ERP. Sourcing Considerations in ERP Environments. Robert Krohn, Director, ISG; and Kirk Teal, Partner, Public Sector ERP, ISG.

Transcription

1 ERP Sourcing Considerations in ERP Environments Robert Krohn, Director, ISG; and Kirk Teal, Partner, Public Sector ERP, ISG

2 INTRODUCTION IT sourcing considerations for enterprise resource planning (ERP) environments are not all that different from those within traditional application development and maintenance (ADM) environments. You start by developing a sourcing strategy, and the next critical step is to select a service provider who offers the best mix of pricing structures and resources. As with ADM sourcing strategies, the final step is to maintain a support organization with an appropriate level of governance. Although traditional ADM and ERP sourcing strategies have many similarities, this white paper explores the challenges that are unique to sourcing ERP initiatives. ERP ENVIRONMENTS ROBERT KROHN & KIRK TEAL 1

3 DETERMINING THE SOURCING STRATEGY Creating a sourcing strategy is an ongoing process that helps you align your short-term sourcing decisions with your long-term, overarching objectives. As Tony Rawlinson and David Howie explained in a white paper relevant to ERP environments, an effective sourcing strategy is a top-down, holistic approach that seeks to balance internal and external services and know-how, while positioning an organization to achieve its goals and take advantage of future opportunities 1. A sourcing strategy is unique to each organization, yet even those that have invested millions of dollars in ERP systems report a common set of business drivers. Organizations most often name the following sourcing objectives: a) Reduce cost b) Mitigate risk from aging legacy systems that are often poorly documented c) Increase efficiency of business processes d) Gain strategic advantages by introducing new functionality e) All of the above The blend of these drivers will ultimately drive any organization s IT sourcing strategy. Whatever strategies organizations develop, however, the key resourcing needs to support them can be classified in terms of the following stages: Blueprint, Realization, and Deployment: The peak resource demand for an ERP system life cycle is during its initial stage. Depending on the business process scope and the degree of customization to the ERP package, the staff size needed initially can be many times greater than that required for its support and maintenance. Considering this spike in demand, the first phase is an excellent time to use a blended resource pool, which may include the extensive use of a service provider. Even though organizations will rely considerably on the expertise of external service providers or system integrators, a number of roles in this phase should not be completely outsourced. Areas where an organization should retain sole or at least partial responsibility include strategy and planning, application architecture design, and program/project management. 1 Tony Rawlinson and David Howie, What is Strategic Sourcing? ISG (December 2007). Selecting the appropriate service provider with certain tools and methodologies that will be necessary in this phase is a critical decision. At minimum, a competitive service provider should have access to development and testing Centers of Excellence, accelerator tools and methodologies, training and testing tools, and best practice tool sets for the industry and the domain. In order to reduce costs, organizations may also consider offshore resources from a global service provider. Steven Hall and James Hussey, in their book Managing Global Development Risk noted: that: Many large-scale package implementations have the capacity and competency to document (i.e., Oracle, SAP, etc.) require customized components be developed to integrate the package into the endusers environments. Although the implementation of the package should be done at the end-user s facility, the development of custom components is well suited for [outsourced] global development. The utilization of offshore resources for complex design can also be counterproductive, however. Projects that require a high degree of customer interaction, such as designing a new customer order entry process, or those that are likely to have a high degree of change during development, are typically not suitable for initial projects to complete offshore. In the early stages of a global development project you will get exactly what you ask for including all [the] mistakes and errors, whether obvious or not. Maintenance: While Application Support and Maintenance are often discussed together, this white paper considers them separately in order to highlight the strategic importance of an internal maintenance organization. Capital investments in ERP implementations are often significant. Obtaining a measurable rate of return on these investments can be difficult to achieve. Even if an organization relies on service providers for implementation, ongoing support, maintenance configuration, and programming, the organization should still maintain a core group of internal resources to drive value out of their ERP investment. Although expertise in ERP is valuable, the critical skill set of these internal resources is their business acumen and their ability to create measurable value from ERP in meeting business requirements. It is not enough for these internal resources to react and document business requirements. The most effective internal maintenance teams do more; they are creative in proactively identifying opportunities to utilize new ERP ERP ENVIRONMENTS ROBERT KROHN & KIRK TEAL 2

