SSON Clinic: "Make or Buy" sourcing decision

QUESTION: What are the key decision criteria around the "Make or Buy" sourcing decision?  And does this change over time?

"Make or Buy" is often one of the critical questions asked when considering how to significantly improve "back office" support service performance.  The question is whether to move forward with setting up an INTERNAL Shared Services operation or to instead make the decision to outsource service provision to an EXTERNAL service provider.  In other words, to set up ("make") an internal service provider through shared services or to "buy" the same services from a third party.

It is actually really interesting when one thinks back on how this has developed over the last decade or so.  Outsourcing has been around in manufacturing for many years and IT outsourcing has been a practical sourcing option for quite a while now as well.  However, I remember back at Shared Services Week events in the early to mid 2000s when outsourcing was not high profile at all, and was actually avoided as a discussion topic!  This was partly for political reasons around the time of the US election in 2004.  Today the subject of "offshoring" rather than necessarily "outsourcing" has political elements to it again as the world struggles to come out of global recession and unemployment remains very high in North America and Europe especially. 

Nevertheless, Business Process Outsourcing (or "BPO") has boomed in the last decade.  BPO covers the provision of services such as Customer Support, Finance and Accounting, certain Human Resources functions and Procurement.  Offshore centers (for both internal and external service providers) have been established in many "lower cost" locations around the globe – many initially in Central and Eastern Europe and India but now also in many other regions and countries such as in Latin America, the Philippines, Indonesia, China and many more.  As the outsourcing model has developed many outsourcers have more recently themselves gone to a multi-shore model with their own operations having some locations back "closer to the customer" in Western Europe and the US for example.

In theory any "back office" support service can be considered for outsourcing.  The question is really one of cost (short and longer term, fixed and variable) versus control.  The "attitude" to outsourcing also depends on other factors as well such as enterprise culture, risk sensitivity and the level of development and maturity of any existing shared service functions.  Outsourcing can also sometimes be used as a "lever for rapid change".  However, be very careful of "outsourcing a mess" to achieve perceived very rapid short term cost savings.  This may only achieve cost savings on paper in the short term and could result in control and compliance issues and also increased costs and clean up problems down the track.  It is generally true that transaction based services are relatively easier to outsource than services further up the value chain.  Having said this, in line with the experience of internal shared services, as BPO continues to develop and mature it is offering more services further up the value chain.

There are a number of factors over and above the cost of labour that should be considered including:

  • Current state of existing processes in terms of standardisation, complexity, cost, degree of centralisation, stability of control environment, level of automation, etc
  • Expertise of the BPO provider in the services being considered for outsourcing
  • Availability of skilled labour
  • Time zone and language requirements
  • Possible minimum commitment levels in contracts (often five years and above, and even then difficult to extricate from if you then decide to move back in-house or to another provider)
  • Service levels after go live if outsourcer considers you to be insignificant or not very profitable for them
  • How to achieve continued end-to-end process reengineering to lower costs further and improve service levels when the outsourcer handles much of the process
  • Reputation and robustness of the potential outsource provider
  • Political and other risks associated with the country where the outsourcing will be provided from (including disaster recovery considerations).
  • Ability to flex up and down with volumes, required services and complexity (e.g. following an acquisition)
  • Communication issues, including access, security, confidentiality and the associated costs

It is important to highlight that some of these key criteria also apply to the decision around setting up an internal offshore shared service centre (an offshore "captive"), although with an internal operation control is with the parent organisation.

The "Make or Buy" question is a critical one in the early decision making stages and is very often part of an initial Feasibility Study and Business Case where considerations around whether to set up an internal "captive" Shared Services operation and supporting centre(s) is compared with the opportunity to outsource to a third party.  Then over time, for any sourcing model, there come points when this question is asked again.  For example, after having operated an internal captive for a while a business may then decide to look at outsourcing to take out further cost or perhaps allow the existing captive to move up the value chain of service delivery and leverage a third party to take on the already standardized more transactional processes that were initially taken into Shared Services.  In this latter example, effectively service provision remains the responsibility of the captive Shared Services operation but the Shared Services operation itself decides to outsource certain elements of service provision to a third party.  This can potentially be a great model where the organization truly maintains controls and pulls different levers to achieve the optimum sourcing mix for its host business.  A number of excellent initially captive Shared Service operations have gone down this route in recent years.

The decision is not quite as simple as "make or buy" as there are sourcing mix options which can involve a combination of both.  Indeed "selective" outsourcing has actually been around for a long while.  Just think about Payroll, Benefits Administration, local Accounting and Compliance services and local IT Helpdesk support as examples of this.  The large "multi-tower " outsourcing deals that were promised in the early days of BPO have actually been limited in number but selective outsourcing along and within specified service delivery lines has become more and more relevant and popular. 

Over time, Business Process Outsourcing as a viable alternative to, or complement for, Shared Services has and will continue to mature and grow.  Shared Services and Business Process Outsourcing are becoming more closely entwined and provide a range of sourcing option alternatives.  Again, the right course and speed ultimately depends on each individual enterprise’s current cost structure, its desire for change, its attitude to risk, and how effective any existing internal Shared Services organisation is today.

So, in summary:

  • The "Make or Buy" question is a critical one at the Feasibility Study/Business Case stage and then again at certain key points over time
  • Business process Outsourcing (BPO) has rapidly developed and expanded over the last decade
  • The decision today is not quite as simple as "Make or Buy" as there are a range of sourcing mix options available
  • Multi-tower BPO deals across more than one function have been quite rare and limited mainly to larger enterprises
  • Conversely "selective" outsourcing to specialist BPO providers (which has actually been around for a long time although on a much smaller scale than today) develops apace
  • Decision criteria for different enterprises are generally the same but the answer and relative weighting for each can vary significantly from enterprise to enterprise, and over time
  • Be careful of "outsourcing a mess" to achieve hoped for rapid cost savings without considering how sustainable these savings might be, or to perhaps avoid having to make some of the necessary tougher internal changes required to ensure long term success.
  • The key is to make the right decision for your business.  Often internal shared services with limited outsourcing is still the best option, especially for smaller and medium sized enterprises, many of which are embarking on shared services for the first time. 
  • If outsourcing is part of the mix, make sure that you clearly understand, control and manage the relationship with the third party outsourcer while recognising that this is a "two way street" and should be a partnership between equals.

Phil Searle
Founder and CEO
Chazey Partners