Vested: A Business Model for 21st Century Outsourcing

Kate Vitasek
Posted: 07/09/2012

Outsourcing Model

In my last article I talked about the ailments and perverse incentives that can disrupt or destroy an outsourcing deal. I also briefly introduced our research at the University of Tennessee developed into a concept we have coined "Vested Outsourcing." This article focuses on defining the Vested Outsourcing model.

Just what is Vested Outsourcing? Vested Outsourcing is first and foremost a mind-set change in which participants approach outsourcing differently in order to craft relationships that move beyond "butts in seats" transaction-based approaches to an environment where the provider has "skin in the game" and is responsible for driving results and real value for the buying company.

The Vested approach uses a hybrid business model that leverages outcome-based and shared-value principles. Vested Outsourcing is not paying a bonus or assessing penalties for a "green scorecard" of Service Level Agreements.

This article speaks to the origins of Vested Outsourcing, how it is different from conventional approaches, and the five "rules" that embody a Vested Outsourcing relationship.

cowritten by Kate Vitasek and Karl Manrodt

The Origins of Vested Outsourcing

University of Tennessee (UT) researchers began to study complex outsourcing as part of a research project funded by the United States Air Force. The purpose of the study was to find out if there was better way to outsource for complex services. To the Air Force, a better way could translate into tens of millions of dollars of taxpayer savings.

As part of the research project, UT researchers studied some of the world’s most successful outsourcing arrangements, asking companies such as P&G and Microsoft to let researchers study "their most successful deal." What we found was a different kind of outsourcing agreement—one based on a true desire to create a "win-win" relationship. The term Vested Outsourcing was coined by University of Tennessee researchers because they found these highly successful agreements were the result of a company and its service provider creating a commercial agreement where both parties had a vested interest in each other’s success and worked collaboratively to develop solutions that achieved mutually-created "Desired Outcomes."

"What’s in it for WE" versus "What’s in it for ME" Mind-set

First and foremost, Vested Outsourcing is a mind-set shift in which the parties move from what’s-in-it-for-me (WIIFMe) to what’s-in-it-for-we (WIIFWe). Most people who adopt the Vested outsourcing model have experienced firsthand how the all-too-prevalent WIIFMe thinking can cause relationships and commercial agreements to deteriorate. Under a Vested arrangement thel parties are striving together for the win-win outcome.

Thus "Getting to We" is the essential precondition, the guiding mantra, if you will, that forms the foundation for a collaborative, trusting endeavor while keeping those narrow, win-at-all-costs urges at bay. It is really not possible to have a successful Vested ecosystem in place without first committing to the WIIFWe approach.

Businesspeople often have a blind spot when it comes to collaboration. Many organizations talk the talk but haven’t a clue on how to walk the walk. They believe, and even brag that they have solid partnerships in place, and expound about "partnership" and "win-win," but our experience and research has found that individuals and companies often revert to selfish WIIFMe behaviors, especially when the going gets rough.

This is a perfectly natural—the I-win-you-lose attitude is all around us and ingrained in our thinking early on. We are taught to win from early childhood; most institutions, universities, and sports teams focus on winning. Many organizations train their procurement and sales professionals in the art of negotiation tactics designed to give their organization leverage and the winning edge. So it is easy to stay entrenched in WIIFMe thinking, and hard to change that mind-set to WIIFWe. But that is what must happen in a Vested partnership—because, well, it is a collaborative partnership! The mentality must shift from an "us-versus-them" to a "we" philosophy, or WIIFWe. Our experience and the case studies we have researched show that companies that recognize their service providers as partners to their success can achieve transformational results.

Vested Outsourcing is best used when a company wants to move beyond having a service provider perform a set of directed tasks and wants to develop a solution based on mutual advantage to achieve the company’s Desired Outcomes. One of the hallmarks of Vested’s hybrid business outsourcing model is that it creates a highly strategic business relationship and outsourcing environment – while still allowing a company to remain a separate entity. These companies achieve mutual advantage and gain by working in an integrated and mutually beneficial manner where the parties have a vested interest in each other’s success.

Adopting a Vested mind-set puts practitioners on a solid path to outsourcing success because it focuses on alignment. But just how is this alignment achieved and maintained over the life of the relationship? UT researchers found five things in common across all of the highly successful outsourcing relationships they studied.

