Business Process Co-sourcing:Imperative, Historically Inevitable, Ready to Go(April 2004)Article's Table of Contents:
Business Excellence in the 2000sBusiness Process Co-sourcing (BPC) is the inevitable next major source of organizational innovation and competitive advantage. The purpose of this paper is to alert business and public sector executives to the scale of the BPC opportunity and how to exploit it. BPC is the investment strategy for sourcing best practice process capabilities end-to-end in business value networks: customer relationship networks, supply chain networks, organizational productivity networks, and product and service innovation networks. It complements the goals of business process management, outsourcing, supply chain management, customer relationship management, knowledge mobilization, reengineering, and related initiatives to gain a process edge. It balances in-house direction and governance of a process with selective outsourcing relationships. It is intensively collaborative because it rests on meshing the BPC client’s skills, technology base and processes with the BPC provider’s distinctive offerings. It is additive – strengthening capabilities along the value network. This makes BPC very different from traditional outsourcing of tasks and functions, which is largely subtractive – outsourcing aims at getting rid of something – an out of sight, out of mind (and off my budget) tactic. Here, outsourcing is a contractual agreement with the “out” being the key part of the term. With BPC, the emphasis is on “sourcing.” What makes BPC practical is that that sourcing can increasingly be mediated electronically by connecting the BPC client and BPC provider. The company takes on part of the process and its BPC provider takes on other parts, to leverage the distinctive strengths of each party. Here is just one example of the BPC philosophy. Fender is the Minnesota-based company that manufactures high-end guitars. It cut delivery time by a week or more and reduced its distribution costs by around 9% by co-sourcing its entire logistics management processes with UPS: order fulfillment, warehousing, investment management, delivery, and set-up service. All its goods, including ones ordered from Minnesota, are delivered from a UPS warehouse in Maastricht, the Netherlands transportation hub for Europe as well as part of the Dutch port and cargo networks that have made this small country a center of international trade efficiency. One of the main causes of cost and delays for Fender has been that a professional musician must tune the guitar for the customer. That is now handled by a team of musicians who work in UPS’s Maastricht warehouse, instead of the customer contacting Fender to schedule a local musician to do the job. (“UPS Worldwide Logistics ‘Tunes Up’ Fender Guitar’s European Supply Chain”, UPS Logistics Group News Release, May 27, 1999) This is far more than outsourcing of shipping; it is a process design enabled by both firms’ collaboration, computer and telecommunications systems, and creative thinking. It adds significantly to the customer relationship value network. It brings Fender a best practice process base through the combination of UPS and Dutch trade and transportation logistics. It is enabled by the Web; here, as with all BPC, W3 moves from World Wide Web to Win-Win-Win – a win relationship for the BPC client, its customers, and the BPC business partner provider. Such thinking is already part of basic business design and a key skill and priority for excellent firms; BPC opens up the broader opportunity for any well-run company. Consider Wal-Mart; it is outstanding at what it does and benefits from the outstanding results of what it has others do. Wal-Mart’s key suppliers manage what goods are on its shelves and how they get there; Wal-Mart manages relationships and service for the customers who buy those goods. They share the information and link the transaction processing systems and collaborative forecasting systems needed to make this work “seamlessly.” They establish W3 trading partner and service level agreements that move in the opposite direction from the long-established zero-sum contracting that relied on carefully guarding price and sales information and playing off one supplier against another. This “vendor-managed inventory” optimizes the entire value network. Nike was one of the first embodiments of the concept of the “virtual” firm by concentrating on design and sourcing other capabilities from outside. It was a manufacturer that manufactured nothing but made sure that “its” manufacturing processes were the best. This again requires close collaboration and process synchronization. Were Nike to simply “outsource” its operations it would lose the “glue” that connects them all together. There is evidence that when a company outsources its IT functions most effectively, it ends up with a smaller internal group, as commonsense would predict, but a much more highly skilled one that concentrates its efforts on coordinating the relationship with its co-sourcing service providers. Ineffective outsourcing generally is ineffective because it lacks investment and skills in collaboration and coordination. The test of co-sourcing versus traditional outsourcing is to ask and answer the question “If we simply contract this (function, process, service) out (outsourcing), will we achieve a better level of performance than if we do it ourselves (in-house sourcing) or we create a tight collaborative relationship that includes elements of both (co-sourcing)?” Collaboration is central to co-sourcing. Toyota made its supply network