Report to the Chairman and Ranking

Minority Member, Subcommittee on

Readiness and Management Support,

Committee on Armed Services,

U.S. Senate

United States General Accounting Office

GAO

November 2001 INFORMATION

TECHNOLOGY

Leading Commercial

Practices for

Outsourcing of

Services

GAO-02-214
Page 1 GAO-02-214 Outsourcing IT Services

November 30, 2001

The Honorable Daniel K. Akaka

Chairman

The Honorable James M. Inhofe

Ranking Minority Member

Subcommittee on Readiness and Management Support

Committee on Armed Services

United States Senate

The Department of Defense (DOD) is the federal government’s largest

consumer of information technology (IT) resources, spending almost

$22 billion on IT in fiscal year 2001. For this reason, it is critical that DOD

adopt effective IT acquisition practices.

To better understand commercial IT acquisition practices and how they

potentially compare with those used at DOD, we reviewed existing

research, held discussions with academic and professional authorities, and

interviewed executives and managers at leading commercial organizations

about their IT acquisition decisionmaking and management activities. We

used this information plus the extensive research and trade literature

available on IT acquisition practices to develop a consensus view of what

is critical to success when acquiring IT services.

On October 31, 2001, we provided the results of our study to your offices

via electronic mail. These results are included as an appendix to this letter.

The purpose of this letter is to officially transmit the information to you in

published form.

In brief, we present a generic framework of practices from leading

commercial organizations, which use the term outsourcing to describe

activities associated with acquiring IT services. The framework is

composed of a set of leading practices that represent those most critical to

successful outsourcing. Grouped into seven common phases, the practices

and underlying critical success factors define an IT outsourcing process.

We would like to thank the Private Sector Council and the commercial

organizations that participated in our study. We would also like to thank

academic and professional experts for providing comments and

suggestions during the development of the framework.

United States General Accounting Office

Washington, DC 20548
Page 2 GAO-02-214 Outsourcing IT Services

Should you or your offices have any questions concerning this report,

please contact me at (202) 512-7351 or Lester Diamond, Assistant Director,

at (202) 512-7957. We can also be reached by e-mail at mcclured@gao.gov

and diamondl@gao.gov, respectively. Copies of this report are also

available on GAO’s Web site at www.gao.gov. Key contributors to this

report were Michael P. Fruitman, Tamra Goldstein, Sabine Paul, and

Catherine Schweitzer.

David L. McClure

Director, Information Technology Management Issues
Appendix

Page 3 GAO-02-214 Outsourcing IT Services

Leading Commercial

Practices for Acquiring

Information Technology

Services

Briefing for the Subcommittee on

Readiness and Management Support

Committee on Armed Services

United States Senate

October 2001
Appendix

Leading Commercial Practices for Acquiring

Information Technology Services

Page 4 GAO-02-214 Outsourcing IT Services

Briefing Overview

! Background

! Objective, Scope, and Methodology

! GAOís IT Outsourcing Framework
Appendix

Leading Commercial Practices for Acquiring

Information Technology Services

Page 5 GAO-02-214 Outsourcing IT Services

Background

The Department of Defense (DOD) is the federal government’s largest consumer

of information technology (IT) resources, spending $21.7 billion on IT in fiscal

year 2001. For this reason, it is critical that DOD adopt effective IT acquisition

practices.

Since 1996, GAO has conducted a series of studies for the Senate Armed Services

Committee concerning how DOD can improve its acquisition of major weapons

systems by adopting certain practices of leading commercial organizations. Based

on such studies, GAO has made recommendations intended to improve DOD

processes for increasing productivity and reducing costs. While the department is

making efforts to improve its practices for acquiring major weapons systems,

concerns remain about IT acquisition management improvements and outcomes.

For this reason, the Subcommittee on Readiness and Management Support

requested GAO to examine a full range of IT acquisition issues, including defining

requirements, capital planning and investment controls, and performance-based

information management.

To address these broad IT acquisition issues, GAO began work to identify leading

commercial practices for acquiring IT services. These practices are expected to

form a basis for comparison and contrast with existing DOD IT acquisition

practices.
Appendix

Leading Commercial Practices for Acquiring

Information Technology Services

Page 6 GAO-02-214 Outsourcing IT Services

Objective, Scope, and Methodology

Our objective was to identify leading commercial sector practices for acquiring IT

services. We were interested in identifying effective practices used across a

variety of organization types and structures. We wanted to address the full range

of activities, beginning with how organizations make sourcing decisions to

managing relationships with selected providers.

