2 Ways to Minimize the Core Organization. SUBCONTRACTING and OUTSOURCING Strategy for Leaner Organization.

Minimizing the Core Organization
Given the difficulty of managing people cost, a central strategic principle is to keep the core organization of full-time staff down to an absolute minimum.

1) SUBCONTRACTING
For example, you could contract out most of the components of a product or service and only keep in-house the higher value-added activities, like design, final assembly, brand management.
The top global automakers have been moving along this path for decades, pushing out much of the risk and pain of ups and downs in demand. They subcontract either to specialized component makers who end up being huge global players themselves, like Bosch or Valio; or to fragmented but highly efficient local small businesses, like the network of plastics moldings suppliers in Japan, delivering at 50% of the cost of Toyota or Nissan.
Or take media companies. Back in the 1970s these businesses were very vertically integrated and had strong labor unions. Over the last four decades they have been hollowed out. Production companies, editing houses, cameramen, distribution arms — these have been separated out from the core commissioning and brand-owning business, either to smaller outside companies or to individual contractors. In the process the industry has been deunionized. Rates for most jobs have fallen as labor markets have become more open and competitive.
The hollowing out or unbundling of an enterprise is not just about managing people cost. A narrow focus on a few core businesses and a few core competencies is likely to maximize corporate value. Vertical integration and conglomerate strategies are old hat, looking back to the early days of US Steel and Ford Motor Co., not relevant in today's specialized and efficient markets.

2) OUTSOURCING
You can also minimize the core organization by outsourcing whole administrative functions, like IT, personnel records, payroll, financial processing. Huge businesses have been built around this trend, including hundreds of thousands of people employed by Accenture, IBM Global Services, EDS and PwC, in the West and in offshore locations like India and the Philippines.
As with component suppliers, there can be reasons other than people cost for outsourcing. In IT, for example, a large specialist can get scale advantage in the cost of data centers or networks or hardware purchasing, and can stay up to speed more easily on technology developments. Nevertheless, a prime motivation for most outsourcing moves is to shift the burden of people cost management outside, onto the outsourcer.
An outsourcer of insurance claims processing has no material cost other than people, so is going to be obsessed with keeping that cost as low and flexible as possible. Its client, the outsourcing insurer, wants to focus on the high value added of product development, actuarial skills, branding and distribution. If claims processing stayed in the core organization the claims-processing staff would probably end up overpaid and underproductive. And if there is a business downturn the trauma of downsizing is transferred to the outsourcer.
Pushing activities out to subcontractors and outsourcers does not mean the costs no longer need to get managed, however. In-house people cost goes away, but the cost becomes a supplier cost and managing suppliers brings a different set of challenges.

2 Ways to Minimize the Core Organization. SUBCONTRACTING and OUTSOURCING Strategy for Leaner Organization.

12 Modes of IT Outsourcing. Value-added Outsourcing. Co-sourcing. Business Process Outsourcing. Shared Services. Offshore Outsourcing . Joint Venture

Modes of outsourcing
There are many sourcing options now available. It is useful at this point to spell out the major ones, and make some comment on their track record. Be aware that while some practices have better track records than others, much depends on the quality of risk mitigation and management practices put in place to run them. Selective outsourcing tends to be the lower risk option, while total outsourcing (80% or more of the IT budget with the market) is really best done by an organization that has matured its ability to manage large-scale outsourcing. Twelve options are now discussed that can be used selectively, or as part of a total outsourcing deal:

1. Transitional outsourcing – handing over legacy systems to enable in-house focus on building the new IT world. Generally an effective, low risk use of the market.

2. Value-added outsourcing – combining client and vendor strengths in order to market IT products or services commercially. Nice, logical idea, but in practice such components of a larger IT outsourcing deal have been too small too attract priority attention. Moreover, implementation looks a lot less attractive when it is realized that it requires nine times the initial development costs to commercialize a product/service, and there are no guaranteed paybacks in a competitive market.