collaboration the core of its production system by working so closely with its key suppliers that in many instances it took charge of the redesign of their facilities, methods and TQM processes. It provided its “Tier 1” partners with training, consultation, and even its proprietary systems. One of the early indicators of the massive slump in European and US car makers’ competitive position that pushed them onto a decade-long retrenchment as Toyota moved to the front and stayed there (it now sells more cars in the US than it does in Japan) reflects its BPC strategies: the percent of value-added in each car that came from in-house manufacturing and supplies versus from outside. For GM the figure in the 1980s was well over twice that of Toyota. For every single automotive firm that has survived the competitive shakeout, cutting out in-house manufacturing and shifting to co-sourced logistics was strategic necessity. That co-sourcing required collaboration with suppliers to ensure highest quality and tight links with product planning and production, sharing of information, joint forecasting along the supply chain, and synchronization of just-in-time operations. The W3 philosophy drives all this. Studies show that collaboration along the supply chain in terms of shared forecasts and information reduces all the parties’ costs by around 25 percent. BMW, which is increasingly increasing its market share in the luxury car market, illustrates one key element of co-sourcing: capital efficiency via the shift from fixed to variable cost operations. In planning for its new X3 series of models, its choice was either to build a new manufacturing plant for a cost of around a billion dollars and several years of delay or co-source its manufacturing assembly. It chose the latter option and all manufacturing will be coordinated and implemented by Magna, a firm which specializes in such services. This is the era of “co-“: collaboration, cooperation, community, communication, co-own, co-host, co-design, etc. In the context of business process management, it is worth noting that the “re-“ era is over – re- means try again as in reengineering. Co-sourcing is an integral part of the alliance imperative. No firm can work in isolation now in managing its customer relationships, supply chain logistics, product development, distribution and business innovation. Here are comments from CEOs: “Ally or die”, “You are only as strong as your weakest partner”, “You’re kidding yourself if you think you can go it alone in today’s business environment.”
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BPC is |
BPC is not |
| Business discipline | Procurement routine |
| Long-term | Single developments/consulting projects |
| Relationship | Transaction |
| Enabled | Contracted out |
| Process | Functions, tasks |
| Infrastructure | Individual applications |
| Maintained | As needed, situational |
| High level | Delegated to individual process units |
| Mutual | Buyer-seller deal |
| Collaboration | Purchase and payment |
Any company can outsource routine tasks – document printing, office cleaning, or building security, for instance. Doing so may save money and provide a more efficient service than in-house operations but it will not leverage the firm’s capabilities in terms of customer service, innovation, financial capital performance, adaptation to change, and branding. To achieve these, the company has to prioritize its process needs, build a portfolio of best practice processes, link them together, integrate them into the firm’s operations, and carefully balance what it does itself and what it outsources.
That discipline demands commitment and skills. Outsourcing is easy. BPC is not. But it is essential and the potential payback is immense. It is essential because companies cannot afford process gaps; best practice has to become standard practice. The payoff is huge because access to processes on demand changes the economics of process investment, reducing capital demands and risk and enabling the firm to scale process volumes up and down quickly and efficiently. And it is both essential and high payoff in making any and every process a “core” capability.
Build best practice process capabilities through ROMI (Return on Minimized Investment)
Why re-engineer faulty processes if they can be replaced through BPC by enhanced ones? Why carry an unnecessary overhead burden as measured by the SGA (Selling, General and Administration expenses) line item on the income statement? Why tie up financial capital in terms of facilities, staff costs, hiring, training, office services, and the many other “iceberg” costs that lie beneath the visible surface of the direct costs of such processes as travel and expense management and reporting, financial accounting, warehousing and shipping if these can be provided at an equal or higher level of performance and lower cost through BPC? Why accept being second-rate in, say, handling customer financing needs or order processing if there is a BPC provider that is first-rate?
Note that all these questions say “if” not “when”; obviously today there may not be a BPC provider that (1) offers such best practice capabilities, (2) has a proven reputation, financial strength and evidence of staying power, and (3) has the technology base and collaborative relationship skills to work with its clients in the way that UPS and Fender worked together. The key issue is when does BPC turn from if to when, from possibility to actuality, from opportunity to necessity? The answer is that it is already happening. The UPS/Fender example is a leading indicator of a general trend.
