UK: A Practical Approach To Outsourcing - Handy Hints When Embarking On An Outsourcing Arrangement

Last Updated: 4 March 2010
Article by Avril Smith

An outsourcing arrangement usually involves the transfer by a business to a third party of function, process or service of the business. The most common driver for pursuing the outsourcing or sharing of services is achieving better value for money. This rationale applies equally to both public and private sectors. In this article we consider what can be achieved by outsourcing and set out some handy hints to help prevent an outsourcing disaster.

Financial Drivers

In the public sector, local government currently spends approximately £105 billion per annum on services. However, recent reports have speculated that over the next four financial years, local authorities will have to cut £11 billion per annum from their spending, or almost 10% per annum for the next three years.1 As the financial squeeze takes its toll on local authorities, we will most likely experience an increase of opportunities available for both public and private sector organisations in respect of outsourcing and sharing services.

However, outsourcing is not a new concept in the local government sector. Margaret Thatcher's push for budgetary savings in the 1980's was the first significant shift for public bodies to explore the concept, and was closely followed by the introduction of competitive tendering in 1988. Since such time, public bodies have embraced outsourcing in an effort to increase the efficiency of a wide range of services and reduce costs where possible. Approximately 50% of public sector services, such as museums, leisure centres and social housing, are now run by other operators such as managed trusts, subsidiary companies or independent bodies.

On the other hand, the private sector continues to go from strength to strength, and will also benefit in the immediate years to come, experiencing significant growth as a knock on effect from outsourcing in the public sector. Furthermore, where outsourcing and shared services arrangements are put into place successfully, both the facilities and the local budget improve.

Other Relevant Factors

Some other common reasons for outsourcing services in both the public and the private sector include:

  • Reducing service costs through efficiencies and economies of scale;
  • Access to better quality service providers, in relation to skills, experience, infrastructure;
  • The removal or separation of non-core business;
  • Minimising sizeable capital expenditure on infrastructure; and
  • Certainty on spend.

However, cost reduction is not a sufficient reason for undertaking an outsourcing project, and potential downsides, including some of those listed below, will need to be taken into consideration:

  • Loss of control over key services;
  • Lack of flexibility in the services received;
  • Cultural disruption and lowering of staff morale; and
  • Added responsibility and possible burden of managing a business relationship with a third party.

Flexible Arrangements

Understanding each other's needs, drivers and objectives is key to achieving a successful outsourcing arrangement. However, the needs of the outsourcing party may change over a period of time, and the service providers will need to be sufficiently flexible to respond to changing needs and a changing environment.

Undertake Adequate Due Diligence

Investment at the early stages of the project will enable the party that is outsourcing their services to select the most advantageous and compatible partner for the project. It is highly recommended that organisations undertake an in-depth review of the existing services in light of best value requirements and need. This will enable them to identify the benefits and disbenefits to proceeding with the proposed project. This stage, which usually involves the preparation of a feasibility report, typically involves a large element of financial modelling, together with options for various legal structures that may be appropriate, which would need to be adapted depending on the specific details of the project proposed.

A feasibility report will assist the customer to identify appropriate partners and suppliers, and assist them to bespoke their tendering process to enable them to make a carefully calculated comparison and decision.

In order to obtain a good understanding of the contracting partner, commercial, financial and legal due diligence will need to be undertaken. Furthermore, prior to proceeding with the outsourcing arrangement, the organisation outsourcing its services should be satisfied as to the answers to the following questions:

  • Do the proposals enhance or protect the quality of the service received by its customers?
  • Do the proposals have the clear endorsement of the contracting partners and does the contracting organisation fit your business strategy?
  • Does the financial strength of the new partner at least equal the strength of the contracting partner?
  • Has there been adequate consultation with and support from stakeholders?

Realistic Project Timetable

It is important to identify the decision making process at the outset of the project and to take the key dates into consideration when preparing the project timetable. It may be necessary to make arrangements for decision making authority to be delegated to project officers. This procedure is likely to require reports to be issued to boards and/or cabinet members (applicable to local authorities) for approval. Accurate wording of such reports is critical to ensure that the parties to the project act intra vires at all times.

TUPE

Where in-house activities of one organisation are outsourced to another, the Transfer of Undertakings and Protection of Employee (TUPE) Regulations are likely to apply to protect the interests of the employees transferring from one company to another.

In such circumstances, employees transfer to the purchaser of the business or incoming service provider (the transferee). All their rights and obligations transfer with them, including their length of service. Dismissals for a reason connected to the transfer will be automatically unfair save in exceptional cases, and no changes to terms of employment can be made by the transferee. Under the TUPE Regulations the transferee becomes responsible for all liabilities even if they have arisen due to an act or omission of the old employer. In addition there are duties to inform and consult employees in advance of the business or service provision transferring – this applies to transferees as well as the employer from whom the employees transfer. For this reason, on any acquisition of a UK business or on undertaking to provide services to a client, advice should be sought as to whether TUPE applies and if so what protection for the transferee can be sought by use of indemnities and warranties in the transaction documents.

Considering Sharing Services

Significant cost savings and efficiencies can be achieved by organisations collaborating together. A shared services arrangement works well in respect of essential back-office services and undertaking routine transactions, for example: human resources, finance support services, revenues and benefits. For these services it is more likely that the nature of the activity and processes involved are generic and nationally defined, rather than specialist to the organisation. The professional disciplines of the staff involved are capable of being exported across organisational boundaries. The services may be provided by one organisation as the lead purchaser (involving some staff transfer and/or redeployment of some resources to front-line services.

The relationship between the parties will need to be regulated by a contract either for services or co-operation. Where organisations are using assets which only others have a right to use e.g. leased premises, equipment or software, then care will need to be taken to ensure that sufficient rights exist to use those assets and all requisite consents have been obtained.

Alternatively the parties may decide to form a company to run the shared services, with the company contracting with each of the recipient organisations.

Managing The Relationship

All management arrangements will need to cater for ongoing management of the business relationship. Monitoring and liaison provisions provide a forum for the parties to communicate the shortcoming or successes of the arrangement and facilitate a process of review.

It needs to be borne in mind at all times that an outsourcing arrangement is not something to be signed off and forgotten but instead needs to cater for it being an operational and live arrangement.

In conclusion, an outsourcing arrangement is not something to be entered into without consideration; with adequate research and planning, reduced service costs and high quality service providers are all attainable goals.

Footnote

1. Councils face £11bl shortfall in spending, The Financial Times, 4 December 2009, page 3

www.lg-legal.com

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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