What is the current best practice on outsourcing software development and what does the future hold? June 2012

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1 What is the current best practice on outsourcing software development and what does the future hold? June 2012 Scope of this Report This report takes a point in time look at what we consider to be current best practices and then speculates on future directions. Of course, our crystal ball is not better than anyone else s and we could be completely wrong about future trends. The reader is left to judge for themselves. The pros and cons of outsourcing software development are constantly being reviewed. This report assumes that outsourcing is taking place and focuses on how it is being done well. Outsourcing necessarily involves writing and negotiating complex contracts but this report will not delve into this world other to comment on areas where negotiating contracts might be easier or harder or where the nature of the contracts that have to be written influences the outcomes. Finally, it is worth stating explicitly that we have not considered best practices for outsourcing IT generally only software development. Current Best Practice The internet is full of articles and blog postings about good and bad ways to implement outsourcing. Our readers should certainly do a search online for recent information specific to what they plan to do and where they plan to do it. The reason for this somewhat deflective opening to our Trusted Advisor report this month is that while some IT and software development outsourcing best practices have evolved to the point where they have become broadly accepted truths, many best practices of outsourcing depend on: Current political climate: o Internal to the organization e.g. Is the current financial performance of the organization causing shareholders or managers to seek lower costs or higher revenue? Is the organization growing strongly or shrinking significantly? o External to the organization e.g. Are there geopolitical threats to existing outsourcing? Planned outsourcing? The recent and longer-term outsourcing history of the organization o Best practice for outsource is really a question of what is the next step for you from where you are now 2012 David Consulting Group Page 1 of 5 v1

2 The current political climate is something that needs to be continuously reviewed and, just as importantly, predicted. Obviously, if any of us could accurately predict geopolitical futures, we would be so rich that we would not need to worry about outsourcing software development. Even so, a risk management view of what might happen geopolitically, how it might affect our operations and how we would respond is an essential best practice. For similar reasons, review and prediction of the internal political climate is a second best practice. Again, looking at the how changing fortunes and goals of the internal political players - senior management, shareholders and, to some extent, clients will affect our outsourcing strategy enables us to design a risk-tolerant strategy. In the case of both internal and external politics, designing a risk-tolerant outsourcing strategy will not only be good for ourselves but it will also be to the long-term benefit of our outsourcing vendors. This brings us neatly back to the importance of understanding where we are on our outsourcing strategy before deciding what the next best practice might be. Again, there are many data points for this in our research but, for the purposes of our research we will pick just three examples: o DCG s Outsourcing Trust-Scope Chart and o IT-CMF Supplier Management Critical Capability Maturity Definitions o Vested Outsourcing Current Best Practice But first, we mentioned that some best practices have become accepted truths. In 2008, Ephraim Schwartz published a list that we particularly like (he provides more detail in his article referenced below): 1. Establish clear objectives 2. Get a compatible provider 3. Don t go in shortsighted 4. Never confuse sales and delivery 5. Change your attitude towards IT 6. Get the communications right 7. Expect to get what you pay for 8. Stay on-site 9. Retain responsibility 10. Get C-Level sign-offs 11. Pick the right projects to outsource 12. Clean up before you outsource 13. Get the Service Level Agreement (SLA) metrics right DCG s Outsourcing Trust-Scope Chart One way of assessing where your organization is on the software development outsourcing path is to consider how much of your software development you are currently outsourcing (and plan to outsource) versus how much of a mutual partnership with your vendor is indicated by the way that you contract and manage that work. DCG created its Outsourcing Trust-Scope Chart in 2012 David Consulting Group Page 2 of 5 v1

