Recession Takes A Bite Out Of Pay-For-Performance Outsourcing - InformationWeek

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IT Leadership // IT Strategy

Recession Takes A Bite Out Of Pay-For-Performance Outsourcing

The downturn is making it harder for companies to tie outsourcing to broader goals than basic cost cutting.

Risk-reward IT outsourcing contracts, where service provider fees are tied to business outcomes, have been viewed as the next tier of maturity for the outsourcing industry. But the slowing economy has dampened interest in the model, and getting to that tier is going to take longer.

That's not what we expected. Before the recession, interest had been growing among IT outsourcers and longtime customers in forging relationships where both parties share in benefits reaped through working together, but also share in any pitfalls. Outsourcers looked for "partnerships." To do this, they needed to shift to "higher-level" deals that didn't focus solely on cost cutting--including offshore labor arbitrage--but on strategic measures such as revenue growth and customer satisfaction.

The reality is that such relationships are complex to set up, difficult to execute, and riskier, which means they require deep trust and a long-term view. All those obstacles become bigger in a downturn.

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Companies haven't given up the pursuit of innovation, and they're still working closely with their outsourcers, but they're paring down their project lists. And if there's a revenue-generating project to be done, CIOs are likely to want their own staff on it, rather than share the rewards with a services provider. "If you have 100 discussions with clients about risk-reward contracts, maybe only 10 will end up doing them," says Ray Strecker, head of Tata Consultancy Services' North America consulting practice.

Eighteen months ago, two goals frequently came up during client discussions, Strecker says. One is still common: how to take direct costs out of the client's business, primarily with IT but sometimes through other operations, such as human resources.

The second theme that almost always came up was how to shift the IT spending mix from running the business--support, security patching, data center operations--to fostering innovation. In those conversations, cost cutting was a way to "free up" funds for other purposes, Strecker says. In the last few months, however, the talk has shifted back almost solely to cost cutting as a way to "batten down the hatches," he says.

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Some clients continue to ask TCS where it can be a strategic partner in achieving objectives beyond cost cutting, such as improving customer service. Yet, even in the pockets of innovation where there is a shared incentive to improve performance, "we're not seeing revenue-sharing models," says Sultan Khan, head of TCS IT strategy and governance for North America, citing the complexity of such arrangements.

Vincent Cirel, senior VP and CIO of Norwegian Cruise Line, says too many CIOs think of pay-for-performance narrowly--as the financial penalties outlined in service-level agreements, rather than incentives to perform better. SLAs aren't of much use to a CIO. If performance tanks to the point that it triggers an SLA, it will give the lawyers some work, but the CIO and business managers relying on it are out of luck. So when Norwegian Cruise Line inked a 5-1/2-year deal in October with IBM to run its reservations as an online service, Cirel included performance incentives (which he declines to detail).

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