Is outsourcing being replaced by an in-sourcing trend in financial services IT?

by Mark Vernon | Sep 13, 2005 7:00:00 AM

Tags: Mark Vernon, financial service, outsourcing, information technology, outsourcing deal, Financial Service IT Newsletter

Takeaway: Recently, high-profile outsourcing deals in the financial services industry have fallen apart or been canceled. Is the shift toward in-sourcing signaling an end to outsourcing? Mark Vernon takes a look at the forces behind these changes.

A recent Deloitte survey of 25 of the world's largest business organizations showed that 64 percent of them had brought outsourcing deals back in house. Another, from Dun and Bradstreet, reported that 20 percent of outsourced relationships fail by the second year, with 50 percent failing by the fifth year. In addition, PA Consulting results indicate that 15 percent of companies were thinking of bringing outsourced deals back in house.

What is happening to outsourcing? Is the practice of moving business functions out of house falling apart at the seams? If you have been watching the headlines in recent months you might think so.

The financial services sector looks particularly vulnerable. Several megadeals have, apparently, fallen apart. For example, JP Morgan Chase, following its merger with Bank One, withdrew from an outsourcing arrangement with IBM to manage its entire IT infrastructure—a $4.8 billion deal over 10 years. The bank's new leadership expressed a preference for in-sourcing.

In addition, UBS has announced that it will bring its outsourced infrastructure and market data deal with Perot back in house when it expires in June 2006. The reason given is that the bank is changing its business strategy, which includes centralizing IT across the group. Likewise, Norwich Union, the world's sixth-largest insurance group and the biggest in the United Kingdom, has cancelled a network outsourcing deal with IBM worth several hundred million dollars because of a change of business strategy after a merger.

But it would be wrong, I think, to see these headlines as symptomatic of a wider outsourcing malaise. First, the reasons for the return to in-sourcing in these cases all share something in common: they are a result of being able to achieve the economies of scale in-house that were originally sought in the outsourcing deals. In the cases of JP Morgan Chase and Norwich Union, the in-house infrastructure volume has been achieved as a result of mergers. In the UBS case, the economies of scale have been reached because of an internal global consolidation program.

Second, although these in-sourcing decisions are high-profile, they represent a fraction of the number of outsourcing deals that exist in the financial services IT sector. Even if you count only the very largest BPO (business process outsourcing) arrangements, the truth of the matter is that most of them work, and work rather well. There may, of course, be periods of renegotiation and adjustment. But then, periodic break clauses, which provide a deadline for such assessments, are regarded as best practice.

Moreover, even if mergers and the like mean that economies of scale can be located internally, there are reasons to resist the in-sourcing route.

It is risky to switch course: Having outsourced skills and systems means that you have to re-source them—and if that means bringing people back in-house, there can be serious questions of morale to address. It is also time consuming; if a BPO deal took 18 months or more to put together, it is likely to take almost as long to undo.

The shift from outsourcing to in-sourcing may also prove to be premature. When in-sourcing is pursued as a means of driving down costs, it is worth bearing in mind that IT costs are also decreasing all the time too, and it is likely that infrastructure providers are best placed to realize these savings fastest.

So the next time you see an in-sourcing headline, look at the small print beneath it. More outsourcing, not more in-sourcing, is still the underlying trend.

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