How business trends drive shared services and outsourcing, part 2?

This post continues with the business trends and its effect on the adaptation of sourcing models like shared services/captives and outsourcing.

Deregulation or regulation? Deregulation is the removal or simplification of government rules and regulations that constrain the operation of market forces [Sullivan, Arthur; Sheffrin, Steven M. (January 2002), Economics: Principles in Action] and aims to limit the amount of regulations businesses have to comply too or to create more competition. Deregulation of previously government owned companies has different effect and one of them is lower prices for the end-consumer (and thus typically lower margins for the company fulfilling the demand) An example of the effects on the cost price is depicted in the figure below (Source: 3rd CEO Conference of Italy, Mc Kinsey & Mondo Economico). Effects of deregulation are:

• Lower margins and more competition (if deregulation means introducing competition into a market segment)
• Less spending on compliance and control (if deregulation means less laws and regulations to comply with)
• Easier access to markets

Deregulation (in case of less laws/ regulations) facilitates the establishment of a business case for a shared service centre as the design of the processes can enjoy a higher level of uniformity/standardisation. The same applies for the IT systems which are used to automate business activities. So deregulation can be seen as an enabler of shared services.

When outsourcing additional cost reductions can be achieved by lowering the funds that have to be spend on ensuring regulatory compliance through various control mechanisms. These would typically be described in the contract and sourcing governance framework and executed by both supplier and the retained organisation within the client.

Deregulation (introducing more competition within a market) is also a driver for sharing services and outsourcing as competition typically lowers the margin of products and services. See also this post.

I wonder however whether soon I have to change ‘deregulation’ into ‘regulation’ as one of the effects of the crisis in the banking sector is a discussion among politicians and regulators to increase the amount of oversight and regulatory requirements (e.g. ‘Basel III’). Other industries are at the same time looking at a combination of deregulation and regulation. Within several European countries certain industries (e.g. energy) are privatised (deregulated) to lower prices, while they have to comply at the same time with new regulations. These are required to prevent situations like in Germany where the deregulation does not show any benefits for the customers.

Increasing complexity of product and process technology. That a company from Amsterdam has to compete with a company from Hong Kong to fulfil a demand of the same customer results in a continuous drive to, besides lowering cost, incorporate the newest technology within the products (e.g. televisions, telephones). The drive to include more functionalisaties, reduce size and lower energy usage of consumer appliances is an example of the increasing complexity faced by companies. Some of the resulting effects are:

• Increasing investments needed for new product development
• Production facilities become more expensive and have to be upgraded more often.
• It becomes more difficult to attract and retain required knowledge and expertise

This is one of the drivers behind for example the split-up of AMD in an entity which designs and sells computer chips and an entity which produces them. In this case it was however no outsourcing, but a disinvestment by AMD to free up cash to pay its debts and invest in new products to battle its arch enemy Intel. Outsourcing and shared services can however both support the adaptation of the company to these trends. Outsourcing through ‘renting’ the competencies and knowledge of external suppliers on for example certain production techniques and shared services by centralising the companies’ expertise on a certain subject, thus increasing effectiveness and efficiency.

The risks related to using outsourcing and shared services to mitigate the effects of the business trends are mainly related to losing flexibility and in case of outsourcing: control. A more elaborate posing on the risks related to outsourcing and shared services in a future post.