Justifying the use of a third-party IT vendor
INSIGHT ARTICLE |
Recently, I was with a room full of information technology (IT) directors, discussing the importance of performing cost-benefit analysis before going to their management or board for approval. Someone asked, “How do you justify using a third party, when we can do it ourselves? The math always makes it cheaper for us to do it in-house.”
The room split on that point, and my immediate reaction was “not necessarily.” As both an accountant and a technologist, I love numbers, but to make an equation or a program work, you need to give it all the data. When determining the right answer for utilizing a third party or staying in-house it is more than just the hours required to complete a task; there is also a time value to money.
Why do you use third-party vendors?
If you believe that employee cost is a sunk cost and that using their time is essentially free, why would you ever use a third party? Today, few organizations are able to do all tasks in house as specialization, technology, lack of resources and the speed of change have made this nearly impossible. While all organizations need to have a robust third-party relationship management program, to protect both themselves and the vendor, below are a few of the most common reasons third parties are utilized:
- You need an independent view. Long-term employees, while clearly valuable, can have a limited view. Sometimes having a new point of view is helpful to suggest updated processes, new technologies or to resolve specific issues.
- You need experience you don’t have internally. While you may be able to figure it out, an experienced third party can do it faster. For example, implementing a technology solution, selecting software or conducting a fraud investigation can all be done in-house, but third parties have focused resources and contacts in the industry, and often can share insights, discounts and leading practices. A third party may also focus on a specific area, thus being able to perform the task with higher efficiency and fewer total hours.
- You want to share the liability. Many projects require specialized training that you likely don’t have in-house. For example, with cybersecurity, the rules change constantly, requiring focus. Utilizing a third party is often required as part of insurance policies.
- You want to better utilize your employees. Just as vendors have specialties, so do your employees. There are many things that make your organization unique that only your employees can maintain, or special projects that would be best handled by people with institutional knowledge. Outsourcing tasks that will free time for your institutional specialists is a better utilization of resources.
- You have special projects or one-time needs. Interim resources can back-fill or help perform needs in lieu of hiring. Mergers are a great example. When there is a lot of work to be done in a short amount of time, focus needs to be on uniting the organizations, but day-to-day needs also must be maintained. Everyone will pitch-in but there are only so many hours in a day. Using a third party allows you to better meet the needs for a short time period.
How do you make the math work?
Conducting a cost benefit analysis will help you decide if the math works to use a third-party vendor. The goal of a cost benefit analysis is to confirm that the project has been thought out and all reasonable care has been given to include the costs and possible gains to the organization. In addition to a risk and benefits and assumptions statement, a typical cost benefit calculation includes:
- Implementation fees: Includes one-time set-up fees, software, equipment annual fees and monthly depreciation
- Monthly service fees: Volume or user-based fees, typically ongoing for the life of the contract
- Other expenses: Expenses and ongoing support required to make the project viable (e.g., marketing and training, etc.)
- Reduction in expense: Current expenses no longer needed (e.g., existing contracts, equipment, space, staff time, etc.)
- Projected revenue: Anticipated income based on project
After our discussion with IT directors, rather than including internal resources in the implementation fees or considering them a sunk cost, we suggested adding another item:
- Internal-utilization expense: Include the specific resources, time allocation and an estimated rate. Add a comment field to include what project they will give up in lieu of this, or the number of hours they will work a week. Remember to include ongoing training needed for support if applicable.
This process will allow you to provide the decision-makers with the appropriate data on a fully costed internally staffed and third-party alternative. Ultimately, there is a time value to money, and as leaders we have to make the best decision based on the information provided.