The insider's guide to outsourcing risks and rewards:
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| Format: | Buch |
| Sprache: | English |
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Boca Raton, FL [u.a.]
Auerbach
2006
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| Online-Zugang: | Table of contents only Inhaltsverzeichnis |
| Beschreibung: | Includes index. |
| Beschreibung: | XXXV, 276 S. graph. Darst. |
| ISBN: | 0849370175 9780849370175 |
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| 245 | 1 | 0 | |a The insider's guide to outsourcing risks and rewards |c Johann Rost |
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| adam_text | CONTENTS
Introduction..................................................................................1
1.1 Myths about Offshore Outsourcing.......................................................1
1.2 Best Practices...........................................................................................3
1.3 Risks and Hazards...................................................................................6
1.4 Checklist for Strategic Successful Offshore Outsourcing.....................9
1.5 Opinions and Hard Numbers about Global Sourcing....................... 1!
1.6 Definitions of Terms.............................................................................IS
Drivers: Motivations in the Offshore Decision-Making
Process.........................................................................................19
2.1 Technological Drivers...........................................................................19
2.2 Commercial and Strategic Drivers........................................................24
2.3 Allotting Driver Priority........................................................................26
Costs............................................................................................29
3.1 Realistic Estimation of Costs.................................................................29
32 Cost Dynamics.......................................................................................33
3.3 Communication Cost.............................................................................39
3.4 Business Continuity in Case of War or Disaster................................42
Countries: Deciding on an Offshore Location........................45
4.1 Importance of Background Information about the Contributing
Countries................................................................................................46
4.2 Investment Climate................................................................................47
4.3 Economic Facts in the Offshore Country............................................55
4.4 Legal Systems.........................................................................................5
Partners: Customer-Vendor Relationship................................63
5.1 Vendor Selection and Contract Negotiation........................................64
5.2 Due Diligence: Eliciting Information about Vendors.........................73
53 Vendor s Need to Garner Information Regarding the Customer......79
5.4 Governance: Managing the Relationship with the Vendor................HI
5.5 Dispute Resolution................................................................................86
5.6 Benchmark Audits.................................................................................88
v
vi ¦ The Insider s Guide to Outsourcing Risks and Rewards
6 Stakeholders: Interest Groups in the Offshore
Relationship................................................................................93
6.1 Conflicting Viewpoints: An Introductory Case Study.........................94
6.2 Customers and Vendors........................................................................96
6.3 Staff in Developing Countries..............................................................98
6.4 Management of Human Resources in Emerging Software
Industries..............................................................................................105
6.5 The Customer s In-House Team........................................................Ill
6.6 Offshore Manager................................................................................115
6.7 Envoys from Western Companies......................................................117
6.8 Offshore Staff Working in Industrialized Countries.........................119
6.9 Offshore Advisers................................................................................122
6.10 Shady Business Agents.......................................................................123
6.11 Public Opinion in Industrialized Countries: Globalism...................126
7 Business Architectures.............................................................133
7.1 Business Architecture Adequate to Projects at Hand.......................133
7.2 Options for Business Models.............................................................135
7.3 Constraints for Business Models........................................................146
7.4 Communication and Cultural Distance..............................................148
7.5 Multi-Sourcing......................................................................................151
8 Selecting Suitable Projects.......................................................155
8.1 Less Challenging Projects...................................................................155
8.2 Projects Requiring Very Specific Technological Know-How...........157
8.3 Virtual Teams.......................................................................................158
8.4 Highly Iterative Development Processes...........................................163
8.5 Unsuitable Projects..............................................................................164
9 Contracts: Project Contracts and Service Agreements.........169
91 Requirements.......................................................................................169
9.2 Fixed-Price Contracts..........................................................................175
9.3 Unit-Price Contracts.............................................................................187
9.4 Guarantee Period................................................................................192
9.5 Transferring Responsibility for Source Code....................................202
9.6 Service Agreements: Outsourcing the IT for a Certain Time..........209
10 Industrial Espionage................................................................213
10.1 Espionage: An Introductory Case Study............................................213
10.2 Targets of Espionage...........................................................................218
10.3 Potential Security Vulnerabilities in Offshore Scenarios..................229
10.4 Defense against Espionage.................................................................246
11 Termination of the Outsourcing Relationship......................251
11.1 Contractual Stipulations......................................................................252
11.2 Vendors Forestall the Departure of a Customer...............................256
11.3 Issues of the Posttermination Transition...........................................260
Index..................................................................................................275
ANNOTATED CONTENTS
Introduction..................................................................................1
This introductory chapter includes sections about best practices,
myths, and risks, along with a checklist and a glossary. It
provides many entry points and references to other chapters of
the book where specific issues are analyzed in more detail.
1.1 Myths about Offshore Outsourcing.......................................................1
First-timers in offshore business have much to learn. This section
lists some myths that are commonly believed by inexperienced
buyers and that have even appeared in some published articles.
1.2 Best Practices...........................................................................................3
Some best practices have been successful in a number of projects
and according to the experience of the author. Notice, however,
that best practices are guidelines— not a panacea. More impor-
tant than understanding the how-to-do-it is understanding the
what-can-go-wrong when dealing with best practices.
1.3 Risks and Hazards...................................................................................6
Many hazards exist in offshore outsourcing. That is what the
entire book is about: making responsible managers aware of what
can go wrong and what steps could be considered to mitigate
these risks. This section highlights some particularly frequent chal-
lenges and references the reader to the chapters and sections
where the issues are analyzed in more detail.
1.4 Checklist for Strategic Successful Offshore Outsourcing.....................9
The following checklist provides a number of questions that can
help a customer evaluate the maturity of its offshore outsourcing
plans and assess the chances of success.
VII
viii ¦ The Insider s Guide to Outsourcing Risks and Rewards
1.5 Opinions and Hard Numbers about Global Sourcing.......................11
At the time when this book was written, widely accepted hard
numbers were difficult to find. Many organizations that submit-
ted such numbers had vested interests to influence the public
opinion about global sourcing in one or the other direction. This
might explain why even numbers submitted by governmental
statistical institutions exhibited huge differences, depending on
which government controlled the respective institution.
Another reason for not including extensive surveys and stud-
ies in this book is that the numbers from these studies become
outdated rather quickly. In particular, expert prognoses that
refer to the future are prone to require corrections soon after
they are published. Thus, only a few selected numbers and expert
opinions that are currently under discussion are presented here.
1.6 Definitions of Terms.............................................................................15
Offshore outsourcing has developed its own vocabulary. This
section provides a concise overview of the terms used and includes
references to the chapters where these concepts are explained in
more detail.
Drivers.........................................................................................19
The potential cost reduction is a compelling argument in favor
of offshore scenarios for many companies. Due to its dominant
role in a considerable a number of offshore projects, an entire
chapter of this book, Chapter 3, is dedicated to cost aspects.
In addition to the obvious financial motivation of cost reduc-
tion, commercial (strategic) or technological issues might be
taken into consideration, such as:
¦ Efforts to acquire and maintain IT know-how
¦ Access to scarce talent
¦ Additional flexibility
¦ Focus on core activities
2.1 Technological Drivers...........................................................................19
Gaining access to leading-edge technology may he an important
reason for considering an outsourcing scenario. In many cases
the customer wants to outsource the IT-specific know-how,
although the domain expertise and business know-how should
remain in house. A technologically strong vendor specialized in
IT offers attractive advantages including economies of scale and
access to top talent. The outsourcing step, however, may lead to
strategic risks for the buyer in the long run, such as loss of direct
control over technical staff and restriction of free access to intel-
lectual property and business know-how.
IX
2.2 Commercial and Strategic Drivers........................................................24
An advantage of outsourcing is that the buyer gains a certain
degree of flexibility: staff must be paid only as long as needed.
To some extent fixed costs are turned into variable costs. The
validity of this outsourcing advantage must be questioned, how-
ever, and assessed in the particular scenario at hand; the cus-
tomer is frequently keen on staff stability on the vendor s side.
Continuity of staff in the context of cost efficiency requires a
certain degree of continuity of orders.
The outsourcing relationship allows the customer to focus on
its core activities. The other side of the coin is a higher dependency
on the external vendor providing crucial IT services.
Many of the published success stories of offshore outsourcing
refer to rather large organizations — say, those with at least 50
in-house IT staff. Small organizations have access to offshore
outsourcing as well, but they need more creative solutions.
2.3 Allotting Driver Priority........................................................................26
Technological, commercial, or financial drivers may play a role
when designing offshore plans. Depending on the degree of pri-
ority assigned to each of these factors, the outsourcing scenario
will look completely different. For this reason it is of foremost
importance that the customer fully understand its motivations
and establish its priorities.
3 Costs............................................................................................29
American and Western European companies receive offers for
software development from emerging countries such as China,
India, and Eastern European nations almost every day. Some-
times the prices put forward are as low as 25 percent of the
price offered by onshore providers for the same services — in
extreme cases, even below this rate. These numbers suggest
that cost reductions of at least three quarters should be expected
if software projects are outsourced to offshore vendors. Never-
theless, most case studies report savings of only 15 to 30
percent. Even these considerably smaller savings are achieved
only after the offshore relationship has been established and
the cooperation has found its rhythm; the first few projects
frequently involve no savings at all and sometimes entail even
higher costs than in the case of onshore workers. This raises
the issue of the reasons why this could happen.
Offshore projects include a number of hidden costs of which
first-time customers are frequently not aware — e.g., costs for
governance and communication. In failed offshore scenarios,
adequate governance often was lacking. In other cases high
communication costs led to reduced communication and con-
sequently to compromised management quality.
3.1 Realistic Estimation of Costs.................................................................29
An offshore cooperation implies a number of hidden costs that
blunt the cost advantages. Managers who are new to the business
are not always aware of the costs of establishing the relationship,
transferring the know-how to the vendor, managing the relation-
ship and— one of the most important factors— communication.
Cultural differences can cause more problems than expected.
Failing projects may, in turn, lead to consequential damages,
last but not least, the customer has to work out a realistic plan
of business continuity if the relationship with the vendor is to be
ended.
3.2 Cost Dynamics.......................................................................................33
Initial costs are only one component of the calculation. The
prognosis of cost evolution is no less important. The rather high
costs of establishing the offshore scenario are present only during
the first few projects. Thus, later projects will not be affected by
these initial costs. However, the salaries for developers in emerging
countries have been steadily growing over the years; thus, it can
be expected that the differences will not last forever. The last
variable in the equation is the vendor s pricing policy, some of
the largest and most mature vendors in India have already
started asking why the price has to be lower if the quality is higher.
3.3 Communication Cost.............................................................................39
Long distances between service provider and buyer make com-
munication more expensive. If the two firms are separated by
many time zones and have only few common office hours, appar-
ently commonplace things such as phone calls can become a real
issue. Unless the partners on both shores speak the same native
language, at least one of them has to communicate in a foreign
language. Depending on language proficiency, the quality of
communication may suffer. Expensive and difficult communica-
tion can result in simply less communication, which may in turn
lead to a breakdown of management quality. (See also Section 7.4.)
Due to the hazards of communication cost, the customer is
well advised to consider communication costs carefully in the very
first outline of the offshore scenario. This applies especially if the
projects are prone to having extensive communication needs —
e.g., innovative products. (See Chapter 8.)
3.4 Business Continuity in Case of War or Disaster................................42
Once the offshore scenario is established, it has growing impor-
tance for the buyer. Thus war or disaster in the emerging country
XI
can have a serious impact on the customer s business continuity.
Some countries are more prone to political instabilities or disasters
and others are less vulnerable. If emergency situations are likely
to occur, the customer might want to establish a disaster recovery
plan.