BPC provides ROMI – return on minimized investment – rather than ROI. The problem with ROI is that it requires the “I” upfront – and the upfront willingness to accept development and implementation risk. Indeed, it really stands for Return on Risk: pay now and maybe gain later. As is evident throughout the history of information systems development and process transformation – total quality management, business process reengineering and knowledge management initiatives – it is not at all an easy task to ensure R for the I. Why take on all this risk, time and cost if your firm can convert a process to a pay-as-you-go variable cost and at the same time benefit from the BPC provider’s investment in building its process capital and competence? ADP is a model here. It handles payroll processes for many thousands of large and small companies. No individual firm can afford the investment needed to build better capabilities than ADP and even if it did so it would have to carry the full investment cost whereas ADP can spread its costs over a huge customer base. When tax laws change, for instance, ADP can focus its entire resources on updating its processing systems and services. For individual companies, such updating is a diversion of money and human capital.
The rapidly emerging BPC provider base expands the range of processes that can be accessed in the same way as payroll. Over the next two to five years, we can be sure that just about any routine business process will be accessible via BPC. In particular, the massive bureaucracies of many firms’ HR operations will disappear. Of course your company wants to be outstanding in its hiring, promotion, career development and management succession planning. Of course it should never outsource these. But of course there is no reason for it to maintain in-house all the other many HR functions, administrative reporting, and employee benefit management services that, like payroll processing, can be far more effectively and efficiently handled by a BPC provider, at best practice, at a variable cost and without ROI risk. Most BPC providers and their clients have zeroed in on this area of opportunity as a collaborative priority.
Supply chain network management has rapidly moved in the same direction. Even though many B2B trading hubs, industry portals and auctions failed to build on their early success (often because of in-house process problems: culture, incentives, coordination across business functions, and organizational “fiefdoms”), all the most-admired companies and the most successful in the Fortune 1000 are experts in customer-supplier relationships. Rather than list examples in this paper, here’s a challenge: find a stellar firm that is not a supply chain network process wizard. Good luck.
Processes on demand
BPC provides flexibility, scalability and adaptability. If business activity goes up, the needed process base is immediately available; there is no organizational lag. If it goes down, there is no organizational drag – or layoffs of loyal employees who are now expendable. Many companies live through an organizational yo-yoing in the business cycle. They race to add process capacity in the growth phase, often in a catch up mode where service and quality are put at risk; skilled staff are scarce, there is no time to train them, facilities are expensive, and needed information systems cannot be implemented fast enough. Then they race to dump capacity on the downside. That means dumping people, which is expensive, often inequitable, and disruptive to the morale of the survivors. BPC is a strategy for matching capacity to need. It is a core part of the move from IT being a fixed cost demanding substantial capital investment to a variable cost.
One of the fallouts from the many shocks in the 2000-2002 is the problem of scaling. Even the best companies were stressed by the challenges of finding skilled people to meet the earlier demands of growth. This was not just a matter of locating, training, and retaining technical specialists; they needed staff at all levels who could add value to the customer relationship network – in the call center, in the store, at the check-in desk – and contribute to streamlined manufacturing and distribution – on the assembly line, in the field. One CEO privately admitted that his planners had had to put on hold several major competitive initiatives because there was no way the firm could staff them; innovation was blocked by lack of process capacity at a relatively low level of the business.
When the business cycle moved into its deep decline in just about every industry in 2000-2002, even the best companies were stuck with a high process cost base that they could no longer afford. An obvious example is financial services. Day traders, mutual fund investors, and individuals who handled their own investment portfolios fled the market. Charles Schwab, a superb company in every area of customer service, innovation and operations, saw its profits plummet as its transaction volumes dropped. No matter how well-run a company is in such a situation, it cannot scale down automatically if its many routine processes are largely built on in-house operations. It can do so where they are handled through the combination of online processing – software instead of people – and BPC service providers. Obviously, BPC providers face their own scaling challenges. The dot com collapse is a warning signal here. Hosting firms like Exodus went broke a few months after they were adding capacity and services at a frenzied rate. Ariba, the leader in B2B services went through the same boom to bust.
