UK: Sourcing Update: Q3 2008

Last Updated: 24 October 2008
Article by Yuban Moodley

Industry Developments

Clearly the current economic climate has had, and will continue to have, a significant effect on the outsourcing sector as with all industry sectors. Whether that effect will be entirely negative or somewhat positive depends on your point of view.

Some argue that the economic pressure to maintain service efficiency, cut costs and drop headcount will drive greater outsourcing and offshoring (unsurprisingly many of whom are in the business of providing those services) particularly given the market maturity of outsourcing and its acceptance by business, with Accenture being a notable example of a consulting and outsourcing services provider which has performed strongly; Dell being a notable example of a firm which may decide to outsource its machine production and British Airways signing up to NIIT Tech for a three-year multi-million pound outsourcing contract to support and test critical business applications.

Others have predicted a decline in revenue in the IT outsourcing sector because of its dependence on discretionary spending; pointing to the pressure on Indian firms heavily reliant on the ailing US financial services industry (with Infosys slashing its growth forecast in light of its failed bid for specialist SAP software supplier Axon); and arguing that offshoring is going to be much less likely given that it is no longer invulnerable to market changes, and there have been several reports on the urgings of the Lloyds TSA Group Union to return offshored jobs back in-house after the Lloyds TSB and HBOS merger.

The likely position appears to be somewhere in the middle ground, business will clearly be cautious in the current economic environment and are unlikely to make any large scale investments in moves off-shore or significant outsourcing deals, but will look to cut costs and extract further efficiencies from ongoing outsourcing relationships (as evidenced by research from Pierre Audoin Consultants that the majority of UK companies are choosing to remain with incumbent suppliers). Likewise, outsource and offshore service providers face the same economic pressures and unless they perform efficiently and in accordance with customer expectations, risk having contracts terminated or suffering the same fate as many banks.

Financial Services

The Financial Services Authority (FSA) published its policy statement, "Organisational systems and controls - extending the common platform" (PS 08/9) on 26 September 2008, which sets out the final rules for the extension of the common platform systems and controls requirements in chapters 4 to 10 of the Senior Management Arrangements, Systems and Controls sourcebook (SYSC) to "non-scope firms" (excluding insurers) being those firms which are not subject to the Markets in Financial Instruments Directive (MiFID) or the Capital Requirements Directive (CRD). This includes the SYSC[8.1] rules on the outsourcing of critical operational functions.

Given that responses to the FSA's consultation on proposals to extend the common platform were broadly supportive, the FSA has decided to extend the requirements of chapters 4 to 10 of SYSC to non-scope firms, although predominantly as guidance and not rules. The FSA had proposed to implement the relevant Handbook changes on 1 October 2008 but several trade associations asked it to postpone the implementation date for a year, in light of, amongst other matters, the current economic climate. The FSA has therefore put the implementation date back six months to 1 April 2009 which it considers will give firms sufficient time to prepare for the new requirements. The FSA also plans to propose extending the common platform to insurers in 2010, subject to the outcome of the current Solvency II directive negotiations.

Public Sector

The increasing importance and scrutiny of outsource service provider's environmental performance in winning public sector contracts has been emphasised by the recent announcement by the Government of its new initiative, the Public Sector Supply Chain Project (PSSCP). The PSSCP, run with assistance from the Carbon Disclosure Project, is aimed at using the significant purchasing power of the public sector to assist in reducing climate change by encouraging its supply chain to reduce their carbon dioxide emissions.

TUPE and Data Protection

As mentioned in previous outsourcing updates, the Transfer of Undertakings (Protection of Employment) Regulations 2006 (TUPE) is particularly relevant in an outsourcing arrangement, either when the services are first outsourced, transferred to a second service provider or brought back in house, principally because, under each of these scenarios (the latter two of which a customer is unlikely to be able to predict): the contracts (and hence rights and liabilities) of employees automatically transfer from the transferor to the transferee; if the employee is dismissed before or after the transfer it will be automatically unfair unless the reason for the dismissal was an economic, technical or organisational reason, and employees may only agree to a change in their terms and conditions if the sole or principal reason for the variation is unconnected with the transfer.

One of the further difficulties in an outsourcing arrangement arises out of the fact that, under TUPE, the transferor is obliged to provide the transferee a range of information about transferring employees (e.g. their identity, details of disciplinary action or claims brought against the employer and information about collective agreements). Whilst the Data Protection Act 1998 (DPA) allows this disclosure, as it is required by law, both parties must comply with the Data Protection principles under the DPA in relation to that information (e.g. that the information is up to date, accurate and secure and only used to assess potential liabilities or integrating employees into the business). The Information Commissioner Office (ICO) has now issued a Good Practice Note offering guidance on compliance with the DPA in this context (e.g. not transferring excessive or irrelevant information, informing employees of the disclosure, anonymising any information which is not required by TUPE).

In other recent activity, the ICO has launched a 'Personal Information Healthcheck' service on its website to assist individuals in protecting their personal information as well as to increase their awareness of their rights under the DPA. Organisations will therefore need to ensure and procure that any outsourced service providers also ensure their relevant subject access and data protection policies and training are current and complied with because they can expect to receive many more subject access requests (under which an organisation needs to disclose what information it holds about an individual) from individuals under the DPA, which must be responded to within a statutory timeframe of 40 days.

Interim Agreements

In an outsourcing transaction it is not uncommon for the parties to use pre-contractual agreements, whether they be interim services agreements, letters of intent, term sheets or memoranda of understanding (we use the term 'interim agreement' for ease of reference), whilst the parties are negotiating the outsourcing contract but have not finalised the terms of the contract. The principle of interim agreements are generally the same: a supplier has been selected and the parties wish the supplier to carry out preliminary work before the terms of the outsourcing agreement are finalised in order to progress an outsourcing project governed by strict timeframes.

The main risk with this practice is that the parties do not execute a formal contract dealing with all relevant issues yet continue to act on a short form interim agreement.

In short, if interim agreements are to be used as a stop-gap measure in an outsourcing project, some of the issues which should be borne in mind are as follows:

  • set out which terms of the initial agreement are legally binding (bearing in mind that putting the words "subject to contract" may not prevent a contract being formed if the parties subsequently carry out the terms for the benefit of the other);
  • be clear about the term of the initial agreement and formalise any extensions;
  • an obligation to negotiate in good faith can be binding;
  • clearly set out the services to be supplied and any costs to be reimbursed by the customer;
  • carefully consider the drafting, and inclusion of, limitation of liability (particularly if standard terms and conditions are used), confidentiality, jurisdiction and governing law provisions;
  • intellectual property and ownership of any work product generated by the interim services;
  • rights to terminate the interim services; and
  • bear in mind that there is a risk of a TUPE transfer if services are being supplied so conduct appropriate due diligence before services are provided.

If the above issues are not considered or addressed, or a formal contract is not executed, there is a very real risk of the parties to an outsourcing transaction being left in the unenviable position of falling into dispute leaving it the Courts to decide what they had agreed.

This article was written for Law-Now, CMS Cameron McKenna's free online information service. To register for Law-Now, please go to

Law-Now information is for general purposes and guidance only. The information and opinions expressed in all Law-Now articles are not necessarily comprehensive and do not purport to give professional or legal advice. All Law-Now information relates to circumstances prevailing at the date of its original publication and may not have been updated to reflect subsequent developments.

The original publication date for this article was 22/10/2008.

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