Countries: Deciding on an Offshore Location........................45
Partners from at least two countries contribute to the offshore
scenario. The responsible managers should have some basic
knowledge about these countries. This information has to come
from reliable sources; otherwise, it is useless or even harmful.
The governments of the developing country or institutions
closely related to the government are not necessarily the best
sources in this instance because they are likely to make biased
statements; most governments throughout the world are vying
for foreign investors because such investors are highly attractive
for their countries economy. For obvious reasons, a government
might be tempted to paint its country s image in exaggeratedly
bright colors. Thus it might be better to enlist the help and
common-sense expertise of independent sources. Foreigners
who have who have worked in the country s software industry
could be reliable advisers. Organizations that provide ratings of
the investment climate in various countries are another source
of information.
This chapter provides a checklist of what should be known
about the countries and companies involved. Some items might
not be answered, but others might have limited relevance for
the offshore scenario at hand. Some of the questions could
have an obvious answer for some managers but not for other
members of the offshore relationship. The questions offer some
guidance for further investigation and may help prospective
participants in an offshore relationship avoid potentially costly
information deficiencies. The checklist identifies items that may
qualify as truisms in industrialized countries but are not to be
taken for granted when it comes to developing nations — e.g.,
continuous supply of electricity, telecommunication, and Inter-
net access.
4.1 Importance of Background Information about the Contributing
Countries................................................................................................46
When preparing for setting up an offshore relationship, the man-
agement of all contributing companies should be in possession
of at least some basic knowledge about the situation in the respec-
tive countries. In addition, they should know as much as possible
xii ¦ The Insider s Guide to Outsourcing Risks and Rewards
about their future partners. This background information is nec-
essary to cross-check the calculation made on an offer. It helps
executives anticipate risks that might arise in future projects and
find possible mitigations. It may even provide some essential
information that might lead to the cancellation of future coop-
eration before it has actually started. One reason for canceling
the cooperation might he that there is no acceptable solution for
the anticipated risks: sometimes it is better not to start cooperation
at all rather than to have it end in a fiasco.
4.2 Investment Climate................................................................................47
The political situation in the offshore country can greatly influ-
ence the long-term success of the offshore scenario. Political insta-
bility or territorial conflicts might lead to war, which makes
business virtually impossible. Potential natural disasters are other
reasons for an emergency plan. There are huge differences in
the way foreign managers perceive the level of security in every-
day life in emerging countries. If personal freedom or human
rights are overly restricted, a smooth work flow may become
impossible.
4.3 Economic Facts in the Offshore Country............................................55
Cost efficiency is a prime issue in most offshore scenarios. This is
why potential investors should know some basic economic facts
about the emerging country, including average income, cost of
living, and prices for office space and other real estate. Taxes are
important, and the prognosis for labor cost influences the long-
term feasibility of the offshore relationship.
4.4 Legal Systems.........................................................................................57
The executives of all contributing companies need a basic under-
standing of the legal systems in the other countries involved. There
are huge differences in the practical aspects of legal systems in
emerging countries and in industrialized countries. In practice,
the differences are even larger than the study of the published
laws may suggest.
Partners: Customer—Vendor Relationship................................63
It s all about relationships in outsourcing business. The first
decisions for the emerging relationship are already made before
its actual onset at the time when the customer selects a vendor
and the two parties negotiate the outsourcing contract. This
preparation task constitutes a significant part of the investment
in establishing the offshore scenario, but a carefully structured
process of vendor selection can greatly diminish the costs of
XIII
establishing the relationship. The customer s first step is denning
the vendor selection criteria and clarifying the motivations for
the outsourcing decision: financial, technical, or commercial.
After both sides have elicited reliable information, the exact
stipulations of the contract can be negotiated. Once the out-
sourcing scenario is established, the customer must manage the
vendor and oversee the work of the offshore team. When the
cooperation gains speed, it is quite likely that sooner or later
disputes about technical or contractual issues will appear. Liti-
gation is almost always the worst solution. Therefore, many
outsourcing contracts include a dispute resolution procedure,
which usually starts with forwarding the conflict in a predefined
way to higher management. If the issue remains unsolved, the
partner can apply mediation or arbitration in an attempt to find
a mutually acceptable settlement before taking the ultimate step
of going to court.
One widely applied method of government and vendor
management is benchmark audits; an independent third party
provider of benchmarking services helps to analyze the rela-
tionship and evaluates the vendor s performance by comparing
it to that of peer companies. The benchmark study should
determine whether the service level still matches the state of
the art and whether the prices are appropriate and the contrac-
tual provisions are fair. The benchmark report may conclude
that the vendor has to solve any identified problems within a
reasonable time period or that the fees need adaptation. Bench-
mark clauses are adopted in many outsourcing contracts. For
the customer, they are a way to keep the vendor honest. A
successful benchmark audit can increase customer satisfaction
and thus improve the customer-vendor relationship.
In scenarios where the customer works with a single pro-
vider, this vendor can gain undue influence because of its
monopoly position. Some customers try to avoid these problems
by working with more than one vendor in parallel. Such so-
called multisourcing scenarios can have a number of advan-
tages because they introduce a competitive element. However,
coordinating multiple vendors who are competitors on the
market creates other challenges and requires advanced skills in
project management and information technology (IT) politics:
the work atmosphere might become tense, and the project can
reach a crisis because the various service providers do not
cooperate smoothly but try to undermine each other s reputation
in front of the customer.
xiv ¦ The Insider s Guide to Outsourcing Risks and Rewards
5.1 Vendor Selection and Contract Negotiation........................................64
Vendor selection and negotiation of the outsourcing contract are
major items on the list of costs in the process of establishing the
outsourcing relationship. However, it is possible to save costs by
applying a well-defined, carefully considered, and structured
process evolving from the first informal discussion to the signed
contract in a systematic way.
5.2 Due Diligence: Eliciting Information about Vendors.........................73
Any outsourcing relationship (not only offshore) is based on trust.
Before the customer can enter this relationship, it has to do some
due diligence and collect some basic data about the future partner:
¦ Cost reductions are a strong motivation in many offshore
scenarios. If the vendor is overly cheap, this may be a indi-
cation of economic instability, which is against the best inter-
ests of the customer.
¦ Because the vendor s team is part of the customer s extended
enterprise, the buyer has to validate the qualifications of the
offshore workers. A particular problem of teams in emerging
software industries is the worryingly high attrition numbers.
¦ Many customers ask for references from the vendor to eval-
uate its reputation in the market. However, reading and
interpreting recommendations requires experience and a
good deal of skepticism.
¦ Most offshore scenarios are designed for long periods of time.
For this reason, many analysts suggest that synergy of stra-
tegic goals is necessary.
¦ Security is a particularly important issue in offshore scenar-
ios. Ihe customer needs to ensure that the future partner s
security measures reach the necessary standards.
In many scenarios it can prove difficult to elicit reliable and
complete information regarding the listed items. The vendors
might have good reasons to disclose only part of the required
information or give misleading or even false information.
5.3 Vendor s Need to Garner Information Regarding the Customer......79
Like customers, vendors need information about their prospective
partners. The offshore team should have a profound understand-
ing of the client s business culture and the values promoted by
the buyer s organization — i.e., how things are done at the
customer s site. The differences in labor costs are a key motivation
for many offshore scenarios. For this reason, the offshore team
has to be aware that protection of the onshore working time is of
high priority. Most buyers are fair and serious, but there are a
few exceptions involving somewhat nasty customers. To avoid
future problems, the vendor will want to assess the rating of the
customer as early as possible.
XV
5.4 Governance: Managing the Relationship with the Vendor................81
The buyer is well advised to implement strong and cautious
management, carried out by people who fully understand the
content and strategic goal of the outsourcing deal, oversee the
work of the offshore team, and manage the relationship. This
steering committee constitutes an interface to the offshore team,
facilitates dispute resolution, and serves as an internal advocate
of the offshore scenario.
In many practical cases, it turns out that overseeing the work
of an offshore team is no easier than developing the software in
house. The customer s team usually needs additional training to
deal with the challetiges of remote project management.
5.5 Dispute Resolution................................................................................86
During the long term of an offshore cooperation, it is quite likely
that disputes about technical and contractual issues will appear.
Frequently, litigation is the last and least desirable option. For
this reason, many offshore contracts provide for a set of proce-
dures for conflict resolution that defines a way in which the
partners can express their concerns and search for a mutually
accepted solution without resorting to costly litigation. This so-
called escalation procedure includes alternative dispute resolu-
tion (ADR) and a reasonable number of preliminary levels before
the ultimate step of legal action.
5.6 Benchmark Audits.................................................................................88
During a benchmark study the service levels and prices of the
deal are compared to the conditions of the vendor s peer compa-
nies. Usually an independent third party, the benchmark pro-
vider, carries out the audit. A successful benchmark requires
careful preparation, which starts with defining the scope of the
audit and eliciting the necessary raw data during a monitoring
period. Some contracts provide an automatic adaptation of the
prices as a consequence of the audit. In other relationships, the
results are used as a basis for discussion without immediate
legally binding consequences.
Not all analysts agree on the methodological reliability of a
benchmark audit. Some object that most IT projects are unique
and not really amenable to a like-to-like comparison. Another
objection is that the quality of the relationship can hardly he
measured by means of normalized comparison.
Stakeholders: Interest Groups in the Offshore
Relationship................................................................................93
The offshore relationship has quite a number of different groups
with an interest in the relationship ( stakeholders ). Obviously,
both companies (onshore and offshore) and their executives
xvi ¦ The Insider s Guide to Outsourcing Risks and Rewards
are important. However, other viewpoints should be considered
as well, including those of:
¦ The developers in the emerging country — who are
working for relatively low pay
¦ Onshore technical staff — many of whom will probably
lose their jobs
¦ Offshore managers and entrepreneurs — who might face
conflicting interests
¦ Envoys of Western companies — who have to work
temporarily or permanently in emerging countries
¦ Offshore liaisons — who are visiting the customer s office
in the industrialized country
All these groups have a say in and an important contribution
to the success of the offshore cooperation. These stakeholders
can have secret plans for the future, which may not necessarily
be in line with the contract. Only rarely do the other parties
involved consider these plans fair.
6.1 Conflicting Viewpoints: An Introductory Case Study.........................94
Offshore relationships usually involve numerous interest groups
with divergent interests, some of which are disclosed, although
others are kept secret. The following case study offers an illustra-
tion of how the secret interests of various stakeholders may turn
a potentially successful offshore scenario into a failure.
6.2 Customers and Vendors........................................................................96
It has been said that an offshore scenario has to be a win-win
situation. To some extent this is true; if the deal is overly unbal-
anced the relationship becomes unstable, and it is quite likely to
end in a lose-lose situation — i.e., in a way that is unsatisfactory
for both sides. Skepticism regarding a long-term successful off-
shore relationship is especially justified if the prices are unreal-
istically low and not sustainable for the vendor in the long run.
Unfortunately, the harsh reality is that outsourcing is not an
inherent win-win scenario. In many respects, customers and
vendors interests are poles apart. The balance of prices is one
obstacle against a win-win strategy. Another obstacle is that the
business models are prone to change with time: vendors become
better qualified and accumulate additional capital for more
ambitious plans. Customers, on the other side, shift their focus to
their core competencies while losing power and control in the IT
field. It is difficult to predict where this dynamic will lead to in,
say, ten years. Both shores will make long-term strategic and
commercial plans— which are to their own advantage, of course,
XVII
and not necessarily to the advantage of their current business
partners.
This section will outline some areas where customers and
vendors interests are diametrically opposed.
