To compete successfully in the current economic climate, every business needs to look for new approaches to bringing costs down. By adopting software as a service, outsourced business processes, and shared services across their PE portfolios, private equity managing directors are minimizing costs while setting up a framework for agile cost scalability that changes with business conditions. This three-pronged approach radically transforms the business from a traditional operating model into a virtual operating platform, and significantly reduces costs by lowering payroll, infrastructure and facilities costs.
As managing directors look to bring costs down in this tough economy, three needs will naturally steer them towards this virtual operating platform approach:
• The need to convert fixed costs to variable costs that scale with the business;
• The desire to spread utilization of high-value resources across portfolio companies whenever possible; and
• The goal of leveraging buying power across their portfolios.
For purposes of this discussion, a number of concepts are joined in a virtual operating platform that replaces the older, traditional model of owned IT resources (both human and technology resources) that reside within the four walls of a business. This high-cost model can be replaced by a more flexible, variable cost approach that includes the following components:
1. Software as a service
2. Outsourced services
3. Shared services across a business portfolio
Software As A Service
SaaS offers an option for some packaged applications that are currently hosted and licensed internally. It moves the hardware, service and support to the SaaS service provider’s location and lets users access the application over the Internet. It converts upfront costs of purchasing software licenses to an ongoing variable cost that scales with the number of users accessing the software. Some SaaS vendors are also beginning to charge per use instead of per user.
The SaaS option may not be appropriate if your business uses packaged software that you have customized to your unique needs. There is also a trade-off in terms of loss of control over when your business will migrate to upgraded versions or when you will experience scheduled maintenance outages. There may be slower application performance over the Internet than over your internal local area network as well. All of these issues need to be discussed during your initial due diligence on SaaS vendors and offerings.
SaaS is offered in several variations, and your IT team will need to ask if you will be sharing an instance of application code with other SaaS customers or whether your business will have its own version with customizations unique to your business. If you expect your business to grow rapidly, you will also need to ask the vendor about performance documentation under expected peak loads.
When evaluating SaaS as an option, your team needs to carefully model costs so that all of the avoided costs are included in the internal model (hardware, all software licenses including operating systems, and database licenses, and costs for support staff). You also need to pay careful attention to interfaces with other applications and define exactly how interface glitches will be addressed as data is being transferred between applications that are hosted in-house and by various SaaS vendors. Lastly, make sure that the contracts are reviewed thoroughly by your senior IT team so that Service Level Agreements (SLAs) are tightly worded and potential add-on costs are well-understood.
Companies can evolve to a lean yet flexible staffing model with a well-crafted outsourcing strategy. Standardized, high-volume transactions (such as AP voucher processing) are the best targets for outsourcing, although other more mission-critical processes can be safely outsourced to the right service providers. Good candidates for outsourcing include those that have high headcounts and associated facility and infrastructure costs to support them (such as customer service call centers), services that are used intermittently (such as PC desktop support, which can be outsourced to national service providers across a number of corporate locations) and those that experience uneven transaction volumes across a monthly or yearly schedule.
Successful outsourcing requires crisp and comprehensive documentation of all standard and non-standard transactions to be outsourced, so that the service provider’s staff can be fully trained. Up-front due diligence on potential outsourcing partners, with multiple reference checks and comprehensive site visits, is a mandatory part of the vetting process; however, ongoing monitoring of your provider’s reputation in the marketplace is essential to averting disasters. Stay ahead of business and financial news about your service providers by augmenting traditional news sources with new media monitoring methods like www.twitter.com, Google alerts, and RSS feeds set up on www.technorati.com. This ongoing monitoring should be employed for both SaaS providers as well as outsourced service vendors.
During initial contract negotiations and during subsequent renewals, retain better leverage by keeping a second source waiting in the wings. Companies that put too much of their business in the hands of a single outsourcing partner are risking catastrophe if that partner underperforms or falls into financial, legal or regulatory trouble.
Many managing directors have steered clear of shared services models in the past because they feel it will limit their ability to sell an asset that shares infrastructure or staffing with another portfolio company. There are potential complications with the legal agreements as well, because they are executed at the portfolio company level, not by the private equity firm itself.