It is too early to predict who the winners in BPC services will be, but logic and economics strongly suggest that they will be built for scale, making a 5 percent or even 20 percent drop in volumes far less severe than for a boutique provider, will price their services to maximize capacity in the way that large phone companies and utilities do, and will fine-tune their operations day-to-day to optimize costs and efficiency. They will not, though, be “utilities” because BPC demands a collaborative client-provider relationship – process design and integration, not just buying bits and “apps.” It is most likely that there will be no more than five major BPC brands; that estimate is based on the playout of what the genius economist Joseph Schumpeter termed the “creative destruction” that competition in free markets is all about. Airlines, retailers, banks, car makers, personal computers, consulting firms, software companies – or any industry marked by open competition, mergers, consolidations, and Chapter 11s by previous leaders – show the same pattern in the maturation and shakeout of their competitive ecology: 4-7 megaplayers, the middle ones largely disappearing, and specialist small firms.
Whether or not BPC ends up with just five or so megabrands, the issue is scaling. BPC helps a company scale up and down quickly, efficiently and cheaply. It can do this only if its BPC provider can do the same.
The false distinction between core and non-core processes
To define a business process as “non-core” is to say that it does not matter much. Many customer relationship processes such as call center operations, management accounting processes, human resource management processes such as employee services, and procurement are non-core in terms of the firm’s own priorities and capabilities. They are very much core in terms of their impact on customers, employees and business partners. (One of the fallouts of the Enron fiasco is that management accounting and audit processes will become very much core to firms’ investors, and will require a new level of best practice; no excuses, please.) The issue for process investment is to ensure the best process capability at the best cost through the best practice provider. Core versus non-core is an increasingly meaningless distinction in a business environment that is more and more driven by customer expectations and choices, price and cost pressures, and speed and flexibility as the currency of business success.
In addition, the history of business shows very clearly that transformation of an industry comes through making a process that was handled as “non-core” into a force for transformation; it then becomes core to competitive success and even survival. It is process discoveries and the disciplines to exploit them that reshape the business landscape. Adam Smith invented division of labor as the base for enterprise efficiency in the 1770s; this process principle dominated the organization of work through to the 1970s. Henry Ford redefined manufacturing processes through his own invention of the assembly line, making production flow the core of the process base. Frederick Taylor’s Scientific Management invented workflows as the unit of organization and introduced the concept of systematic analysis of processes that underlies almost a hundred years of operations research and analytic methods; Peter Drucker comments that “all – all – the productivity gains of the twentieth century can be explained by the work Taylor set in motion at the century’s beginning.” (Quoted in Thomas Stewart, The Wealth of Knowledge, 2001) Toyota consolidated the total quality management movement, just-in-time manufacturing and lean production, all of which turned a process edge into a massive competitive differentiator and pushed European and U.S. carmakers into a decade-long defensive catch-up and retrenchment.
Wal-Mart began and Dell Computer continued the transformation of end-to-end logistics processes that over a twenty-year period has reduced the percentage of U.S. Gross Domestic Product tied up in supply network management costs by over 40 percent. Business Process Reengineering was the first explicit linking of process and technology as a powerful combination of levers for operational excellence; it played a major role in mobilizing U.S. business at a time when its global competitive position had significantly eroded. Most recently, massive new consortia of competitors, their business partners and their customers in business-to-business operations are collaborating to codify, systematize and share process capabilities. RosettaNet in the high tech industry, the long-established ANSI X12 EDI (electronic data interchange) committees, EDIFACT, and BPMI (Business Process Management Institute, which has over 150 members) are examples.
In all these historical examples from Adam Smith to BPMI, most of the transformational processes are unexciting, routine, and even boring to describe. “Core”, “strategic”, “innovative”, “radical” and “creative” are the glamour terms of business. These terms apply to all the historical results of process change transforming the competitive dynamics of an industry; Wal-mart’s supply chain and store replenishment processes radically, strategically and creatively redefined the core of retailing. But on the surface and before the event it is hard to view process transformation in such adverbs. When the London Times held a competition among its journalists in the 1930s for the world’s most boring headline, the winner was “Small Earthquake in Chile; Not Many Hurt.” Here are some strong competitors: “Famous economist Adam Smith suggests pin makers assign different workers to shape the metal, cut it and hammer the head”, “Henry Ford brings the car to the worker to stick on the steering wheel and paint it”, “Wal-Mart keeps track of what goods it is selling and tells its suppliers” and “RosettaNet agrees on what ‘weight’ means on a purchase order.”
