There are a variety of ways in which clients of outsourced IT services engage with their suppliers. These may be broadly classified into: resource-based (e.g., Staff Augmentation) and deliverable-based (e.g., Fixed Price, Managed Services). The former is usually the preferred choice during the early stages of the client’s outsourcing journey, since it replicates IT managers’ hiring of external resources to augment the strength of their existing staff, without having to significantly change the way work is done. This provides a degree of comfort to IT managers having to deal with the impacts of transition from an in-house to an outsourced workforce, while reducing the risk of dependency on a new supplier relationship.
As clients advance further in the outsourcing journey, and as their suppliers prove themselves and inspire confidence and trust to actually perform the work (instead of merely providing resources), clients tend to migrate the outsourcing of their routine IT operations (such as maintenance and support of production systems) from a Staff Augmentation model to a Managed Services model, and project work (such as systems development) to a Fixed Price model. However, even after such migrations, the Staff Augmentation model continues to be relevant, especially for projects that involve a considerable amount of innovation or experimentation; projects in which requirements cannot be clearly specified and/ or the underlying technologies are too new for the retained team to handle without expert assistance.
At the heart of the Staff Augmentation model is the Time & Materials (T&M) pricing mechanism that draws upon a “rate-card” that has been contractually agreed by the client and the supplier, which forms the basis for periodic billing. Each resource employed by the supplier and deployed to work for the client, is billed according to the agreed hourly billing rate for the specific role played by the resource (taking into account the complexity of skill and depth of expertise required of the resource) multiplied by the number of billable hours expended on client service by the resource during the billing period. The rate-card therefore must cover the entire gamut of roles, technologies, skill levels and combinations thereof as relevant to the client’s needs.
It is commonly observed that over the life of the contract, the rate-card evolves organically, with ad-hoc changes and additional line items appended into it as the supplier responds to growing client needs. This often leads to duplication of entries, which in turn causes inconsistencies. Then again, there could be instances of resources being deployed to fulfill needs that don’t match any line item on the rate-card, and who subsequently are billed per rates agreed with a specific IT manager, but not entered back into the rate-card. As a result, after some years into the contract the client will likely find that the rate-card is too long, too inconsistent and too complex to support an error-free billing process. Now imagine the same thing happening across multiple suppliers, each with their own nomenclature for roles and skills and levels of expertise.
Meanwhile, the supply side of the market is continuously evolving. New suppliers, new services, new technologies, new labor pools, changing foreign exchange rates, etc. open new opportunities for clients to negotiate more favorable pricing. Skills that were once considered “hot”, for which clients paid a premium, become mainstream in a few years.
And so when it is time for contract renewal and clients prepare to renegotiate with their suppliers, the rate-card is the first item on their list. Mature clients prepare well in advance for such renegotiations. While preparations may include various steps, the two most important ones are: (1) rationalizing and normalizing the role taxonomy, to help remove duplication and inconsistencies and thereby simplify, restructure and standardize the rate-card across all suppliers of the same or similar services, and (2) hourly rate benchmarking, to help determine market pricing for the roles and skills that they source from suppliers. While both steps may be conducted in parallel, it is prudent to first get the taxonomy right so that the benchmarking can be done against a cleaner, simpler rate-card structure.
Three key dimensions underpin the foundation of a robust role taxonomy: (a) role groupings, based on primary functional responsibilities underlying each role (b) skill categories, based on price-bands determined by the economics of the labor market, and (c) skill levels, based on depth of expertise needed to perform the role. The importance of each of these 3 dimensions is outlined below.
Role Groupings – This is the first step of role rationalization and it is extremely critical to get this right. Every role in the rate-card is defined by the primary functional responsibility (e.g., developer writes/ edits code, a tester tests the code written by the developers, and so on). Some suppliers may have different nomenclature for the same role (e.g., a developer may be called a programmer). So it is important to understand the primary functional responsibility pertaining to various roles and then group them accordingly. This leads to reducing the number of items in a rate-card to a more manageable level.
Skill Categories – Skills are categorized based on the economics of the labor market for those skills in outsourcing destination locations. Factors such as complexity of the tasks involved, uniqueness of the underlying technology platform and degree of specialized domain knowledge needed (and combinations thereof) influence the size of the talent pool and the ease of talent acquisition and retention, which in turn impact the demand and supply for those skills and therefore define resource costs. Commodity skills typically fall into the lowest price band, whereas rare skills may command a significant premium in the marketplace.
Skill Levels – This is the last step in rationalization of the role taxonomy. For each combination of role and skill category, the depth of expertise required to perform the role may vary. Since depth of expertise is difficult to objectively define, a good proxy that comes in handy from a pragmatic viewpoint, is the number of years of experience of the resource. Thus, one may differentiate by junior, senior or expert level depending on the number of years of experience. As may be obvious, the more senior the skill level, the more the hourly billing rate. Which is why it is important to review resource requisitions that specify a high skill level (to check if a slightly lower level of skill would suffice).
Role rationalization and normalization in itself is an exercise that can yield substantial benefits in rate reduction, in situations where there are limitations on time and budget that preclude investment in benchmarking. It leads to a simplified and easy to implement rate-card and can also identify potential savings by folding similar roles (quite often – the same role appearing with different sounding names) that were previously at different price points in the old rate-card. Our experiences with various clients show that role rationalization and normalization alone could unlock anywhere from 5% to 10% savings. Adding benchmarking to that could take the savings potentially up to 12% to 14%. These are proven numbers and our track record with clients stands testimony to having helped them save several millions of dollars on their annual T&M spends.
At Neo Group, Hemant leads key engagements globally and works with clients to assist them in the development of outsourcing strategies and governance models. The scope of work typically includes (among other things), comprehensive RFP cycles and proposal evaluation iterations, which involves evaluation visits to the facilities of incumbent service providers as well as new bidders around the world.
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