Marciniak Róbert - Choice Between Outsourcing and Shared Services

Choice Between Outsourcing And Shared Services

Robert Marciniak

Institute of Management Science

University of Miskolc

Miskolc, Hungary

[email protected]

AbstractShared services and outsourcing are two different

approaches about optimization of back-office functions in

organizations. In this part of my research I analyzed what are

differences between the two models that determines its using. I

found which are the most important decision factors and how

companies use them. I disclose that companies do not always

need to choose between the two models. There are more options

for companies to link the two models and use synergies of this

cooperation.

Keywords: sourcing, outsourcing, shared services, hybrid model

I. SOURCING ACTIVITIES

In the last two decades outsourcing, shared services and offshoring approaches has evolved considerably. While earlier companies had separate strategies have been for using these models, today the three models are organically associated with portfolio approach and consisting the corporate sourcing strategy together. However what is sourcing activity? I use the definition of Ilan Oshri:

Sourcing is the act through which work is contracted or

delegated to an external or internal entity that could be

physically located anywhere. It encompasses various

insourcing (keeping work in-house) and outsourcing

arrangements such as offshore outsourcing, captive

offshoring, nearshoring and onshoring. [9] I think that almost every major company is involved in

some type of sourcing activities and since purchasing has a profound effect on the operating cost of companies, it has strategic importance. I argue that we can speak about "strategic sourcing" to which the activities of companies, that are constantly being reviewed strategic resources for the operation, the sources of supply of services. Companies seek out the optimal position of resources and services may it be within the organization or outside of it.

II. METHODS

This part of my research among the sourcing models I dealt with the choice between outsourcing and shared service models. Both model endeavor to optimizing of existing organizational internal services, functions, mostly back-office activities with lower costs and higher service level. I collected those aspects that help companies in this choosing decision. I used mostly literature reviews for this research but some case studies of companies (EDS, Accenture) helped my work.

III. IMPROVEMENT OF COMPETITIVENESS WITH OPTIMIZATION

The consulting firm Bain&Company in 2007 research examined that companies what degree of savings could reach with transformation of corporate back-office functions. According to research there are three different options for companies: the first to reduce companies' use of internal service functions, the second to redesign the processes and the third to restructure the organization fundamentally. In the first case companies must reduce their expectation of support functions and eliminate unnecessary activities focusing what could be important for customers and business activities. These measures are not so difficult to implement in the companies, but it could create such a market mechanism that facilitates development of efficient and high-quality internal services and according to the research these occurs an average up to 25% savings of the total saving potential. [10]

Figure 1. Potential savings reaching with reorganization of back-office

functions, Source: [9]

In the redesign of processes it is necessary to decompose

processes and analyze parts of them to decide which parts are contributing to the business and which are not so important and could eliminate. Automating of some activities of process is

SECTION1. Business Management

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often part of this solution. To develop the suitable processes is generally more difficult than reducing service demand but the potential savings are also greater, it is about 35% of the total potential savings. The fundamental restructuring is the hardest to carry out but typically this has the biggest impact. It can contribute to 40% of total savings potential. The aim is that the support services are arranged and organized in the company that work the best with the lowest cost level. Such restructuring is when earlier in several countries operated services are relocated to a regional shared service center. Sometimes the fundamental restructuring could result outsourcing decisions as well. [10] Research showed it as well that according to company managers the shared service model and the outsourcing model could mean a similar saving possibility but implement the shared services model is a bit simpler.

Establishing a shared service center is only one option for optimization of service functions. There are another options like optimization of business processes and the reengineering. To decide which processes need to optimize it is worth to analyze business processes in the viewpoint of volume, strategic importance and process costs. It is not necessary to optimize those services that the company can deliver in-house more cheaper than external providers. But if services are less important strategically company could consider to buy some part of services from external providers. However if the cost of service providing outweighs the level of market competition then the process must be optimized. In the strategically key processes the classical optimization methods should be used because its cooperation with the core activities the organizational consolidation is not beneficial and outsourcing could not mean as an option. If the processes are less important strategically optimized it is used to optimize in the form of consolidation but a company has to decide which location is better for service functions, the corporate center or a shared service center that operates as a separate organizational unit. In this situation the outsourcing can emerge as a real alternative. For decision making it needs to analyze the strategic importance of processes and volume of transactions (the frequency of delivering and used capacities). [2]