4 functionalities. These resources should also and enforce business processes/rules and ERP best practices, plan upgrades, support M&A activities, and track benefits realization. As organizations struggle with tough economic conditions, these internal groups can become victims of severe budget cuts, or they can be eliminated entirely. We caution organizations against being penny wise and pound-foolish with internal ERP maintenance. Although qualified service providers are capable of effectively supporting an ERP environment and delivering maintenance configuration and programming, measurable return on investment will be best realized through a hard-driving internal ERP maintenance organization. Application Support: A formal handoff process from the implementation team to a pre-determined ongoing support organization should be a defined milestone of the implementation process. This handoff can occur at various stages of the implementation or, in some cases, after the implementation is complete. Depending on the size and scope of the implementation, a service provider with offshore capabilities can provide ongoing support. Although offshore competency may be a minor consideration in the implementation project, it is often a major component in the delivery of Application Maintenance and Support services. The following diagram depicts an appropriate sourcing mix for ERP services in the commercial market: SOURCING VS. RETAINED ASSUMPTIONS FOR ERP SERVICES High Enterprise Value Added Retained Primarily Sourced Primarily Retained Source with Technical Oversight Third Level User Support Second Level User Support Software Configuration Management Application Security Administration Operational Support (monitoring, scheduling & documentation Infrastructure and Hosting Services Strategy & Planning Application Architecture Release Management Business Analyst Program Management Project Management User Acceptance Testing Deployment, Training & Change Management Systems Analyst Process & Business Rules Configuration Performance and Capacity Management Integration & System Testing & QA Programming, Technical Configuration & Unit Test Strategic Services Operation Services Transaction Services Basic Complexity of Interaction High SELECTING SERVICE PROVIDERS When organizations implement an ERP package, inevitably they will use external parties at some stage of the process. Selection of these service providers is a key decision that should be supported by a qualified sourcing advisor. Selecting the wrong service provider or even entering into a bad service contract could have significant adverse effects on the bottom line. In 2008, ISG published its recommended framework for sourcing strategies, entitled The 3C Framework. This framework detailed the shift from a cost-only focus to an overlapping focus on cost, capacity, and capability. The principles in ERP sourcing directly correspond to the 3C Framework. While we encourage you to consider this framework in its entirety, we have included a subset of this framework here: ERP ENVIRONMENTS ROBERT KROHN & KIRK TEAL 3

5 3C FRAMEWORK: THE COMPOUNDING OF SOURCING ATTRIBUTES For experienced adopters of outsourcing, we perceive a shift to a more balanced orientation toward cost, capability, and capacity. YESTERDAY STRATEGIC ZONE TOMORROW Cost Capability Cost Capability Capacity Capacity Cost is King Near-term cost attributes Access to skilled resources Effort-oriented rather than productivity driven Compounding Effect Relative equilibrium among sourcing imperatives Capability prominence for business value dimensions Greater client-provider collaboration Maintain and Enhance Your Competitive Positioning Through Savvy Sourcing Currently there are eight to 12 service providers with the capacity and the capability to sufficiently support global clients through a large-scale ERP life cycle. Many more niche providers are capable of delivering small to medium regional projects. The trick is selecting the right provider(s) and negotiating a sound contract. Here are nine practical tips to help you do both: 1. Conduct a professional sourcing process. In his March 2011 Top 5 column Set the Stage Early to Get the Best Out of Your RFP Process, Ian Watt stated: Issuing a request for proposal (RFP) and selecting a service provider partner is a big deal, especially for services that can materially affect the way or even whether you do business. You want the investment in time and focus to be worthwhile, resulting in the right services with the right partner at the right price 2. Furthermore, for RFPs that relate to ERP initiatives, organizations need to involve well-respected internal IT, financial, procurement, and HR personnel. An experienced external sourcing advisor should participate in the evaluation process. 2. Price is a factor but not the only factor. As organizations choose service providers, they should weigh the relative importance of price and quality (e.g., a provider s experience with newer modules, industry solutions, and the account team). Other factors, such as terms and conditions, should have a relatively small impact on the final decision. 3. Include less technical components in the evaluation. Evaluate key attributes of service providers like: 1) their experience with newer modules and relevant industry solutions, 2) their account team, and 3) their implementation methodology. Subcategories of the implementation methodology that should be considered include service providers approaches to: 1) data migration, 2) training, 3) stakeholder communication, 4) change management, and 5) benefits realization. 2 Ian Watt, Top 5: Set the Stage Early to Get the Best Out of Your RFP Process, ISG (March 2011). ERP ENVIRONMENTS ROBERT KROHN & KIRK TEAL 4