3. Equity holdings – has a mixed record.

4. ‘Co-sourcing’ – a term coined by EDS whereby the supplier takes over an activity, or works with a client on it, and gets paid for improvements in the client’s business results. Again a mixed record because many factors can affect supplier performance that may well be out of its control; also, suppliers’ cultures have not always been set up to work in this way.

5. Multiple suppliers – the preferred option by most client organizations. It follows a ‘horses for courses’, ‘best-of-breed’ logic and spreads risk. At the same time there are additional transaction and management cost incurred by taking the multiple supplier route. Probably needs each supplier to be managed individually, as companies like BP Exploration and Dupont have not always found suppliers managing each other the most productive arrangement.

6. Spin-offs – creating a separate company out of an effective IT function, and allowing it to sell its services on the open market, as well as back to the original host company. EDS grew out of General Motors in this way. With a Dutch software house, Philips created Origin that proved fairly successful during the 1990s. The general record is not a good one, however. It takes a lot of new marketing, customer-focused and financial skills to commercialize an IT department, and the market is very competitive indeed for those with no previous track record.

7. Application service provision/‘netsourcing’ – renting applications, services and infrastructure over networks. Web services are the potential means to an expansion in this market, although its development was put on hold during the recession beginning in late 2000. Once the technology is sorted out, and suppliers can find a winning business model that will attract customers on an upswing in the economy, or can find ways of cutting customer costs dramatically and reliably, we anticipate this is a real one to watch for the medium-term future.

8. Business process outsourcing – in cost-pressured economies, a fast-growing market in 2002/3 because of the latent cost reductions inherent in streamlining indifferently managed back-offices and business processes and applying IT to the result. However, the market is still developing, with some good niche players and start-ups, but no one supplier yet looks able to service all a customer’s business process needs. Beware of supplier claims here, since many have been all too quick to jump into a potential growth area in an otherwise weak IT climate. Check that the marketing is matched by capabilities.

9. Backsourcing – bringing aspects of IT back in-house after originally outsourcing them. Thus Lend Lease Corporation brought back aspects of systems development several years into a long-term deal with IBM Global Services. East Midlands Electricity actually cancelled its 1992 12-year deal with Perot Systems in 1999, taking advantage of a clause permitting cancellation in the event of a merger (it merged with Powergen that year). From 1995 it had redefined the importance of IT to the business and began re-building its in-house skills. More often there is a steady creep back, as a result of changing requirements and contexts, or from a realization that the activity was in fact better positioned in-house all along.

10. Shared services – for example in accounting services or e-procurement exchanges. Here, several customers identify a non-competitive area worth outsourcing together to the same supplier. Thus, seven oil companies outsourced accounting administration to Accenture, based in Aberdeen, Scotland. The aim here is to achieve significant cost reductions through economies of scale.

11. Offshore outsourcing – sometimes billed as ‘cheaper, quicker, better’, suppliers in this market have been moving aggressively, with India cornering over 80% of the revenues by 2002, but with Russia and China, amongst others, beginning to position themselves to take more of the market. Initially focused on programming and low-level technical activity in which offshore economies had a significant labour cost advantage, the bigger players show an ability to move up the IT value chain quickly, including developing high quality technical skills bases. Management and transaction costs can be higher with this form of outsourcing, however. Some companies have already established ‘nearshore’ operations in customer countries, while some IT suppliers and customers have themselves established facilities in developing economies. Definitely one to watch and think about.

12. Joint venture – client and supplier establishing a third entity through which to resource and share risks and rewards. As one example, FI Group and the Royal Bank of Scotland established the jointly owned First Banking Systems in 1999. It was given a budget of £150 million over five years to develop commercial software and manage IT planning and architecture. It was actually terminated in 2002. In 2001/2 in the business process outsourcing market Xchanging took a modified model and created four enterprises with three clients to commercialize their back offices. Our own studies of these show an effective set of results over the first two years of operation.

12 Modes of IT Outsourcing. Value-added Outsourcing. Co-sourcing. Business Process Outsourcing. Shared Services. Offshore Outsourcing . Joint Venture