Vendor Management Organizations Are a Bad Design

For some, vendor management organizations are a silver bullet that solve all problems.  For others, vendor management organizations are the source of internal strife.  Bottom line, for many organizations, they are a terrible solution.  They hoard decision-making ability, distance ownership of execution and delivery from stakeholders, and focus on narrow contractual goals instead of broader strategic objectives.

An Artifact of Historical Scarcity

There was a time, a long time ago, when the challenges of outsourcing required a specialized vendor management organization.  Your procurement organization lacked the skills to source outsourcing suppliers, and they rarely displayed the ability to partner with suppliers to achieve long term organizational objectives.  Your operations team had sufficient conflicts of interest that a team with the incentive to make outsourcing succeed was needed.  Your IT and operations team didn’t know how to work with outsourcing vendors.  The complexity and effort required to transition operations required dedicated staff, lest you not achieve your other business objectives.  Your leadership team wanted closer line of sight to management decisions.  You didn’t have sufficient vendor management process or skills.  Maybe there was organizational conflict where the CIO and the CPO didn’t agree.

So, vendor management organizations were an artifact of experience and knowledge scarcity and the need to control decision-making.  Born was an organization that needed it’s own sourcing, contracting, project management, vendor management, strategy, financial analysis, and operational management skills.  It’s objectives could be defined by vendor achievement of contractual service level agreements and, more strategically, the achievement of corporate EBITA and innovation objectives.  It managed a broad group of internal stakeholders, including human resources, IT, procurement, legal, operations, public affairs, corporate communication, sales, and finance.  All groups leveraged the centralized VMO to facilitate decision-making and execution of outsourcing decisions.

Listen to Forrester Research’s Vice President John McCarthy’s comments on “best practice case studies for vendor management” durin the 2007 Services And Sourcing Forum in Orlando:

Wow, these are complex jobs.  Listen to John list all the reasons for VMOs and the stakeholders they serve.  And that was before politicking began…

Let Internal Warfare Begin

Where the VMO resided was a subject of major corporate politicking.  Initially, it was easy.  CIOs wanted to own IT VMOs.  COOs wanted to own BPO and supply chain VMOs.  CFOs wanted to own F&A and indirect procurement VMOs.  HR leaders wanted to own HRO VMOs.  At a more lower level, call center executives, application development and maintenance, IT infrastructure, and every sub-organization created their own VMOs.  The politicking began when the COO or CIO had more than one VMO.  Who would own it?  The app dev VP or the infrastructure VP?  Or would they create a standalone VMO to “rule them all”?  Or  one governing VMO to manage the sub VMOs?

It became more complex when the COO and CIO shared the same vendors.  Companies, like Accenture, with their strong back-door selling (you’ve seen this excellent back-door selling training company, right?) ran circles around CIOs and COOs whose teams couldn’t get organizationally on the same page regarding strategic initiatives.  They had better information than their competitors and limited companies’ decisions by plying this information with internal stakeholders to influence outcomes.  Companies realized this was going on, and sought enterprise VMOs to centralized decision-making.

And then organizations that shared the same functional sub-responsibilities clamored for centralization.  Procurement asked to source and contract outsourcing vendors.  Legal asked to own the outside counsel relationships that supported outsourcing contacts.  Global workforce management teams asked for management of vendor call center personnel.  Contingent labor vendor management organizations wanted to leverage offshore IT labor, too.  Project management offices asked to lead the outsourcing transitions.  Operations leaders, on the line for service levels, performance, innovation, and customer service, asked for greater control over vendor management decisions related to their organizations.

At this point, the VMO was in an impossible position.  It’s once strategic role was being challenged by operations and IT executives who were directly responsible for execution – the problems outsourcing vendors were experiencing, in part due to the internal communication challenges of independently operated VMOs, were causing operations and IT executives to miss goals.  Functional organizations had evolved, bringing more outsourcing experience to HR, Legal, Finance, and Procurement – and these groups wanted to own their functional responsibilities for the entire enterprise, without exceptions for VMOs.