We focused on practices that were most critical, rather than the full set of

practices that could be implemented. In doing so, we asked commercial firms to

provide examples of how such critical practices are implemented. Our goal was

to use this information to develop an evaluation framework that could provide a

basis for comparison and contrast between commercial and federal (DOD and

civilian) IT acquisition practices.

Our study determined that commercial firms use the term “outsourcing” to

describe activities associated with acquiring IT services. Based on our research,

we developed the following definition for IT outsourcing:

IT outsourcing describes the activities associated with

acquiring IT services from one or more external providers.

During outsourcing, a client organization transfers

responsibility for one or more IT services to one or more

external providers. This responsibility is executed through

control and management of the processes, people, and

technology associated with these services.
Appendix

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Information Technology Services

Page 7 GAO-02-214 Outsourcing IT Services

Objective, Scope, and Methodology (cont.)

The diagram below graphically depicts the roles of the client and provider

organizations in an outsourcing relationship as described in our definition:

To identify leading commercial sector practices for IT outsourcing, we first

reviewed existing research and consulted the academic and professional

authorities listed below.

Existing Research

Commonwealth of Virginia

Cutter Consortium

Gartner Group, Inc.

Harvard Business School

Michael F. Corbett Associates

MITRE Corporation

Sourcing Interest Group

The Conference Board

Academic/Professional Authorities

John Halvey, International Law Firm of

 Milbank, Tweed, Hadley & McCloy

Mary Lacity, University of Missouri

Wendell Jones, GrayHare Partners

Outsourcing Institute

Technology Partners International

Provider

Provider decides how to accomplish

these results and is compensated

according to performance-based

criteria.

Client

Client tells the provider what results

need to be achieved and then

manages for results.

Client may transfer people,

equipment and facilities to

the provider.
Appendix

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Information Technology Services

Page 8 GAO-02-214 Outsourcing IT Services

Objective, Scope, and Methodology (cont.)

We identified commercial organizations based on recognition by academic and

professional authorities and publications over the past several years. We selected

organizations with diverse characteristics to gain a broad perspective on how

specific practices are implemented. These characteristics included business

sector, geographic reach, number of employees, and annual revenues. We

interviewed executives and managers at the following organizations:

Client Commercial Organizations

ALCOA

DuPont

ENRON Energy Services

General Motors

JP Morgan Chase

Meredith

Unisys

Provider Commercial Organizations

Electronic Data Systems

Computer Sciences Corporation

Our study confirmed a number of practices that commercial organizations use in

IT outsourcing. We consolidated these practices and categorized them into seven

phases that were common among our case study organizations. These phases

span the full range of activities that are performed during IT outsourcing.

Our research also identified three factors that were critical to successful IT

outsourcing. These critical success factors represent capabilities exhibited by

each of the organizations we studied and impacted their ability to successfully

perform the practices across multiple phases.

The relationship of phases, practices, and critical success factors forms a general

IT acquisition management framework.

We obtained comments on a draft framework from leading IT acquisition experts

listed earlier as well as all of the case study organizations used as examples. All

endorsed the value of the framework for helping decision-makers and

practitioners improve IT outsourcing results.
Appendix

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Information Technology Services

Page 9 GAO-02-214 Outsourcing IT Services

IT Outsourcing Framework

The framework is represented graphically below as a hierarchy of phases,

practices, and critical success factors.

The framework is described in detail on the following pages. Each phase is

briefly defined and described, practices are identified, and an example provided

by one or more of the commercial firms we studied. Finally, each of the three

critical success factors is identified and defined, followed by examples of how the

critical success factors can be demonstrated.

The arrow from phase VII to phase I represents the need to reflect on lessons

learned from previous phases. The arrows between phase III and IV represent the

iterative nature of developing the contract and selecting the provider. While there

is a logical order to the sequence of the common phases, the order of the

practices within each phase does not imply any priority or sequence. Unless

indicated otherwise, the practices are stated from the perspective of the client

organization.