Business process innovation has historically driven business innovation. It can only increase in importance in the business environment of tomorrow. The more customer-driven, profit-pressured, time-paced and change-dominated the environment, the more it is that every business process – sales, management accounting, procurement, employee services, office management, production, shipping, hiring, etc., etc. – matters.
They all matter because (1) business value networks are only as strong as their weakest links; process gaps in the customer service and supply network undermine overall business performance; (2) poor quality processes generally turn out to be expensive: errors, rework, delays, administrative bureaucracy, staff turnover, and organizational muddle, and (3) any improvement in any everyday and enterprise-wide process in a large company translates to an edge for the winners and a corresponding burden for their competitive laggards, in terms of either customer reputation and branding, operating profit margins, capital efficiency, organizational flexibility and speed, or employee productivity.
There cannot be gaps in any of the value networks. Your own company has to be best practice and best cost. It can selectively be best process in, say, product development but to disdain and neglect after sales customer support, as many high tech companies do, opens up a gap in the relationship network that a Dell will gleefully fill.
A firm could afford process gaps when customers did not have many choices of provider, when industry oligopoly, regulation and barriers to foreign competition protected prices, and when product innovation and quality could offset weaknesses in service and operations. Success came from concentrating on a few “core” competencies and getting by on the rest. A high tech innovator like Digital Equipment thrived on its engineering and product development processes and many of its managers openly boasted of its lack of sound administration. In the high tech industry of the 1960s and 1970s, “adhocracy” was very much in fashion as a contrast to the bureaucracy and inflexibility of the computer establishment. Process incompetence caught up with DEC and the adhocrats. Nike in the meantime paralleled DEC in its production design and technical excellence but anticipated BPC through its sourcing, thereby gaining the advantages of both flexibility and stability of process operations.
A top retailer like Kmart could for many years offset its poor management of inventory, supply network and employee relationship processes because it had the lowest prices for branded goods, largely through its buying power. Sears, IBM, GM, United Airlines and other industry leaders grew their bureaucracy and eroded customer service – and got away with it for decades because they offered a premium good in a market of limited choices. Then process-smart rivals outpaced each of them. Many dot com firms thought that they could ignore basic business processes across the board. They – or rather their investors and employees – paid for that assumption.
Large firms that moved from success to struggle in the 1980s and 1990s were largely marked by a do-it-ourselves approach to business. Sears, GM, AT&T and IBM, to pick out just a few instances, displayed an NIH mentality, recruiting for life and promoting from inside. They used their scale to own most of their supply network – GM’s parts subsidiaries, IBM’s manufacturing, AT&T’s Western Electric – and built huge administrative staffs. They owned plenty of real estate, too – office complexes, training centers, warehouses, etc. For them, the very idea of outsourcing any function was unacceptable in that it was an implicit admission that it was not able to handle it itself. This led to what now appear as absurdities: companies managing a hotel and restaurant attached to the training center they ran, with a Vice-President of training facilities.
All this was a cultural mindset that placed control over collaboration. That is long gone. IBM, once the most closed of firms now stresses its collaborative relationships along its business value networks. (And it is no longer the owner and manager of large acreage across New York and Connecticut.) In every area of business, IBM, like any firm that looks to thrive in today’s environment, has responded to the imperative of Collaborate or Die! BPC is part of that imperative. It is a mindset and cultural skill. Traditional outsourcing was not part of it, just tactical contracting.
It is now close to impossible to be a best practice firm without being a best practice partnership manager.
2. The BPC Opportunity
BPC is a business discipline because it is centered on optimizing the firm’s process portfolio. That demands skills and methods to:
- Maximize the company’s capabilities via best practice processes, both built in-house and handled through BPC.
- Leverage and sustain the firm’s distinctive competencies and competitive differentiators by focusing and freeing up organizational resources, simplifying the organization and concentrating innovation and change management.
- Maximize financial performance: free up capital, improve capital efficiency per unit of revenue, maximize revenue per employee, and minimize overhead.
- Brand the end-to-end customer relationship via end-to-end process excellence sourced to provide best practice.
- Make today’s environment of uncertainty and ever-changing change the company’s ally not a threat by maximizing organizational flexibility, speed of response and ability to scale operations up or down.
