INSOURCING: THE OTHER ALTERNATIVE

by Lynne Ellyn, Senior Consultant, Cutter Consortium

At a barbecue in late June, I spoke with a naturalized Iraqi-American who shared some recent pictures with me from a family trip back home to Iraq. The pictures showed people living a near-normal prewar existence. This man told me that the American media depictions of widespread violence and social disruption do not represent the common realities of Iraq. As a result, Americans are left with incorrect impressions of pervasive chaos, violence, and anti-American hatred in his homeland. These problems, though disturbing, are exceptions. Ironically, when this man arrived back home in Michigan, he received frantic calls from relatives inquiring about his safety. It seems that the Iraqi media was broadcasting video clips from six hours of rioting that recently occurred in Benton Harbor, Michigan. The Iraqis were apparently under the impression that all of Michigan was being destroyed by riots and violence.

It seems that holding a belief can short-circuit critical thinking. One of the current, virtually unquestioned beliefs about IT is that outsourcing is the best way to solve an IT organization's woes. The common theme of most headlines is that outsourcing is cheaper and better. A few months ago, I attended an IT conference that was supposed to be about IT effectiveness; yet the majority of speakers focused on outsourcing. One speaker, a renowned professor and business advisor, actually encouraged CIOs to "hurry up" before all the good deals were taken in India. Since the gentleman in question owns a controlling interest in a well-known Indian service provider, it should have occurred to the audience to engage in some critical thinking before adopting the belief that outsourcing is the answer. To my dismay, several people spoke of the need to outsource as being "too urgent" to spend much time studying it!

Assuming that you are prepared to engage in some critical thinking before rushing off to outsource your IT activities, let's examine the opposite trend: insourcing. Yes, insourcing! Although it gets very little press coverage, many companies are bringing IT activities back inhouse after unsatisfactory outsourcing experiences. Other companies continue to perform IT activities within the company -- the original insourcing.

In January 2003, CIO Insight ran a series of articles about the IT activities at Ford Motor Company under the direction of CIO Marv Adams. The title of the 30 January article was "CIO: Insourcing Concentrates Savings, Tech Smarts." The article was based on an extensive interview with Adams about the challenges he faces in running an effective IT department. It was a thoughtful, intelligent piece of critical thinking. Yet outside of CIO Insight, I have not read or heard anything about this bold and effective direction for Ford. In March 2003, Computerworld ran an article called "All or Nothing," which contrasted General Motor's (GM) outsourcing strategy with Bank One's insourcing activities. In the same month, CIO ran the article "Bringing IT Back Home," which featured the CIOs from Farmers Group, Metropolitan Pier and Exposition Authority, and Washington Mutual. All three CIOs and their companies have reversed outsourcing deals, and the article documented their compelling reasons for insourcing. Nonetheless, the overwhelming majority of headlines and articles about sourcing are pro-outsourcing.

Dell Computer is probably the best-known example of a company gaining strategic advantage from insourcing some of its critical IT activities. Dell has consistently knocked the stuffing out of the competition. Dell outcompetes in a commodity market with a common business function and system -- supply chain. Every manufacturer has a supply chain and supply chain software. If you believe the media sound bites and headlines, you would conclude that best practice in supply chain systems would be the deployment of a packaged application, outsourced at the lowest cost -- probably to India or China. Yet Dell continues to be distinctively successful in a cutthroat marketplace with custom supply chain software run by its own IT department. In fact, Dell tried implementing a packaged enterprise resource planning (ERP) application for its supply chain in the late 1990s but abandoned the activity in favor of its own proprietary supply chain application, which is widely credited with being a significant enabler of the Dell success story.

Dell's experience is a bellwether of thoughtful insourcing, and it illustrates what ought to be a cardinal rule about sourcing IT projects: when the product provides strategic competitive advantage, the comparative benefit of insourcing outweighs any cost savings that outsourcing could potentially provide.

Two years ago, my own company, DTE Energy, merged with MichCon Gas. Since the MichCon systems were outsourced and the DTE systems were not, we had to make a sourcing decision. After significant study, we chose to insource the MichCon systems. As a result, we reduced support costs for the MichCon systems by more than US $6 million (annual payments to the outsourcer were $9 million; our internal costs are less than $3 million). None of this made headlines, and it certainly isn't consistent with the media's reinforced belief that outsourcing is cheaper and better; but for us, insourcing was clearly the better option.

We recently discovered more examples where insourcing was the best decision for our company. As part of a project to study best operational practices, we have been benchmarking with other companies inside and outside our industry. We visited one successful energy company that resembled our company in so many ways, it was remarkable. Virtually identical revenue numbers, miles of transmission lines, number of customers, etc. This company was even celebrating its 100-year anniversary at the same time we were. In speaking with my counterpart, the CIO of this other company, I learned that he had reduced his staff to about 300 (my own staff is currently at 860). The company had outsourced most IT activities and was proud to report that it had reduced its budget by more than $30 million. A good story, but the company's total budget expenditures were still almost $90 million more than ours. More questions revealed that our scope of responsibility was broader than theirs. So we do more inside our company at far less cost than they do outside the company with an outsourcing arrangement.

What might this mean to you? I propose that you carefully reexamine your alternatives before your next sourcing decision. It's important to consider which functions should be insourced. For instance, outsourcing custom software development will transfer business knowledge to the vendor. Is this acceptable? Most would agree that deploying package applications is the most effective way to get common functionality. Custom development makes sense for strategic functionality that's not commercially available. If system functionality is truly strategic or has characteristics of enabling a competitive advantage, how will you protect your intellectual property if it's outsourced? Many of us are concluding that competence in building strategic functionality is an imperative and must be sourced internally.

What level of risk is appropriate for your IT operations? Operating your core applications in a Third World country surely increases risk. How much is too much? Parts of the operation may be candidates for increased risk; others -- particularly your core applications -- may not.

New challenges in executing fiduciary responsibility also should factor into the analysis of sourcing. The Sarbanes-Oxley Act of 2002 requires CEOs and CFOs to attest to the accuracy of their financial statements and to disclose any possible threat to continued operations. How comfortable are your CEO and CFO with attestations about critical systems being run or developed externally? The specter of criminal prosecution creates special urgency for systems auditors and corporate officers. Will officers disclose threats such as political unrest between India and Pakistan as a possible threat to offshore systems that are critical to the company? How do these questions influence the sourcing decision?

Most companies are making tough decisions today regarding the sourcing of their IT functions. Your company should choose to insource an IT function if the following conditions exist:

• The product created is fundamental to a competitive advantage your company is seeking. If your company intends to run circles around the competition with distinctively better business processes -- like Dell Computer has done with its supply chain -- then you cannot rely on commodity thinking or commodity systems.
  
  Distinctive corporate performance means doing something better than the competition does, or doing the same thing distinctively better.
  
  
• Security concerns demand internal supervision or oversight. For example, control systems for a nuclear power plant would not be a good candidate for outsourced operations.
  
  
• You can save money. Don't just accept the outsourcing hype; examine all options carefully and thoroughly. Benchmark and study the problems and opportunities before deciding where to source an IT function. Insourcing may be the best option, just as it was for DTE at the time of the MichCon merger.
  
  

IT outsourcing and related activities will continue to attract a great deal of media attention. However, don't overlook the companies that are internally sourcing and those that are taking back functions that were previously outsourced. For those considering the insourcing of external functions, you might wish to read Insourcing After the Outsourcing: MIS Survival Guide by Robert B. Chapman and Kathleen R. Andrade. Perhaps your company will join the quieter revolution of insourcing.

-- Lynne Ellyn, Senior Consultant, Cutter Consortium