5 Rules of Vested Outsourcing

Just how do the most successful outsourcing arrangements get – and stay – aligned in a dynamic business world where the goal posts to success often move? How do they keep that WIIFWe focus on the future versus getting mired in the minutia of the da-to-day, never seeming to reach the Desired Outcomes? UT researchers found that regardless what was being outsourced or the industry, the most successful deals all had common traits. They then codified these traits – or rules – in a book Vested Outsourcing: Five Rules That Will Transform Outsourcing. The rules are discussed below.

  1. Focus on outcomes, not transactions. Conventional outsourcing agreements typically focus on negotiating agreements at a detailed per-transaction level, by paying either for a business task or on a per-headcount basis. For simple transactions with abundant supply and low complexity, a transaction-based outsourcing business model is likely the most efficient model. But real weakness in transaction-based approaches emerges when any level of added complexity, variability, and mutual dependency is part of the transaction. The transactional approach cannot produce perfect market-based price equilibrium in variable or multidimensional business agreements. Unfortunately, many business professionals still assume that a transaction-based business model is the most cost-efficient model. In the Vested approach, the focus shifts sharply: to buying outcomes rather transactions. Instead of paying an outsource provider for unit transactions for various services or activities such as warehousing, transportation, spare parts, repairs, or hours of technical support, the company and the service provider agree upon desired outcomes. Desired outcomes are still quantifiable, but take a different form: they can be set-availability, reliability, cost, revenue generation, employee or customer satisfaction, or even asset investment targets. For this reason, organizations have been exploring other types of sourcing business models, including outcome-based approaches, which is the basis of Vested Outsourcing.
  2. [ii] Focus on what needs to be done and let the experts—the service provider—determine the best way to do it. The idea is to have each party focus on what it does best. Most companies that outsource tend to direct the outsourcer on how the work is to be done. Under this rule, the buyer relies on the seller’s expertise to develop solutions that achieve the Desired Outcomes.
  3. Agree on clearly-defined and measurable outcomes. Develop a limited number of high-level metrics that will measure performance in a thoughtful and collaborative environment. Clear definitions and calculations need to accompany the metrics. All parties must clearly define the outcomes they want. These defined outcomes are expressed in terms of a limited set—ideally, no more than five—high-level metrics. Organizations should spend the time, collaboratively, during the outsourcing process, and especially during contract negotiations, to establish explicit definitions for how the success of the relationship will be measured.
  4. Optimize pricing model incentives for cost/service trade-offs. The pricing model should balance risk and reward for both parties. Providers should be rewarded for making the work better, not just performing it. Examples of this would be same service for lower cost, higher service for the same cost, or higher service and lower cost. The pricing model is based on the type of contract—fixed price or cost reimbursement—that will be used to reward the outsource provider. When establishing the pricing model, businesses should apply two principles: First, the pricing model must balance risk and reward for the organizations. The agreement should be structured to ensure that the outsource provider assumes risk only for decisions within its control. Second, the agreement should specify that the service provider will deliver solutions, not just activities. When properly constructed, Vested Outsourcing will provide incentives to the service provider to solve the customer’s problems.
  5. Governance structure provides insight, not merely oversight. A properly designed governance structure creates and institutionalizes processes that manage the business, not simply the supplier or service provider. The Vested governance framework manages the transformation, implementation and change processes throughout the life of the agreement through collaborative insight and innovation. Governance in the Vested sphere is not simple bean-counting or monitoring—it’s a flexible framework based on alignment, trust, mutual insight and communication.

Conclusion

Progressive companies are reinventing their outsourcing practice by developing collaborative Vested solutions that provide incentives for service providers to deliver value as they achieve the company’s cost and service objectives.

By following the Five Rules and their component elements, firms can transition their thinking from WIIFMe to WIIFWe. They move beyond simply paying lip-service about "collaboration" and "partnership" to actually creating an agreement and a working environment that drives transformative change.

Developing a business agreement using Vested Outsourcing’s Five Rules is much more than delivering a higher level of service on a given activity, a blur of metrics, or simply counting transactions or filling seats more cheaply. It is a fundamental business model shift in how a company and its service providers work together.

The Vested mind-set and commitment embeds a win-win mentality between a company and the outsource provider.

This series will be continued online. Please check back.

[i] Oliver E. Williamson, "Outsourcing: Transaction Cost Economics and Supply Chain Management," Journal of Supply Chain Management 44, no. 2 (2008): 5–16.

[ii] See page 107 of The Vested Outsourcing Manual (New York: Palgrave Macmillan, 2011).

Kate Vitasek
Posted: 07/09/2012

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