Utility computing offers the opportunity for even larger savings, and more flexibility, because it is a pay-as-you-go system. Outsourcing contracts generally set a price for a long-term period based on estimates of future usage. Estimate too high and you’re buying resources you will never use. Estimate too low or fail to anticipate dramatic changes in computing needs and you may not have the flexibility to respond as needed.

Although the AMR report focuses primarily on traditional approaches to outsourcing, its findings provide benchmarks that may be useful in estimating the savings possible with utility computing. When done properly, AMR estimates large-scale outsourcing can free 40% of the IT budget. Those funds, now being spent on routine activities, will then be available to reinvest in strategic IT projects.

Currently, AMR found, only about 20% of IT organizations do any outsourcing. AMR projects that number to grow to 50% of IT organizations in the next three years.

The trick to achieving the savings, AMR advises, is to outsource everything that can be outsourced – everything that is not strategic. AMR reports that many companies confuse “necessary” activities with “strategic” activities. “Just becomes tasks are compulsory or necessary for survival, it doesn’t mean that they offer competitive advantage,” analyst Lance Travis writes. “For example, companies just comply with safety, health, and environmental regulations to avoid penalties, lawsuits and negative publicity. However, compliance does nothing to add revenue or increase customer loyalty. Rather than devoting management attention to compliance at the expense of strategic initiatives, most companies would do far better to outsource compliance to experts that guarantee their services.”

The guarantee is an important point – companies chosen for outsource projects must guarantee their results, and their clients must be able to rely on those guarantees. That why choosing the service provider, negotiating the terms and conditions of the contract and managing the transition are so critical to the success or failure of the outsourcing effort. AMR advises that effective outsourcing can take up to two years to accomplish.

Aggressive outsourcing can lead to IT savings in four areas, AMR found:

• Head count. Head count represents 19% of the total IT budget, on average, and 85% of head count can be outsourced. People with business process expertise and project management, architecture and strategy experience should be retained. Offshore resources cost about 40% of in-house resources, so outsourcing 85% of a line item that accounts for 19% of the budget would save 10%.
• External services. These represent 10% of the IT budget and are provided primarily by domestic companies. By moving those contracts offshore, companies can save half, or 5% of the IT budget.
• Application software. Software represents 13% of the typical IT budget, of which 67% is enterprise software. Two-thirds of enterprise software provides no strategic advantage, according to AMR. By transferring the responsibility for maintaining it to a Business Process Outsourcing service, AMR says companies can cut 6% from their IT budget.
• Software infrastructure and hardware. This represents 36% of the total IT budget, by AMR’s estimates. 67% of the software infrastructure and hardware budget is needed to support the enterprise software. Using BPO to eliminate two thirds of the software also eliminates two-thirds of the infrastructure used to support the software. “Additionally, companies overprovision by as much as 70%, and on-demand variable deployment (utility computing) can reduce the remaining infrastructure by as much as 80%. The total infrastructure reduction can lower the IT budget by 22%.

The grand total of doing all four – a savings of 43%.

AMR acknowledges that many companies are reluctant to outsource as aggressively as such a figure would suggest because of negative experiences in the past. The company points out, however, that service delivery models “have matured for the better” and that “maturing global communications and technology infrastructures now allow outsourcing to become location independent … Advances in provisioning systems, networks and storage make shared infrastructures less risky and greatly reduce the need for dedicated, company-specific data centers.”

But traditional outsourcing also increases risk due to loss of control and visibility, lack of flexibility and adaptability, and the potential for cost overruns, AMR acknowledges. To overcome these challenges, AMR recommends:

• Establishing service levels based on continuous improvement and desired business income.
• Invest in project management, relationship management and program management skills training for internal staff to ensure they manage the outsourced resources effectively.
• Continually benchmark service levels and use benchmarks to push process improvements through outsource partners.
• Match the skills and geographic location of outsourcing partners with the tasks being outsourced.

The first and perhaps the most important step, AMR advises, is to have a thorough understanding of current costs and processes. Only when armed with that information can outsourcing deals be negotiated to truly deliver the savings being targeted.