Consumer giant plans 10-year IT outsourcing deal with Hewlett-Packard
Mega outsourcing deals are back in the spotlight following last week's announcement that consumer goods giant Procter & Gamble has reached an agreement "in principle" to sign a 10-year, $3bn (£2bn) IT outsourcing deal with Hewlett-Packard.
Despite companies' concerns about the risks of getting locked in to a deal with a single supplier and the lack of flexibility in long-term contracts, the trend for multibillion-pound deals shows no signs of abating.
Cases such as that of Halifax Bank of Scotland, which ended its £700m IT outsourcing contract with IBM in August 2002, might gain a lot of publicity but they apparently fail to dampen companies' appetites for large deals. In the current economic climate the lure of a model that lets a company outsource its IT function, enabling it to focus on its core competencies and - so the suppliers claim - achieve massive cost savings is understandable.
"This is increasingly the sort of deal you are going to see as companies look to save money, stay ahead of the market and access best-of-breed services and technology," said Nigel Roxburgh, co-founder and director of the National Outsourcing Association, a trade body comprising users and suppliers.
The Procter & Gamble deal is an interesting one whose origins go back to mid-2002. While inking the deal will mark a coup for HP over the big IT services firms such as IBM and EDS - one of the reasons for the merger with Compaq was to get a larger slice of the big IT services deals - it also marks the end of what IDC research director Jamie Snowdon calls "a bit of a saga" for Procter & Gamble.
A spokeswoman for Procter & Gamble said the two parties share similar values and cultures and HP's resources and technology would spur innovation across the company. However, she declined to comment on specific details of the deal.
Under the terms of the contract, which the two firms expect to finalise next month, HP will manage Procter & Gamble's IT infrastructure, datacentre operations, desktop environment, networks and some applications development and maintenance in 160 countries. About 1,850 Procter & Gamble employees will transfer to HP, most of them from its Global Business Services unit. However, the original deal was far bigger in every sense.
The original deal Procter & Gamble attempted to sign with EDS was worth $4bn-£10bn and, if completed, would have been the world's largest outsourcing contract ever signed. It included business processes and facilities management and would have seen about 5,700 of the 7,000 IT positions in the company's Global Business Services division switch to EDS.
However, the deal with EDS fell through. Procter & Gamble then began negotiations with Affiliated Computer Services but these talks also came to nothing.
The main problem of the proposed deal was that it was far too complicated, according to industry watchers.
Following these difficulties Procter & Gamble resolved to break the contract up into smaller units and adopt a multisupplier approach, which favoured HP. Further outsourcing contracts are expected to follow.
In theory, the multisupplier approach to outsourcing has a number of advantages, such as the ability to choose best-of-breed suppliers for key areas. The level of risk involved should also be lower than when working with one supplier.
Although it is impossible to say without seeing the contract, experts believe Procter & Gamble's new outsourcing deal will be more flexible, give it more control and prove more responsive to the changing needs of the business. There is also scope for the manufacturer to play the suppliers off against one another to secure better deals and conditions.
However, Roxburgh said the multisupplier approach also has "significant downsides" such as the risk that certain tasks do not get done because the roles and barriers between the different suppliers are not clearly defined. Another danger is that the third parties do not get on with each other.
Stuart Payne, non-executive director and consultant at Morgan Chambers, said Procter & Gamble has broken the deal down into "a classic building-block approach" resulting in a flexible deal, despite the length of the contract. Due to the time taken to close the deal and the fact that Procter & Gamble carried out a competitive tender, he said it was "doubtful" the firm would get tied into an inflexible contract.
"This makes more sense for Procter & Gamble [than the previous deal being proposed]. It is a more manageable deal and well within HP's capabilities," said Payne.
Problems such as supplier lock-in usually affect so-called "golf course" deals, said Payne, where customers award contracts to favoured suppliers rather than conduct a proper competitive tender. He said that there was nothing wrong with 10-year deals per se as long as they are flexible enough to cope with business change over the term of the contract and do not involve severe penalties for ending the contract early. "Historically some deals have been too rigid," he said.
Furthermore, to beat off competition from rival firms such as IBM Global Services, HP must have done some "pretty aggressive pricing", said Payne, making it likely that, despite the hefty price tag, Procter & Gamble got a highly competitive deal.
Procter & Gamble executives will be crossing their fingers that their deal with HP is third time lucky.
More mega outsourcing deals
January 2003: The Post Office awards a seven-year, £650m contract to Fujitsu Services to provide part of the IT backbone behind the government's new Universal Banking Service
November 2002: Alstom, the French energy and transport company, announced it was in final negotiations with EDS for a multibillion-dollar outsourcing deal to run its IT infrastructure, applications and related services in 14 countries
November 2002: Finance house JP Morgan announced it was in final negotiations with IBM for an IT outsourcing deal that could be worth £3.6bn
October 2002: Consignia outsourced its core IT systems to a consortium comprised of Computer Sciences Corporation, BT and Xansa in a 10-year deal worth £1.5bn
September 2002: UK retailer Boots signed a 10-year, £710m outsourcing contract with IBM Global Services to manage its IT infrastructure
September 2002: The Canadian Imperial Bank of Commerce awarded a seven-year, £980m IT outsourcing contract to Hewlett-Packard
August 2002: Global banking group ABN Amro announced it was in the final contract discussions with EDS over a five-year, £1bn deal to outsource its IT function
December 2001: Global travel and real estate giant Cendant signed a 10-year, £910m IT services deal with IBM
May 2001: Fiat and NTL announced they were outsourcing IT operations with a combined value of £5.8bn to IBM
February 2001: Pharmaceuticals giant AstraZeneca outsourced its IT to IBM Global Services in a £1.2bn deal.