Improving competitiveness and preserving it for long time companies' leaders should explore these competencies and ensure the resources needed for cultivation and improvement. It means that the organizational functions connected to the competences should remain within the company and do not outsource but centralize them. By outsourcing the company can become vulnerable and it deteriorates its competitiveness. So theoretically an organizational function can be outsourced if it is not core competence, does not have strategic importance for the company and in case of having strategic alliance that aims to replace necessary core competencies mutually. [4] [8] [7]

IV. DIFFERENCES BETWEEN OUTSOURCING AND SHARED SERVICES

In the late 70's and early 80's the U.S. companies as a result of cost-cutting measurements centralized some corporate functions into corporate headquarters. But his tendency did not meet the market changes because the companies had to be close to their customers and markets and diversified operation had to take out. Therefore, companies turned to diversification

that satisfied these market demands better. Both outsourcing and shared services appeared in this time and became popular among the U.S. companies. The outsourcing as one of the implemented forms of decentralization an outside company performs certain service activities for the company. When these activities are provided by an internal service provider and this creates a market within the company, we can talk about application of shared service models.

Figure 2. Shared service from a shared service center (SSC), Source: own edited

However there is the question, which trends and which models are more popular today and why. In the last decade both outsourcing and shared service models live their second flowering. The focus was changed and moved from everything thoroughly prescribed agreements to risk-sharing partnering and creating of joint enterprises. Because of similarities in objectives and employed instruments, shared services are called as "internal outsourcing" as well. This approach is spread over and in the literature there are many cases, in case of well-known consulting firms - such as Accenture - we could meet that shared service solutions are treated as a subtopic of the outsourcing model.

According to Gyrgy Bgel, who is professor of Central European University, shared services model and outsourcing largely overlap each other. In a shared service model, companies organize their back-office functions into an internal organizational unit (center) because of various efficiency goals. But if companies do it well internally and know how much is it then could open the center for other external clients as well. In this stage shared service center provides services to clients in market conditions and could be sold for an external service provider as well. This always depends on decisions of managers. They take the organizational characteristics and environmental factors into account. In addition, there are fundamental trends that determine the movement of the market and its development. One of these trends is the standardization of certain services. It facilitates the consolidation of services or outsourcing them. But the another important trend is the development of info communication technologies that has the biggest contribution to the global business operation. There is a forth and back motion on the service market because companies are continuously experimenting with service models and if the used model is not appropriate then refine, modify or simply switch it with another. [3]





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In fact it is sure that they are very similar to each other in many ways but there are fundamental differences that are not only in theory.

TABLE I. COMPARISON BETWEEN SHARED SERVICE AND OUTSOURCING MODELS

Source: own edited

The outsourcing strategy is driven by two main goals: cost-cutting and quality improvement. Outsourcing agreements could form many shapes. At the one end of the spectrum there are supplier-like agreements. It means company agrees with such a provider which is similar to many providers on the market. At the other end of the spectrum there is a long-term partnership/strategic alliance/joint venture where both parties of contract share the risks and revenues. The supplier-like agreements are relatively short-lived and easy-to-make. [12]

Figure 3. Outsourcing model, Source: own edited

Although in most cases outsourcing is the response of companies under cost-cutting pressure but I think so, that shared service model could provide similar or excellent services comparable with similar circumstances. Actually both models are organized along two decisions: one about crossing the corporate boundaries and the other about the restructuring of internal organizational hierarchy. The former is the "make or buy" decision, from where should the company obtain the necessary services for the operation. In the latter case it looks clear that company's organizational form influences the choice between the two models. In a company with centralized service center it is easier to create a shared service center than in a diversified organization.

I think it is an important question that the relevant services how important strategy for the company because maybe they cannot contribute financially to the business but may have other potentials that could be an important value for the company in the long term. In this situation the shared service model could be preferable. In addition, data security is also a key issue in the case. If outsourcing means a threat to the security of corporate information, then shared service also get an advantage.

It is also a significant issue in the choice between the two models, how mature is the service market and at what price and quality of service is able the company to perform it. In the globalized world, this question is still valid although through the electronic systems companies could serve their clients from far offshore countries. This is because of the quality of services.

