IT Insourcing and Outsourcing: Risks vs Rewards

A study by Destination Excellence states that Outsourcing is a partnership. Like any

partnership, the objective of the partnership is to add value to both parties. Partnerships that
accomplish this endure over long periods of time. The ramifications of selecting the wrong
partner can be painful. (Destination Excellence 2003 pg.10) When choosing whether or not
to insource or outsource their IT functions, a firms decision ultimately raises many
questions and involves a complex reflective view of business risks and projected rewards,
both in short and long term. A vital step in risk mitigation is to correctly analyse the position
of IT applications within the firm and then act accordingly. Upon considering these factors, a
firm can gain a clearer understanding of what it requires and if they choose IT outsourcing,
the relationship building process with an outsourcing vendor can begin.

Outsourcing Rewards.
Many businesses outsource for what they need to serve their customers, employees
and stakeholders. Outsourcing offers many advantages. Based on the literature, these would
include; outsourcing to seek out and hire the best experts to gain technical expertise for
specialised work using resources that are not readily available in-house. Using outsourcing
also helps companies keep more cash on hand, freeing resources for other purposes, such as
capital improvements. (Lacity et al. 1996; Quinn 1999; Kishore et al. 2003; Wilcocks &
Feeny 2006.)
It is important to consider that no two companies are the same, and when choosing
whether or not they are to outsource, a company should focus on what its core competencies
are. Lacity et al (1996) argues that a company should only outsource capabilities that are not
core to the business strategy. The outsourcing of non-critical activities or specialist
capabilities can be seen as a strategy used by organisations for leverage in gaining a
competitive advantage. (Baldwin et al. 2001 pg.15) According to Quinn (1999), if the
operational performance and application of technology are weak within a company, then
outsourcing is an obvious route for improvement. Outsourcing non-core competencies in this
regard allows the vendors to enhance their employing companys competitive advantage by
adding to capabilities that were not previously understood by their firm as can be seen in the
illustration below.

Quinn (1999) puts forward strategic outsourcing as a means to substantially lowers

costs and fixed investments while allowing flexibility, innovative capabilities and
opportunities for value creation. This works best when companies and their vendors work in a
collaborative partnership (Conklin 2005 pg 584.) This is facilitated when the companys
business vision, culture and values are shared by the vendor. Once these are realised, a level
of trust can be established which is reflected by the contract signed and confidence in the
vendors competence over time. (Conklin 2005 pg 585.)
Conklin (2005) asserts that companies in general need to be able to cope quickly with
developing new IT/IS resources. In todays unpredictable economic climate, companies face
equally unpredictable challenges, such as down-sizing and adapting to new e-business
procedures. Once a company frees up its non-core activities it allows staff to focus on highvalue work, enabling them to focus efforts on improving their output. (Quinn 1999, Baldwin
2013.) Outsourcing in this regard can be seen as a great agent of change. (Conklin 2005). It
is important however to remember that outsourcing these commodities takes some time and
companies must allow for the effects to filter down through the organisation before it starts
to notice gains. Therefore, a company should not evaluate its outsourcing process in the short
term. (Baldwin 2013.)
Outsourcing can be vital to a company that does not have the adequate technologies.
By outsourcing you can lesson particular risk factors such as disaster-recovery and time
wasted by attempting to manage IT functions in-house. (Baldwin 2013.) As Conklin (2005)
asserts, by outsourcing HR activities and IT and internet functions not only does the vendor
allow for a reduction in in-house costs but it also allows for the parent company to serve

multiple customers in order to achieve economic success which otherwise would not have
been attainable.
Outsourcing Risks
Outsourcing should be considered more as a management of relationship with
service providers rather than as a simple subcontract of commodities (Kishore 2013.) The
ability to innovate within an outsourcing relationship is important. Vendors differ in their
capabilities, vision and culture and need to be compared with their competitors and
thoroughly analysed before a contract can be negotiated (Conklin 2005.) Collaboration is
paramount when a company decides to outsource their in-house operations to external
vendors. The parent company and vendor must work together to achieve common goals.
When managing an outsourcing relationship, there needs to be constant communication.
Failure to do so can lead to your business and strategic outcomes becoming ambiguous and
uncertain. (Kishore 2003)
The biggest risk factor affecting the success of outsourcing is the mutual
understanding between clients and vendors (Kishore 2013.) Simply fulfilling a contract is not
enough. Hidden costs of outsourcing can fall between 14% and 60% of a contracts purchase
price (Burton 2013.) Contracts need to specify precise benchmarks and vendors need to be
able to guarantee a level of responsive customer service, guarantees in service level
agreements as well as a degree of flexibility and trust (Conklin 2005.) Bad customer vendor
relationships have led to approximately 25% of vendors contracts not being renewed upon
renegotiation. As a result, around 15% of a companys IT budget is spent on legal fees
relating to contract disputes. Olsson et al. (2008) Companies that are not fully aware of the
risks of outsourcing sometimes fail to factor external factors such as market and economic
unpredictability, professional judgement concerning hard date and fuzzy causes (see Earl
diagram,) over time (Burton 2013.)

