Answer & Explanation:Case Study IV-3, “IT Infrastructure Outsourcing at Schaeffer (A): The Outsourcing Decision,” File attachedWrite a 1,050- to 1,400-word (3- to 4-page) paper that provides a recommendation for how Schaeffer’s corporate management should proceed on the task force results. Include the following:Identify the business issues leading Schaeffer to consider outsourcing.Identify the specific risks and benefits to the proposed outsourcing proposal.Identify the roles and resources associated with an outsourcing proposal.Include supporting rationale for the recommendation.Include any operational metrics involved in Schaeffer’s decision.Provide research and references to support your recommendations.
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CASE STUDY IV-3 IT Infrastructure Outsourcing at Schaeffer (A): The Outsourcing Decision
Schaeffer Corporation, headquartered in the small Midwestern town of Vilonia, is a diversified
manufacturer. In 2002 Schaeffer Corporation’s consolidated sales were around $2 billion and its profit
after taxes was about $200 million. Schaeffer’s stock is publicly held and its value has been consistently
recognized by the marketplace over the past few years.
Founded by Frederick W. Schaeffer in 1877, Schaeffer Corporation originally manufactured small farm
machines, such as churns, cream separators, corn shellers, apple peelers, and the like. Frederick had one
son and three daughters, and the daughters married men who joined the business: Hiram C. Colbert,
George Kinzer, and Heinrich Reitzel. Each of them led the transformation of the companies into new
product lines, and today Schaeffer Corporation sells very different products within three very different
divisions, named the Colbert division, the Kinzer division, and the Reitzel (pronounced “rightsell”)
division.
Each division is relatively autonomous, with the responsibility for product development and marketing
of its own product lines. Two of the divisions have their own manufacturing plants and distribution
facilities; the third division is now in financial services, providing agribusiness loans, estate and
equipment loans, etc. The products are all branded with their division’s name rather than with the
Schaeffer name. Although the financials of the divisions are closely monitored by Schaeffer corporate
headquarters, each division is held responsible by corporate management for its bottom-line
performance, and the bonuses of the managers of each division depend upon the bottom-line
performance of that division.
The Colbert and Kinzer divisions have profitable, but relatively stable, product lines. However, the
Reitzel division is in a more dynamic industrial market with substantial opportunity for growth in both
sales and profitability. The other divisions only operate in North America, but Reitzel has operations in
10 European countries as well as South America. In recent years, Reitzel has contributed about twothirds of Schaeffer’s total dollar sales and about 80 percent of its total profits.none
none Copyright © 2003 by E. W. Martin. Some camouflaged company details were revised in 2007 at the
time of the preparation of Schaeffer case B. This case study is intended for class discussion rather than
to demonstrate either effective or ineffective management practices.
Historically, Schaeffer’s board of directors has been satisfied to have a profitable and well-run, but slowgrowth, company. However, new board members have recently targeted the Reitzel division as the
corporate growth engine, and at year-end 2001 set ambitious goals for Reitzel to generate 10 percent
annual growth in Schaeffer’s corporate revenues and 15 percent growth in Schaeffer’s corporate profits
over each of the next five years. Reitzel management expected to achieve these goals by expanding into
new geographical areas outside the United States and by expansion of its product lines, including
acquiring other companies.
Information Technology at Schaeffer Corporation
In the past, each of the business divisions had its own information technology resources—including data
centers, network operations and systems development people, help desk and desktop support staff.
However, four years ago the corporation implemented a “shared services” approach that included IT,
and most of the IT resources in the three divisions were centralized into this shared services unit for the
entire corporation. They consolidated three data centers into one, eliminated a large number of servers,
brought their support and system development people together, and established a corporate help desk,
etc. However, the vice presidents of IT that previously reported to each division head were retained, and
now had a dual report to both their business division head and the corporate vice president of IT that
now headed the shared services unit.
