Today’s CIOs view IT outsourcing as a strategic tool and no longer only as a means for cost-takeout. 3gamma’s research shows that a majority of IT organisations already have, or are in the process of, entering into second and third generation outsourcing deals. However, to leverage the benefits of specialised capabilities, it is crucial to nurture and manage positive and mutually beneficial relationships. To do this, IT organisations need to take a strategic view on the vendor. They need to identify selected strategic vendor relationships and invest in these to ensure operational efficiency and long-term strategic alignment.

1. 1
3GAMMA INSIGHTS
A STRATEGIC VIEW OF SERVICE
PROVIDER RELATIONSHIPS
How to realise value in contemporary outsourcing
Peter Wahlgren
Jens Ekberg

2. 2
Today’s CIOs view IT outsourcing as a strategic tool and no longer only as a means for cost-
takeout. 3gamma’s research shows that a majority of IT organisations already have, or are
in the process of, entering into second and third generation outsourcing deals. However, to
leverage the benefits of specialised capabilities, it is crucial to nurture and manage positive
and mutually beneficial relationships. To do this, IT organisations need to take a strategic
view on the vendor. They need to identify selected strategic vendor relationships and invest
in these to ensure operational efficiency and long-term strategic alignment.
January 2016

3. 3
A recent ISG survey1
confirms that in the European market, outsourcers are turning to specialised
niche vendors to achieve flexibility and gain access to new technologies. Second and third generation
IT outsourcers are applying more advanced sourcing models to acquire new solutions, technologies and
capabilities while controlling IT costs. Significant efforts are put into evaluating offerings upfront, but
less attention is paid to identifying, nurturing and managing fit-for-purpose relationships with each
vendor. All too often, relationship and vendor management is based on a traditional template, with little
investment from either buyer or seller.
In IT sourcing, there is a seemingly fundamental assumption about buyer-seller relationships that
rarely gets challenged. The assumption is that the nature of a relationship should be determined by the
size of the deal. For larger deals, both buyers and sellers nearly always strive to form strategic alliances
or partnerships because they are viewed as inherently better than arm’s length transactional relation-
ships. However, when it comes to forming partnerships, there are other drivers which are much more
important than deal size. A simple example would be network and telephony services or standard PC/
laptop provisioning for a distributed organisation. Both might constitute a considerable portion of the
ICT spend but provide limited competitive advantage. Simply put, they are bulk commodity services.
On the other end of the spectrum are buyers with small niche providers delivering services that are a
direct part of the company’s core business, such as a mobile interface for a retail bank or a critical SaaS
platform.
The real driver for a partnership model should be the level of business integration of the service pro-
vider’s offering/solution and the unique added value they are providing. The need for a more elaborate
approach to supplier management is underlined by the shift towards specialised solutions more tightly
integrated into key business processes. If the relationship with a true strategic supplier – a partner – is
focused on commercial discussions and contractual arguments, both sides have failed. On the other
hand, if a simple transactional outsourcing of commodity services include supplier expectations such as
innovation leadership and business process development, then the focus on the value of the commodity
delivery is lost.
3gamma’s experiences in these areas show that key advantages can be gained by taking a strategic view
of service provider relationships. IT organisations that identify and strategically develop relationships
based on business impact rather than deal size and share of IT spend can create significant benefits.
They are able to reduce typical outsourcing-related issues and create innovative, business-oriented
solutions.
Aligning the buyer-seller relationship with IT strategy
objectives
There are different ways to configure a buyer-seller relationship. Within IT, this arrangement needs to
be aligned with the business and IT strategies. The preferred setup depends on the capabilities being
acquired. On a general level, a relationship can be classified based on resource scope and type of inter-
firm contact, ranging from transactional outsourcing to in-house operations.
In the IT industry, and in IT organisations in particular, there is an ongoing debate on build versus buy
and the structure and nature of relationships with IT service providers. In short, there are driving forces
for vertical integration and transactional procurement. The fact that IT has moved from support func-
tion to become an integrated part of business processes, products and services – and now is faced with
the demand for fast time to market and differentiation – has created a push for vertical integration. In
contrast, the pace of innovation in the market has created a push for companies to acquire new solutions
and services from service providers using a more transactional approach (the most prominent example
being cloud-based software as a service offerings). In light of this challenge, understanding the level of
closeness needed and correctly configuring the buyer-seller relationship is key.