Holding company structures can effectively mitigate these concerns, but in some situations where legal issues are less severe, simple charge-back accounting may be useful for managing shared service accounting, as long as there is a reasonable and obvious basis for allocating costs.
As the internal operating headcount shrinks through the implementation of SaaS, outsourcing and shared services, it may even make sense to spread some of the senior leadership roles into a shared model, such as a shared COO or CIO across portfolio companies. Need for this talent is high when the operating model is being transformed, but when the company has fully transitioned onto a virtual operating platform as we’ve described here, there may no longer be justification for full-time staffing of these roles.
When true shared services are not feasible, managing directors should still take advantage of opportunities to negotiate themselves into a more favorable pricing tier based on the buying power across their portfolio rather than on pricing metrics within a single portfolio company.
Pulling It All Together
The virtual operating platform could actually become a drag on productivity if the right technology framework is not put into place to support SaaS, outsourcing and shared services. These enabling technologies need to be factored into the overall cost model as well. Key components of the technology architecture include:
1. Adequate network performance via remote access to enable globally-distributed workers to work with software applications.
2. Front-end portal: A suite of SaaS applications can be pulled together for ease of access via a single-user portal that gives each user rights to access only those applications that are needed for their job roles, and provides them access via a single set of login credentials. The portal pulls all of the vendor offerings into a single desktop that can be accessed from multiple platforms and locations. The portal can also screen and route trouble tickets when users encounter difficulty, since these tickets will be handled by the appropriate SaaS vendor and not an in-house help desk. The portal also needs to contain an up-to-date, searchable knowledge repository so that users can find training materials, policies and procedures, and help-files quickly.
3. The networks (both internal and those of the SaaS solution vendors) will need to have adequate performance-monitoring tools so that service issues can be diagnosed and addressed quickly.
4. Finally, the enterprise disaster recovery strategy will need to be carefully crafted to account for an architecture that is distributed among multiple vendors and hosting facilities. Don’t fall into the trap of thinking that because each vendor has a disaster recovery strategy that you don’t need a global disaster recovery plan to govern all the moving parts.
Keys To Success
Because the virtual operating platform changes applications, data flows, infrastructure, and business roles and processes, it’s important that the entire initiative be driven from a multi-perspective modeling framework that documents the target state (for both the technology architecture and the business processes) with crystal clarity. Your implementation team can take advantage of one of the many multi-perspective modeling tools for this purpose.
The virtual operating platform lends itself to a variety of implementation approaches, with a timeline that can be quick or gradual depending on business needs. The accelerated approach is most often used when the platform is the target state for migrating a new acquisition off of a transition services agreement with its former parent. A phased approach can be designed by business functional area, business unit or location to align with business needs. In either case, strong, experienced program management is the key to driving the initiative to successful conclusion.
Things to Watch Out For
When outsourcing either software or business processes, your due diligence should include:
• Data security and liability limitation for breach of your confidential business and customer personal data;
• Disaster recovery;
• Disclosure of all third parties who host part of the solution;
• Reference checks from businesses of similar size and type to yours;
• Employee turnover;
• Location and numbers of offshore resources who are part of the service; and
• Access to network performance logs for review by your technical team
The virtual operating platform offers flexibility and many options for either a gradual or big-bang implementation. Because there are many hidden risks, any attempt to begin moving toward this model should be led by experienced teams that have helped to qualify vendors and negotiate these contracts in the past.
Joanne Wortman has been actively leading M&A integration and due diligence efforts for over a decade, and has been instrumental in developing Edgewater’s M&A integration methodology and toolset. Her experience spans financial services, media/entertainment, health care, hospitality and consumer packaged goods. She has managed multiple custom application development, packaged application selection and implementation, and business process improvement initiatives. She also has expertise creating business plans for technology start-ups and assisting them with attaining first-round financing. Wortman holds B.S. and M.E degrees in Chemical Engineering from Rensselaer Polytechnic Institute. She was a founding board member and past president of the Environmental Business Association of New York State.