I

Determine

Sourcing

Strategy

Phases

II

Define

Operational

Model

III

Develop

the

Contract

IV

Select

 the

Provider(s)

V

Transition 

to 

Provider(s)

VI

Manage

Provider(s)

Performance

VII

Ensure

Services

Are

Provided

Practices Practices Practices Practices Practices Practices Practices

Executive Leadership

Partner Alignment

Relationship Management

Critical

Success

Factors
Appendix

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Information Technology Services

Page 10 GAO-02-214 Outsourcing IT Services

Phase I: Determine Sourcing Strategy

Definition: Client organizations determine whether internal capability or

external expertise can more effectively meet IT needs.

Description: It is a fundamental premise that IT plans must align with corporate

strategic plans. Close coordination will lead to more efficient and effective use of

IT resources: corporate strategic objectives can be better met and investments in

information technology better justified. Optimizing and baselining of internal IT

processes provides an organization with the information to make a sourcing

decision of whether to continue with the internal provision of IT services or

changing to an outsourced arrangement with one or more external providers.

When IT services are outsourced the risk of losing close alignment between

corporate and IT objectives is greater than with internal IT service provision.

Many firms have recognized this risk and consider its impact when making their

sourcing decisions and developing strategies for its mitigation.

Practices:

! Examine how IT will support business processes when evaluating

sourcing strategies.

! Use third-party assistance with experience in a variety of sourcing

arrangements when formulating a sourcing strategy.

! Incorporate lessons learned from peers who have engaged in similar

sourcing decisions.
Appendix

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Page 11 GAO-02-214 Outsourcing IT Services

Practices (cont.):

! Estimate the impact of the sourcing decision on the internal organization

as well as the impact on enterprise alliances and relationships.

! Consider optimizing IT and business processes before deciding on a

sourcing strategy.

! Benchmark and baseline productivity of internal services prior to making

the final sourcing decision.

! Consider starting with a representative service or selective set of services

to outsource; balance against economies of scale.

! Determine the business reasons for outsourcing IT. Leading

organizations identified the following business reasons:

– To expand the geographic reach of the organization without

increasing internal resources for IT

– To respond more quickly to business and industry changes by

leveraging the experience of an external service provider

– To predict operating costs better by contracting for IT services using a

standard unit of measure

– To reduce capital investments by shifting ownership of IT resources

to external service provider

– To focus internal resources on core business competencies by

transferring responsibility of IT services to external provider
Appendix

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Page 12 GAO-02-214 Outsourcing IT Services

Practices (cont.):

! Determine the reasons for outsourcing IT that can improve the

organization’s ability to use and manage technology. Leading

organizations identified the following technology based reasons:

– To gain quicker access to technology skills that are in high demand

– To acquire the flexibility to grow and shrink high-tech skills as needed

– To gain access to enhanced hardware and software

– To acquire the ability to refresh hardware and software as needed

– To aggregate the demand for IT resources (e.g., skills, hardware,

software, and telecommunications) from across the organization

– To achieve a more standardized IT environment, including hardware,

software, and telecommunications
Appendix

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Page 13 GAO-02-214 Outsourcing IT Services

Example: Determine Sourcing Strategy

In 1996 GM spun off EDS and established an outsourcing relationship with it as a

separate company. GM hired a corporate CIO to set a vision, develop strategy,

address issues, and manage the new relationship with EDS. As a member of GM's

highest level governing board, the corporate CIO believes that he is able to elevate

technology issues with business leaders and generate executive support for

integrating IT into the corporate strategy. In his role since 1996, he has pursued

competitive outsourcing and business-line ownership of IT initiatives. As a result,

GM now outsources with multiple vendors guided by highly skilled managers. GM

has also taken advantage of the tighter integration of corporate and IT strategic

planning to enable its organization to provide more rapid adaptation to changing

markets and to better plan for future needs.
Appendix

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Information Technology Services

Page 14 GAO-02-214 Outsourcing IT Services

Phase II: Define Operational Model

Definition: Client organizations formalize executive leadership, team

composition, client responsibilities, and operating relationships between client

and provider organizations.

Description: Critical to a successful outsourcing relationship is an operational

model for guiding the structure of the contract and plans for transition. The

operational model helps the organization compare its plans against the

expectations that were set as the initial decision to outsource was made, and to

ascertain whether these plans will enable the organization to meet those

objectives. One aspect of the operational model is an explicit understanding of

how the client organization plans to communicate its needs and feedback to the

provider. Communication between business lines and the IT organization is

always critical to the success of the IT organization. When the IT service provider

is outside the client organization, as it is in the case of IT outsourcing,

discontinuities between organizations are more likely and organizational

processes to facilitate good communication are even more critical.

