A Simple Way To Use Core Competency and Financial Impact Analysis in Outsourcing Planning

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By Nari Kannan

The phrase "core competency" was introduced by C.K. Prahalad and Gary Hamel in a groundbreaking article in 1990 in Harvard Business Review. They wrote that a core competency is "an area of specialized expertise that is the result of harmonizing complex streams of technology and work activity." Honda Motor Co.'s core competency is its expertise in engines. The company builds motorcycles, lawn equipment and automobiles around their engines. Volvo's core competency is widely perceived as safety.

Outsourcing introduces a new wrinkle when handling the core competencies of any company. Which business processes do you outsource? Having rules such as, "Outsource non-core competencies but not core competencies," just doesn't work that well anymore. At the start of the 2006 school year, PC vendors have priced laptops as low as $300! How much free handholding and customer support can you provide on the margins you make on $300? Not much. An average call to customer support in the U.S costing $50-plus, even one call could wipe out the profit margin in a laptop! Even though the PC vendor may consider good customer support a core competency, there may not be any other choice except to outsource/offshore at least a part of customer support if they want to make any profit.

On the other hand, consider accounts receivables or collections, usually a non-core competency. For a company struggling with financial performance, outsourcing collections may be a bad idea. An outsourcing service provider may not have the same drive and urgency as the company when handling collections. They may not be able to produce the same results as when it is done in-house.

Core Competency/Financial Impact Analysis Approach

The core competency/financial impact analysis approach enables your company to take each business process it's considering for outsourcing and place its appropriate position according to two major considerations:

• Relevance to core competency. In an insurance company, policy underwriting and claims processes may be core competencies. Hence they will score high on the Relevance to Core Competency scale.
• Financial Impact. The financial impact of a business process may be high or low in a company. By financial impact I don't mean the cost savings effected when outsourcing or offshoring a business process, but the impact it has on the profitability of the company, directly or indirectly. If the company is in the catering business, its internal IT systems management may be a low financial impact business process. On the other hand, for an online electronics vendor, its internal IT systems management may be a high financial impact business process since its whole business depends upon its servers being available on the internet 24/7/365.

Plotting the various business processes according to your estimates of relevance to core competency and financial impact provides their placement in one of four quadrants. The order of these quadrants also reflect the phases in which outsourcing can be attempted: quadrant 1 business processes in phase 1, quadrant 2 business processes in phase 2 and so on. This approach also ensures that if outsourcing doesn't work well, you can back out of these in the reverse order with minimal impact to the company!

The core competency analysis is directly tied to the corporate strategy that is in force currently in any company and which could be different from company to company -- even those in the same vertical. A company that's losing market share may consider customer service and support a part of its core competency and may not want to outsource it. A company gaining market share may be doing so with very low prices. Its customers may not expect the same level of service and support, and so it may not be of strategic importance.

Figure 1: Core competency and financial impact analysis.

Quadrant 1: Low Core Competency Relevance, Low Financial Impact

These are the no-brainers of outsourcing. They could be outsourced as early as possible since they're not core to the business and their financial impact may be minimal. Some typical examples could be payroll processing, personnel recruitment, and facilities (building maintenance, janitorial services, etc.).

Quadrant 2: High Core Competency Relevance, Low Financial Impact

These are the business processes that could be easily outsourced but you may need to seek out specialists in that area. Internal IT systems management in a large automobile manufacturing company like Ford or General Motors may be a good example. The designers and managers in the company may need the internal IT systems for their mission-critical daily work. However the IT systems management could be outsourced to appropriate specialists.

Quadrant 3: Low Core Competency Relevance, High Financial Impact

Customer support over the phone for PCs may be a low core competency for a PC vendor. However, if perception of customer support is poor in the eyes of the customers, the financial impact could be high. These are business processes that are the last to be outsourced. Government regulations can also place business processes in this quadrant. HIPAA regulations in healthcare are a good example. Privacy guidelines mandated by HIPAA may require that outsourcing be done to only to specialists that can enforce these rules properly.

Quadrant 4: High Core Competency Relevance, High Financial Impact

These could be business processes that you may not want to outsource at all! If you're a provider of financial services mainly over the phone, customer service is a process you may not want to consider outsourcing!

Getting Answers

In the case of an online commodity PC vendor, the core competency/financial impact analysis may yield the following conclusions, among others, as an example:

• Since the vendor's business is completely online, order management and order fulfillment may have high core competency relevance and high financial impact. These are functions that may not be outsourced (except for third-party shipping fulfillment, if the number of products carried is too large, as it is with Amazon.com). Customer support may also be too important to be outsourced.
• The obvious first candidates will be those in quadrant 1, like payroll processing and internal IT help desk.
• Accounts payables and accounts receivables/collections may also be critical business processes that this company may decide to hold back outsourcing on by placing them in the 3rd quadrant.

Figure 2: An outsourcing analysis for an online commodity PC vendor.

In the case of a financial services company that provides services over the phone and online, a core competency/financial impact analysis may yield the following conclusions about business processes suitable for outsourcing:

• Accounts payables, accounts receivables, and payroll processing may all be good choices for outsourcing because of their positioning in the first quadrant.
• Order management (for buying and selling of shares or other financial instruments) and order fulfillment may not be as crucial as in the case of an online PC vendor.
• Since many customers may need 24/7/365 access to the company's online system, management of servers that provide these services (internal IT systems management) may be in the fourth quadrant and may not be good candidates for outsourcing.

Figure 3: An outsourcing analysis for a financial services firm.

One Size Doesn't Fit All!

When it comes to outsourcing, one size doesn't fit all companies! Across-the-board rules such as, "Always outsource accounts payables," may not be suitable for all companies. The core competency/financial impact analysis provides a careful approach to taking on the right outsourcing risks. It helps put some thought into whether a business process is core to the business and how it impacts the company financially before making the outsourcing decision. It also provides a systematic and phased approach to business process outsourcing. Last, it provides a way to bring back in-house, those business processes that may not have been suitable for outsourcing in the first place.

Useful Links

Ajira
http://www.ajira.com

Wikipedia article on core competency
http://en.wikipedia.org/wiki/Core_competency

About the Author:

Nari Kannan is CEO and co-founder of Ajira, a company that designs and develops service process management tools. Nari has 20 years of experience in information technology and started out as a senior software engineer at Digital Equipment Corp. He has since served variously as VP of Engineering or CTO of five Silicon Valley startup companies dealing with a variety of problems in IT consulting, automotive claims processing, human resources and logistics applications. He has written a number of articles in the area of Six Sigma, services and BPM. Contact Nari Kannan at nkannan (at) ajira.com or visit http://www.ajira.com.

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