Outsmarting Outsourcers

When it comes to technology outsourcing deals, Kellwood Chief Information Officer Don Riley has seen just about everything.

Kellwood, a St. Louis apparel and textile company that averages roughly two to three acquisitions a year, outsources its technology infrastructure to Electronic Data Systems.

Riley worked for EDS for 13 years, helped negotiate the outsourcing contract with Kellwood and then managed it for three years. Riley left EDS for Kellwood in 1998, and renegotiated the deal with EDS in March 2002 to gain more control, improve performance-based terms and bring processes like project management and financials in-house.

“As the business changed, the scope of services and roles became grayer,” says Riley.

He is one of many technology executives who have wrestled with defining terms in outsourcing deals. Amid high-profile outsourcing contracts such as Hewlett-Packard’s $3 billion deal with Procter & Gamble and IBM’s $5 billion contract with J.P. Morgan Chase, many agreements stumble because of a lack of focus and measurable goals.

“Most of the outsourcing deals I’ve seen fail are the result of a lack of management discipline on both sides,” says Ray Barnard, CIO of Fluor, a construction and engineering company.

Indeed, some contracts don’t work out for either party. Eckerd’s (see Case Dissection, June) decided it could do a better job managing its own infrastructure. Meanwhile, EDS is still facing financial fallout for sputtering outsourcing deals. Last month, EDS cut another 2% of its workforce and said it will write off $425 million to $475 million in 2003 related to bad deals. In the first quarter, EDS lost $334 million over a U.S. Navy and Marine Corps contract that was plagued by management woes, deployment delays and the Navy’s scaled-back plans.

Avoiding those pitfalls takes advance planning. Roles, responsibilities and conflict resolution terms should be outlined clearly along with objective measures used to evaluate service. Innovation should be built into the contract, requiring vendors to present new ideas every six months. Once the outsourcing has commenced, an independent third party should monitor progress. In Fluor’s contract with IBM, Lockheed Martin provides monitoring and audit services.

Outsourcing contracts also have to be a win-win for both parties, say analysts. Companies that want to hand off infrastructure without disclosing known problems are likely to find themselves with an outsourcing contract laden with problems. Vendors that make promises they can’t keep and agree to razor-thin profit margins are likely to scrimp on innovation.

“If you squeeze your vendor for every last dollar you’re going to get what you pay for,” says Charlie Cortese, managing director and CIO for outsourcing at Lehman Brothers.

Outsourcing also requires management attention. “You have to understand your infrastructure and manage it. You can’t just toss it over,” says David Bauer, chief information security and privacy officer for Merrill Lynch.

The brokerage giant recently outsourced its network security monitoring to VeriSign in a move that Bauer says provides more sophisticated analysis and allows him to reallocate workers.