Ultimately, if vendors do not understand the business model, or if it has not been
made clear to them, this would impede upon some IT functions relative to the business
operations and value creation. As Earl (1996) points out, it is important to ask what are the
risks involved in Outsourcing. A summary of his 11 points can be found in the appendix.
While Earl (1996) focused primarily focussed on these risks from the organisations point of

view, there are in fact other risks that need to be considered from the perspective of both the
company and the outsourcing vendor. Especially when dealing with bigger firms, vendors are
now expected to work with risk/reward elements built in to their contracts. Companies must
now be selective and strategic in they approach signing contracts. Baldwin (2001 pg 18.)
argues that contracts are put in place to ensure better performance and delivery and to
eliminate the threat of opportunism by the vendors. This comes is a fear that there could be a
lead to a loss of strategic and operational control on behalf of the company, thus contracts
now must be viewed as mutually beneficial when all risks have been mitigated. (Baldwin
2001. Pg 19)
Insourcing Rewards.
Baldwin (2013) states that outsourcing may be short lived, given the ever evolving
nature of IT/IS. He also argues that while companies are outsourcing non-core functions,
companies should retain the expertise to develop their own strategic information architecture
and their own IS systems to help deliver a competitive advantage or to leave the option of
re-insourcing open. Furthermore, Lacity and Wilcocks (1998) argue that insourcing can be
just as effective as IT outsourcing when it comes to cost savings. Qu et al. Better coordination is given to internal IT and Business units when compared to external vendors and
business clients. If communication between a company and vendor is poor, this can lead to a
lack of knowledge and understanding of long term goals.
Qu et al (2010.) Insourcing can be defined as the organisational arrangement a
company makes to an internal IT department to obtain and maintain IT/IS services. Drauz
(2013) feels that the reasons for insourcing can vary. Companies may want greater control
over business strategy with respect to costs, quality, flexibility and dependability. The
decision to insource is made to protect proprietary technology and intellectual property while
maintaining control over critical production and various competencies in order to minimise
risks in a global supply chain (Burton 2013.) Qu et al (2013 further references major
companies such as JP Morgan, who sought early termination of a contract worth $5 billion
with IBM to consolidate the companys data centre and to improve distributed computed
capabilities. Likewise, Sainsburys cut a similar contract with Accenture 3 years early due to
a failure to increase productivity. (Qu et al 2013.)
Insourcing Risks

Outsourcing may carry the advantage that the vendors client does not have to
maintain new technological services while trying to manage their overall value. (Destination
Excellence 2003.) Building or rebuilding IT operations in-house is costly and difficult
process, as well as time consuming. As mentioned above, companies would be better served
to focus on their own in-house business strategy rather than spending time on
implementing evolving technological processes. (Qu et al. 2010)
A dependence on insourcing can limit your companys access to global revenues as
well as global resources, which in turn can lead to overall quality improvement, cost
reduction, improving overall customer experience and cutting the waste in order to save time
to help improve the functionality of the parent company. A complex global economy and
constant market shifts may lead to a company that is not managed well to fall behind if they
chose to insource. If a company tries to sustain their business strategy while simultaneously
trying to improve their IT/IS functionality, companies can find themselves being late to
innovative processes or applications. This in turn would lead to lost opportunities that
otherwise would have been seized had the company outsourced. (Burton 2013.)

Earl (1996)
1. Possibility of weak management

Risks of Outsourcing
IS executives who are incapable of governing IT
can lead to mismanagement at external level also
when selecting their vendors.

2. Inexperienced Staff

Select companies with staff that has the adequate

experience and expertise.

3. Business Uncertainty

Company should be clear in their companys core

competencies before selecting to Outsource.

4. Outdated Technology skills

Be aware of ever evolving technological

advancements. IT specialists constantly need to
upskill to stay ahead of both competitors and
customers.

5. Endemic uncertainty

If contracts are not flexible, companies could find

that they are losing out due to external activities
such as a declining global economic climate.

6. Hidden Costs

Company often underestimate cost of set up,

upskilling, technological upgrades, maintenance

etc.
7. Lack of organisational learning

Be sure that the vendor does not lock your

company into using older technologies or
applications. Companies must ensure that they
also keep up to date with what is being used,
even if they have Outsourced.

8. Loss of Innovative Capability

If a company has outsourced its IT services as

well as down-sized, innovation capabilities may
be impaired.

9. Dangers of an eternal triangle

Companies using intermediaries to speak with

their Vendors, can lead to miscommunication and
trust issues.

10. Technological Indivisibility

Outsourcing the desktop function due to it being

seen as a headache within an organisation. They
can include managing the LAN or Corporate
Network, company applications etc.

11. Fuzzy Focus

Make sure your goals are attainable and your

objectives clear. IT Outsourcing is not a
guarantee of future success.