Companies have for years outsourced business functions, support tasks and technology operations. BPC is not thus “new” in itself. It is not new also in that it marks the convergence of three well-established and major long-term historical forces that have individually been of growing impact on business for over a decade. It is their coming together that is new and news. BPC is their integrator and enhanced enabler. The three forces are:
The transformation of corporate financial management and the move towards capital efficiency and shareholder value rather than earnings per share as the metric of performance; this historical shift makes BPC a massive source of economic leverage because it helps maximize cash flow while minimizing capital deployment.
The maturation of information technology as a business resource, which makes online process sourcing and integration practical. Organizations with well-integrated technology platforms can exploit the many new tools of software, telecommunications and the Internet to link their own processes, applications and information resources to a BPC provider “seamlessly” and on demand, in response to business innovation opportunities, operational needs, and business scaling.
The evolution of process understanding and methods, which makes BPC a natural extension of such process movements as TQM (Total Quality Management), BPR (Business Process Reengineering) and supply chain network management. In addition, it builds on and extends best practice trends in outsourcing of technology operations.
BPC leverages process-driven opportunities in four ways: (1) Operational Excellence, (2) Financial Efficiency, (3) Branding and Customer Relationships, and (4) Organizational Responsiveness.
The BPC Payoff: Operational excellence
It takes time, money and sustained effort to build process capabilities in-house and no one company can be excellent in performance of them all. It thus makes more and more sense to outsource many of them while at the very same time retaining them. That is not a contradiction. Traditional outsourcing decouples processes from the business; the firm removes a function from its own operations and assigns performance to a service provider. BPC establishes an electronic linkage between the company and a provider of best practice processes, together with a collaborative relationship that is more like that with a financial institution that provides a portfolio of investment services than with a utility. Operational excellence can then be brought in-house by being outsourced.
An example is Amazon. Even those who doubt Amazon’s long-term financial viability will agree that it is excellent in its customer service, especially fulfillment of orders. Fulfillment was a key process failure for other dot coms such as eToys and the online subsidiary of Toys”R”Us, which attracted many customers but failed in end-to-end process integration. Amazon’s success in this regard heavily rests on BPC. It has outstanding distribution and delivery processes that are in effect part of its brand. But it does not handle any of these. It relies on UPS’s superb and broad third party logistics capabilities, coordinated via the two companies’ on-line technology platforms. There is absolutely no way that an Amazon could build a comparable process capability by itself. UPS in many ways is the core of e-commerce, handling over 60 percent of all online shipments, including payments, warehousing, customs, and insurance – process rather than just pick up.
The BPC opportunity for building operational excellence is to integrate best practice standard processes into your firm so that you can focus management attention, investment and skills on the non-standard ones that establish and renew your own best practice. To repeat: a key difference between BPC and standard outsourcing of tasks and functions is that it is not the simple pickup and delivery of packages that makes UPS so valuable to its e-commerce clients like Amazon, but the combination of the standardized best practice processes that UPS provides, Amazon’s own distinctive customer relationship and internal order and fulfilment processes, the two firms’ collaborative integration of those processes, and electronic linkages between their technology platforms. Going back to the crash of online retailers, the fates of eToys and Toys”R”Us are instructive. eToys went bankrupt. Toys”R”Us survived largely because it used the BPC approach to repairing its process failures. By adopting Amazon’s co-sourced technology platform it transformed its performance, improved its brand, gained advantages of scale and flexibility, and did so without having to add staff and make major investments. It moved from operational disaster to operational recovery. It retained in-house its core processes centered on product selection, catalogs, relationships with its manufacturers, pricing, and promotion – its differentiation processes. It still faces many problems but BPC kept it in the game.
The BPC Payoff: Financial efficiency
The main trend in corporate finance over the past decade has been the recognition that standard accounting figures of profitability as measured by “the bottom line” and earnings per share have ignored the cost of financial capital deployed to generate them. Shareholder value rests on capital efficiency. In particular, most financial “assets” as shown on the balance sheet are really operational liabilities. Working capital – receivables, materials, work in process, and inventories – ties up financial resources, rather like consumers carrying around traveler checks that they have paid for in advance and that are not earning them any return. Process-efficient firms do not waste the firm’s capital. In any industry, the process leaders use around half the working capital per unit of revenue of their median competitors, half the overhead as measured by SGA (Selling, General and Administrative) costs, and from 70-200% higher productivity as measured by revenues per employee.