Prior to this consolidation each division also had its own unique applications systems for all of its
systems. However, soon after the consolidation, the corporate IT group purchased an ERP system that
would replace the finance, human resources, production, and distribution systems in all three divisions.
The system was installed so that each division had its own “instance” of the ERP package, since their
products and customers were so different. It had been a difficult migration, but moving to a common
“shared” enterprise system would bring cost savings to all the divisions in the future.
In 2002, the corporate data center had about 300 servers, and a staff of 100, including desktop support
and help desk people for all divisions. Computer operations were reliable and secure, with good
response time and excellent availability. However, there had been complaints about the help desk, and
the performance of the wide area network (WAN) had not been as good as anticipated, but the central
IT staff was working to improve performance in these areas. The system development group was
separate and consisted of about 70 additional staff.
The Colbert and Kinzer divisions have a relatively small portfolio of company-specific applications that
are now well integrated with their ERP system and easily maintained. The Reitzel division, on the other
hand, has a much more complex application infrastructure, primarily due to their recent acquisitions. As
compared with any other division, Reitzel also had triple the network capacity, triple the number of
servers, and more help desk problems than the other two divisions combined. Reitzel also had a long
history of making decisions about applications that created integration headaches.
The Outsourcing Study
In early 2002, shortly after the Schaeffer board announced its ambitious growth goals for the Reitzel
division, Pedro A. Moreno, Reitzel’s Vice President of Human Resources, proposed that Schaeffer
consider outsourcing some of its IT resources. Moreno argued:
Information technology is not one of Schaeffer’s core competencies, and I am confident that we can
save some money by outsourcing. The other reason that we must do it is that for us to achieve our
ambitious growth goals, we must have improved information technology services. Expanding into
additional countries and acquiring new companies will require extraordinary information technology
support efforts. We are doing reasonably well now, but our information technology people are
stretched to the limit just supporting our day-to-day activities. There is no way that we are capable of
crash efforts of the magnitude that we will need. But an outsourcer has a large supply of well-trained,
capable people, as well as redundant hardware and software resources, so they can adjust to our
dynamic, unforeseeable needs with little difficulty.
Schaeffer Corporation is a relatively conservative company and Moreno’s proposal to outsource
information technology was met with skepticism from many directions. However, Alan Harding, the
corporate vice president of IT, thought that Moreno’s proposal had sufficient merit and that it should be
carefully considered. A corporate task force, that included Moreno, was established to thoroughly
investigate whether Schaeffer Corporation should outsource any of its IT or not.
Knowing very little about how to approach outsourcing, the task force engaged Gartner Consulting
Group to assist in exploring this issue. It quickly became apparent that this would not be a quick or easy
study. Moreno recalls:
Gartner was very helpful. They said: “Before you decide to outsource you have to know what IT services
you provide in great detail, and right now we don’t think you know that. You need to know each piece of
equipment in every location. You need to understand your IT processes. You need to know what your
employees are doing, both in the scope of what might be outsourced and out of that scope, because
they are related. And most of all, you have to know every service that you are providing in each
operations area that you are considering outsourcing. There usually are ‘assumed’ services that are
done without much thought, but if they are not specified in a contract they will not be provided by the
outsourcer and you will have to continue to provide them or pay extra to the outsourcer.”
Gartner gave us dozens and dozens of templates to be filled out and the IT folks spent months collecting
data about ourselves. We did not consider outsourcing our development resources. Instead, we studied
what the outsourcers call our “towers,” which were the data center, distributed computing (all the
desktops), voice (telephones), data networks, and our help desk. We spent about a year collecting data
about the local and wide area data networks, the data center, our help desk, and our voice
communications. We took our time to do it right.
Then we spent several months preparing a 200-page Request for Proposal (RFP) to give to potential
outsourcing vendors. The RFP described our IT infrastructure and services, indicated exactly what we
wanted to outsource, and asked for bids specifying how these services would be provided and what it
would cost. We did not want to take the risk of moving our operations to a big remote data center, so
we also specified that the data center facility in Vilonia would continue to be operated by the vendor.
