Case Study: IT Outsourcing Decisionâ€making Initiative at a Petrochemical Company
In 1985, senior management of a large petroleum company (called ‘Blue Energy’) decided to bundle two lossâ€making refineries along with a nonâ€profitable chemicals facility, to create a new wholly owned subsidiary, called ‘True Energy’. The senior management of ‘True Energy’ decided not to pursue the prior management strategy of operating at full capacity; they altered production to reflect changes in market demand. True Energy also became responsible for its own line and staff functions including IT systems. True Energy’s new management team hurriedly formed a new organizational chart to support its operations. The newly appointed CEO Mr. Markus had asked his Chief Financial Officer (CFO) Mr. Adel to appoint a competent CIO. Adel then in turn recruited Mr. Gordon (who was working as a senior IT manager at a rival petroleum company) as the new CIO of True Energy.
Although Gordon hoped he would report directly to the CFO (Adel), he was asked to report to Ms. Maria (Financial Controller of True Energy), placing him three reporting levels away from the CEO. Hence, Gordon’s first priority was to engage in lobbying with the senior management of True Energy to create a supporting climate for the internal IT department; however he did not succeed much as IT was considered as an organizational overhead rather than a source of competitive advantage. His next challenge was to determine how he was going to provide IT services for True Energy. He decided to adopt Blue Energy’s manufacturing systems and to buy new financial software packages. The question was, where would he run these systems? Gordon could build a data centre at True Energy or he could outsource data processing to a third party IT vendor. He decided to get estimates for both alternatives.
Gordon requested a bid from an outsourcing IT vendor. He also hired Pamela (a business consultant who was Gordon’s close friend as they studied IT together at the same university) to help him with his internal bid. The vendor that Gordon selected to submit a bid was wellâ€known in the industry but it was not in the timeâ€sharing business. The implication is that the bid of this vendor was expected to be high.
Gordon, Pamela, and the outsourcing IT vendor visited two Blue Energy’s data centers that were currently running True Energy’s systems. They calculated True Energy’s IT systems requirements for machine cycles, storage and personnel. The vendor submitted a bid that was 25% more costly than the internal bid which was prepared by Pamela with inputs from Gordon. However, interestingly, the internal bid only considered the costs of the hardware and software – not personnel or conversation costs which was done by the vendor. Both bids were submitted to the senior management (CFO and other senior managers) of True Energy who were not aware of the deliberate omission of critical information about the cost assumptions used in preparing the internal bid and the time sharing characteristics of the vendor. Their decision was to provide data processing services within True Energy’s newly organised internal IT department. Based on this decision, Gordon hired over 60 IT employees. Within the first year, these employees successfully built a data centre, migrated the manufacturing systems from Blue Energy to True Energy, and installed new financial systems.
From 1985 to 1989, Gordon felt that his IT department had provided costâ€efficient IT services to his company. During this period, Gordon fought hard with his boss Maria (Financial Controller) to secure new investments for upgrading hardware and software. But Maria was notoriously cost conscious; she viewed IT as merely a necessary overhead. Thus, technology investments must be economically justified – a difficult task in the world of IT. In 1990, Gordon realized that some employees (from various business areas) were bypassing him and were looking elsewhere to satisfy their IT needs. Some employees were buying PCâ€based solutions without consulting him. Gordon became quite concerned and commented: “I could not really get a handle on it.” Although his superiors were not cognizant of the situation, Gordon felt that the IT department’s contribution to the company would inevitably come into question. Gordon pursued the following courses of action.
Gordon initiated another outsourcing study to determine if the internal IT department could still provide a more efficient data processing service. Gordon however decided to limit the outsourcing evaluation to data centre operations. He explains, “If you looked at where my costs were, my operation was hardware and software dollar intensive.” Gordon appointed Nergiz (his manager of data processing operations) in charge of the outsourcing investigation. Nergiz was asked to create a Request For Proposal (RFP) and solicit vendor bids. Nergiz was known to Gordon for her strong opposition to the idea of outsourcing; Gordon wanted to capitalize on her emotions to prove that his internal IT operation was still costâ€efficient. Nergiz created a RFP that described, in some detail and included an important clause which emphasized on the previous experience of the IT vendors to work on IT outsourcing projects in the petrochemical industry. She outlined True Energy’s requirements for software, hardware, and data centre personnel over the next five years, and then contacted five companies (some of which did not have prior IT outsourcing experiences in the petrochemical industry) to put in proposals, three of which eventually submitted bids. The results of the bidding showed that True Energy’s internal projected costs were less than two vendors’ bids, but only 5% higher than the third vendor’s bid. As such, Nergiz did not recommend outsourcing citing the lack of experience of the third vendor to work with petrochemical companies in the past.
1. By referring to Pfeffer’s (1981) political model, discuss how did Gordon (the CIO) apply some of the political tactics to influence the outcome of the IT outsourcing decision.
2. Did the IT department have a powerful position in the company? Explain.
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