6.3 Staff in Developing Countries..............................................................98
Employing and organizing employees in emerging countries is
quite different from managing an onshore software team. These
differences are particularly important for customers who want to
establish their own foreign subsidiary and not merely work with
an independent vendor.
6.4 Management of Human Resources in Emerging Software
Industries..............................................................................................105
To some extent, management of staff in an emerging country is
similar to leading a software team in an industrialized country.
However, important differences exist. High attrition of staff is a
serious problem in emerging software industries. Because most
software projects require a certain degree of continuity, the off-
shore management has to pay particular attention to controlling
the retention rate. A specific part of the attrition problem is
represented by emigrating software engineers, who constitute a
significant fraction of the young graduates. If someone decides
to leave the country, the offshore company usually cannot make
a competitive offer to keep this person on the job.
In some offshore countries, there are excellent top talents at
a high professional level. For IT companies, it is very attractive
to hire these young stars. However, even in emerging countries
these talents are a scarce resource. Thus finding, hiring, and
retaining outstanding talents requires specific management skills
and a lot of background information.
6.5 The Customer s In-House Team........................................................Ill
The customer s in-house team is vital when offshore plans are
evaluated. On the one hand, the offshore scenario will need the
active support of as many members of the onshore team as possible
to train the replacement workers. On the other hand, most of the
members of the in-house team will Jose their jobs once the
offshore cooperation is established. Those who will contribute to
the offshore cooperation will be needing new skills and signifi-
cant training.
6.6 Offshore Manager................................................................................115
Emerging countries enjoy high economic growth, but qualified
managers are few and far between. For this reason, some offshore
vendors encounter problems with finding and holding onto
experienced leaders, as managers with the necessary business
xviii ¦ The Insider s Guide to OutsourcingRisks and Rewards
experience have many options both in the emerging country and
abroad.
6.7 Envoys from Western Companies......................................................117
Some offshore business models require that managers and tech-
nical staff temporarily or permanently relocate to the developing
country — e.g., as customers representatives. These so-called
envoys take an important role in the communication mechanisms
of the offshore relationship.
In developing countries, costs of living are usually lower.
Hoivever, if the envoy wants to keep up Western living standards,
the cost of living might be even higher than in industrialized
countries. As compared to the low per capita income in the devel-
oping country, the envoy is considered rather well-off; such indi-
viduals are attractive targets for crimes with economic motivations.
6.8 Offshore Staff Working in Industrialized Countries.........................119
Liaisons are employees of the offshore vendor who work for a
certain time at the customer s site (see also Section 7.4). In many
offshore scenarios, liaisons facilitate international communica-
tion and narrow cultural gaps. The liaison usually bears a lot of
responsibility within the project. For this reason, these people are
very qualified and carefully selected — which makes them par-
ticularly attractive to headhunters.
A possible conflict of interest arises if the offshore worker wants
to use the liaison role as a base for starting a software business.
Due to the liaison s large influence in the project, the customer
might be tempted to corrupt the liaison to gain undue advantages,
apart from the officially negotiated ones.
6.9 Offshore Advisers................................................................................122
Establishing an offshore scenario requires much background
information about the contributing countries and about IT out-
sourcing management. Some specialized consulting companies
offer this know-how and can help the customer find a qualified
vendor and establish the relationship
Some offshore scenarios enlist the help of specialized compa-
nies consisting of offshore professionals to establish the coopera-
tion. The advisers working for these companies are experts in the
offshore outsourcing of IT projects. They are well acquainted with
the state of affairs in both countries, they are sufficiently knowl-
edgeable on software technology and contracts, and they maintain
excellent contacts, both onshore and offshore. These offshore
advisers are frequently rather small organizations; sometimes
they are in fact one-person companies where the offshore agent
is self-employed. The agency can play various roles in an offshore
scenario.
XIX
6.10 Shady Business Agents.......................................................................123
Selecting a proper, suitable agency implies a certain degree of
care and suspicion because not all offshore agents are creditable
enough. The case study gives an example.
6.11 Public Opinion in Industrialized Countries: Globalism...................126
It is not only one company that goes offshore; the entire software
industry in leading economies is on its way to foreign soil. This
fact introduces a political dimension to the discussion.
Business Architectures.............................................................133
Analysis of offshore scenarios has shown that only a limited
number of business architectures turn out to be successful in
practice. Some business models that are successful on domestic
markets may fail in an offshore scenario. Two aspects should
be considered when establishing which business model is rea-
sonable in a given offshore scenario: the projects characteristics
and the consequential damages if the project fails.
Costs for communication can be high in offshore scenarios,
and management quality can seriously suffer as a consequence
of lack of quality communication. Many analysts consider these
facts among the prime reasons for failing offshore scenarios.
For this reason, the business architecture has to address com-
munication cost from the very onset. Following is a Business
Models Overview.
7.1 Business Architecture Adequate to Projects at Hand.......................133
The projects that should be carried out in an envisioned offshore
scenario have a strong bearing on the business architecture. A
scenario that includes many, short, and easy projects requires a
completely different business model than a single large and tech-
nologically challenging project does. Consequential damages are
of particular interest in case the project fails: if high damages
are to be expected, the client will need additional means of control
over the vendor s processes.
7.2 Options for Business Models.............................................................135
When designing the blueprint for the business architecture, the
customer has to decide whether it wants to work with an inde-
pendent vendor or start its own foreign subsidiary. A subsidiary
requires more know-how but provides the customer with strong
control instruments.
In offshore business, several types of one-to-one relations are
frequently applied — joint ventures, strategic alliances, etc. In
practice, many of these business architectures are somewhere in
between an independent vendor and a foreign subsidiary.
xx ¦ The Insider s Guide to Outsourcing Risks and Rewards
Another factor that influences the business model is the size
of the contributing units-, although most published case studies
refer to large customers, small clients often have to find more
creative solutions.
Important business models that are frequently applied in off-
shore outsourcing are onsite offshoring, body leasing^ agencies,
and subcontracting (daisy chains). The so-called follow-the-sun
model is used in help desk management where 24/7 availability
is required.
7.3 Constraints for Business Models........................................................146
Some specific factors have to be considered when designing the
business architecture of an offshore scenario. The business archi-
tecture should take into account the high startup cost of the
offshore relationship and the precious know-how that needs pro-
tection. Some business models, such as foreign subsidiaries,
require much information on the countries involved and profes-
sional background on software projects. For the customer, it is
wise to carefully analyze whether this know-how is available in
its organization.
7.4 Communication and Cultural Distance..............................................148
A major challenge for offshore software projects is the unavoid-
able long-distance communication. If this problem is not solved
in a satisfactory manner, the communication costs are likely to
take up most of the potential cost savings. For this reason the
business architecture should be designed so that communication
is minimized. (See Section 33)
In general it is more cost efficient to outsource an entire
project — not parts of a project, i.e., modules. In addition out-
sourcing only some phases (like implementation or test) causes
higher costs than outsourcing the entire life cycle of the project.
The staff at the offshore site should have enough competence and
ownership to assume responsibility for the entire product— i.e.,
for the final result. Otherwise, the project may fail because noone
is truly responsible for the outcome, i.e., for the success of the
project in its entirety. A rule of thumb says: Outsource entire
things (notparts) for their entire life span and make the offshore
site accountable for the overall result. In many offshore scenarios
this rule leads to acceptable costs of communication.
The following tactical approaches can help reduce the cost of
communication as well as the cultural distance.
15 Multi-Sourcing......................................................................................151
The customer can try to avoid dependency on a single vendor by
working with multiple vendors in parallel — so-called multi-
XXI
sourcing. In this way the unduly strong monopoly position of the
sole vendor is broken, and competition can put the outsourcing
scenario in motion. Multi-sourcing, however, requires advanced
skills in both management of the multiple vendors and IT politics.
8 Selecting Suitable Projects.......................................................155
Certain types of projects can be transferred offshore more easily
than others can. For this reason, the selection of suitable projects
is a crucial success factor for an offshore scenario. The category
of projects that can be outsourced advantageously includes short
projects and routine work-based projects. In projects that
require very specific know-how, outsourcing can lead to con-
siderable advantages. It is generally easier to outsource entire
projects than parts. Highly iterative processes such as extreme
Programming require specific business architectures to be
accessible for offshore outsourcing. More obstacles have been
reported within projects that fall into one of these categories:
¦ Projects with high risks of consequential damages in case
of failure
¦ Projects that include confidential intellectual property or
technologies that are covered by export restrictions —
e.g., military projects
¦ Innovative products that require much interaction
between the software team and domain experts or man-
agement
¦ Projects that require a high degree of security
8.1 Less Challenging Projects...................................................................155
Less challenging projects, routine work, and short projects are
easily accessible to offshore outsourcing. Thus, these projects are
a frequent entry point into an offshore relationship.
8.2 Projects Requiring Very Specific Technological Know-How...........157
Some specific technical problems can be very easy to solve for
someone who already did this work hut extremely time-consum-
ing for someone who is green in the field and has who must first
learn the technology. Therefore, outsourcing the solution to spe-
cific technological problems can be a major advantage.
8.3 Virtual Teams.......................................................................................158
In some scenarios there might be compelling reasons to outsource
only apart of a project or only certain phases of the development.
In many cases, however, outsourcing an entire project for its
entire life cycle is more cost efficient.
xxii ¦ The Insider s Guide to Outsourcing Risks and Rewards
8.4 Highly Iterative Development Processes...........................................163
In some projects where time-to-market is extremely critical— e.g.,
Web applications — extreme Programming and other highly
iterative software processes have reported impressive successes. In
such software management processes no (or very few) require-
ments are written in advance. Instead, one or more user-repre-
sentatives are permanently working with the software team and
specify new requirements just as the project is being implemented.
Integrating highly iterative processes into the widely used out-
sourcing frameworks— like the fixed-price contract— is difficult.
For this reason extreme Programming requires a specific business
architecture to be successfully outsourced. The anecdote is an
example of such a situation.
8.5 Unsuitable Projects..............................................................................164
Some projects are less accessible to offshore outsourcing. This class
includes:
¦ Projects with high consequential damages due to project
failure
¦ Projects that include valuable intellectual property, confiden-
tial data, or technologies subject to export regulations
¦ Projects that lack clear written specifications
¦ Innovative projects for which complete requirements are
hard to specify in advance
¦ In some organizations, anticipated cost savings are limited
and do not justify the investments and risks of the transition
period
9 Contracts: Project Contracts and Service Agreements.........169
The contracts used in outsourcing business can be roughly
grouped in three categories.
1. Fixed-price contracts. An estimate of the workload is
prepared in advance, and the contract partners agree on
a fixed amount of money for the entire project.
2. Unit-price contracts. The contract sets a certain sum to
be paid per hour of actual ¦working time.
3. Service agreements. The provider substitutes for the cus-
tomer s internal IT department for a certain period of
time. The contract specifies the vendor s duties and the
monthly fees.
Project contracts involve more-or-less detailed written require-
ments determined before the implementation can start. When
the implementation is finished, the product must be officially
accepted by the customer. In most projects, the implementation
XXIII
is followed by a guarantee period during which reported failures
must be repaired without additional payment.
9.1 Requirements.......................................................................................169
Requirements are usually developed in several steps that provide
an increasing level of detail: the Product Vision Statement, the
Concept of Operations (CONOPS), and one or more detailed
Software Requirements Specifications (SRS). Before the CONOPS
is agreed upon, the project is considered to he in the brainstorm-
ing phase. In this phase many projects are likely to undergo
fundamental changes regarding the feature set and the volume
of investments. Quite a number of projects are cancelled before
they reach the phase of detailed specification.