Practices:

Client executive leadership

! Establish executive leadership for IT to facilitate the outsourcing

initiative.

! Continually communicate and clarify outsourcing objectives, while

correcting any misinformation that affects the organization.
Appendix

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Page 15 GAO-02-214 Outsourcing IT Services

Practices (cont.):

Client team composition

! Establish a core group of people who will be involved in all phases of

outsourcing.

! Select a person who will be involved in the negotiation of the contract to

manage the outsourcing relationship. The outsourcing project manager

should be on the negotiation team, though not the lead negotiator.

Client responsibilities

! Align IT and business objectives.

! Monitor and fully understanding billing statements.

! Manage provider performance, including auditing provider performance

data.

! Define strategic objectives and consider the creation of a position

responsible for strategic sourcing decisions.

! Create and define contract management structure with operational

points of contact and managers.

! Define the role of internal IT managers and business leaders.

! Consider the number of managers needed when outsourcing to multiple

providers (i.e., two or more providers do not necessarily require more

managers than one provider).
Appendix

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Information Technology Services

Page 16 GAO-02-214 Outsourcing IT Services

Practices (cont.):

Client responsibilities (cont.)

! Ensure that the right skills are in place to support the outsourcing

relationship, including those dealing with

– contract management

– financial management

– IT management

– negotiation strategies

– teaming and interpersonal relationships

– project management

– relationship management
Appendix

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Information Technology Services

Page 17 GAO-02-214 Outsourcing IT Services

Practices (cont.):

Client-provider relationship

! Establish a point of contact high in the provider management structure

for elevating provider performance concerns.

! Have provider establish an on-site support team to serve as liaison

between client and provider.

! Train provider on client business environment and goals.

! Select or develop standard tools for managing the relationship (e.g.,

performance scorecards, an enterprise resources management system).

! Identify and use standard processes for managing the relationship and

use consistent (though not necessarily the same) processes when dealing

with multiple providers.

! Use third-party assistance to take advantage of expertise from a variety

of outsourcing arrangements in defining the operational model (i.e.,

defining roles and responsibilities).

! Ensure the provider management team has prior experience in the

client’s field of business.

! Understand the organizational structure of the provider and who is

empowered to make decisions.
Appendix

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Information Technology Services

Page 18 GAO-02-214 Outsourcing IT Services

Example: Define Operational Model

DuPont's IT management structure,

illustrated at right, is intended to

facilitate the alignment and integration

of IT with DuPont's business units. The

corporate CIO is at the head of the

structure (the fan's pivot point) and

receives input from a collective

leadership team composed of the top

100--150 senior IT leaders from across

DuPont.

The management structure also includes

DuPont's two-vendor alliance members,

CIOs for each of its six regions

worldwide, and CIOs for each business unit. Finally, "functional" IT management

groups service each business unit. This management structure is designed to

build consensus by facilitating communication across the client organization and

provider organizations on IT issues.

IT Management Groups

Business Unit CIOs

Regional CIOs

Alliance Partners

Senior IT Leadership

Collective

Leadership

CIO
Appendix

Leading Commercial Practices for Acquiring

Information Technology Services

Page 19 GAO-02-214 Outsourcing IT Services

Phase III: Develop the Contract

Definition: Client organizations establish the legal terms for the IT outsourcing

relationship.

Description: The contract defines the legal terms of the relationship between

client and provider. It sets the expectations for service levels, delivery of

essential services, continuous improvement, and is intended to protect the

interests of all parties. The client protects its most critical requirements by

capturing them as fundamental expectations, upon which simplified agreements

are later built. While other phases in the outsourcing process describe the need

for mutual trust and a close, flexible, working relationship; this phase focuses on

the development of a contract that is the foundation on which that working

relationship will be built. For this reason, it is critical for the client, perhaps with

third party assistance, to articulate clear contract terms.

Practices:

Performance requirements and service level agreements

! Base performance requirements on business outcomes.

! Include measures that reflect end-user satisfaction as well as technical IT

performance.

! Review and update performance requirements periodically.

! Require the provider to meet minimum performance in each category of

service.

! Require the provider to achieve escalating performance standards at

agreed-upon intervals.
Appendix

Leading Commercial Practices for Acquiring

Information Technology Services

Page 20 GAO-02-214 Outsourcing IT Services

Practices (cont.):

Performance requirements and service level agreements (cont.)