It seems to me not a negligible factor in the decision what kind of resources are available for optimization. As the comparison shows it above, while outsourcing model does not require investment, in shared service model service center is often installed by a greenfield investment. The coverage of this investment is not always ensured. So in an economic crisis or cost-cutting times outsourcing is an advantage in the choice.

V. CONNECTION OF MODELS

It is not necessary in all cases to choose ultimately between the two models. The two theoretical models have multiple connections in the practice.





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On the one hand there is an approach that shared services

model is only an intermediate stage where outsourcing means

the next step of development and business process outsourcing

(BPO) is the end. According to this approach shared services

model is like a journey that sometimes takes for a decade or

even longer but the ultimate goal is almost certainly the

outsourcing of functions to an external provider. The

exception could be the public organizations because there are

other factors in the decision. If the organization is aware of

this from the beginning, then be able to perform restructuring

organizations and can see shared service concept as a business

strategy. In this situation managers of service center will

control not only back-office functions but become creators of

new businesses and if it is successful, it could be value creator

for the parent company not only in-house but at an

outsourcing option as well. But not forgetting the return of

functions into parent-organization (insourcing) as well.

At every moment of operating a service center there is the opportunity to consider the advantages and disadvantages of an agreement with an external service provider. If a service center was lagging behind an external provider in any characteristic of service than its future is unsure. The only conceptional difference between outsourcing and shared services is that shared service centers have internal clients while an outsourcing provider has to compete for it on the market. [5]

According to David J. Dell and Yuliya Tsaplina there are three scenarios about operating a shared service center [1]:

The first is when a shared services model is only an implementation tool for outsourcing. It helps company to ascertain internal costs, requirements, service levels and abilities carefully. It also puts the focus on the accountability. Most of these companies outsource at least one function to preserve their flexibility of business and on the other hand to avoid investing in the technology. It can be observed that the services that have been organized into shared service firstly and then outsourced, could ensure better service level, greater savings and other increased benefits. The use of shared service centers is increasing along the organizational development curve, where from the multinational company, through global company and international company, till transnational company.

The second is when shared service is an alternative of the outsourcing model. In this case, the selected activities of the company is treated as a key competence. The technology supports the implementation of business application.

Third, when a shared service is only a waiting status. In this case companies use shared services then wait and watch. There is no control unnecessary. Usually it applies to immature markets.

The connection between the two theoretical models is that the shared service model is a complementary of outsourcing solutions in increasing numbers and the result is a hybrid model.

In case of the traditional service delivery models (shared services or outsourcing), the companies constantly have to balance between the advantages and disadvantages and always have to compromise somehow. There are a number of dilemmas, for example cost reduction versus a loss of control, dedicated resources versus temporary resources, outsourcing versus remaining non-core activities, rule-based processes versus customized processes.

Figure 4. The hybrid model in the base of market orientation and complexity of cooperation, Source: own edited

Solving this problem in today's leading companies use hybrid models that combine the back-office outsourcing with in-house shared service centers. In this situation the outsourcing providers have to closely cooperate with corporate shared service centers.

The hybrid model combines the advantages of traditional models and above all overtake "installation on the cheapest offshore site" model. Precisely for this reason it is not worth to handle outsourcing separately in a sourcing strategy because the two models are connected intimately at this time. If it happens and a special service led by the two models, it is just another obstacle in the way of operational excellence and development of continuous improvement. [5]

Figure 5. Hybrid model, Source: own edited

In the hybrid model some functions (typically front-office functions) are moved to an onshore or nearshore center that is close to the company's headquarter in distance, time-zone,





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culture (like Central Eastern European countries) and other functions (typically back-office functions) to cheaper, geographically and culturally distant countries (like India, China, South Africa). Often the former is established in a shared service center, the latter one with an outsourcing provider. So the company could use both models but for other internal functions. [13]

In this hybrid case, on onshore or nearshore locations higher value-added works have done, while at a low-cost, offshore location are usually rather transaction works on the global delivery level. While the former is relatively close to the market they serve, such services are delivered from here that needs strong foreign language proficiency, knowledge of local regulation. In contrast with the offshore locations where centers prefer those services that transactions, rule-based processes that do not require cultural or geographic proximity to the customers or special, local knowledge of the countries served.

