Credit crunch hits outsourcing providers

Customers will have to work more closely with providers to gain value from outsourcing deals

The deepening financial crisis is having a dramatic effect on the outsourcing market, according to new figures from Compass Management Consulting.

An analysis of more than 100 outsourcing deals found that discounts usually offered in the early years of an outsourcing deal are no longer available.

Outsourcing firms had begun to offer discounts to sweeten deals and encourage investment in their services. The discounts offered in the first year of a contract are usually recovered in the later years, with charges sometimes pushed up to 30 per cent or more above a comparable internal market rate, according to Compass.

"Just as the credit boom transformed the outsourcing sector's ability to fund discounts based on an annuity stream from contracts, the shrinkage of credit will have a transformational effect on the sector," said Compass consulting director Andy Gallagher.

"The economics of outsourcing, and the way deals are managed, is going to change radically in the months to come. Outsourcing is no longer a source of working capital for corporates, or a vehicle for financial engineering."

With these upfront savings now removed from many deals, customers will have to work more closely with providers to gain value from outsourcing deals throughout the duration of their contracts, the report suggested.

"We are already seeing the best performing companies working to understand their existing operational performance, how they compare with best practice and what opportunities exist for improvements," said Gallagher.

"With that understanding comes a more constructive approach to contract management."

But Harry McDermott, chief executive of telecoms consultancy Hudson & Yorke, argued that because outsourcing provider and customer have such a mutually de pendent relationship, customers should think twice about pushing too hard for discounts.

"Different segments of the outsourcing industry are at different stages of development - those at an earlier stage of development will often provide opportunities for a better deal," he added.

"After the first generation outsourcing deal, it's difficult to get the same level of business benefit; the focus in second generation deals should be on service levels and optimisation."