The impact of globalization on structuring, implementing, and advising on sourcing arrangements.

Author:Nagel, Trevor W.

    Globalization may have its discontents, but it is rapidly re-ordering the sourcing landscape. (1) Over the last decade, globalization and its economic and social impacts have been widely reported on, analyzed, theorized about, and politicized, particularly with respect to employment and other labor issues. (2) For electronics and other traditional goods manufacturing sectors, the expansion of free trade, the development of manufacturing facilities in locations with low labor costs, and the evolution of sophisticated physical delivery networks (3) have together enabled multi-national corporations to develop increasingly large and complex global supply chains. (4) The free trade environment has also spawned another wave of globalization, which has been gaining momentum over the last decade: the global sourcing of information technology (IT) and other non-manufacturing business processes and functions that deliver "Services" (5) to businesses rather than produce goods. (6)

    The globalization of Services of has been driven primarily by three catalysts: first, the creation of high-tech facilities manned with highly educated and skilled resources in low- or lower-cost locations; second, the establishment of sophisticated and robust global telecommunications networks together with year-on-year declining costs; (7) and third, the development and adoption of networking communication proto cols and a wide range of web-enabled technologies that leverage those protocols. (8) These last two factors have together enabled the deployment of reliable and economic means of delivering large, often compressed files of data securely and in "real time" to locations around the world. This data transfer capability and the accelerated development of interactive, user-friendly, and widely accessible applications have caused a revolution in how many business functions are performed and delivered in the modern enterprise. Consider, for example, some aspects of human resources administration: there are now a range of web-enabled technologies that automate payroll, expenses, and benefits processing--functions that historically were managed locally and involved extensive manual inputs and live in-person or telephone support--and permit these services to be delivered in a consistent, efficient, and interactive manner across diverse business units and geographies, often directly to the employees' workstations. (9) In the current free-trade environment, the combination of these phenomena has enabled enterprises to extend the complex, global manufacturing supply chain concept to the Services context. A corporation is now capable of operating almost all of its business functions globally and in many cases, with a high degree of virtualization. Being global is truly being ubiquitous.

    The ability to source Services throughout the world has generated substantial savings for many companies by transferring these activities to low-cost jurisdictions. But the globalization trend is driven by much more than just the desire to capture labor arbitrage savings (10) through so-called off- or near-shore arrangements. (11) It is also the arbitrage of economic benefits, both direct and indirect, proffered by consolidating diverse operations onto global platforms. These benefits include the capability to leverage technology more effectively and over a greater distance, (12) the concomitant ability to rationalize and standardize in a manner that encourages the adoption of processes that reflect best practices, and the resulting enhancement in scalability and productivity for these Services. (13) For example, a business that can implement a homogenous IT/network platform across the enterprise now has the capability to drive rationalization and standardization globally. Such a platform allows that entity to quickly move know-how and successful operating systems from one location to another and from one line of business to another. To the extent that a business function utilizes standardized platforms and processes on a global basis, it can be more easily scaled to meet increased or decreased demand as a result of its ability to shift production among multiple locations. Global standardization also allows the company to more efficiently manage resource utilization and to reduce its reliance on specialized knowledge or equipment, thus decreasing duplicative costs. Further, such standardization within a function facilitates detailed global tracking, reporting, and analysis of both how the function is employed by various enterprise end-users and the costs associated with the function, encouraging a transparent corporation that is better primed to understand and optimize its operations. Both scalability and transparency lead to improved production efficiencies and create value for the enterprise and, in turn, help the corporation to analyze and realize its global objectives. (14)

    Increasingly, companies are achieving globalization, together with the business objective of flexibility, (15) by sourcing Services from outside suppliers rather than by establishing captive operations in foreign locations. (16) A well-structured sourcing arrangement engenders a greater potential for the achievement of transformational objectives, particularly standardization and rationalization, than a captive entity. One reason for this is that sourcing arrangements impose and empower external change agents that are otherwise absent when companies try to re-engineer by internal means only. The power of entrenched political interests to undermine an internally-driven transformation exercise (or even a poorly structured sourcing arrangement) cannot be over-estimated. The focus of this Article is primarily on entities (and their sourcing lawyers) entering the sourcing market as "customers" of Services, although many, if not most, of the issues discussed are equally relevant to "suppliers" of Services.

    A sourcing arrangement with an outside supplier can greatly enhance the ability of a company to implement transformational change and achieve its financial and non-financial business objectives. By allocating responsibility for day-to-day operations to a supplier, the customer company is free to focus its resources on strategic initiatives, while the supplier is able to focus on improving the quality and efficiency of the Services. The supplier may effect these changes by instilling discipline and global consistency into the operation outside of the pressures of the customer's internal politics and resistance to change and by making the operation more transparent through detailed reporting on the Services on a usage basis. By sourcing the Services to an outside supplier, the company is better positioned to achieve its related financial goals because it is able to purchase only the Services it requires at any given time, which means it has the flexibility to increase Services volumes without making associated capital investments and to decrease Services volumes without concern for underutilizing resources in which it has invested. For example, it will not be burdened with the cost of excess equipment or telecommunications capacity. The supplier's assumption of Services responsibility also enables the company to achieve related non-financial goals. A quality supplier brings upgraded technological capabilities and often superior know-how and means of implementing new and changed business processes to the operation of the Services. As a result of sourcing, the company is transformed from an entity that was slow to change and respond to market pressures and opportunities into an agile entity that is able to rapidly adjust in order to take advantage of new opportunities and markets. In sum, the company is likely to have gained a competitive advantage. (17)

    Corporations are subject to increasingly frequent fluctuations and changes in the commercial, technical, and regulatory contexts in which they operate. They must be sufficiently flexible to adapt to these pressures in order not only to survive but also to flourish. (18) A captive entity is often unable to provide this degree of flexibility due to constraints imposed by capital investments, brick and mortar facilities commitments, the fixed nature of its human resources, the inability to spread risks of change over a large customer base, and the inability not only to select appropriate new technologies but also to integrate them efficaciously into the existing infrastructure. (19) In comparison, a global sourcing arrangement can be structured in a more virtual fashion that promotes on-going flexibility and, in turn, the transformational objectives of global businesses.

    The sourcing of Services on a global basis, however, is not without problems and headaches. In many respects, businesses and their lawyers can look to and be informed by the more mature practices of global sourcing in the manufacturing context. There are fundamental differences, however, between sourcing goods and sourcing Services that limit the usefulness of manufacturing as a precedent for the IT and business process Services markets. In general the fundamental objective of a manufacturing arrangement is the production of a certain number of pre-defined tangible items that meet certain quality measures. Therefore, the structure and implementation of these arrangements reflects the discrete and relatively certain nature of the transactions. In contrast, Services arrangements span many years and involve the performance of hundreds if not thousands of "tasks" which may result in little or no tangible output and often are difficult to measure, both quantitatively and qualitatively. It is no surprise then, that structuring and implementing a sourcing arrangement for Services on a global scale presents significant challenges at strategic, tactical, and operational levels. Part II of this Article surveys several of the key issues that arise when an enterprise...

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