There are three hybrid models in the markets [11]:

- Geographically hybrid model: when in certain geographic areas the services are outsourced, while in others area the

same activities are held in shared service centers. This

solution provides a good opportunity for comparison of

shared service centers and outsourcing providers.

- Functional hybrid model: when a company decides about the future of services depends on its functional area. The

not-basic, repetitive, predictable and measurable activities

are outsourced, while those that are related to the core

business, not-moveable because of data security and

organizational culture are organized in a shared service

center.

- Intermediate hybrid model: it is a temporary hybrid model where the shared service center means an intermediate

stage in the process prior to the outsourcing provider.

Internal change management is operated to disconnect the

relevant activities of the business units and subsidiary

companies, stabilize and analyze them before company

outsource them for a third party service provider.

VI. CONCLUSION

All business organizations like to count fixed, predictable expenses, but there are some tasks that encounter hidden cost elements. In the global business environment that question is no longer available that is it worth to outsource or not certain activities but rather there is the issue to prove the right to use certain internal corporate resources.

Today I think that both outsourcing and shared service models are justified role among the corporate sourcing instruments. In the choice it is surely influenced the company what kind of organizational structure it has, where is the service located in the hierarchy, how easily can it be organized or moved into a central point. Surely it influences the decision that the certain services are important strategically or in data-security way or not. Equally important is the factor that company has the necessary fund to finance an investment of establishing a shared service center or not, but the fact is also essential, the market is mature enough or not to serve services with adequate quality and affordable price for companies.

Finally the interconnection of the two models could create such cooperation that effect synergistic on company performance.

REFERENCES

[1] Beaman, K. V., 2004. Out of Site: An inside look at HR outsourcing, San Francisco: The Jeitosa Group.

[2] Bodnr, V. & Vida, G., 2006. Folyamatmenedzsment a gyakorlatban. Budapest: IFUA Horvth & Partners.

[3] Bgel, G. (2012. szeptember 05.). Interj a magyar shared service piacrl. (M. Rbert, Krdez)

[4] Drtos, G., 2000. Outsourcing: elmleti alapok, nemzetkzi s hazai tapasztalatok, s egy lehetsges dntsi modell. In: M. Szanyi & E. Tari, szerk. Kls s bels hlzatok kialakulsa s mkdse a klfldi s hazai gyakorlatban. Budapest: Gazdasgi Minisztrium, pp. 67-80.

[5] Gammage, M., 2010. The Future of Outsourcing Governance, Birmingham: Sourcing Shangri-La, Letlts: 2011.11.13., Forrs: http://sourcing-shangri-la.typepad.com/blog/2010/11/outsourcing-governance-20.html.

[6] Gammage, M., 2010. What the Best Shared Service Directors Know, Birmingham: Sourcing Shangri-La, Forrs: http://sourcing-shangri-la.typepad.com/blog/2010/04/what-the-best-shared-services-directors-know.html Letlts: 2012.11.12.

[7] Gelei, A. & Schubert, A., 2006. Kompetencia alap versenykpessg egy vezet FMCG vllalat pldjn, Budapest: Budapesti Corvinus Egyetem, Mhelytanulmny.

[8] Kovcs, G., 2008. Tevkenysgkihelyezs Magyarorszgon. Gyr: Szchenyi Istvn Egyetem, Szakdolgozat.

[9] Oshri, I., Kotlarsky, J. & Willcocks, L. P., 2009. Handbook of Global Outsourcing and Offshoring. New York: Palgrave MacMillan.

[10] Rogers, P. & Saenz, H., 2007. Make your back office an accelerator. Harvard Business Review, 85(3), p. 30.

[11] Sangani, R., 2011. Trends Trends Trends, hely nlk.: Shared Services & Outsourcing Network, Letlts: 2012.04.15., Forrs: http://www.ssonetwork.com/governanace-structure-outsourcing-hybrid-shared-services/10836-A.

[12] Verma, R., 2003. BPO: Potential in the Financial Service Sector, Ahmedabad: CRISIL Young Thought Leader Series.

[13] Williams, L., 2005. Best Model Shared Services. HR Global Magazine, 3(1), pp. 6-8.





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Marciniak Róbert - Choice Between Outsourcing and Shared Services