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Vendors tout enormous savings, but hidden costs are everywhere.

The siren song of BPO is, of course, the 20 to 40 percent savings that vendors often promise. "But there's lots of things that aren't factored into the initial cost savings," says Colangelo. For example, many BPO deals rely heavily on head count reductions to create savings, but this works only if a company is willing to let its employees go, either over to the outsourcer, to help ease the transition, or by layoffs. "A lot of companies are unwilling to send their most senior people to their BPO provider, so instead of keeping four people on staff, they keep 30 people," which raises costs significantly, Colangelo says.

There are also important balance-sheet issues to consider. Oftentimes, when a company outsources an entire process, it sells the associated hardware and software to the vendor. That means the company no longer gets the tax break for the depreciating assets; it now has to account for that process as an expense. On the other hand, the company can often charge the outsourcer book value for the hardware and software, which is far more than the true market value. "CFOs love the effects on balance sheets in year one," says Mary Lacity, an outsourcing expert and professor of information systems at the University of Missouri–St. Louis.

Poorly negotiated contracts will also add to your BPO costs. While relationship building is key to ensuring success with the BPO partner, make sure your contracts and service level agreements (SLAs) are clearly defined and followed to the letter. If your company has regulatory compliance issues, for example, make compliance part of the formal contract. Arrange for reparations (credits) in case the vendor doesn't deliver on specific deadlines. And when it comes time to hold your BPO partner financially responsible for failing to meet a service agreement, Colangelo advises companies to take the credit but give the vendor a chance to earn it back later on—as long the service they deliver is impeccable. "That way you show the vendor that you're more interested in performance than money, and that helps build the partnership without promoting bad behavior," he says.

This article was originally published on 03-25-2005
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