6 4. Do not be overly influenced by name recognition or brand. When making a large investment, such as an ERP implementation, organizations can be tempted to select the name that is known. Although name recognition of the service provider can have a small short-term benefit in change management, it is far more critical to select the provider that is culturally aligned with the organization, has experience with the ERP in a given industry, and can put the right people on the account. 5. Evaluate as many people as possible who will be dedicated to the account. The major players in the ERP space all have good people with a great deal of competence. The key is to ensure, to the greatest extent possible, that the service provider s best people are dedicated to the account. In order to maintain flexibility within their portfolios, service providers may be reluctant to commit specific individuals to an account, but this is an area where aggressive negotiation will pay dividends. 6. Ensure that exit provisions built into any agreement are favorable to your organization. Initially, this objective will be met with moderate resistance from the service provider, but it is also something that is worth negotiating aggressively. 7. Do not be afraid to utilize multiple providers if volumes warrant. ERP solution providers correctly emphasize the value of integration to their customers. Although ERP solution providers might argue to the contrary, the values of integration do not necessarily equate to a need to sole source. Two natural breakpoints for multi-sourcing should be considered: Application Hosting vs. Application Management: Most of the major ERP service providers have significant capability and capacity in both Application Hosting and Application Management. Though certain synergies do exist from sole sourcing Application Hosting and Application Management, service providers that are recommending a sole source strategy should be challenged to isolate these specific synergies so that a buyer can make an informed decision on sole sourcing. Keeping multiple service providers in the mix has obvious benefits unless sole sourcing is likely to achieve significant and quantifiable cost savings. Initial design, implementation, and rollout vs. Application Maintenance and Support: As stated earlier, create a formal handoff between implementation and support phases. More often than not, even when the same service provider is used for both phases, the individuals engaged in these activities are from different organizations. The underlying reason for this is quite simple: resources that specialize in blueprint, realization and/or deployment have different skill-sets and characteristics than those in Maintenance and Support. Because the handoff inevitably will need to be a formal process, the potential utilization of multiple service providers should be considered. As with Application Hosting and Application Management, well-positioned service providers tend to overstate the synergies that exist from sole sourcing. Again, you should not forsake the benefits of multisourcing unless you can achieve significant and quantifiable cost savings by committing to one provider. 8. Utilize the ERP package vendor or niche providers where appropriate. Use subject matter experts, participation in the program management office (PMO) or assignment of specific work teams. Regardless of whether these additional resources are subcontractors to the service provider (preferred relationship) or independently contracted with the customer, carefully define and enforce their roles and responsibilities. 9. Ensure that your internal PMO is properly staffed. Find the most organized, strong-willed, respected, and trustworthy individuals in the office. Technical skills are a plus, but surprisingly enough, they are not an absolute necessity. DEFINING THE PRICING CONSIDERATIONS FOR ERP SOURCING AGREEMENTS Pricing considerations for ERP sourcing agreements should be separated between projects, including large maintenance activities, and support, including small maintenance initiatives. Pricing Considerations for ERP Projects The most common mechanisms that ERP service providers use for projects are: 1) fixed fee; 2) time and materials; or 3) a creative combination of the two. ERP ENVIRONMENTS ROBERT KROHN & KIRK TEAL 5