Frequently, the vendor has to contribute in one way or
another to the requirements phase. In some outsourcing scenar-
ios, the partners start discussing technical aspects even before the
contract is completely negotiated and signed. This practice raises
two important issues:
1. How is the vendor s precontractual investment protected?
2. How is the confidentiality of the requirements ensured?
9.2 Fixed-Price Contracts..........................................................................175
In a fixed-price contract, the partners agree in advance on a
certain price for a specified project. The requirements must be
rather well specified in advance and in written form because they
form the basis of cost estimation. For customers, the fixed-price
contract has the advantage that it provides prior information on
how much the project will cost. In practice, however, this appar-
ently firm base of calculation must be questioned because most
software projects require changes and extensions even before the
first version is delivered. These changes add to the price. In
extreme cases the final price can be double the initially agreed-
on fixed price — or even higher.
The acceptance is an important milestone in the life cycle
of a software project because it triggers the start of the guarantee
period. In addition, the payment for the project must be made at
this stage — at least a significant part of it.
A specific problem that might arise in fixed-price contracts is
cancellation. Unless the contract includes a carefully drafted
clause, the customer can only cancel the project with high losses.
9.3 Unit-Price Contracts.............................................................................187
In a unit-price contract, the working time that has been spent
developing the project is accounted and paid for at a rate on
which the partners have agreed in advance— e.g., payment per
hour. Notice, however, that a unit-price contract (in its pure form)
xxiv ¦ The Insider s Guide to Outsourcing Risks and Rewards
does not limit the budget for the contract. Because a limited
project budget is of vital importance for most buyers, unit-price
contracts frequently include upper limits, ensuring that the
project will be finished within this budget.
Unless the contract provides something else, the maintenance
of a unit-price project is paid for separately. This is at the very
least a nuisance for the customer because it has to pay the vendor
for repairing its own faults. In some cases the maintenance can
significantly increase the costs of the project.
Because the customer has to pay for each working hour, it
has an interest in making sure that the reported hours have really
been used for its project. Verification of the reported hours is a
particular issue if the vendor is offshore.
9.4 Guarantee Period................................................................................192
The purpose of the guarantee period is to provide the customer
with the right to free-of-charge repair of defects discovered after
the project has been delivered. Although the guarantee period is
an important part of most contracts, some issues require further
in-depth consideration.
There will usually be a delay between the error report and
the corrected version. The customer would like to obtain the
corrections as fast as possible. In practice, however, this is not
always possible.
Some defects require that a service engineer come to the user s
site and analyze the problem there. The costs for travel are usually
much higher than the few working hours spent correcting the
error. If this is an issue, the contract should provide how such
costs are handled.
Repairing reported faults is much more efficient if the failure
is reproducible on the developer s computer— i.e., if the developer
has a known procedure that always shows the reported wrong
behavior. Mature defect reports, however, require additional
efforts on the side of the user. A particularly challenging class of
defects is transient defects — i.e. failures that occur only spo-
radically, even if the same sequence of operations is performed
on the same computer. Resolving defects of this class can he very
costly. Thus, the contract should include stipulations in case the
project is prone to this class of errors.
In some cases it may he debatable whether a reported behavior
is in fact a failure or if it is a desirable feature. Many of these
potential disputes are clarified in style guides, which specify in
detail the look and feel of the applications of a certain operating
system. In practice, however, it may prove costly for the vendor
to stick to each tiny detail of the style guide that is being imple-
mented. For this reason, some service providers hesitate to sign
contracts that include references to style guides.
XXV
Repairing the defect is only one step. Delivery of the corrected
version causes additional costs. In general, not each fixed prob-
lem justifies a new version.
Software does not wear out over time. All failures that are
identified afterwards are already present in the software at the
time of delivery. In some countries, legislation does not cover this
case adequately, and it might he necessary to make clear that
these are not latent defects — otherwise, the guarantee period
for software would never end.
9.5 Transferring Responsibility for Source Code....................................202
In many software projects the responsibility for source code (in
jargon called ownership ) is transferred during the life cycle of
a software project. Prior to a certain date, a certain team owns
the source code; after that date, another team is responsible for
it. Notice that in this context ownership is equivalent to respon-
sibility and does not hint at the notion of ownership in a legal
sense.
One example where transfer of ownership is necessary is the
guarantee period: before the guarantee period ends, the vendor
is accountable; afterward the customer is responsible (unless the
contract provides otherwise). Transfer of ownership can entail
difficult defect responsibility issues.
9.6 Service Agreements: Outsourcing the IT for a Certain Time..........209
A service level agreement usually includes the following parts
(among others):
¦ Contract terms — How long is the contract valid?
¦ Scope of services. What exactly are the vendor s duties?
¦ Service Level Agreement (SLA). A detailed specification of the
quality of provider services (e.g., response time).
10 Industrial Espionage................................................................213
Confidential assets benefit from little legal protection in emerg-
ing countries. In this chapter, an introductory case study shows
how easy it was for a Pakistani clerical worker to threaten a
prestigious American hospital with publishing their confidential
patient files on the Internet. Ultimately, the Pakistani worker
could not even be sentenced for what she had done.
Potential targets of industrial espionage include data, source
code, and business secrets, each of which has different dynam-
ics and is thus analyzed separately in this chapter. There are a
number of ways that confidential material can fall into the wrong
hands, including server access, test data, access of the offshore
liaison to the customer s networks, an unreliable subcontractor
xxvi ¦ The Insider s Guide to Outsourcing Risks and Rewards
of the vendor, professional industrial spies, criminal attacks
against the vendor (e.g., forced entry into the office building),
and vendors who are also working for the customer s competitors.
Protection against espionage includes tight monitoring of
human resources and understanding of the legal systems of the
countries involved — to provide the necessary deterrence of
adequate punishment in case the attacker is caught. Despite all
precautions, watertight protection of confidential material in
developing countries has been difficult, at least so far. For this
reason, the customer has to assess carefully which risks its
organization can afford and whether the cost advantage justifies
the risk.
10.1 Espionage: An Introductory Case Study............................................213
This case study outlines the situation of a clerical worker from
Pakistan who had been transcribing confidential patient data
from a prestigious hospital in California. The Pakistani woman
claimed that her client owed her money and threatened to make
the patients files public through the Internet unless she was paid
the money she believed was due to her.
10.2 Targets of Espionage...........................................................................218
In this section three targets of espionage are addressed: confiden-
tial data, source code, and business secrets. Data is the most
systemized and easiest item to protect. Source code and the related
technical documentation are more difficult to protect because
they have to be handed over to offshore staff who need to work
with them. Business know-how has a rather unstructured mean-
ing; even a handwritten page of paper on which an executive
outlined a new business idea can be top secret. Background
information about the business is usually not considered secret.
Nevertheless, on some narrow markets it can constitute a precious
resource that is managed like a secret.
10.3 Potential Security Vulnerabilities in Offshore Scenarios..................229
There are a number of ways for potentially unreliable offshore
workers to access confidential information:
¦ The protected data is placed on a server that can be accessed
by offshore staff, either foreign engineers who gain access to
the server password in an unauthorized way or developers
who have legitimate access to the server because they have
to carry through maintenance tasks.
¦ Test data frequently contains information that can be traced
back to real persons or real customers. This is true especially
if the test data is used in the context of analyzing a reported
defect that only occurs in very specific conditions.
XXVII
¦ Workers in emerging countries are rather poor and thus more
tempted to take up unserious offers. Although many custom-
ers have some lines of defense in place against external
attacks, the defense against attacks from inside is frequently
rather poor. Throughout the offshore cooperation, foreign
staff can gain the status of insiders. In this case it may be
ridiculously easy for the offshore developer to break the lines
of defense that were supposed to protect against attacks from
inside.
¦ Some offshore vendors subcontract part of the work to other
countries where the salaries are even lower— and so is the
reliability of workers.
¦ Another category of unreliable workers is spies in software
teams who get employed from the very beginning for the main
purpose of stealing confidential information.
¦ A special kind of espionage strategy is that of intentional
security vulnerabilities — fragments of code that are
included in legitimate software allowing unauthorized
access to classified information (e.g., backdoors and Tro-
jan horses ).
¦ Security in emerging countries frequently fails to meet the
standards of industrialized nations. Unless the vendor s office
building is under permanent surveillance, it is quite likely
that sooner or later forced entries will be reported. Other
potential security gaps include the vendor s networks.
¦ Vendors who are also working for competitors constitute a
particular danger for confidential information. In extreme
cases, the competitor could even buy the vendor s organization.
10.4 Defense against Espionage.................................................................246
Careful preparation of lines of defense and tight monitoring of
human resources can greatly improve the security of confidential
material. Another important solution is severe punishment if the
attacker is captured. Nevertheless, the protection of confidential
material in emerging countries does not reach the high standards
level that it does in industrialized countries. For this reason, the
customer has to assess carefully which risks to take.
11 Termination of the Outsourcing Relationship......................251
Only a few outsourcing scenarios continue indefinitely. All
others end sooner or later; they are limited to one or more
projects, or they are designed for a certain period of coopera-
tion. The customer should retain the ability to terminate the
relationship with the vendor and continue its business with
another provider or bring the services back in house. This step
requires access to key personnel and to technical material such
as source code and documentation. Contractual provisions are
jKxvin ¦ The Insider s Guide to Outsourcing Risks and Rewards
important, of course. Experience shows, however, that contrac-
tual provisions alone are not enough to meet the requirement
of business continuity after finishing the outsourcing relation-
ship. The exit plan must also include careful management of
in-house know-how and practical business decisions, e.g., main-
taining leadership in essential business relationships.
These conditions seem obvious; nevertheless, they cannot
always be taken for granted in practice. In many outsourcing
relationships, the customer s dependency on the vendor con-
stantly grows until it reaches an extent where the customer
cannot go on anymore without the vendor. In this case the
customer cannot easily escape this binding relationship — even
if it is not necessarily legally binding and the contract includes
provisions for termination of the cooperation.
If the buyer is not really in a position to end the relationship,
this vulnerability might turn to its disadvantage in time; the
vendor might change its pricing strategy or decrease its service
level.
A recent poll shows that it is anything but rare that IT
services have to be brought back in house (see Figure 11.1).
11.1 Contractual Stipulations......................................................................252
Most contracts allow termination due to breach of material obli-
gation. Termination for convenience allows the customer to end
the contract without any reason whatsoever, paying a fee agreed
upon in advance. Some contracts include other reasons for ter-
mination — e.g., in case of insolvency or if the vendor leaves the
business. Contractual provisions are important if the customer
wants to terminate the contract. Additional practical prepara-
tions, however, are necessary to provide business continuity.
11.2 Vendors Forestall the Departure of a Customer...............................256
The vendor has good reasons to build up a strong position with
the customer and thus increase the customer s dependency on its
services:
¦ The vendor wants to receive additional orders from that
customer in the future.
¦ The vendor tries to keep the client away from potential com-
petitors. During the time of the contract, the vendor will take
measures so that the customer can switch to another provider
after the contract is finished only with considerable difficulty.
¦ The outsourcer might want to increase the margins of the
services provided for that customer. The buyer, on the other
hand, faces a number of obstacles when it wants to switch
XXIX
from one vendor to a competitor. These obstacles help the
provider consolidate its position with this client.
11.3 Issues of the Posttermination Transition...........................................260
A customer who wants to switch from one vendor to another will
encounter a transition problem that includes-.