! Incorporate sufficient flexibility so that minimum acceptable

performance can be adjusted as conditions change, as the provider

becomes more adept at satisfying customer demands, and as

improvement goals are achieved.

! Use service level agreements (SLAs) to clearly articulate all aspects of

performance including management, processes, and requirements.

! Client and provider work together to define an appropriate number of

SLAs and appropriate structure for each. The type of service being

provided and the number of services being supplied by the provider may

drive the number and structure.

! Specify circumstances under which the provider is excused from

performance levels mandated by master service agreements.

! Client and provider work together to identify SLAs for which

compensation is based, while additional ones may be defined to manage

performance.
Appendix

Leading Commercial Practices for Acquiring

Information Technology Services

Page 21 GAO-02-214 Outsourcing IT Services

Practices (cont.):

Contract content

! Contract must be flexible enough to adapt to changes in the business

environment (e.g., mergers/acquisitions).

! Contract should include clauses for, among other things,

– determining pricing structures (e.g., include explicit remedies if

benchmarking demonstrates that multiyear price schedules are no

longer competitive)

– performing customer satisfaction surveys and using the results to

redefine performance levels

– terminating the contract, including early termination (e.g., consider

prohibiting the provider from making unusual offers to retain provider

employees, while enabling the client to hire provider employees in the

event of contract termination)

– resolving disputes in a timely manner

– taking work away, without penalty, from provider for nonperformance

– declaring a significant event that can lead to a change in the contract

(e.g., volume deviation by fifteen percent (15%))

– defining performance requirements (e.g., continuously improving

performance levels)

– conducting regularly scheduled meetings
Appendix

Leading Commercial Practices for Acquiring

Information Technology Services

Page 22 GAO-02-214 Outsourcing IT Services

Practices (cont.):

Contract development/ negotiation process

! Allow time to negotiate the contract (e.g., up to 12 months).

! During negotiation process, protect fundamental requirements identified

in the request for proposals.

! Consider setting up a master services agreement under which all

arrangements between client and provider operate.

! Include appropriate representation from each major organizational unit

on contract negotiation team.

! Specify the use of volume purchases to obtain optimal discount.

! Consider performing work over the duration of the contract (e.g.,

incremental refresh of technology instead of a single comprehensive

technology refresh).

! Negotiate contract to fill needs in most cost-effective way possible.

! Set aside funds to pay for services that may have been overlooked during

contract negotiation and to resolve disputes.

! Use third-party assistance in negotiating and developing the contract.

! Conduct periodic contract modifications and renegotiations.

! Ensure continuity of contract knowledge and experience throughout the

effective life of the contract.

! Sign contract after contract negotiations and final vendor selections.
Appendix

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Page 23 GAO-02-214 Outsourcing IT Services

Example #1: Develop the Contract

Based on its experience, Meredith Corporation offers advice to client

organizations that are considering external service providers. When executing IT

outsourcing contracts, Meredith highly recommends that the client hire an outside

legal firm. The client should insist on terms that allow for the early termination of

the contract and specify language that allows the client to immediately hire the

outsourcing firm’s employees in the event of contract termination.

Example #2: Develop the Contract

GM uses a master services agreement to structure arrangements with each of its

primary service providers. It uses a third party to help negotiate contracts. GM

identifies an initial set of metrics for all three parties to discuss and agree to, prior

to executing a contract, in the service-level agreements. The metrics are reviewed

monthly and updated as appropriate. Additionally, continuous improvement is

built into the contract to elevate performance levels annually and for the entire

term. Penalties are assessed based on failures associated with the delivery of

specific services as well as certain one-time deliverables specified in the servicelevel agreement.
Appendix

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Page 24 GAO-02-214 Outsourcing IT Services

Phase IV: Select Provider(s)

Definition: Client organizations find one or more providers who can help them

reach their IT outsourcing goals.

Description: Once an organization has determined the strategic goals of

outsourcing its IT services, has defined the operational model for its outsourcing,

and has begun to develop an understanding of the essential contractual

requirements, it can then begin to identify providers that can meet its needs. It is

critical that the client organization conduct market research to determine which

vendors can provide services to achieve its objectives. In some cases, the field of

competitors may be small. In fact, some large private-sector corporations have

found that no single provider can meet all of its needs. Managing multiple vendors

can be challenging for client organizations that must oversee each vendor

separately as well as coordinate among vendors. An alternative approach is to

develop an alliance among a group of providers, with a prime contractor and a

team of support vendors.