7 The Fixed Fee Although some consider it a best practice to reduce the uncertainty in an ERP development and implementation project by obtaining a fixed fee contract, organizations need to understand the service provider s pricing mechanism to protect against the dreaded, but all too common, change order. To reduce uncertainty, consider the following: In blueprinting, the service providers need a crisp definition of the functional scope and organization profile, which the deliverables from a pre-planning or structured scoping project will provide. For realization, service providers will need detailed estimates of the business process procedures and RICEFW objects, which will be determined in the blueprinting phase. For deployment, service providers need the localization requirements, user and site counts, and deployment schedule, all of which will be determined in the realization phase and proven in the pilot. Time and Material Service providers tend to prefer ERP engagements that are priced on a time-and-material basis. Essentially, this pricing structure removes most or all of the delivery risk from the service provider and places it on the customer. Although it is best practice to avoid time-and-material contracts in the ERP environment, sometimes it is warranted, in which case organizations should take the following steps to further mitigate risk. Ensure that the service provider produces a detailed and measurable project plan that includes the client s responsibilities and staffing commitment to the project. Dedicate necessary internal resources in a PMO to monitor service provider deliverables against this plan. Create an active steering team with internal business leaders and IT senior management to provide oversight for the project. Although these principles are valuable regardless of the pricing structure of the contract, they are particularly critical with the increased cost risk of a time-andmaterials project. Blended Approach Utilizing a Tiered-Incentive Framework At first glance, fixed fee and time-and-materials contracts appear to be quite different. However, experience shows that service providers use similar methodologies in pricing both types of engagements. ERP service providers tend to build their price quotes from the bottom up and include a risk premium. In a fixed fee proposal, this risk premium is included in the base quote. In a time-andmaterials proposal, the risk premium is included either in the base hours or as a contingency line item. A useful technique in negotiating ERP projects is to isolate this risk premium and attempt to minimize it. One approach used in the marketplace is a roof to floor model as illustrated in the following simple example. Example: ERP service providers are asked to bid on a project that they anticipate will take 20,000 hours at a blended rate of $300 an hour. The internal modeling of the ERP service provider is based upon the assumption that this project constitutes a risk premium of 20 percent. A simple roof to floor model would share the gain/risk between the service provider and customer as illustrated in the following figure. ERP ENVIRONMENTS ROBERT KROHN & KIRK TEAL 6

8 Customer exposure is capped at a maximum of $7.2 million. Barrier to change order is quite high Customer and service provider share overrun 50/50 on supplier effort between $6.0 million and $7.2 million Customer and service provider share gains 50/50 on supplier effort between $4.8 million and $6.0 million Customer is responsible for $4.8 million, regardless of hours spent by service provider $7.2 Million Roof $6.0 Million Target $4.8 Million Floor This pricing approach mitigates monetary risk, but it also allows a shrewd negotiator to learn a great deal about the potential service provider s transparency and willingness to act as a true partner. Regardless of the pricing mechanism, the customer should release work in phases and be open to changing the pricing mechanism from phase to phase, where appropriate. For example, agreements can be structured as time-and-materials for blueprinting followed by separate fixed fee releases for realization, pilot, and deployment. PRICING CONSIDERATIONS FOR ERP APPLICATION MAINTENANCE AND SUPPORT In most instances, Application Maintenance and Support for ERP environments should be contracted as a managed service. Although some service providers might still prefer time-and-materials pricing, the market has moved largely toward managed services. A variety of methods exist for pricing ERP support contracts, but much like other managed service transactions, pricing is ultimately based on applicable resource units. Although ISG does not necessarily endorse them, some of the many resourcing units in the market today include: Disk space (hosting) Users Licenses Number of how to questions Number of user-handling errors Interfaces Time and materials based on resource level for maintenance requests (e.g., high/medium/low) Number of Category I, II, III, or IV requests (rather than costs based strictly on a time-and-material basis, providing fixed prices on maintenance request categories based on pre-determined levels of complexity can be mutually beneficial to the service provider and customer. Negotiating this arrangement at contract initiation requires some effort, but it will eliminate the more onerous effort of negotiating each maintenance request later.) FTPs As with any transaction, pricing will vary based on service levels, quality of deliveries, delivery model (onshore, near-shore, offshore), complexity of design, and perceived risk from the service provider as well as, of course, your contract negotiation skills. ERP ENVIRONMENTS ROBERT KROHN & KIRK TEAL 7