While much of this competitive edge comes from the firm’s own internal process capabilities, in just about every case these are combined with process sourcing through supply network partnerships. Dell is an exemplar here; it is a process firm that happens to sell computers and servers and that annually earns over 200 percent on its invested capital – because it uses so little of it. Its return on total capital was 46% in 2001, one of the most difficult years in modern business history. The figure for HP and Compaq was 11%. This gap in capital efficiency points to two BPC payoffs: leverage the return while minimizing the capital commitment. BPC provides the opportunity to add process capabilities without adding capital, overhead and employees.
The BPC Payoff: Branding and Customer Relationships
We have seen in recent years an accelerating shift in business from product brand equity to process and knowledge branding. Fedex has branded guaranteed on-time delivery, Victoria’s Secret brands the shopping experience – its “made in China” goods are basically the same as those sold elsewhere in a shopping mall. The very same Asian contract manufacturer often makes competing laptop computers and printers on the very same assembly, with different labels added to them at the end of the production process. It is harder and harder to maintain a product edge; the difference has to come from the customer experience, marketing, logistics, and financial efficiency – process. As the Amazon/UPS example shows, Amazon’s “brand” is not a product, but an end-to-end process capability.
BPC helps a firm extend its own brand capabilities, often in ways that are not built on customer-facing processes but on “back office” and administrative processes. A simple example is account opening and loan application processing, which can often be faster and better handled – from both the customer’s and the company’s perspective – through best practice BPC than in-house. The BPC opportunity is to add end-to-end process capabilities that by improving the customer experience strengthen the company’s own brand.
The customer does not care – or even want to know – who provides specific components of service, only that they be well-provided and – far more difficult to achieve – “seamlessly” integrated and coordinated. But the do view the brand as a promise; when one element fails – such as, say, order fulfillment, it is unacceptable for the company to respond that its supplier let it down or the shipper lost the package. One of the costs to brand reputation and the customer experience is that traditional outsourcing too easily undermines these, in that the outsourcer has a formal responsibility to the company not to the customer and that if there is a failure in performance, either the company or customer has to do the work to find out what happened. This shows up in areas of financial management. For instance, where a bank’s mortgage unit outsources title search and appraisal to outside units, if any of these delay processing their tasks then, first, the customer suffers, second, the bank has failed in its service, and, third, there is not much anyone can do about it.
Brands are not just products. They are the result of process: design processes, marketing processes, customer relationship processes, operational excellence processes, knowledge mobilization processes and many others. BPC opens new ways to strengthen a brand and even to build a brand. BPC provides the base for companies to ask: “What is it that we want to brand? How do we build and or access via BPC the processes that we need to achieve this.”
Obviously there is a risk in building a brand where BPC is a major component of the firm’s strategy in that another company can copy the move and gain from the innovator’s experience. If, for example, a competitor of Amazon decides to adopt its use of UPS in its end-to-end customer relationship process network, it can do so. The catch here is “end-to-end.” It would have to mesh its own customer service processes – ordering, interaction with the customer, follow-on service and information, exception handling, etc. – to make this a competitive match to Amazon. It isn’t the shipping that makes the brand; it is the end-to-end process capabilities that do so. It is instructive to recall that in the late 1970s, one of McDonald’s competitors lured away a number of its top executives in the hope that they could help it copy McDonald’s processes, right down to the physical design and layout of its restaurants. It failed. End-to-end process excellence is far more than the efficient operation of any one link in the value network. That is another reason why BPC rests on collaboration between BPC client and provider. They are co-designing and co-operating the process network.
When that process network is complex and involves many links, relationships, partners and intermediaries, who owns the brand? The answer is simple: whoever owns the customer relationship – in the customer’s mind, not the company’s. BPC strengthens that brand when it is used to improve the customer experience and trust and add to customer confidence in the brand owner.
The BPC Payoff: Organizational responsiveness
It is no secret to any manager that this is a time of ever-changing change, with the 2000-2002 recession demonstrating how even short-term forecasts and assumptions can be invalidated in weeks. In the growth era of the business cycle, speed became the very currency of innovation. In the down cycle, it remains as critical for the company to be able to respond quickly when it cannot predict. When business volumes of activities and transactions can vary widely, BPC adds flexibility, adaptability and ability to scale by its very definition; instead of having to build, retain and operate process capabilities, it can import them into its process portfolio.