4. 4
Categories of buyer-seller relationships
Resource scope
Character of internal operations activity
Marketrelationship
Typeofinter-firmcontact
Do nothing
Transactional
Partnership
Traditional
market supply
Vertical
integration
Considerations that lay the foundation for strategic IT outsourcing
relationships
The nature of the service will on a strategic level determine the suitable type of relationship. In order
to strategically develop or reconfigure existing buyer-seller relationships and align them with business
objectives, a set of considerations needs to be understood. These considerations shape the preferred
type of relationship for a specific customer-vendor situation.
Key areas to consider in shaping an IT outsourcing relationship
Key areas of considerations for defining the relationships… …broken down into a set of critical questions… …to define the interfaces
Business and IT integration
The level of integration in the buyer’s business offerings/processes
and/or IT organisation and technology.
Variety and volatility
The variety and volatility of the goods or services being exchanged
between the seller and buyer including requirements, technology
development and variety of offerings.
Commercial and operational risk
The commercial and operational risk associated with the
relationship and available risk mitigation strategies.
What is the level of product/service integration?
What is the level of process integration?
What is the level of technology integration?
What is the pace and type of technological development?
What is the service and/or product variety?
What is the business requirement volatility?
Commercial model
Retained organisation
IT architectural approach
What is the business risk?
What is the financial risk?
What are the available risk mitigation strategies?
1
2
3
Business and IT integration
This involves the level of integration in the buyer’s business offerings/processes and/or IT organisation
and technology. As the technology component of a company’s offerings increases, so does the reliance
on external service providers. Any company that acquires a business-critical capability through sourcing
needs to be involved in the service delivery process and act as a competent service integrator – regard-
less of the characteristics of the services, products and competencies in scope.
The delivery of IT services may be stand-alone and isolated, such as some SaaS solutions. Other services
may be delivered through joint efforts across two or more organisations. For example, scrum teams
with representation from both different vendors and the buyer require closer collaboration and a higher
degree of flexibility.

5. 5
Four design dimensions in shaping the relationship in a low or high business and IT integration context
Low business and IT integration …to high business and IT integration
Transactional, arms-length approach, but needs to consider
dependencies across the delivery value chain
Important to understand solution, IT architecture and tailor
commercial setup to align with surrounding components
Set up an industrialised and process-oriented retained
organisation to reduce transaction costs
Use internal functional competencies, dedicated optimisation
of interfaces based on type and scope of service and service
provider capabilities
Enforce buyer-side standards and governing principles
through sourcing life-cycle
Use a balanced approach allowing for customisation based on
service provider capabilities, avoid enforcing non-necessary
standards
Base governance on top-down, process-oriented, structured
with fewer touch-points, often with an emphasis on
procurement/vendor management
Base governance on bottom-up, collaborative, information-
sharing, multiple touch-points between organisations on
strategic and operational level
Business and IT integration
The level of integration in the buyer’s business offerings/processes and/or IT organisation and technology
Commercial model
Retained organisation
IT architectural approach
Governance and relationship
model
Variety and volatility
The variety (level of difference of services in scope) and volatility (level and frequency of change) of the
goods or services being exchanged between the seller and buyer – including requirements, technology
development and variety of offerings – are an indication of the fundamental complexity of the relation-
ship. Variety and volatility should not only be viewed from an IT perspective, it also needs to include the
business perspective. High variety and volatility drives complexity and needs to be managed more closely.
Four design dimensions in shaping the relationship in a low or high variety and volatility context
Low variety and volatility… …to high variety and volatility
Use transaction-oriented and volume-based, well defined
mechanisms for scalability (price and volume) within set
agreement scope. Note: watch out for disruptive elements
and the impact of these.
Use a relationship-based contract model with clear processes
for developing a commercial relationship that cater for
uncertainty
Use an output-oriented design focused on governance,
follow-up and delivery measurement to ensure optimised
delivery
Use an input-oriented design: agile, collaborative and close to
service provider, roadmap and development processes based
on trust, information sharing and joint assets.
Focus on consolidation, harmonisation and standardisation to
reduce cost (both internal and with service provider)
Focus on autonomous components and off the shelf solutions
with significant cloud footprint and vertical services to improve
flexibility
Base governance on top-down, process-oriented, structured
with fewer touch-points, often with an emphasis on
procurement/vendor management
Base governance on collaborative, information-sharing,
multiple touch-points between organisations on strategic and
operational level
Variety and volatility
The level of difference and volatility of the goods or services being exchanged between the seller and buyer, including
requirements, technology development and variety of offerings.
Commercial model
Retained organisation
IT architectural approach
Governance and relationship
model
Commercial and operational risk
This involves the commercial and operational risk associated with the relationship and available risk
mitigation strategies. The commercial risks come from the scale and scope of the relationship, the
proximity to the vendor, the criticality of the service and the consequences of a service failure. Another
key consideration includes the ability to manage the risk. High risk is however not synonymous with
scale. It is important to view risk exposure from a business impact perspective and not purely from the
perspective of the monetary size of the agreement.