3 response to its clients questions along the lines of, This doesn t seem to be working for us. What are your other clients, with similar scale, doing that might work for us too? Figure 1 shows a version of the DCG Outsourcing Trust-Scope chart with a selection of past and present DCG clients marked on it. Figure 1: DCG Outsourcing Trust-Scope Chart It seems self-evident to us that best practice in terms of vendor relations depends on how much of your software development is being outsourced. When we first created this chart, we expected that organizations outsourcing less than half of their software development would tend to treat their vendors as commodity providers (cluster in the bottom-left quadrant) on the basis that there are plenty of outsourced software development vendors out there and so, for small amounts of outsourcing, it would be relatively easy to run a quick RFP whose primary differentiator would be price. Similarly, we expected organizations that outsourced most of their software development to look for vendor partnerships based on a higher level of trust because the organization is trusting its vendors with, in most cases, a significant part of the machine that runs their organization and, presumably, help to generate their profits. In other words, top-right clustering. We didn t find much of the bottom-left clustering but that may be because organizations who outsource small amounts of their software development and treat vendors as commodity providers do not need the services of DCG. Hence, we don t have any clients in that quadrant. As expected, we do see a number of our clients in the top-right quadrant. We consider this to be best practice an assertion that we consider to be supported by the next section of this report. However, it is interesting that we have a significant number of clients clustered in the top-left quadrant. We consider this to be a sort of best practice but a short-term best practice akin to deciding to only climb upwards, never down, in a mountain range only to find that rather than reaching the highest peak, you have only reached a highest peak the local maximum. Typically but not always, in software development outsourcing, the top-left organizations pursue 2012 David Consulting Group Page 3 of 5 v1

4 a very transactional relationship with vendors characterized by short contracts and extensive competition driven by their drive to their own local maximum, lowest price. This is what we mean by the top-left being a sort of best practice. If you have large volume and a transactional approach you can be quite successful in driving down price up to the point where there are few vendors left who will do business with you. To achieve the lowest price you have set and achieve sustainable margins, they may be compromising on productivity and quality. IT-CMF Supplier Management Critical Capability Figure 2 shows how the IT-CMF model breaks Supplier Management into 3 parts and describes maturity characteristics typical of organizations operating at those levels of maturity. Figure 2: IT-CMF Supplier Management Critical Capability The IT-CMF approach is particularly useful because it allows an organization to be assessed on where it is today, decide strategically where it wants/needs to be and track progress/status regularly to see if the goal has been achieved and is being sustained. Vested Outsourcing For those organizations who outsource most of their software development, we have recommended a partnership approach to vendors. What is the best practice for doing that? We recommend that organizations take a serious look at some practical and theoretical work done 2012 David Consulting Group Page 4 of 5 v1

5 at the University of Tennessee in collaboration with commercial and government partners to produce a win-win approach called Vested Outsourcing. While the pure Vested Outsourcing approach recommended in the books and on the website might not be a perfect fit for organizations that are some way along their outsourcing path with a history or interaction with their vendors, nonetheless Vested Outsourcing offers a holistic approach for those who can benefit from it and some very good ideas for others who might want to add vested outsourcing as an optional engagement model alongside others already defined in their MSAs. Conclusions What is the current best practice on outsourcing software development? There are some basic best practices that must be observed by all. Assuming these are in place, building the right relationship with vendors is a crucial best practice. A transactional approach to vendors can drive down or hold down prices in the short term but this will not be sufficient in the long-term for organizations that outsource more than half of their software development. Such organizations should compare what they are doing to best practices defined by the IT-CMF Framework and by Vested Outsourcing. What does the future hold? Who knows? Diligent risk management must be a part of any software development outsourcing strategy with best practice being regular reviews of the external geopolitical landscape and the internal financial landscape. Sources 1. Innovation Value Institute (ivi.nuim.ie/) 2. Ephraim Schwartz, 13 best practices for IT outsourcing, August 2008, 3. Used with permission. Vitasek, Ledyard, Manrodt, Vested Outsourcing: Five Rules That Will Transform Outsourcing, 2010, Palgrave Macmillan. 4. Used with permission. Vitasek, Crawford, Nyden, Kawamoto, The Vested Outsourcing Manual, 2011, Palgrave Macmillan David Consulting Group Page 5 of 5 v1