Practices:

! Conduct research on state of the market, vendors, and technology before

defining vendor selection criteria.

! Identify and evaluate various sourcing solutions (e.g., single vendor,

multivendor, and alliance).

! Define a process for selecting vendors to be providers (e.g., issuing a

request for proposals and prequalifying vendors).

! Define vendor selection and evaluation (acceptance) criteria at the

outset (e.g., cultural fit, skill set, industry knowledge, proposed transition

plan, past performance, and reputation).
Appendix

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Page 25 GAO-02-214 Outsourcing IT Services

Practices (cont.):

! When issuing a request for proposals, identify services with expected

performance levels and define client and provider roles and

responsibilities.

! Use third-party assistance with expertise in a variety of outsourcing

arrangements when selecting provider(s), including developing the

request for proposals.

! Conduct due diligence activities to verify vendor capabilities before

signing the contract (e.g., conduct past performance and reference

checks as part of the evaluation).

! Make final vendor selections after contract negotiation.
Appendix

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Page 26 GAO-02-214 Outsourcing IT Services

Example #1: Select the Provider(s)

JP Morgan asked three leading IT service providers in the market to identify

partners for providing IT services. It chose to select a team of providers (1)

because it believed that no one company could provide all services needed, and

(2) to get access to the best skills as needed (i.e., JP Morgan could increase or

decrease resources depending on the needs of the business). JP Morgan believed

that an alliance provided access to the full breadth of expertise required and

reduced risk, without having to contract separately with each provider and then

coordinate among them.

Example #2: Select the Provider(s)

DuPont explored multivendor as well as single-vendor strategies for meeting its

needs, before settling on a two-vendor alliance. DuPont believed that multivendor

solutions required too many points of contact and difficulty in integrating multiple

vendors with many in-house groups. Conversely, one provider could not provide

all of the IT services DuPont required. A two-vendor alliance, in contrast,

required a small increase in administration and coordination, and allowed DuPont

to leverage the strengths of two providers, while fostering competition in strategic

areas. In this alliance, DuPont chose to segment IT services such that one vendor

has primary responsibility for infrastructure and business-specific applications,

while the second has responsibility for enterprise-wide applications. New

solutions or the replacement of any application solution can be bid competitively

to either alliance partner or any other qualified third party.
Appendix

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Phase V: Transition to Provider(s)

Definition: Client organizations transfer responsibility of IT functions to one or

more providers.

Description: A transition plan can help make the move from internal to external

IT services a smooth and successful one. The clear definition of responsibilities

and the careful consideration of employees’ needs matched against the

organization’s needs enables both the client and provider to focus on

responsibilities that they can execute successfully, and will give staff confidence

in their future employment.

Practices:

! Communicate a clear transition process to all key players from both

client and provider organizations.

! Clearly communicate to employees what is going to happen and when it

is going to happen.

! Continue to communicate changes to employees as they occur.

! Handle resistance to change with meetings between upper management

and employees.

! Shift management mindset from allocating resources to managing for

results.

! Shift corporate attention from non-core business functions to core

business functions.

! Establish client transition team with representatives from across the

organization to facilitate the transition.
Appendix

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Practices (cont.):

! Place transition under single program manager.

! Create client/provider transition teams to address short-term transition

tasks as required.

! Recognize that it takes time to effect transition and plan accordingly.

! Encourage transition of staff to provider, where appropriate, using

bonuses, stock options, and other appropriate methods.

! Develop employee-retention programs and offer bonuses to keep key

people, where appropriate.

! When consistent with organizational objectives, assist employees who do

not want to transfer in finding other jobs, either within the organization

or at another organization.

! Document key information to preserve organizational knowledge in the

event that one or more providers change.

! Use change management strategies to help client employees deal with

the transition.
Appendix

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Page 29 GAO-02-214 Outsourcing IT Services

Example: Transition to Provider(s)

In July 1995, JP Morgan transferred 1500 people, including existing contractors, to

its new service providers. Employees were transferred to each of the provider

companies based on their roles at that time, and the providers worked to make

sure that comparable benefits were offered to transferred employees. Planning

for the transition of the provision of technology was a joint responsibility of all

the companies, but managed by JP Morgan. Building the new joint IT team was

primarily JP Morgan's responsibility, with cooperation from the other providers.