6. 6
Four design dimensions in shaping the relationship in a low or high commercial and operational risk context
Low commercial and operational risk… …to high commercial and operational risk
Leverage volume commitments and shift significant
responsibility to service provider to optimise and deliver. If
low variety/volatility look for longer contract time.
Look for risk- and success-sharing and secure readiness for
vendor shift and avoid lock-in upfront in commercial model
(depending on risk characteristics).
Minimise the retained organisation, focus on measuring
output based on commercial arrangements.
Implement oversight, commercial and operational monitoring,
and close insight through operational collaboration,
complemented with strategic governance, internal knowledge
and competencies.
Adhere to standards, principles and roadmap as defined in
the buyer’s enterprise architectural principles.
Compartmentalisation and modularisation, allowing for buyer-
side monitoring and insight.
Base governance on arms-length, low-intensity and
standardised template. Preferably grouped with cluster of
similar service providers.
Base governance on dedicated, multi-level governance
(strategic, tactical and operational) adapted to delivery
periodicity.
Commercial and operational risk
The commercial and operational risk associated with the relationship and available risk mitigation strategies
Commercial model
Retained organisation
IT architectural approach
Governance and relationship
model
Closely related to the contract scope flexibility is the question on volume commitment. In a tight low-
risk (for the vendor) contract there is a large contracted minimum fee from the provider. These con-
tracts have typically large exit fees and are often motivated when there is a significant investment for the
providers at contract start. Today, more contracts of framework character are emerging, where actual
services are called off by the customer in an evolutionary approach. Naturally, the customer will carry
the transformational costs when initiating or exiting services.
Outsourcing is not a single transaction – it’s a relationship
To realise the value of IT outsourcing and optimise the throughput of scarce IT resources, it is imper-
ative to adopt a strategic approach to vendor relationships. The considerations are not consistent with
one another why outsourcers need to make trade-offs.
As companies move to multi-sourced environments, mixing commodity services with highly specialised
niche services, they need to base their sourcing strategy on a portfolio view of the service provider land-
scape. As outlined in the figure below, decisions on how to configure the sourcing portfolio will be influ-
enced by buyer side capabilities, supplier capabilities, strategic priorities and current IT architecture.
A portfolio view of using the four dimensions to shape IT outsourcing decisions
IO
AO
AM
AD
SD
SM
Combination
Integratedservice
Functional Area
Object1
Object2
Object3
ObjectX
Technical requirements
and IT architecture
Critical to maintain a
portfolio view to avoid
sub-optimisation
Critical strategic
IT capabilities
Supplier capabilities, commercial
model and relationship
Retained capabilities, commercial
model and relationship
BusinessandITintegration
Varietyandvolatility
Commercialandoperationalrisk
Supplier capabilities, commercial
model and relationship
Retained capabilities, commercial
model and relationship
Technical requirements
and IT architecture
Critical strategic
IT capabilities
A company looking to outsource or reshape its IT sourcing strategy should seek to optimise both the
‘what’ and the ‘how’ in an iterative manner considering four perspectives:
• Buyer-side capabilities, commercial models and relationship preferences
Buyers need to understand the internal capabilities that exist to manage a portfolio of service
providers and if there are any gaps that need to be addressed. This analysis should be based on the
business and IT integration, the variety and volatility, and the commercial and operational risk.
Notably, both the decision on what and how to insource and the design of the retained organisation
are influenced by this analysis. To remain cost-efficient, it is imperative to minimise the number of
variations that are managed by the retained organisation. The service provider portfolio should be
segmented and the required service integration function should be built up to manage these services.