¦ The necessary transfer of know-how from the old vendor s
staff to the new vendor s staff
¦ Access to technical documentation, intellectual property,
source code, and other deliverables
¦ Leadership in business relationships
¦ The posttermination assistance might turn out to be ineffi-
cient because the relationship is strained and the vendor is
uncooperative.
|
| adam_txt |
CONTENTS
Introduction.1
1.1 Myths about Offshore Outsourcing.1
1.2 Best Practices.3
1.3 Risks and Hazards.6
1.4 Checklist for Strategic Successful Offshore Outsourcing.9
1.5 Opinions and Hard Numbers about Global Sourcing. 1!
1.6 Definitions of Terms.IS
Drivers: Motivations in the Offshore Decision-Making
Process.19
2.1 Technological Drivers.19
2.2 Commercial and Strategic Drivers.24
2.3 Allotting Driver Priority.26
Costs.29
3.1 Realistic Estimation of Costs.29
32 Cost Dynamics.33
3.3 Communication Cost.39
3.4 Business Continuity in Case of War or Disaster.42
Countries: Deciding on an Offshore Location.45
4.1 Importance of Background Information about the Contributing
Countries.46
4.2 Investment Climate.47
4.3 Economic Facts in the Offshore Country.55
4.4 Legal Systems.5"
Partners: Customer-Vendor Relationship.63
5.1 Vendor Selection and Contract Negotiation.64
5.2 Due Diligence: Eliciting Information about Vendors.73
53 Vendor's Need to Garner Information Regarding the Customer.79
5.4 Governance: Managing the Relationship with the Vendor.HI
5.5 Dispute Resolution.86
5.6 Benchmark Audits.88
v
vi ¦ The Insider's Guide to Outsourcing Risks and Rewards
6 Stakeholders: Interest Groups in the Offshore
Relationship.93
6.1 Conflicting Viewpoints: An Introductory Case Study.94
6.2 Customers and Vendors.96
6.3 Staff in Developing Countries.98
6.4 Management of Human Resources in Emerging Software
Industries.105
6.5 The Customer's In-House Team.Ill
6.6 Offshore Manager.115
6.7 Envoys from Western Companies.117
6.8 Offshore Staff Working in Industrialized Countries.119
6.9 Offshore Advisers.122
6.10 Shady Business Agents.123
6.11 Public Opinion in Industrialized Countries: Globalism.126
7 Business Architectures.133
7.1 Business Architecture Adequate to Projects at Hand.133
7.2 Options for Business Models.135
7.3 Constraints for Business Models.146
7.4 Communication and Cultural Distance.148
7.5 Multi-Sourcing.151
8 Selecting Suitable Projects.155
8.1 Less Challenging Projects.155
8.2 Projects Requiring Very Specific Technological Know-How.157
8.3 Virtual Teams.158
8.4 Highly Iterative Development Processes.163
8.5 Unsuitable Projects.164
9 Contracts: Project Contracts and Service Agreements.169
91 Requirements.169
9.2 Fixed-Price Contracts.175
9.3 Unit-Price Contracts.187
9.4 Guarantee Period.192
9.5 Transferring Responsibility for Source Code.202
9.6 Service Agreements: Outsourcing the IT for a Certain Time.209
10 Industrial Espionage.213
10.1 Espionage: An Introductory Case Study.213
10.2 Targets of Espionage.218
10.3 Potential Security Vulnerabilities in Offshore Scenarios.229
10.4 Defense against Espionage.246
11 Termination of the Outsourcing Relationship.251
11.1 Contractual Stipulations.252
11.2 Vendors Forestall the Departure of a Customer.256
11.3 Issues of the Posttermination Transition.260
Index.275
ANNOTATED CONTENTS
Introduction.1
This introductory chapter includes sections about best practices,
myths, and risks, along with a checklist and a glossary. It
provides many entry points and references to other chapters of
the book where specific issues are analyzed in more detail.
1.1 Myths about Offshore Outsourcing.1
First-timers in offshore business have much to learn. This section
lists some myths that are commonly believed by inexperienced
buyers and that have even appeared in some published articles.
1.2 Best Practices.3
Some best practices have been successful in a number of projects
and according to the experience of the author. Notice, however,
that best practices are guidelines— not a panacea. More impor-
tant than understanding the "how-to-do-it" is understanding the
"what-can-go-wrong" when dealing with best practices.
1.3 Risks and Hazards.6
Many hazards exist in offshore outsourcing. That is what the
entire book is about: making responsible managers aware of what
can go wrong and what steps could be considered to mitigate
these risks. This section highlights some particularly frequent chal-
lenges and references the reader to the chapters and sections
where the issues are analyzed in more detail.
1.4 Checklist for Strategic Successful Offshore Outsourcing.9
The following checklist provides a number of questions that can
help a customer evaluate the maturity of its offshore outsourcing
plans and assess the chances of success.
VII
viii ¦ The Insider's Guide to Outsourcing Risks and Rewards
1.5 Opinions and Hard Numbers about Global Sourcing.11
At the time when this book was written, widely accepted hard
numbers were difficult to find. Many organizations that submit-
ted such numbers had vested interests to influence the public
opinion about global sourcing in one or the other direction. This
might explain why even numbers submitted by governmental
statistical institutions exhibited huge differences, depending on
which government controlled the respective institution.
Another reason for not including extensive surveys and stud-
ies in this book is that the numbers from these studies become
outdated rather quickly. In particular, "expert prognoses" that
refer to the future are prone to require "corrections" soon after
they are published. Thus, only a few selected numbers and expert
opinions that are currently under discussion are presented here.
1.6 Definitions of Terms.15
Offshore outsourcing has developed its own vocabulary. This
section provides a concise overview of the terms used and includes
references to the chapters where these concepts are explained in
more detail.
Drivers.19
The potential cost reduction is a compelling argument in favor
of offshore scenarios for many companies. Due to its dominant
role in a considerable a number of offshore projects, an entire
chapter of this book, Chapter 3, is dedicated to cost aspects.
In addition to the obvious financial motivation of cost reduc-
tion, commercial (strategic) or technological issues might be
taken into consideration, such as:
¦ Efforts to acquire and maintain IT know-how
¦ Access to scarce talent
¦ Additional flexibility
¦ Focus on core activities
2.1 Technological Drivers.19
Gaining access to leading-edge technology may he an important
reason for considering an outsourcing scenario. In many cases
the customer wants to outsource the IT-specific know-how,
although the domain expertise and business know-how should
remain in house. A technologically strong vendor specialized in
IT offers attractive advantages including economies of scale and
access to top talent. The outsourcing step, however, may lead to
strategic risks for the buyer in the long run, such as loss of direct
control over technical staff and restriction of free access to intel-
lectual property and business know-how.
IX
2.2 Commercial and Strategic Drivers.24
An advantage of outsourcing is that the buyer gains a certain
degree of flexibility: staff must be paid only as long as needed.
To some extent fixed costs are turned into variable costs. The
validity of this outsourcing advantage must be questioned, how-
ever, and assessed in the particular scenario at hand; the cus-
tomer is frequently keen on staff stability on the vendor's side.
Continuity of staff in the context of cost efficiency requires a
certain degree of continuity of orders.
The outsourcing relationship allows the customer to focus on
its core activities. The other side of the coin is a higher dependency
on the external vendor providing crucial IT services.
Many of the published success stories of offshore outsourcing
refer to rather large organizations — say, those with at least 50
in-house IT staff. Small organizations have access to offshore
outsourcing as well, but they need more creative solutions.
2.3 Allotting Driver Priority.26
Technological, commercial, or financial drivers may play a role
when designing offshore plans. Depending on the degree of pri-
ority assigned to each of these factors, the outsourcing scenario
will look completely different. For this reason it is of foremost
importance that the customer fully understand its motivations
and establish its priorities.
3 Costs.29
American and Western European companies receive offers for
software development from emerging countries such as China,
India, and Eastern European nations almost every day. Some-
times the prices put forward are as low as 25 percent of the
price offered by onshore providers for the same services — in
extreme cases, even below this rate. These numbers suggest
that cost reductions of at least three quarters should be expected
if software projects are outsourced to offshore vendors. Never-
theless, most case studies report savings of only 15 to 30
percent. Even these considerably smaller savings are achieved
only after the offshore relationship has been established and
the cooperation has found its rhythm; the first few projects
frequently involve no savings at all and sometimes entail even
higher costs than in the case of onshore workers. This raises
the issue of the reasons why this could happen.
Offshore projects include a number of hidden costs of which
first-time customers are frequently not aware — e.g., costs for
governance and communication. In failed offshore scenarios,
adequate governance often was lacking. In other cases high
communication costs led to reduced communication and con-
sequently to compromised management quality.
3.1 Realistic Estimation of Costs.29
An offshore cooperation implies a number of hidden costs that
blunt the cost advantages. Managers who are new to the business
are not always aware of the costs of establishing the relationship,
transferring the know-how to the vendor, managing the relation-
ship and— one of the most important factors— communication.
Cultural differences can cause more problems than expected.
Failing projects may, in turn, lead to consequential damages,
last but not least, the customer has to work out a realistic plan
of business continuity if the relationship with the vendor is to be
ended.
3.2 Cost Dynamics.33
Initial costs are only one component of the calculation. The
prognosis of cost evolution is no less important. The rather high
costs of establishing the offshore scenario are present only during
the first few projects. Thus, later projects will not be affected by
these initial costs. However, the salaries for developers in emerging
countries have been steadily growing over the years; thus, it can
be expected that the differences will not last forever. The last
variable in the equation is the vendor's pricing policy, some of
the largest and most mature vendors in India have already
started asking why the price has to be lower if the quality is higher.
3.3 Communication Cost.39
Long distances between service provider and buyer make com-
munication more expensive. If the two firms are separated by
many time zones and have only few common office hours, appar-
ently commonplace things such as phone calls can become a real
issue. Unless the partners on both shores speak the same native
language, at least one of them has to communicate in a foreign
language. Depending on language proficiency, the quality of
communication may suffer. Expensive and difficult communica-
tion can result in simply less communication, which may in turn
lead to a breakdown of management quality. (See also Section 7.4.)
Due to the hazards of communication cost, the customer is
well advised to consider communication costs carefully in the very
first outline of the offshore scenario. This applies especially if the
projects are prone to having extensive communication needs —
e.g., innovative products. (See Chapter 8.)
3.4 Business Continuity in Case of War or Disaster.42
Once the offshore scenario is established, it has growing impor-
tance for the buyer. Thus war or disaster in the emerging country
XI
can have a serious impact on the customer's business continuity.
Some countries are more prone to political instabilities or disasters
and others are less vulnerable. If emergency situations are likely
to occur, the customer might want to establish a disaster recovery
plan.
Countries: Deciding on an Offshore Location.45
Partners from at least two countries contribute to the offshore
scenario. The responsible managers should have some basic
knowledge about these countries. This information has to come
from reliable sources; otherwise, it is useless or even harmful.
The governments of the developing country or institutions
closely related to the government are not necessarily the best
sources in this instance because they are likely to make biased
statements; most governments throughout the world are vying
for foreign investors because such investors are highly attractive
for their countries' economy. For obvious reasons, a government
might be tempted to paint its country's image in exaggeratedly
bright colors. Thus it might be better to enlist the help and
common-sense expertise of independent sources. Foreigners
who have who have worked in the country's software industry
could be reliable advisers. Organizations that provide ratings of
the investment climate in various countries are another source
of information.
This chapter provides a checklist of what should be known
about the countries and companies involved. Some items might
not be answered, but others might have limited relevance for
the offshore scenario at hand. Some of the questions could
have an obvious answer for some managers but not for other
members of the offshore relationship. The questions offer some
guidance for further investigation and may help prospective
participants in an offshore relationship avoid potentially costly
information deficiencies. The checklist identifies items that may
qualify as truisms in industrialized countries but are not to be
taken for granted when it comes to developing nations — e.g.,
continuous supply of electricity, telecommunication, and Inter-
net access.