Applying Organizational Design Theory

First, it’s important to realize that organization structure is made-up of 4 key elements (John Child, Organization: A Guide to Problems and Practice, 1994):

1. Assignment of tasks and responsibilities that define jobs
2. Clustering of positions into groups and groups into departments and departments into the broader organizational structure
3. Mechanisms to facilitate top-down and bottom-up communication
4. Mechanisms to facilitate cross-functional coordination

One can quickly see that compromises in clustering (step 2) require more cross-functional coordination.  Structurally, this coordination is created by matrix organization structures.  These matrix organizations go through several structural stages (Richard Hackman and Greg Oldham, Work Redesign, 1980):

1. Traditional structure (the starting point)
2. Temporary overlay, which managerial roles are created to run particular projects, like transitions and implementations
3. Permanent overlay, in which the managerial roles created in the 2nd step become permanent
4. Mature matrix, in which the roles permanently created in step 3 have equal power to the traditional structure

The organizational problems arise in step #3 when the VMO becomes permanent and then shift to a mature model, which requires power sharing.  Traditional structure leaders are challenged to share power, which takes the eye off the strategic objectives of the company.  Also, as outsourcing becomes more pervasive in an organization, matrix designs become more widely adopted by an organization.

This is exactly where the largest strategic problem lies.  Danny Miller matched strategies similar to Porter’s strategies with the best organizational structure:

Matching Vendor Management Organization Structure with Organization Strategy

Type of Departimentalization	Strategy
Functional	Niche differentiation, or focus
Functional	Cost leadership; possibly market differentiation
Divisional or hybrid	Market differentiation or cost leadership at a division level
Matrix	Innovative differentiation

As few organizations have innovation as their primary corporate strategy, they aren’t structured into a matrix organization.  Pervasive use of outsourcing using VMOs arranged in matrix organizations create significant problems because they cause the company to inadvertently change  structures, taking away focus from corporate strategy.

What You Should Do

The bottom line is that vendor management organizations should only be created when the skills and experience don’t exist in a company at the beginning of an outsourcing initiative.  It should be temporary, designed to develop the skills and experience necessary to implement outsourcing projects and manage vendors.  At some point, the day-to-day line responsibilities of the VMO should be shifted back into line organizations, where line managers take responsibility for delivery of objectives by managing vendors to achieve the goals.  Since the service level agreements in the contracts should meet the needs of these organizations, there should be little concern – these organizations should be managing performance and reporting on results already.  The staff responsibilities should be shifted back to the staff functions (procurement, legal, HR, and finance).

The only responsibility that should remain centralized is outsourcing governance.  This governance function, as described in the IAOP OPBOK, should focus on rules of engagement, encouraging cross-functional communication, project prioritization, initial project implementation tracking, high level interdependent planning among divisions/departments and vendors, evaluating enterprise-wide vendor performance, and the sharing of outsourcing best practices.  That means the other 9 categories of responsibilities defined by the IAOP should be temporary or distributed through other organizations.

Counter Arguments

Outsourcing advisors and experienced clients may disagree with the recommendation above.

There may be situations where outsourcing for cost reduction reasons is an imperative and such should be centrally managed to ensure EBITA objectives are achieved.  I wouldn’t argue against this, except to suggest that even this should be temporary and that, at some future point, the organization work toward developing the vendor management competency in all parts of its organization in order to deliver on its new reality – outsourcing isn’t just a project, it is a long term manner of delivering, and decentralizing the management of its delivery mechanism outside of the delivery leadership makes little long term sense for the reasons listed above.

There may be situations where the focus of outsourcing is sufficiently large such that few internal operations remain.  For example, I worked for a west coast savings and loan bank fifteen years ago that had exactly six IT employees – the CIO, his admin, his VP of strategy, and some assorted junior staff members.  The rest, including most leaders, were entirely outsourced.  In this case, staff functions should still be allocated to procurement, HR, and legal organizations, but the day-to-day line vendor management responsibilities should be centralized.

Some people may argue that managing a matrix organization is the role of an outsourcing VMO.  That’s great, but see all the problems listed above.  Why go through that if you don’t need to?

Finally, some people would simply argue that outsourcing management and vendor management skills are insufficiently available within an organization to distribute the responsibilities.  Well, it is absolutely the responsibility of any organization undergoing an outsourcing transformation to take this internal development opportunity seriously.  Upgrade talent, use training organizations to build skills, and seek professional development at major organizations to develop your staff.  Simply housing the talent in a single organization is destined to failure in the long run.

Related posts:

1. Offshore Outsourcing Vendor Governance Organizations
2. Outsourcing Vendor Management Organizations
3. Outsourcing Governance and “Who Owns Supplier Performance Management?”
4. The Business of Outsourcing Certifications
5. IT Outsourcing Metrics: A Good Example of Management Controls