For example, a management committee made up of senior IT executives from JP

Morgan and all provider companies was put in place to get the new arrangement

up and running.

JP Morgan had planned for this by designing a new operating model that had three

distinct disciplines: Plan, Build, and Operate. Plan included the overall IT

Strategy and Architecture and was JP Morgan’s responsibility. Build, which

include technology product selection and roll out, was the combined

responsibility of JP Morgan and the providers. Operate was the primary

responsibility of the providers. Interfaces at each level along with new roles

created on both sides to accommodate the operating model. JP Morgan believes

the roles allowed for the authorization of work, decisions to be communicated,

and problems to be managed. Over time, as roles and responsibilities became

clear, JP Morgan’s focus shifted from operating to managing. The transition plan

provided for the transfer of people to the provider, as well as a framework for

understanding future roles and responsibilities of the client and providers. JP

Morgan is now reviewing this model since its merger with Chase Manhattan.
Appendix

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Phase VI: Manage Provider(s) Performance

Definition: Client organizations make sure each provider is meeting

performance requirements.

Description: Frequent, clear communication between client and provider

ensures that potential problems are identified and resolved before they cause

disruptions. Publication of performance data creates an open atmosphere that

builds confidence and enables stakeholders to review progress toward goals.

Practices:

Incentives and Penalties

! Consider incentives to motivate provider(s) to exceed performance

requirements (e.g., exceed number of hardware installations).

! Use penalties to motivate provider(s) to meet performance requirements.

– Assess penalties for failure to perform as required by individual service

as well as aggregate service levels.

– Apply penalties in the form of credit to the client.

– Increase penalty for recurring deficient performance.

– Hold back percentage of provider’s pay for a particular service until

performance requirements are met.

– Refund the penalty if the provider returns to agreed-upon

performance levels within a designated period of time.

– Ensure the provider will cover costs, but not profit when a particular

performance requirement is not met.
Appendix

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Page 31 GAO-02-214 Outsourcing IT Services

Practices (cont.):

Performance monitoring mechanisms

! Periodically undertake studies to assess how the provider’s performance

compares with value being delivered to similar clients and the extent to

which the provider's performance is improving over time (e.g., validate

cost assumptions for multiyear contracts).

! Schedule periodic working-level meetings with both the end-user groups

and the provider to review provider’s performance.

! Conduct executive-level oversight meetings with the provider’s senior

management to review provider’s performance.

! Distribute performance data to stakeholders.

! Reserve audit rights on performance data supplied by the provider.

! Ensure that provider measures and reports on performance.

! Work with provider to redefine service levels, as appropriate.

! Sample performance data frequently enough to perform trend analysis

and to permit extrapolation based upon historical data.

! Allow employees and possibly stakeholders to rate provider on a regular

basis (e.g., scorecards and quarterly report cards).
Appendix

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Page 32 GAO-02-214 Outsourcing IT Services

Example: Manage Provider(s) Performance

GM reports weekly and monthly to business unit CIOs on the performance of its

service provider. In addition, frequent meetings are held with the service provider

to discuss issues, review service-levels, and conduct root cause analysis of

reported problems. These meetings ensure that both companies have the same

view of the quality of the service being provided, as well as a set of action items

designed to improve performance when necessary. Weekly steering committee

meetings are held with the program managers to address problems and perform

strategic planning. Additionally, frequent interactions with end users and regular

evaluation of service levels help ensure that end users understand the service

level commitments versus attainment, and the provider understands end user

needs.
Appendix

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Page 33 GAO-02-214 Outsourcing IT Services

Phase VII: Ensure Services Are Provided

Definition: Client organizations make sure that services are provided and enduser needs are met.

Description: Although the focus of outsourcing is on provider performance,

client organizations remain ultimately responsible for making sure that services

are provided and end-user needs met. The previous phases addressed the

extensive preparation that must precede the providers’ assuming responsibility

for services. Much of this responsibility is defined by the terms of the contract

developed in phase III, then monitored by the performance management practices

described in phase VI. However, during the course of work, the client

organization learns more about the capability of the provider, and opportunities

to improve services thereby arise. Additionally, market conditions may change

and an arrangement that was once advantageous to a client may become less so

over time. Therefore, it is important for the client to monitor service levels

internally as well as maintaining an external view of the performance of other

providers in its industry. Periodic benchmarking allows the client to ascertain

whether it is still obtaining good value from its provider.