4.1 Importance of Background Information about the Contributing
Countries.46
When preparing for setting up an offshore relationship, the man-
agement of all contributing companies should be in possession
of at least some basic knowledge about the situation in the respec-
tive countries. In addition, they should know as much as possible
xii ¦ The Insider's Guide to Outsourcing Risks and Rewards
about their future partners. This background information is nec-
essary to cross-check the calculation made on an offer. It helps
executives anticipate risks that might arise in future projects and
find possible mitigations. It may even provide some essential
information that might lead to the cancellation of future coop-
eration before it has actually started. One reason for canceling
the cooperation might he that there is no acceptable solution for
the anticipated risks: sometimes it is better not to start cooperation
at all rather than to have it end in a fiasco.
4.2 Investment Climate.47
The political situation in the offshore country can greatly influ-
ence the long-term success of the offshore scenario. Political insta-
bility or territorial conflicts might lead to war, which makes
business virtually impossible. Potential natural disasters are other
reasons for an emergency plan. There are huge differences in
the way foreign managers perceive the level of security in every-
day life in emerging countries. If personal freedom or human
rights are overly restricted, a smooth work flow may become
impossible.
4.3 Economic Facts in the Offshore Country.55
Cost efficiency is a prime issue in most offshore scenarios. This is
why potential investors should know some basic economic facts
about the emerging country, including average income, cost of
living, and prices for office space and other real estate. Taxes are
important, and the prognosis for labor cost influences the long-
term feasibility of the offshore relationship.
4.4 Legal Systems.57
The executives of all contributing companies need a basic under-
standing of the legal systems in the other countries involved. There
are huge differences in the practical aspects of legal systems in
emerging countries and in industrialized countries. In practice,
the differences are even larger than the study of the published
laws may suggest.
Partners: Customer—Vendor Relationship.63
It's all about relationships in outsourcing business. The first
decisions for the emerging relationship are already made before
its actual onset at the time when the customer selects a vendor
and the two parties negotiate the outsourcing contract. This
preparation task constitutes a significant part of the investment
in establishing the offshore scenario, but a carefully structured
process of vendor selection can greatly diminish the costs of
XIII
establishing the relationship. The customer's first step is denning
the vendor selection criteria and clarifying the motivations for
the outsourcing decision: financial, technical, or commercial.
After both sides have elicited reliable information, the exact
stipulations of the contract can be negotiated. Once the out-
sourcing scenario is established, the customer must manage the
vendor and oversee the work of the offshore team. When the
cooperation gains speed, it is quite likely that sooner or later
disputes about technical or contractual issues will appear. Liti-
gation is almost always the worst solution. Therefore, many
outsourcing contracts include a dispute resolution procedure,
which usually starts with forwarding the conflict in a predefined
way to higher management. If the issue remains unsolved, the
partner can apply mediation or arbitration in an attempt to find
a mutually acceptable settlement before taking the ultimate step
of going to court.
One widely applied method of government and vendor
management is benchmark audits; an independent third party
provider of benchmarking services helps to analyze the rela-
tionship and evaluates the vendor's performance by comparing
it to that of peer companies. The benchmark study should
determine whether the service level still matches the state of
the art and whether the prices are appropriate and the contrac-
tual provisions are fair. The benchmark report may conclude
that the vendor has to solve any identified problems within a
reasonable time period or that the fees need adaptation. Bench-
mark clauses are adopted in many outsourcing contracts. For
the customer, they are a way to keep the vendor honest. A
successful benchmark audit can increase customer satisfaction
and thus improve the customer-vendor relationship.
In scenarios where the customer works with a single pro-
vider, this vendor can gain undue influence because of its
monopoly position. Some customers try to avoid these problems
by working with more than one vendor in parallel. Such so-
called "multisourcing" scenarios can have a number of advan-
tages because they introduce a competitive element. However,
coordinating multiple vendors who are competitors on the
market creates other challenges and requires advanced skills in
project management and information technology (IT) politics:
the work atmosphere might become tense, and the project can
reach a crisis because the various service providers do not
cooperate smoothly but try to undermine each other's reputation
in front of the customer.
xiv ¦ The Insider's Guide to Outsourcing Risks and Rewards
5.1 Vendor Selection and Contract Negotiation.64
Vendor selection and negotiation of the outsourcing contract are
major items on the list of costs in the process of establishing the
outsourcing relationship. However, it is possible to save costs by
applying a well-defined, carefully considered, and structured
process evolving from the first informal discussion to the signed
contract in a systematic way.
5.2 Due Diligence: Eliciting Information about Vendors.73
Any outsourcing relationship (not only offshore) is based on trust.
Before the customer can enter this relationship, it has to do some
due diligence and collect some basic data about the future partner:
¦ Cost reductions are a strong motivation in many offshore
scenarios. If the vendor is overly cheap, this may be a indi-
cation of economic instability, which is against the best inter-
ests of the customer.
¦ Because the vendor's team is part of the customer's extended
enterprise, the buyer has to validate the qualifications of the
offshore workers. A particular problem of teams in emerging
software industries is the worryingly high attrition numbers.
¦ Many customers ask for references from the vendor to eval-
uate its reputation in the market. However, reading and
interpreting recommendations requires experience and a
good deal of skepticism.
¦ Most offshore scenarios are designed for long periods of time.
For this reason, many analysts suggest that synergy of stra-
tegic goals is necessary.
¦ Security is a particularly important issue in offshore scenar-
ios. Ihe customer needs to ensure that the future partner's
security measures reach the necessary standards.
In many scenarios it can prove difficult to elicit reliable and
complete information regarding the listed items. The vendors
might have good reasons to disclose only part of the required
information or give misleading or even false information.
5.3 Vendor's Need to Garner Information Regarding the Customer.79
Like customers, vendors need information about their prospective
partners. The offshore team should have a profound understand-
ing of the client's business culture and the values promoted by
the buyer's organization — i.e., how things are done at the
customer's site. The differences in labor costs are a key motivation
for many offshore scenarios. For this reason, the offshore team
has to be aware that protection of the onshore working time is of
high priority. Most buyers are fair and serious, but there are a
few exceptions involving somewhat nasty customers. To avoid
future problems, the vendor will want to assess the "rating" of the
customer as early as possible.
XV
5.4 Governance: Managing the Relationship with the Vendor.81
The buyer is well advised to implement strong and cautious
management, carried out by people who fully understand the
content and strategic goal of the outsourcing deal, oversee the
work of the offshore team, and manage the relationship. This
steering committee constitutes an interface to the offshore team,
facilitates dispute resolution, and serves as an internal advocate
of the offshore scenario.
In many practical cases, it turns out that overseeing the work
of an offshore team is no easier than developing the software in
house. The customer's team usually needs additional training to
deal with the challetiges of remote project management.
5.5 Dispute Resolution.86
During the long term of an offshore cooperation, it is quite likely
that disputes about technical and contractual issues will appear.
Frequently, litigation is the last and least desirable option. For
this reason, many offshore contracts provide for a set of proce-
dures for conflict resolution that defines a way in which the
partners can express their concerns and search for a mutually
accepted solution without resorting to costly litigation. This so-
called escalation procedure includes alternative dispute resolu-
tion (ADR) and a reasonable number of preliminary levels before
the ultimate step of legal action.
5.6 Benchmark Audits.88
During a benchmark study the service levels and prices of the
deal are compared to the conditions of the vendor's peer compa-
nies. Usually an independent third party, the benchmark pro-
vider, carries out the audit. A successful benchmark requires
careful preparation, which starts with defining the scope of the
audit and eliciting the necessary raw data during a monitoring
period. Some contracts provide an automatic adaptation of the
prices as a consequence of the audit. In other relationships, the
results are used as a basis for discussion without immediate
legally binding consequences.
Not all analysts agree on the methodological reliability of a
benchmark audit. Some object that most IT projects are unique
and not really amenable to a like-to-like comparison. Another
objection is that the quality of the relationship can hardly he
measured by means of normalized comparison.
Stakeholders: Interest Groups in the Offshore
Relationship.93
The offshore relationship has quite a number of different groups
with an interest in the relationship ("stakeholders"). Obviously,
both companies (onshore and offshore) and their executives
xvi ¦ The Insider's Guide to Outsourcing Risks and Rewards
are important. However, other viewpoints should be considered
as well, including those of:
¦ The developers in the emerging country — who are
working for relatively low pay
¦ Onshore technical staff — many of whom will probably
lose their jobs
¦ Offshore managers and entrepreneurs — who might face
conflicting interests
¦ Envoys of Western companies — who have to work
temporarily or permanently in emerging countries
¦ Offshore liaisons — who are visiting the customer's office
in the industrialized country
All these groups have a say in and an important contribution
to the success of the offshore cooperation. These stakeholders
can have secret plans for the future, which may not necessarily
be in line with the contract. Only rarely do the other parties
involved consider these plans "fair."
6.1 Conflicting Viewpoints: An Introductory Case Study.94
Offshore relationships usually involve numerous interest groups
with divergent interests, some of which are disclosed, although
others are kept secret. The following case study offers an illustra-
tion of how the secret interests of various stakeholders may turn
a potentially successful offshore scenario into a failure.
6.2 Customers and Vendors.96
It has been said that an offshore scenario has to be a win-win
situation. To some extent this is true; if the deal is overly unbal-
anced the relationship becomes unstable, and it is quite likely to
end in a lose-lose situation — i.e., in a way that is unsatisfactory
for both sides. Skepticism regarding a long-term successful off-
shore relationship is especially justified if the prices are unreal-
istically low and not sustainable for the vendor in the long run.
Unfortunately, the harsh reality is that outsourcing is not an
inherent win-win scenario. In many respects, customers' and
vendors' interests are poles apart. The balance of prices is one
obstacle against a win-win strategy. Another obstacle is that the
business models are prone to change with time: vendors become
better qualified and accumulate additional capital for more
ambitious plans. Customers, on the other side, shift their focus to
their core competencies while losing power and control in the IT
field. It is difficult to predict where this dynamic will lead to in,
say, ten years. Both shores will make long-term strategic and
commercial plans— which are to their own advantage, of course,
XVII
and not necessarily to the advantage of their current business
partners.
This section will outline some areas where customers' and
vendors' interests are diametrically opposed.
6.3 Staff in Developing Countries.98
Employing and organizing employees in emerging countries is
quite different from managing an onshore software team. These
differences are particularly important for customers who want to
establish their own foreign subsidiary and not merely work with
an independent vendor.
6.4 Management of Human Resources in Emerging Software
Industries.105
To some extent, management of staff in an emerging country is
similar to leading a software team in an industrialized country.
However, important differences exist. High attrition of staff is a
serious problem in emerging software industries. Because most
software projects require a certain degree of continuity, the off-
shore management has to pay particular attention to controlling
the retention rate. A specific part of the attrition problem is
represented by emigrating software engineers, who constitute a
significant fraction of the young graduates. If someone decides
to leave the country, the offshore company usually cannot make
a competitive offer to keep this person on the job.
In some offshore countries, there are excellent top talents at
a high professional level. For IT companies, it is very attractive
to hire these young stars. However, even in emerging countries
these talents are a scarce resource. Thus finding, hiring, and
retaining outstanding talents requires specific management skills
and a lot of background information.
6.5 The Customer's In-House Team.Ill
The customer's in-house team is vital when offshore plans are
evaluated. On the one hand, the offshore scenario will need the
active support of as many members of the onshore team as possible
to train the replacement workers. On the other hand, most of the
members of the in-house team will Jose their jobs once the
offshore cooperation is established. Those who will contribute to
the offshore cooperation will be needing new skills and signifi-
cant training.
