for management costs, and estimates based on clauses in the contract for the termination costs. The tool provides checklists for where to look for this information. When, as often happens, detailed historical information for transition costs is not available, an estimate must be made. Agencies could, for instance, assume the costs are no more than the increase of the ICT budget that was experienced during the last transition.
At this point in the analysis, it is not necessary for agencies to run a complex exercise. The intent is not to perform an analysis that results in a fully certified number. Instead, agencies should focus on performing analysis that will give them enough confidence in the numbers to allow them to take one of three positions; that is, from an economic perspective:
- I would certainly be better off changing
- I would certainly not be better off changing, or
- both scenarios show similar costs, and it would be difficult to justify a case for change.
Figure 8 illustrates how real value analysis could steer an agency toward these conclusions.
Figure 8: Comparing the value of an external option with an existing self-managed approach
The analysis should also be rigorous enough to allow an agency to understand the cost drivers of the current solution and to compare these drivers with other scenarios.
Assess Current Satisfaction
The fourth and final step in building the case for change is to assess the satisfaction with the current sourcing arrangements. Figure 9 provides a checklist for assessing sourcing satisfaction for externally managed arrangements.
Figure 9: Checklist for assessing the qualitative value of your ICT sourcing contracts
At this point, an agency should have a clear picture of its overall ICT sourcing situation – in particular, its business priorities and corresponding ICT requirements, the key opportunities that can be leveraged from other agencies, the real value of existing and alternative sourcing arrangements, and the current satisfaction with sourcing. It should therefore be prepared to ‘make or break’ the case for change.
Previous assessments could also lead the agency to identify re-engineering needs. For example, one agency’s pricing model for outsourcing did not encourage the vendor to reduce the number of servers, as the contract specified a price per server, independent of whether it was actually used. After several years of Machinery of Government and business needs variations, the agency was paying too much for what it was getting from ICT. But the numbers and functions of servers were not questioned, because the contract did not stipulate any re-engineering of ICT operations.
Articulate the Trigger Point for Change
To test the case for change, agencies should perform a trigger point analysis. As with previous analyses, this will vary according to whether an agency currently self-manages ICT or has a single or multiple solutions in place.
The trigger point frameworks described in Figures 9 and 10 provide agencies with examples of the kinds of questions they should ask when exploring the feasibility of changing their current sourcing strategy. Specific issues will vary from agency to agency, but the broad questions posed in these Figures should be relevant to most.
Assessing these trigger points for change will encompass the business priorities, satisfaction with current sourcing arrangement, and the real value analysis described earlier.
Building the case for change for agencies that self-manage ICT
Figure 10 describes the conditions an agency should meet before deciding to move to an external sourcing strategy. These are described below:
- Is the agency getting the best value from its ICT? The impetus for change is when an agency realises it is not getting value for money from its ICT. Agencies should investigate sourcing strategies that will fulfill business needs and achieve value for money. The satisfaction and real value analysis, described above, should help agencies make this determination.
- Are there more efficient alternatives? Based on the potential to improve the ICT operations, an outsourcer might be in a much better position than the agency to deliver the best value from ICT. For instance, an outsourcer might be able to run a data centre operation with a unit cost much below that of the agency, or run an application development team that yields far greater innovations.
- Is the agency able to delegate this task to an external party without too much risk? The relationship needs to be set up so that at least some of the value the outsourcer provides is transferred to the agency without unreasonable risks to the agency. In addition, the agency must be comfortable with managing a complex business relationship.
Figure 10: Trigger point for change for self-managed agencies
Building the case for change for agencies that have a single or multi-sourcing arrangement
Agencies that already have a single or multi-sourcing strategy in place also need to make or break the case for change. To do this, they should go through a series of questions, decisions and analyses such as those presented in Figure 11.
Figure 11: Trigger point for change for externally managed agencies
Understand the Effort to Change
If it is clear that the current situation should be changed, the agency must ask one more question before proceeding to the next phase: Is it in a position to change?
For agencies that self-manage ICT, this will involve a change management program to help address potential cultural, legal and social issues. The cost, timing and strategic impact of such issues need to be part of the case for change, as they may offset the benefit of an option.
This question is more critical for agencies that already have major external arrangements in place. From experience, some organisations do not allow sufficient time or do not plan their termination strategy well enough to allow them to change when they need to (Figure 12). These organisations are then trapped in a contract and often have no choice but to exercise the extension option contained in most contracts.
If an agency is indeed restricted to its current arrangement, it should define a termination or disengagement strategy that will put it in a more workable position in the near term. The impetus for change will most likely still exist.
Figure 12: Understand the effort to change
A strategy for avoiding this trap mostly relies on negotiation with the incumbent vendor, and might include such contract-related actions as:
- negotiating a contract extension (in itself a value for money decision)
- getting help from the outsourcer for transition to a third party
- progressively removing key projects and applications maintenance from the incumbent vendor
- standardising IT within the outsourcer
- getting the outsourcer to place staff closer to your teams
- hiring key outsourcer staff members.
Agencies could also take contract-independent actions such as:
- accelerating internal decision lead-time
- redesigning governance to best practice
- getting external support or building additional resources
- mixing internal staff within the outsourcer’s teams
- extending and/or developing relationships with other vendors.
4 - 2007 International Association for Contract and Commercial Management, Organization and Skills to Manage Complex Relationships, accessed 15 April 2007 at www.iaccm.com.
5 - The survey was completed in March 2007 and attracted input from more than 80 major corporations around the world.
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