Practices:

! Monitor the provider’s work to anticipate issues for resolution.

! Conduct periodic meetings to resolve issues jointly with provider.

! Document and maintain organizational knowledge.

! Make sure provider uses the standard tools and processes defined as part

of the operational model.

! Use provider performance data to continuously improve processes.

! Pursue improvement based on customer satisfaction surveys.
Appendix

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Page 34 GAO-02-214 Outsourcing IT Services

Practices (cont.):

! Have provider ensure that adequate and appropriate resources are

available to perform services.

! Ensure that an appropriately empowered individual from the client

organization oversees work.

! Set realistic time frames that are agreed to by the provider.
Appendix

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Page 35 GAO-02-214 Outsourcing IT Services

Example: Ensure Services Are Provided

In recent years the cost per unit of telecommunications service to major

businesses has been steadily declining. For example, a major information

technology company has, historically, entered into multiyear (2-3 year) contracts

with its major telecommunications providers. However, telecommunications

companies are commonly reluctant to commit to “forward pricing” that

adequately reflects a continuing price decline 2 or 3 years into the future, in a

contract in effect today. To ensure that the company pays competitive rates for

service, it monitors the fees assessed by its telecommunications providers vs. the

marketplace, and includes mid-term renegotiation clauses in all of its major

agreements. This has led to continual refreshing of contracted rates which has

allowed the company to consistently benefit from industrywide price reductions.
Appendix

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Page 36 GAO-02-214 Outsourcing IT Services

Critical Success Factors

Our research identified three factors that are critical to successful IT outsourcing:

executive leadership, partner alignment, and relationship management. The

organizations we studied identified certain capabilities that were essential for

implementing the practices defined in the framework. We term these important

capabilities critical success factors.

Executive leadership strengthens the interaction between executive management

and the employees of the client organization. A strong executive commitment is

intended to secure organizational buy-in from the client for the external

providers. Partner alignment strengthens the interaction between the client and

provider organization at the executive level, which ensures that the goals and

objectives of these organizations support each other. Relationship management

strengthens the interaction between the client and provider organization at the

operational level. A smooth and constructive daily interaction between client and

provider at the operational level is crucial to achieving the expectations of the

outsourcing arrangement. The presence of these factors is essential for the

successful execution of the outsourcing arrangement.
Appendix

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Page 37 GAO-02-214 Outsourcing IT Services

Critical Success Factor #1: Executive Leadership

Executive leadership is key to obtaining and maintaining organizational

support for IT outsourcing. Communication begins with top-level executives

and flows downward. This flow of information is initiated when the

organization starts its efforts and should continue through the outsourcing

process as new decisions are both considered and reached. The following

activities are examples of how executive leadership can be demonstrated:

! Keep the entire organization informed throughout the outsourcing

initiative.

! Conduct regular peer-to-peer meetings at each level in the organization.

! Secure key executive support before eliciting organizational support.

! Establish a communications team to promote the idea of outsourcing.
Appendix

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Page 38 GAO-02-214 Outsourcing IT Services

Critical Success Factor #2: Partner Alignment

Aligning client and provider objectives in a partnership is key to building

consensus and is imperative to establishing early trust among all stakeholders.

For this alignment to occur, the client and provider must work together to

establish common project goals beyond the objectives stated in the request for

proposals. Both sides must recognize and understand each other’s underlying

motives and strive to achieve established expectations. The following

activities are examples of how partnership alignment can be demonstrated:

! Enlist upper-management support from both sides.

! Work with provider to determine business direction, identify available

technology, and requirements for meeting end-user needs.

! Client works with provider’s senior executives to develop a multiyear

view for the outsourcing relationship.
Appendix

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Page 39 GAO-02-214 Outsourcing IT Services

Critical Success Factor #3: Relationship Management

Relationship management is key to ensuring daily communication and

resolving issues. Relationship management goes beyond the structure of the

contract. The client develops and employs standard processes to manage the

relationship in areas such as resolving issues/concerns and initiating/directing

work. Responsibility is executed through control and management of the

processes, people, and technology associated with the IT functions. The

following activities are examples of how relationship management can be

demonstrated:

! Client and provider management strategies are flexible enough to adapt

to business changes.

! Handle resistance to change with meetings between upper executives

from both sides and lower-level client employees.

! Active lines of communication are kept open between the client and

provider throughout the process.

(310429)
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