6.6 Offshore Manager.115
Emerging countries enjoy high economic growth, but qualified
managers are few and far between. For this reason, some offshore
vendors encounter problems with finding and holding onto
experienced leaders, as managers with the necessary business
xviii ¦ The Insider's Guide to OutsourcingRisks and Rewards
experience have many options both in the emerging country and
abroad.
6.7 Envoys from Western Companies.117
Some offshore business models require that managers and tech-
nical staff temporarily or permanently relocate to the developing
country — e.g., as customers representatives. These so-called
envoys take an important role in the communication mechanisms
of the offshore relationship.
In developing countries, costs of living are usually lower.
Hoivever, if the envoy wants to keep up Western living standards,
the cost of living might be even higher than in industrialized
countries. As compared to the low per capita income in the devel-
oping country, the envoy is considered rather well-off; such indi-
viduals are attractive targets for crimes with economic motivations.
6.8 Offshore Staff Working in Industrialized Countries.119
Liaisons are employees of the offshore vendor who work for a
certain time at the customer's site (see also Section 7.4). In many
offshore scenarios, liaisons facilitate international communica-
tion and narrow cultural gaps. The liaison usually bears a lot of
responsibility within the project. For this reason, these people are
very qualified and carefully selected — which makes them par-
ticularly attractive to headhunters.
A possible conflict of interest arises if the offshore worker wants
to use the liaison role as a base for starting a software business.
Due to the liaison's large influence in the project, the customer
might be tempted to corrupt the liaison to gain undue advantages,
apart from the "officially" negotiated ones.
6.9 Offshore Advisers.122
Establishing an offshore scenario requires much background
information about the contributing countries and about IT out-
sourcing management. Some specialized consulting companies
offer this know-how and can help the customer find a qualified
vendor and establish the relationship
Some offshore scenarios enlist the help of specialized compa-
nies consisting of offshore professionals to establish the coopera-
tion. The advisers working for these companies are experts in the
offshore outsourcing of IT projects. They are well acquainted with
the state of affairs in both countries, they are sufficiently knowl-
edgeable on software technology and contracts, and they maintain
excellent contacts, both onshore and offshore. These offshore
advisers are frequently rather small organizations; sometimes
they are in fact one-person companies where the offshore agent
is self-employed. The agency can play various roles in an offshore
scenario.
XIX
6.10 Shady Business Agents.123
Selecting a proper, suitable agency implies a certain degree of
care and suspicion because not all offshore agents are creditable
enough. The case study gives an example.
6.11 Public Opinion in Industrialized Countries: Globalism.126
It is not only one company that goes offshore; the entire software
industry in leading economies is on its way to foreign soil. This
fact introduces a political dimension to the discussion.
Business Architectures.133
Analysis of offshore scenarios has shown that only a limited
number of business architectures turn out to be successful in
practice. Some business models that are successful on domestic
markets may fail in an offshore scenario. Two aspects should
be considered when establishing which business model is rea-
sonable in a given offshore scenario: the projects' characteristics
and the consequential damages if the project fails.
Costs for communication can be high in offshore scenarios,
and management quality can seriously suffer as a consequence
of lack of quality communication. Many analysts consider these
facts among the prime reasons for failing offshore scenarios.
For this reason, the business architecture has to address com-
munication cost from the very onset. Following is a Business
Models Overview.
7.1 Business Architecture Adequate to Projects at Hand.133
The projects that should be carried out in an envisioned offshore
scenario have a strong bearing on the business architecture. A
scenario that includes many, short, and easy projects requires a
completely different business model than a single large and tech-
nologically challenging project does. Consequential damages are
of particular interest in case the project fails: if high damages
are to be expected, the client will need additional means of control
over the vendor's processes.
7.2 Options for Business Models.135
When designing the blueprint for the business architecture, the
customer has to decide whether it wants to work with an inde-
pendent vendor or start its own foreign subsidiary. A subsidiary
requires more know-how but provides the customer with strong
control instruments.
In offshore business, several types of one-to-one relations are
frequently applied — joint ventures, strategic alliances, etc. In
practice, many of these business architectures are somewhere in
between an independent vendor and a foreign subsidiary.
xx ¦ The Insider's Guide to Outsourcing Risks and Rewards
Another factor that influences the business model is the size
of the contributing units-, although most published case studies
refer to large customers, small clients often have to find more
creative solutions.
Important business models that are frequently applied in off-
shore outsourcing are onsite offshoring, body leasing^ agencies,
and subcontracting (daisy chains). The so-called follow-the-sun
model is used in help desk management where 24/7 availability
is required.
7.3 Constraints for Business Models.146
Some specific factors have to be considered when designing the
business architecture of an offshore scenario. The business archi-
tecture should take into account the high startup cost of the
offshore relationship and the precious know-how that needs pro-
tection. Some business models, such as foreign subsidiaries,
require much information on the countries involved and profes-
sional background on software projects. For the customer, it is
wise to carefully analyze whether this know-how is available in
its organization.
7.4 Communication and Cultural Distance.148
A major challenge for offshore software projects is the unavoid-
able long-distance communication. If this problem is not solved
in a satisfactory manner, the communication costs are likely to
take up most of the potential cost savings. For this reason the
business architecture should be designed so that communication
is minimized. (See Section 33)
In general it is more cost efficient to outsource an entire
project — not parts of a project, i.e., modules. In addition out-
sourcing only some phases (like implementation or test) causes
higher costs than outsourcing the entire life cycle of the project.
The staff at the offshore site should have enough competence and
ownership to assume responsibility for the entire product— i.e.,
for the final result. Otherwise, the project may fail because noone
is truly responsible for the outcome, i.e., for the success of the
project in its entirety. A rule of thumb says: Outsource entire
things (notparts) for their entire life span and make the offshore
site accountable for the overall result. In many offshore scenarios
this rule leads to acceptable costs of communication.
The following tactical approaches can help reduce the cost of
communication as well as the cultural distance.
15 Multi-Sourcing.151
The customer can try to avoid dependency on a single vendor by
working with multiple vendors in parallel — so-called multi-
XXI
sourcing. In this way the unduly strong monopoly position of the
sole vendor is broken, and competition can put the outsourcing
scenario in motion. Multi-sourcing, however, requires advanced
skills in both management of the multiple vendors and IT politics.
8 Selecting Suitable Projects.155
Certain types of projects can be transferred offshore more easily
than others can. For this reason, the selection of suitable projects
is a crucial success factor for an offshore scenario. The category
of projects that can be outsourced advantageously includes short
projects and routine work-based projects. In projects that
require very specific know-how, outsourcing can lead to con-
siderable advantages. It is generally easier to outsource entire
projects than parts. Highly iterative processes such as "extreme
Programming" require specific business architectures to be
accessible for offshore outsourcing. More obstacles have been
reported within projects that fall into one of these categories:
¦ Projects with high risks of consequential damages in case
of failure
¦ Projects that include confidential intellectual property or
technologies that are covered by export restrictions —
e.g., military projects
¦ Innovative products that require much interaction
between the software team and domain experts or man-
agement
¦ Projects that require a high degree of security
8.1 Less Challenging Projects.155
Less challenging projects, routine work, and short projects are
easily accessible to offshore outsourcing. Thus, these projects are
a frequent entry point into an offshore relationship.
8.2 Projects Requiring Very Specific Technological Know-How.157
Some specific technical problems can be very easy to solve for
someone who already did this work hut extremely time-consum-
ing for someone who is green in the field and has who must first
learn the technology. Therefore, outsourcing the solution to spe-
cific technological problems can be a major advantage.
8.3 Virtual Teams.158
In some scenarios there might be compelling reasons to outsource
only apart of a project or only certain phases of the development.
In many cases, however, outsourcing an entire project for its
entire life cycle is more cost efficient.
xxii ¦ The Insider's Guide to Outsourcing Risks and Rewards
8.4 Highly Iterative Development Processes.163
In some projects where time-to-market is extremely critical— e.g.,
Web applications — extreme Programming and other highly
iterative software processes have reported impressive successes. In
such software management processes no (or very few) require-
ments are written in advance. Instead, one or more user-repre-
sentatives are permanently working with the software team and
specify new requirements just as the project is being implemented.
Integrating highly iterative processes into the widely used out-
sourcing frameworks— like the fixed-price contract— is difficult.
For this reason extreme Programming requires a specific business
architecture to be successfully outsourced. The anecdote is an
example of such a situation.
8.5 Unsuitable Projects.164
Some projects are less accessible to offshore outsourcing. This class
includes:
¦ Projects with high consequential damages due to project
failure
¦ Projects that include valuable intellectual property, confiden-
tial data, or technologies subject to export regulations
¦ Projects that lack clear written specifications
¦ Innovative projects for which complete requirements are
hard to specify in advance
¦ In some organizations, anticipated cost savings are limited
and do not justify the investments and risks of the transition
period
9 Contracts: Project Contracts and Service Agreements.169
The contracts used in outsourcing business can be roughly
grouped in three categories.
1. Fixed-price contracts. An estimate of the workload is
prepared in advance, and the contract partners agree on
a fixed amount of money for the entire project.
2. Unit-price contracts. The contract sets a certain sum to
be paid per hour of actual ¦working time.
3. Service agreements. The provider substitutes for the cus-
tomer's internal IT department for a certain period of
time. The contract specifies the vendor's duties and the
monthly fees.
Project contracts involve more-or-less detailed written require-
ments determined before the implementation can start. When
the implementation is finished, the product must be officially
accepted by the customer. In most projects, the implementation
XXIII
is followed by a guarantee period during which reported failures
must be repaired without additional payment.
9.1 Requirements.169
Requirements are usually developed in several steps that provide
an increasing level of detail: the Product Vision Statement, the
Concept of Operations (CONOPS), and one or more detailed
Software Requirements Specifications (SRS). Before the CONOPS
is agreed upon, the project is considered to he in the "brainstorm-
ing phase." In this phase many projects are likely to undergo
fundamental changes regarding the feature set and the volume
of investments. Quite a number of projects are cancelled before
they reach the phase of detailed specification.
Frequently, the vendor has to contribute in one way or
another to the requirements phase. In some outsourcing scenar-
ios, the partners start discussing technical aspects even before the
contract is completely negotiated and signed. This practice raises
two important issues:
1. How is the vendor's precontractual investment protected?
2. How is the confidentiality of the requirements ensured?
9.2 Fixed-Price Contracts.175
In a fixed-price contract, the partners agree in advance on a
certain price for a specified project. The requirements must be
rather well specified in advance and in written form because they
form the basis of cost estimation. For customers, the fixed-price
contract has the advantage that it provides prior information on
how much the project will cost. In practice, however, this appar-
ently firm base of calculation must be questioned because most
software projects require changes and extensions even before the
first version is delivered. These changes add to the price. In
extreme cases the final price can be double the initially agreed-
on fixed price — or even higher.
The "acceptance" is an important milestone in the life cycle
of a software project because it triggers the start of the guarantee
period. In addition, the payment for the project must be made at
this stage — at least a significant part of it.
A specific problem that might arise in fixed-price contracts is
cancellation. Unless the contract includes a carefully drafted
clause, the customer can only cancel the project with high losses.
9.3 Unit-Price Contracts.187
In a unit-price contract, the working time that has been spent
developing the project is accounted and paid for at a rate on
which the partners have agreed in advance— e.g., payment per
hour. Notice, however, that a unit-price contract (in its pure form)
xxiv ¦ The Insider's Guide to Outsourcing Risks and Rewards
does not limit the budget for the contract. Because a limited
project budget is of vital importance for most buyers, unit-price
contracts frequently include upper limits, ensuring that the
project will be finished within this budget.
Unless the contract provides something else, the maintenance
of a unit-price project is paid for separately. This is at the very
least a nuisance for the customer because it has to pay the vendor
for repairing its own faults. In some cases the maintenance can
significantly increase the costs of the project.
