By Sara Enlow, Principal, Vantage Partners and Joseph Bubman, Consultant, Vantage Partners
The economic downturn has imposed significant pressure on both outsourcing buyers and service providers, resulting in increased scrutiny and renegotiation of existing deals. The need to do more with less is greater than ever. How buyers and providers respond may determine whether they suffer enduring damage from the crisis or whether they emerge (relatively) unscathed.
Even in the best of times, the difference in results between a well-managed outsourcing arrangement—one in which the parties engage effectively in joint problem-solving and issue resolution—and a poorly-managed one—in which the parties squabble over the contract and point fingers when things go wrong—is as much as 30% annual contract value.  The dramatic impact of relationship management effectiveness on the value achieved in outsourcing deals is even more pronounced in the downturn, as high-performing arrangements face greater expectations and under-performing relationships receive more scrutiny. A collaborative approach to dealing with financial pressures and achieving cost-reduction targets can result in real and sustainable savings and enhanced relationships; by contrast, an approach in which one party benefits at the expense of the other is more likely to result in dissatisfaction on both sides, a damaged relationship, and diminished ability to achieve greater savings.
Buyers and providers are responding to economic pressures in some different ways
Most organizations do all they can to wring cost out of their operations during difficult economic times. Many are undergoing internal process improvement initiatives, reorganizing, and reducing headcount. The push to reduce cost is also driving many business unit leaders and chief financial officers to pursue more outsourcing opportunities faster, particularly offshore arrangements in low-cost delivery locations. Moving too quickly, however, can leave resource-constrained retained organizations ill-prepared to get relationships off on the right foot and transition them effectively to a steady state. For example, an insufficient focus on educating stakeholders on expectations for the arrangement and behavior changes that will be required to effectively manage the provider relationship may result in costly misalignment. Leaders may possess conflicting views on time lines for improvements, the appropriate level of standardization of services, and the way savings will be achieved. If end-users are not bought in, they may oppose taking on new responsibilities or adapting to different processes, all of which can undermine the business case.
Buyers are also mining existing outsourcing arrangements for savings. One common approach involves pressing the provider to “share the pain” by granting rate reductions. Providers are then put on the defensive, working to justify the value they deliver. They are also intent on ensuring that if they “share the pain” now that they can “share the gain” when the economy fully rebounds—but few buyers are likely to agree to fee increases as the economy improves.
Buyers that demand unilateral rate cuts invite their provider to choose between losing money on the business or finding its own ways to cut the cost of delivering the service in ways the customer might not welcome. If providers agree to rate cuts, they will likely look for ways to take costs out and thereby maintain what they can of their margins, and buyers will feel the impact of cost-takeout measures in the quality and responsiveness they receive from their providers. Pressure for unilateral rate cuts also sets a dangerous precedent; customers are more likely to make similar threats in the future even in an improved economic environment.
Effective collaboration can enable greater value capture
Some companies are trying some different, less tactical, approaches that can lead to more sustainable results. These include leveraging past experience, systematically remediating underperforming relationships, and using joint value discovery sessions to uncover greater value for both sides.
Leverage past experience
Some buyers are leveraging the knowledge of different parts of the business to ensure the success of new engagements. “With the business areas that are new to offshoring, we’re trying to keep up with providing the right education and best practices to help them more effectively outsource and offshore based on our past experiences,” said Leslie Bleke, Offshore Manager at a top US insurance company. “Even more importantly, we help them identify what activities to outsource, in what sequence, and help manage their expectations about what results vendors realistically can achieve, by when.” Providers can also play an important role by working jointly with the buyer to ensure that its business case is realistic, introducing a governance model that fits with the nature of the outsourcing arrangement, and engaging leaders in a frank discussion about potential challenges to working together and ways to overcome them.
Remediate underperforming relationships
Many existing relationships have been tested by a series of difficult renegotiations over cost and scope in the past year, and while it might be tempting to try to get immediately “back to business,” it will take some post-negotiation work to turn around damaged relationships. Problems in outsourcing deals can result from a variety of causes, including business model issues, management systems issues (like metrics and incentives), and “people” problems such as personality conflicts. Common solutions such as swapping out personnel, instituting more meetings, or monitoring the provider more closely often do little to address the root causes of underperformance, and can even make matters worse.
A more helpful approach involves assembling a cross-functional team to conduct a relationship review to uncover the root causes and recommend approaches for addressing them. Depending on the root causes, the solutions to these problems range from revisiting key contractual items such as service levels or pricing to introducing new processes for how the parties share information, make decisions, and resolve issues. Remediating the relationship often involves ensuring that an effective governance system is in place and working well so that stakeholders are aligned around the roles and responsibilities they play in different outsourcing activities and decisions. Putting the relationship back on track may also require equipping stakeholders on both sides with relationship management skills as well.
Pursue value discovery sessions
A strong working relationship enables parties to adopt a collaborative approach to generating innovation, allowing them to work together to decrease the overall costs of delivering services, increase top-line value of the relationship for both sides, or lower the transaction costs involved in working together.
Partial or full-day value discovery sessions bring together a cross-section of participants from the buyer and provider organization who understand each company’s business objectives, can describe the current state of delivery, and can help think creatively about a future state that better meets business priorities. In these sessions, parties consider opportunities for bottom-line savings, top-line value, and operating efficiencies and focus both on significant opportunities and quick wins to build momentum and buy-in from key stakeholders. After brainstorming multiple ways to generate innovation, the parties evaluate proposed ideas based on effort required and value potential, and determine what steps to take to bring those ideas to life.
For outsourcing relationships to survive (and even thrive) in a down economy, careful collaboration is required. The work of relationship management becomes harder to do and even more critical. Buyers and providers need to work together to put in place plans that help both sides generate the near-term cost savings their management teams demand, while also setting themselves up for future success.
 D. Ertel, S. Enlow, and B. Siddall, "Managing Outsourcing Relationships to Maximize Value: Evolving Relationship Management Practices, 2010 Edition," Vantage Partners LLC (2010)