7. 7
• Supplier-side capabilities, commercial models and relationship preferences
Service providers have elaborate operational models to deliver services. These are typically con-
sistent across their different customers and are not easily customised or changed. Buyer-side
requirements for special treatment and custom solutions often end up being wishful thinking.
The sourcing strategy can therefore not just be internally focused but must also consider the setup
of the service providers’ delivery processes. The design of the target solution needs to include this
perspective to realise the value of the outsourcing initiative.
• Critical and non-critical IT capabilities
This involves what capabilities are critical to retain and what can be outsourced. Initially, a com-
pany often identifies a set of capabilities that are candidates for outsourcing. The analysis is often
based on business criticality and cost benchmarks, and/or an effort to acquire a previously non-ex-
isting capability. However, the initial target state needs to be revisited in the sourcing process
based on what exists in the market and how it can be delivered.
• Technical requirements and current IT architecture
Outsourcing never exists in isolation. It is an integrated part of an IT organisation’s overall deliv-
ery. There is a path dependency for any new service provider, which mean that they will face the
buyer’s legacy environment. Any sourcing or outsourcing decision must be based on a solid under-
standing of the legacy environment and this analysis should be revisited in the sourcing process.
IT outsourcing is an ongoing management effort
IT sourcing has moved from transaction-oriented deal-making to become an intricate management
challenge. In addition to the actual service provider selection, there are critical trade-offs that need to
be addressed in the commercial model, the IT architecture and the retained organisation to meet busi-
ness demands. Facing rising complexity, contemporary outsourcing needs to be iterative and allow for
the sourcing solution to be continuously developed during the sourcing process. An outsourcer needs
to revisit and adapt the sourcing strategy based on internal capabilities, available external capabilities,
outsourcing scope and the IT architecture. It is important to allow for adjustments in all these areas to
maximise the value of the solution as a whole.
The outsourcing process needs to be explorative and allow for continuous improvement of the target
solution. Within this process, an outsourcer should set up and define the approach to the service pro-
vider relationship and shape the commercial model, the IT architecture and the retained organisation
to realise the value of their IT sourcing strategy – and ultimately support their business’ objectives.
About the authors
Peter Wahlgren, PhD is CEO and IT management consultant at 3gamma. Peter is specialised in IT
Sourcing, IT operation models and retained organisation design and implementation. Over the years
Peter has successfully been advising international clients across 3gamma’s geographies.
Jens Ekberg is a Director and senior IT management consultant in 3gamma. He is specialised in IT
strategy, IT architecture and IT transformation. Jens works across industries supporting clients in
IT-enabled business change working in the intersection between business and technology. Jens holds
dual degrees in engineering and business administration.
References
1. http://outsourcemag.com/europe-smaller-deals-in-a-steady-market/

8. 8
ABOUT 3GAMMA
3gamma is a leading professional services firm focusing on IT management. As an independent specialist
in IT management, 3gamma provides advisory, consulting services and fact-based insights to many of the
world’s most respected companies. 3gamma operates globally from offices across the Nordics and UK.
3gamma is a knowledge firm that bases its expertise on six core capabilities:
• Strategy & Governance
• Emerging Technologies
• Sourcing & Legal
• Risk & Assurance
• Operational Excellence
• Transformation & Change
3gamma Insights brings leading-edge thinking at the intersection of IT and business, illuminating central
topics relevant to CIOs and decision makers.
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