Because the customer has to pay for each working hour, it
has an interest in making sure that the reported hours have really
been used for its project. Verification of the reported hours is a
particular issue if the vendor is offshore.
9.4 Guarantee Period.192
The purpose of the guarantee period is to provide the customer
with the right to free-of-charge repair of defects discovered after
the project has been delivered. Although the guarantee period is
an important part of most contracts, some issues require further
in-depth consideration.
There will usually be a delay between the error report and
the corrected version. The customer would like to obtain the
corrections as fast as possible. In practice, however, this is not
always possible.
Some defects require that a service engineer come to the user's
site and analyze the problem there. The costs for travel are usually
much higher than the few working hours spent correcting the
error. If this is an issue, the contract should provide how such
costs are handled.
Repairing reported faults is much more efficient if the failure
is reproducible on the developer's computer— i.e., if the developer
has a known procedure that always shows the reported wrong
behavior. Mature defect reports, however, require additional
efforts on the side of the user. A particularly challenging class of
defects is "transient defects"— i.e. failures that occur only spo-
radically, even if the same sequence of operations is performed
on the same computer. Resolving defects of this class can he very
costly. Thus, the contract should include stipulations in case the
project is prone to this class of errors.
In some cases it may he debatable whether a reported behavior
is in fact a failure or if it is a desirable feature. Many of these
potential disputes are clarified in style guides, which specify in
detail the "look and feel" of the applications of a certain operating
system. In practice, however, it may prove costly for the vendor
to stick to each tiny detail of the style guide that is being imple-
mented. For this reason, some service providers hesitate to sign
contracts that include references to style guides.
XXV
Repairing the defect is only one step. Delivery of the corrected
version causes additional costs. In general, not each fixed prob-
lem justifies a new version.
Software does not wear out over time. All failures that are
identified afterwards are already present in the software at the
time of delivery. In some countries, legislation does not cover this
case adequately, and it might he necessary to make clear that
these are not "latent defects"— otherwise, the guarantee period
for software would never end.
9.5 Transferring Responsibility for Source Code.202
In many software projects the responsibility for source code (in
jargon called "ownership") is transferred during the life cycle of
a software project. Prior to a certain date, a certain team "owns"
the source code; after that date, another team is responsible for
it. Notice that in this context "ownership" is equivalent to respon-
sibility and does not hint at the notion of ownership in a legal
sense.
One example where transfer of ownership is necessary is the
guarantee period: before the guarantee period ends, the vendor
is accountable; afterward the customer is responsible (unless the
contract provides otherwise). Transfer of ownership can entail
difficult defect responsibility issues.
9.6 Service Agreements: Outsourcing the IT for a Certain Time.209
A service level agreement usually includes the following parts
(among others):
¦ Contract terms — How long is the contract valid?
¦ Scope of services. What exactly are the vendor's duties?
¦ Service Level Agreement (SLA). A detailed specification of the
quality of provider services (e.g., response time).
10 Industrial Espionage.213
Confidential assets benefit from little legal protection in emerg-
ing countries. In this chapter, an introductory case study shows
how easy it was for a Pakistani clerical worker to threaten a
prestigious American hospital with publishing their confidential
patient files on the Internet. Ultimately, the Pakistani worker
could not even be sentenced for what she had done.
Potential targets of industrial espionage include data, source
code, and business secrets, each of which has different dynam-
ics and is thus analyzed separately in this chapter. There are a
number of ways that confidential material can fall into the wrong
hands, including server access, test data, access of the offshore
liaison to the customer's networks, an unreliable subcontractor
xxvi ¦ The Insider's Guide to Outsourcing Risks and Rewards
of the vendor, professional industrial spies, criminal attacks
against the vendor (e.g., forced entry into the office building),
and vendors who are also working for the customer's competitors.
Protection against espionage includes tight monitoring of
human resources and understanding of the legal systems of the
countries involved — to provide the necessary deterrence of
adequate punishment in case the attacker is caught. Despite all
precautions, watertight protection of confidential material in
developing countries has been difficult, at least so far. For this
reason, the customer has to assess carefully which risks its
organization can afford and whether the cost advantage justifies
the risk.
10.1 Espionage: An Introductory Case Study.213
This case study outlines the situation of a clerical worker from
Pakistan who had been transcribing confidential patient data
from a prestigious hospital in California. The Pakistani woman
claimed that her client owed her money and threatened to make
the patients' files public through the Internet unless she was paid
the money she believed was due to her.
10.2 Targets of Espionage.218
In this section three targets of espionage are addressed: confiden-
tial data, source code, and business secrets. Data is the most
systemized and easiest item to protect. Source code and the related
technical documentation are more difficult to protect because
they have to be handed over to offshore staff who need to work
with them. Business know-how has a rather unstructured mean-
ing; even a handwritten page of paper on which an executive
outlined a new business idea can be top secret. Background
information about the business is usually not considered "secret."
Nevertheless, on some narrow markets it can constitute a precious
resource that is managed like a secret.
10.3 Potential Security Vulnerabilities in Offshore Scenarios.229
There are a number of ways for potentially unreliable offshore
workers to access confidential information:
¦ The protected data is placed on a server that can be accessed
by offshore staff, either foreign engineers who gain access to
the server password in an unauthorized way or developers
who have legitimate access to the server because they have
to carry through maintenance tasks.
¦ Test data frequently contains information that can be traced
back to real persons or real customers. This is true especially
if the test data is used in the context of analyzing a reported
defect that only occurs in very specific conditions.
XXVII
¦ Workers in emerging countries are rather poor and thus more
tempted to take up unserious offers. Although many custom-
ers have some lines of defense in place against external
attacks, the defense against attacks from inside is frequently
rather poor. Throughout the offshore cooperation, foreign
staff can gain the status of insiders. In this case it may be
ridiculously easy for the offshore developer to break the lines
of defense that were supposed to protect against "attacks from
inside."
¦ Some offshore vendors subcontract part of the work to other
countries where the salaries are even lower— and so is the
reliability of workers.
¦ Another category of unreliable workers is spies in software
teams who get employed from the very beginning for the main
purpose of stealing confidential information.
¦ A special kind of espionage strategy is that of "intentional
security vulnerabilities" — fragments of code that are
included in legitimate software allowing unauthorized
access to classified information (e.g., "backdoors" and "Tro-
jan horses").
¦ Security in emerging countries frequently fails to meet the
standards of industrialized nations. Unless the vendor's office
building is under permanent surveillance, it is quite likely
that sooner or later forced entries will be reported. Other
potential security gaps include the vendor's networks.
¦ Vendors who are also working for competitors constitute a
particular danger for confidential information. In extreme
cases, the competitor could even buy the vendor's organization.
10.4 Defense against Espionage.246
Careful preparation of lines of defense and tight monitoring of
human resources can greatly improve the security of confidential
material. Another important solution is severe punishment if the
attacker is captured. Nevertheless, the protection of confidential
material in emerging countries does not reach the high standards
level that it does in industrialized countries. For this reason, the
customer has to assess carefully which risks to take.
11 Termination of the Outsourcing Relationship.251
Only a few outsourcing scenarios continue indefinitely. All
others end sooner or later; they are limited to one or more
projects, or they are designed for a certain period of coopera-
tion. The customer should retain the ability to terminate the
relationship with the vendor and continue its business with
another provider or bring the services back in house. This step
requires access to key personnel and to technical material such
as source code and documentation. Contractual provisions are
jKxvin ¦ The Insider's Guide to Outsourcing Risks and Rewards
important, of course. Experience shows, however, that contrac-
tual provisions alone are not enough to meet the requirement
of business continuity after finishing the outsourcing relation-
ship. The exit plan must also include careful management of
in-house know-how and practical business decisions, e.g., main-
taining leadership in essential business relationships.
These conditions seem obvious; nevertheless, they cannot
always be taken for granted in practice. In many outsourcing
relationships, the customer's dependency on the vendor con-
stantly grows until it reaches an extent where the customer
cannot go on anymore without the vendor. In this case the
customer cannot easily escape this binding relationship — even
if it is not necessarily legally binding and the contract includes
provisions for termination of the cooperation.
If the buyer is not really in a position to end the relationship,
this vulnerability might turn to its disadvantage in time; the
vendor might change its pricing strategy or decrease its service
level.
A recent poll shows that it is anything but rare that IT
services have to be brought back in house (see Figure 11.1).
11.1 Contractual Stipulations.252
Most contracts allow termination due to breach of material obli-
gation. Termination for convenience allows the customer to end
the contract without any reason whatsoever, paying a fee agreed
upon in advance. Some contracts include other reasons for ter-
mination — e.g., in case of insolvency or if the vendor leaves the
business. Contractual provisions are important if the customer
wants to terminate the contract. Additional practical prepara-
tions, however, are necessary to provide business continuity.
11.2 Vendors Forestall the Departure of a Customer.256
The vendor has good reasons to build up a strong position with
the customer and thus increase the customer's dependency on its
services:
¦ The vendor wants to receive additional orders from that
customer in the future.
¦ The vendor tries to keep the client away from potential com-
petitors. During the time of the contract, the vendor will take
measures so that the customer can switch to another provider
after the contract is finished only with considerable difficulty.
¦ The outsourcer might want to increase the margins of the
services provided for that customer. The buyer, on the other
hand, faces a number of obstacles when it wants to switch
XXIX
from one vendor to a competitor. These obstacles help the
provider consolidate its position with this client.
11.3 Issues of the Posttermination Transition.260
A customer who wants to switch from one vendor to another will
encounter a transition problem that includes-.
¦ The necessary transfer of know-how from the old vendor's
staff to the new vendor's staff
¦ Access to technical documentation, intellectual property,
source code, and other deliverables
¦ Leadership in business relationships
¦ The posttermination assistance might turn out to be ineffi-
cient because the relationship is strained and the vendor is
uncooperative. |
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| language | English |
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| spelling | Rost, Johann Verfasser aut The insider's guide to outsourcing risks and rewards Johann Rost Boca Raton, FL [u.a.] Auerbach 2006 XXXV, 276 S. graph. Darst. txt rdacontent n rdamedia nc rdacarrier Includes index. Offshore outsourcing Outsourcing (DE-588)4127582-2 gnd rswk-swf Outsourcing (DE-588)4127582-2 s DE-604 http://www.loc.gov/catdir/toc/fy0611/2006040789.html Table of contents only HBZ Datenaustausch application/pdf http://bvbr.bib-bvb.de:8991/F?func=service&doc_library=BVB01&local_base=BVB01&doc_number=014942752&sequence=000002&line_number=0001&func_code=DB_RECORDS&service_type=MEDIA Inhaltsverzeichnis |
| spellingShingle | Rost, Johann The insider's guide to outsourcing risks and rewards Offshore outsourcing Outsourcing (DE-588)4127582-2 gnd |
| subject_GND | (DE-588)4127582-2 |
| title | The insider's guide to outsourcing risks and rewards |
| title_auth | The insider's guide to outsourcing risks and rewards |
| title_exact_search | The insider's guide to outsourcing risks and rewards |
| title_exact_search_txtP | The insider's guide to outsourcing risks and rewards |
| title_full | The insider's guide to outsourcing risks and rewards Johann Rost |
| title_fullStr | The insider's guide to outsourcing risks and rewards Johann Rost |
| title_full_unstemmed | The insider's guide to outsourcing risks and rewards Johann Rost |
| title_short | The insider's guide to outsourcing risks and rewards |
| title_sort | the insider s guide to outsourcing risks and rewards |
| topic | Offshore outsourcing Outsourcing (DE-588)4127582-2 gnd |
| topic_facet | Offshore outsourcing Outsourcing |
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