9 MANAGING THE QUALITY OF ERP PROJECTS AND SUPPORT ORGANIZATIONS In general terms, the established ERP service providers all possess the necessary technical competency and capacity to meet customer needs of ERP implementation maintenance and support. The difference maker often can be the other aspects of the project and support model, including service providers approaches to data migration, management, and benefits realization. DATA MIGRATION FOR INITIATION IMPLEMENTATIONS Data is the fuel that runs the engines of ERP systems, and substantial resources are necessary to ensure that data migrate appropriately from the legacy system. Data migration falls into these two broad categories: 1. Master data is the information that is key to the operation of the business, including data about customers, products, employees, materials, suppliers, etc. The challenges with master data migrations occur when organizations do not have a one-to-one mapping from the legacy system to the target ERP. Master data can be categorized as follows: Many to one, where many data elements in the legacy system are mapped to a single data element in the target ERP, is relatively easily to manage. One too many, with just one data element in the legacy system mapped to many data elements in the target ERP, will require the creation of business rules to facilitate migration. None too many, with no data elements in the legacy system, may require informed end-users to create data. 2. Transactional data includes the information that relates to a single business event (e.g., a production order, a sales order, an accounting journal entry, etc.). Organizations may assume that they should migrate substantial volumes of transactional data from legacy systems to the target ERP; however, this step is usually not an effective use of resources. Alternate solutions, such as transactions, may prove to be more cost effective than extensive transactional data migrations. It is important for the customer and service provider to appropriately define data migration in the contract. This step helps to mitigate a great deal of risk associated with defining the responsibilities between the customer and service provider with regard to designs, extracts, cleansing, transformation, load program development, load executions, and verification. ERP customers should be wary of service providers who do not offer robust approaches to master data migration as well as those who do not offer realistic and cost-effective solutions to transactional data migration. TRAINING After an ERP implementation you will most likely never hear, We should have committed fewer resources to training. On the contrary, countless projects have failed because of insufficient training. In spite of this fact, service providers still try to skimp on training. Some service providers advocate a train-the-trainer approach in which they train only a small subset of client super users, who, in turn, train the end-user community. Even if this approach is the only affordable option, customers should still ensure that service providers are responsible for the following: Evaluation and planning of the entire training regime, including curriculum, delivery, scheduling, and third-party sourcing, if required. Creation of formal training documentation, including classroom materials, online training materials, user competency tests, and user aides that can be used at workstations. Preparation for the number and type of trainers who will be trained. Stakeholder Communications There was too much communication about this ERP project, is a sentence that is rarely spoken. As with training, communication is an area where service providers tend to cut corners. Organizations should ensure that their service providers understand their level of responsibility for a) development and tracking of a communication plan and b) content creation for stakeholder communication. Stakeholder communication must not end with the completion of the implementation. Maintenance and support organizations success can hinge on their communication efforts. You can create the most robust functionality development, but if multiple levels within an organization do not recognize the potential value of the functionality, the functionality s impact will be suboptimal. ERP ENVIRONMENTS ROBERT KROHN & KIRK TEAL 8

