The Hidden Costs of IT Outsourcing

IT MANAGEMENT | 7 MIN READ


 
 Photo by Glenn Carstens-Peters

Photo by Glenn Carstens-Peters

 
 

Outsourcing IT is a popular choice for SMBs. However, the challenges of choosing a vendor, managing the evolving IT need of the business and monitoring contractual obligations are just a few ways in which the costs of outsourcing IT operations can get out of hand.

For SMBs, managing IT internally can be very challenging. With a small team, it doesn’t make sense to hire all the resources necessary to build an effective IT program.  As an alternative, many small businesses look to external IT vendors to help manage, maintain, and grow their information technology.

Although it is common for SMBs to outsource IT, there are significant transaction costs to consider and manage when making the decision to outsource IT operations.

In any purchase, there are production costs and transaction costs: when outsourcing, production costs are billed directly from the vendor to the business; transaction costs on the other hand include things like time spend researching, bargaining, coordinating, and enforcing the contract, as well as the cost of uncertainty.
 
 

The Strategic IT Outsourcing Life Cycle

An effective vendor-management process helps to optimize IT operations and related spending. One method to ensure IT outsourcing is effective, is to understand and manage the IT outsourcing life cycle.

When approached strategically, these 5 phases can help you minimize the hidden costs of outsourcing IT.

 

Phase 1: IDENTIFY

What are you hoping to achieve through IT outsourcing? A new vendor isn’t going to know your business inside out — without answering this question, your contract will not align to the goals of your business. 

Through the Identify phase, the needs of the business and outsourcing strategy are defined. Activities may include:

 

Business Case Development

Strategic Alignment

Identification of Core Competencies

Market Scan

Risk Analysis

 

Phase 2: ACQUIRE

Many of the costs that occur from outsourcing IT result from a contract that does not meet the needs of the business to begin with. Closely review the fine print – terms, conditions, and service expectations.

Through the Acquire phase, the needs and strategy direct the evaluation and contracting of a vendor. Activities may include:

 

Request for Proposal

Criteria Development

Vendor Selection Matrix

Contract Development

Terms and Conditions

 

Phase 3: TRANSFORM

Onboarding a new IT vendor into your business can be disruptive and costly.  IT vendors, similar to employees, need to be introduced, integrated, and supported for ongoing success.

Through the Transform phase, the selected vendor and related services are transitioned and integrated into the business. Activities may include:

 

Vendor Onboarding

Security Clearance

Approval Process Definition

Information Gathering

Change Management

 

Phase 4: MONITOR

As your SMB grows, priorities can change. Regular service meetings with performance review are necessary to avoid the cost of an IT vendor who isn’t meeting your business needs.

Through the Monitor phase, ongoing vendor performance and contract adherence is reviewed and discussed. Activities may include:

 

Status Meetings

Issues and Risks Logging

Performance Reporting

Invoice and Budget Review

Relationship Management

 

Phase 5: OPTIMIZE

IT vendors and contracts alike require strategic realignment. Take time to reassess your outsourcing needs and a make contractual adjustments as neccessary.

Through the Optimize phase, all previous phases and related management processes are brought together to ensure strategic alignment and value creation. Activities may include:

 

Performance Assessment

Market Review

Strategic Realignment

Contract Negotiation

Vendor Termination / Offboarding


The Role of the Contract

With IT outsourcing, businesses rely heavily on a legal contract to define terms and conditions, performance expectations, and specific outcomes. Mismanagement and lack of transparency of contracts brings significant risk and can ultimately sink a business.

Use a Contract Tracker

A contract tracker or contract management system allows for a streamlined approach to managing third-party vendor contracts throughout the life cycle – from acquisition to renewal. They can be used to track leases, maintenance, software subscriptions, or any other type of material contract. Keep track of expiry and renewal dates, contract amounts, confidentiality and termination clauses, status and other key fields to improve contract performance and compliance.

IT Directorship Note: Combine IT Contract Management with Vendor Relationship Management for a transformative strategic partnership.

5 Tips to Mitigate the Risks of IT Outsourcing

  1. Build an IT outsourcing strategy:

    IT outsourcing is generally recognized as a method for both cost savings and innovation.  To achieve these benefits, create a well-designed and carefully executed IT outsourcing strategy. This strategy should consider your company’s core business activities, take into account typical outsourcing failures, and align to the overall business objectives.

  2. Take time to choose the right vendor:

    Build a business case that includes specific vendor requirements and selection criteria.  By ensuring experience, capabilities and values align with your business needs, you can avoid the costlier effort of changing vendors, allowing you to truly reap the benefits of IT outsourcing.

  3. Mitigate contract risk:

    Conduct your due diligence to reduce risk before signing a new vendor contract. Use a central database, like a contract tracker, to inventory contracts throughout the IT outsourcing life-cycle; record expiration and renewal dates to avoid unexpected termination fees.

  4. Assign a business sponsor:

    You need to ensure that IT vendors are continually aligned to the goals of your business. Assign someone, typically a management role, who will be responsible to the business for the success of the IT vendor.

  5. Build a performance-based relationship:

    By continually engaging the vendor you can build a mutual understanding of performance goals and objectives, avoiding misalignment and miscommunication, and creating a platform for continuous improvement. Define, track and report on service metrics.

 

The Value of an IT Outsourcing Strategy

Outsourcing IT operations can give SMBs a competitive edge through access to more innovative technology and the ability to scale up and down with ease. To ensure SMBs reap the benefits of IT outsourcing, it’s necessary to be aware of the hidden costs and to apply tactics to mitigate them. Businesses can minimize these costs by managing the IT outsourcing life cycle to ensure the best possible ROI.


Need help managing your IT vendors and related contracts? IT Directorship works within SMBs throughout all phases of the strategic IT outsourcing life-cycle to improve vendor performance, reduce operational risk, and optimize technology spend.