BPC will be the privilege of relatively few companies in this regard – that is, it will be a major source of competitive advantage because many perhaps even most firms are not positioned to mesh the triangle of capabilities it requires: (1) a culture that is both collaborative in instincts and values and incented to coordinate rather than to control, (2) a first-rate technology platform that facilitates “clean” interfaces and fast integration of components, and (3) process smarts: a formal recognition of the importance of process, skill in process evaluation, analysis, design, implementation and operation, and discipline in every area of process management.
Two out of three is not enough. Many companies are not built for collaboration, but for control. While most companies are genuinely trying to improve teamwork and collaboration, it is not at all easy to make this work in reality instead of good intention. There is the “not-invented here” reflex, a win-lose view of supplier relationships, and budget and incentive systems that reward protection of turf. BPC rests on what is often termed the extended enterprise and its value networks; the firm is not an island but part of a growing and dynamic ecology of collaborations. The corporate cultures that have made collaboration part of the very fabric of their thinking, strategy and reputation already have a source of competitive advantage that cannot be easily matched. BPC extends that advantage by providing for a process edge through collaboration.
Many firms cannot exploit the BPC opportunities opened up by information technology, the second apex of the triangle of capabilities. The National Association of American Manufacturers reported in late 2000 that only 10 percent of its members, mostly firms with over a billion dollars in revenues, can process a customer order electronically; they even have to print out Web site transactions and enter them into multiple other systems. While ERP (Enterprise Resource Planning) systems like SAP have improved the links between information resources and processing routines, most companies are still struggling to clean up the mass of legacy systems, data bases, and communications networks they operate, inherit through mergers and acquisitions, or have to develop in order to exploit new software for new applications.
“Interfacing” drives BPC – handing off from the client’s to the provider’s technology platforms and the reverse. To make this work, they must have “clean” interfaces: precisely defined procedures, a single point of hand-off from one party to the other and clear and consistent definitions of data. Again, the companies that have such technology platforms already have a competitive edge over the average firm in their sector that, again, becomes even greater when it can be used to access best practice processes that the average company has to either operate in-house, forego or contract out without gaining the advantage of end-to-end process integration.
Finally, process insight and commitment to process excellence vary widely across firms. Many companies do not think in these terms: processes are handled as “functions” and “tasks” not as the core capabilities of business operations. For every process-centered leader such as Dell, Fedex, Wal-Mart, Southwest Airlines, Toyota, or Charles Schwab, there are dozens of process laggards in their competitive sectors. Little by little, over many years and through sustained effort, the leaders redefine the standards of performance. They build their business on the three pillars of competitive advantage: customer relationships as capital – long term revenue- and profit-generating assets, knowledge and intellectual capital, and business process capital. Capital is an asset built through past investments, owned today and deployed for future innovation. Otherwise, it is just a cost. BPC is part of the firm’s capital portfolio of real assets – the base on which it builds its sustainable capabilities and sources of competitive differentiation.
The more uncertain and volatile the business environment, the stronger the case for BPC as core to organizational flexibility.
Conclusion
This briefing paper aims at alerting managers to the scale of the BPC opportunity. In many instances, their companies are already moving towards it, through supply network relationships, existing outsourcing arrangements, and partnerships. BPC is the result of a historical drift – an inevitability that has gathered momentum as process understanding and methods have evolved, as technology platforms become more integrated and inter-linked, and as the economics of business demand capital efficiency and shareholder value.
A business is its processes. The virtual firm used to be an ideal and an exotic form of organization. It is now the new mainstream directive. Every single force in business pushes towards more virtualization. Supply network management has been the main driver here and it has transformed US economic performance. It has also led to over half of all the world’s manufacturing now being carried out in Asia. Supply networks are becoming global collaborative relationships.
The economics of business get crueler and crueler. It is very difficult now to make easy money through high prices, mediocre service, and inefficient cost management. In some industries such as airlines, customers have limited choices and companies can get away with some of this, but in retailing, car manufacturing, hotels, and other areas where customers do have choices, they are taking them.
All this reinforces the main message this paper aims at providing to managers: Business Process Outsourcing (BPC) is the inevitable next major source of innovation and competitive advantage. It is an opportunity that your company literally cannot afford to miss.