10 Change Management Service providers often create SOW proposals with pages dedicated to their approach to change management but fail to commit the appropriate resources. All the major players in ERP implementations have an approach to change management. The general principles are similar, but the nuances may differ according to the culture of a particular organization. Yet, as with technical aspects of ERP sourcing, it is less important to focus on nuances in the methodologies; instead, organizations should evaluate service providers on the individual resources that the providers are willing to commit. A methodology without resources is nothing more than a document. Benefits Realization Although most organizations are able to manage through the difficult challenges of ERP implementations without adversely affecting their customers or business partners, only a minority are able to track benefits realization sufficiently to justify their initial business case. One common mistake organizations make is to try to track business benefits only after functionalities are in place. Organizations should start to create the framework for benefits realization as early as the blueprinting phase of the project. It is important to fully understand the service provider s role in defining business measurement metrics, baselining their values, and building a system to measure and report these metrics after deployment. SOURCING MANAGEMENT AND THE EVALUATION OF INCUMBENT ERP SERVICE PROVIDERS Not surprisingly, proper sourcing management is a critical factor in creating effective relationships with ERP service providers. The methodologies that have been developed for other areas of IT sourcing are directly applicable to ERP environments. The four disciplines of sourcing management are depicted as follows: FOUR DISCIPLINES OF SOURCING MANAGEMENT Performance Management Right Work, Done Right Strategy & Objectives Financial Management Costs Validated & Managed Relationship Management Satisfaction, Direction-Setting Contract Administration Compliance Ensured TPI s Perspective on Sourcing Management incudes both client and service provider facing activities ERP ENVIRONMENTS ROBERT KROHN & KIRK TEAL 9

11 Perhaps even more so than within the traditional ADM Environment, the term partnership is often used to describe the relationship between an ERP service provider and its customer. This relationship is sometimes even compared to a marriage. Although these analogies do have some merit, they are often overused. ERP customers must routinely evaluate the effectiveness of their service providers and they should structure their contracts to reference these formal evaluations. Logical service provider milestone evaluation points are as follows: At or near the completion of blueprinting Upon completion of realization After a pilot go-live During or immediately after deployment (or at various stages of deployment as volume warrants) After three years of Application Support and Maintenance The appropriate time to plan for these formal evaluations is during the formulation of the contract. Of course, service providers will resist, but organizations should stand firm during negotiations as to the necessity of this process. Ultimately, a service provider should understand that as long as it meets or exceeds customer expectations, the organization will not change service providers. However, a service provider should also understand that if it fails to meet expectations, the customer does have a formal evaluation process that could lead to a relationship with a new service provider. CONCLUSION An organization that decides to move into an ERP environment must recognize that it has also entered This white paper provides a common sense approach to navigating the challenges of this new world amid its experienced service provider negotiators. The process starts with the definition of an ERP sourcing strategy. Once an organization develops its strategy, selecting the right service provider or service providers is critical. While the pricing methodology is an important consideration, organizations should not underestimate the need to incorporate all aspects of the 3C Framework, including cost, capability, and capacity. The 3C Framework is especially relevant as it relates to the non-technical aspects of the service provider arrangement. Lastly, a robust governance process will ensure the careful evaluation of the deliverables of the service provider(s) and, most importantly, the effectiveness of the relationship. ERP ENVIRONMENTS ROBERT KROHN & KIRK TEAL 10

12 LOOKING FOR A STRATEGIC PARTNER? Your operational excellence is our business. CONTACT US Visit the AccessISG Sourcing Portal for more sourcing information, insight and tools. Click the envelope to contact us or go to Information Services Group (ISG) (NASDAQ: III) is a leading technology insights, market intelligence and advisory services company, serving more than 500 clients around the world to help them achieve operational excellence. ISG supports private and public sector organizations to transform and optimize their operational environments through research, benchmarking, consulting and managed services, with a focus on information technology, business process transformation, program management services and enterprise resource planning. Clients look to ISG for unique insights and innovative solutions for leveraging technology, the deepest data source in the industry, and more than five decades of experience and global leadership in information and advisory services. Based in Stamford, Conn., the company has more than 850 employees and operates in 21 countries. For additional information, visit Copyright 2013 Information Services Group All Rights Reserved