Because of Reitzel’s international scope, Gartner advised us that there were only a few U.S.-based
companies that could satisfy our needs, and we decided to focus on ABC Corporation and DEF
Corporation. We brought each vendor in for an all-day kickoff meeting where we shared with them what
we had learned about our IT operations and what we wanted them to do for us. We gave them the 200page RFP, and they had about two months to analyze the RFP and formulate a response for us.
Outsourcing information technology is different from buying an automobile where you have a car,
negotiate its price and options, and that is it. If Schaeffer outsources its IT operations, it is contracting
for services for a number of years in the future, and neither Schaeffer nor an outsourcer knows what will
happen to the volume of transactions to be processed or even the locations to be served during that
time. Therefore, the bids from the outsourcers could not be in the form of a total dollar cost over the
seven-year length of the contract. Rather the bids would need to include a detailed set of costs for each
of the services at the service levels that Schaeffer had requested, together with the penalties that would
be incurred by the vendor if they did not provide the specified level of service. The quoted costs were
unit costs, and Moreno describes how they evaluated the two proposals:
Everything that they will do has a price. If they go touch a desktop, there is a price for that. If they
answer a phone, there is a price for that. If they replace a phone, there is a price for that. If we increase
the number of servers or databases, we will have to pay a specified amount more. And it works both
ways—if things decrease we will pay less. We started with a base-line level of activity to get the
projected cost to compare with our current costs, but it took us some time to go through the process of
calculating things out so that we could arrive at a projected cost for each bidder.
When the bids had been evaluated, ABC Corporation was the lowest bidder. The good news was that
the people on the task force felt very comfortable with the idea of having ABC as their business partner.
The bad news was that the bid was projected to cost $220 million over the seven years, which was
about $20 million more than it was projected to cost Schaeffer to continue to provide these IT services
in-house. There was no way that Schaeffer Corporation management was going to go for that. Corporate
Vice President of IT Harding explains:
We were quite disappointed when the bids came in. Instead of saving some money as we had originally
hoped, we were going to have to spend substantially more to outsource. Although I had become
persuaded that there were still good reasons to outsource, even if it cost more, I knew that our
management would never agree to a deal costing that much.
Gartner had warned us during the data gathering part of the study that we were not likely to save any
money by outsourcing because we were already pretty efficient. The work we had done ourselves in
creating a consolidated shared services infrastructure had already picked all the low-hanging fruit. We
had already consolidated three data centers into one. We had already eliminated about 50 headcount
out of 150 and were down to 100. We had already done server consolidation and reduced our server
count from 300 to 200. So the things that an outsourcer comes in and does for you we had already
done. We had very lean, efficient operations to outsource.
The reason that the bids were so much higher was that when we developed the specifications in the RFP
we had asked for a number of improvements over what we were currently doing. We had asked for a
Cadillac when we could only afford our current Buick. The representatives of ABC understood this and
agreed to work with us to get the total cost down to something that we could afford.
Moreno added:
The negotiation process was arduous and detailed. This was a big agreement, and we had 10 countries
in Europe that we had to include under separate agreements as well. It ended up taking weeks, but it
was a good process. In the end we changed some of our ideas about what we needed. We took away
some of the whiz-bang options that we had told ABC we absolutely had to have, which allowed them to
come down in price somewhat, and they also took out some of their margin. We got the projected cost
down to $200 million over the seven years, about the same as the projected cost of doing it ourselves.
Given that we had been able to make it cost neutral, I strongly believed that we should outsource
because of the quality and flexibility we could obtain with having a Tier 1 service provider.
