From outsourcing to smart sourcing

Digitalisation is advancing rapidly, new technological developments and disruptions are transforming entire industries, and competitive pressure is continuously increasing. At the same time, many companies are struggling with operational hurdles such as the ongoing shortage of skilled workers, increasing cost pressure and ever more complex regulatory requirements. These dynamics are forcing companies to question and realign established strategies.

In times of technological change, management is quick to evaluate possible actions for the sourcing strategy.

The IT sourcing strategy is a central component of strategic management and deals with the procurement of IT services (IT sourcing).

Outsourcing

In the past, outsourcing was a popular tool in companies' strategic toolboxes. Today, many are taking a different approach and preferring the smart sourcing approach. So what is the main difference between outsourcing and smart sourcing in the context of digitalisation, technological developments and disruptions, as described in the introduction?

First of all, let's look at the term ‘outsourcing’. The term comes from American management practice and is composed of the words ‘outside’, ‘resource’ and ‘using’. In its simplest sense, outsourcing means the externalisation of internal company functions. Outsourcing experienced its boom as part of strategic management in the 1980s. At that time, many industries used outsourcing – in the context of increasing global competition and cost pressure – to outsource labour-intensive production processes to ‘low-wage countries’ in Southeast Asia.

The application of outsourcing can be described very clearly by referring to Michael Porter's value chain.

The value added model developed by Porter shows the value chain of a manufacturing company. In his model, Porter differentiates between primary and secondary value added processes. The primary value added processes convert incoming production factors into products. These are sold on the market via marketing and sales. The secondary value added processes (corporate infrastructure, human resource management, technology development and procurement) are support functions for the primary functions.

Outsourcing is illustrated in the following example. In this example, support function x (SFx) of the outsourcing provider is outsourced to the outsourcing service provider.

The figure shows how the outsourced support function becomes the value creation (PFx) of the outsourcing customer.

Outsourcing is defined as the outsourcing of internal company services in the context of a continuing obligation in a business partnership.

IT outsourcing

IT outsourcing specifies the outsourcing approach in information technology (IT). The information technology value-added component includes technology, information systems (applications), information and communication technology (hardware components and system software), as well as IT tasks, functions and processes.

IT outsourcing refers to the practice of contracting an external service provider to run a company's IT department. IT outsourcing can involve all areas, levels, phases and activities of a company that use IT. It should be noted that the technology itself cannot be outsourced. IT outsourcing must be associated with a function, such as the provision of services.

IT Outsourcing is dead: long live IT Outsourcing

IT Outsourcing had its heyday in the early 1990s and lasted more than 20 years. The following spoke in favour of using IT Outsourcing:

• Cost savings
• Access to external expertise
• Focus on core competencies
• Risk transfer

However, there were also clear arguments against IT Outsourcing:

• Loss of control and management
• Outsourcing in general is not part of the company strategy
• IT is a core competence in its own right
• Dependence on the service provider (vendor lock-in)

Based on the experiences of the last 25 years, it can be said that IT outsourcing has been successfully applied in many cases and that there are still a large number of companies today that outsource IT. And this over several generations with changing service providers. In many cases, the IT outsourcing approach will have changed iteratively from contract renewal to new award. As a result, the approach incorporates learning curves from past experiences as well as technological developments (e.g. cloud sourcing models) and market experiences. Today's IT outsourcing approaches differ from those of previous years in that hardly any complete IT outsourcing is concluded with a single outsourcing partner. The main reasons for this are dependency on the service provider and the loss of control. Due to the breadth and depth of IT and digitalisation and the associated specialisation of many companies, companies are increasingly relying on a healthy sourcing mix from different IT service providers.

Smart Sourcing

A well-thought-out sourcing strategy includes decisions on ‘make or buy’ and the right sourcing mix. Today, companies are much better at implementing so-called ‘multi-vendor strategies’ or ‘best-of-breed sourcing models’. This is because the standardisation of interfaces, tools and cross-company process chains has been driven forward over many years. This has also created the basic conditions for smart sourcing. Smart sourcing is the strategic implementation of the defined sourcing mix. This applies both to the IT sourcing of IT projects and to the IT sourcing of IT services to be provided on an ongoing basis.

This is where managed service providers come into play. They provide the expertise and personnel to deliver the desired IT services and to keep processes or applications, i.e. individual services, technologically and organisationally up to date.

Using managed services allows companies to focus on their core business without relinquishing control over critical business processes. One particularly advantageous feature is that managed services offer clearly defined services that can be flexibly and seamlessly integrated into IT service chains – even as part of a multi-vendor sourcing approach. For example, a company can retain control over product management and the architecture of an application internally, but transfer maintenance, servicing and further development to an external service provider and operation of the underlying cloud platform to another specialised cloud partner. In this case, the cloud infrastructure of another provider is used. This example shows how flexibly and modularly managed services can be used in combination with internal and external value creation processes. However, it also shows that new interfaces are emerging here that require seamless coordination. Such IT service models are already established in many companies. However, the decisive factor in the context of smart sourcing is that all these measures are coordinated by a central provider management and are thus in line with the overarching corporate and sourcing strategy. Alternatively, specialised managed services providers are available to take over service integration and create the scope for companies to focus on their core competencies.

Conclusion and recommendation

The shift from traditional outsourcing to smart sourcing reflects the flexibility and adaptability that modern companies need. Managed services provide the basis for keeping IT processes efficient and technologically up to date. Depending on the scenario, individual specialised service providers or several service providers may be used, and the company must ensure that they are coordinated appropriately.

Companies should regularly review and adapt their sourcing strategies to keep pace with the changing demands of digitalisation. A balanced mix of internal expertise and targeted external resources is the key to remaining competitive and agile in the long term.

Would you like to learn more about exciting topics from the world of adesso? Then take a look at our previous blog posts.