Reactions to the Outsourcing Proposal
The task force recommended to Schaeffer’s top management that Schaeffer outsource all of its IT
operations, but keep systems development in-house. The task force’s report included a description of
the process that had been followed to obtain the bids and negotiate the proposed contract with ABC
Corporation, and included the following argument in support of the recommendation:
Schaeffer’s board has set the strategic growth goals based on growth through acquisition and
geographic expansion overseas. However, we cannot achieve these goals without high quality and very
flexible IT resources. We have solid staffing for serving a static situation, but our staff and data center
cannot handle the global and dynamic requirements that these new strategic directions will place upon
us.
When we have an acquisition, our demand for IT resources initially is going to spike, but then it will
flatten out after a few months. Not only will ABC bring access to larger numbers of people, but they will
also be capable of expanding and contracting staff. It is difficult for us to temporarily hire 20 experts in
the field to help us for a relatively short time and then not have permanent opportunities for them.
We are global and intend to expand into other countries. We are in 10 countries in Europe, and Europe
is much more complex than domestically. We have only seven people working in infrastructure for all of
Europe, so we are going to have to double or triple our staff over there. So it makes sense to give the
responsibility to ABC who already has resources in all these countries, both where we are now and
where we will be going in the future.
ABC has a very deep bench—hundreds of thousands of employees for them to pick from to serve our
needs as opposed to our one hundred. If someone leaves, it generally takes us three to six months to
find a suitable replacement because it is hard to get people to move to Vilonia. ABC provides an
attractive career path for its employees and can attract and keep people with outstanding talent that
would never come to Vilonia to work for Schaeffer. ABC can afford to invest in extensive training and
can offer a variety of challenging technical opportunities to its people, so we will have access to
substantially higher-quality technical knowledge.
In short, Schaeffer is anticipating exciting opportunities that will be impossible to achieve with our
existing IT staff. With ABC as our business partner, we will be much better positioned to exploit the
dynamic opportunities for growth that we are seeking.
When the task force report was circulated, there was quite a reaction throughout Schaeffer Corporation,
with some managers voicing enthusiastic support and others equally strongly opposed. Vivian D.
Johnson, vice president of IT for the Kinzer division, expressed the following concerns:
Perhaps IT is not one of Schaeffer’s core competencies, but it is a critical factor in our long-term success.
Do we want to turn over such critical resources to an outside organization?
It will be like “getting married” to ABC Corporation. Although it has a good reputation and we feel
comfortable with its people, what happens three years down the road when these people have gone on
to greener pastures within ABC? Today Schaeffer may be a high priority with ABC, but before long other
opportunities will appear and the good people that we will start out with will be replaced with others
who do not know us as well. What will happen when a new situation arises that is not covered in our
contract and we have to renegotiate, and we have lost our bargaining position?
Quite a number of outsourcing relationships have not worked out well. If we become unhappy with
ABC’s performance, we will have eliminated these internal IT capabilities and the cost of bringing it back
will be tremendous—there is no way our management would go for that. What will that mean for our
dreams of growth that depend so heavily on good information technology support? There is a lot of
unrecognized risk inherent in this proposal.
What will happen to our current information technology people, many of whom have served Schaeffer
faithfully for years? I don’t know the exact numbers, but I am sure that many of them will no longer be
employed by Schaeffer. Is that fair? This is a small-town company and our greatest asset has always
been our loyal, dedicated, and hard-working labor force. We are mostly nonunion, and we have never
had a strike. We have never done anything like this, and I am concerned about the effect this may have
on the morale of all of our workers and on their future commitment to the company.
I understand that our company is changing and that we face new and different challenges that require
expanding our IT resources. But have we considered the available alternatives? Traditionally when we
needed special skills or additional people we have employed contractors, and that approach has worked
out well in the past. Under the proposed contract we will be paying ABC for every bit of help we get just
as we would any contractor, but we would be married to them—if the relationship sours you can’t just
employ another vendor.
Also, it is clear that we have underfunded our information technology area, so it should be no surprise
that we do not have all the resources that we will need in the future. Under the contract with ABC, we
will be paying extra for any additional resources that it provides. Would we not be better off investing
some of that money in acquiring and developing our own people? Then we would have our own
resources for the long …
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