Innovation in Sourcing Relationships – The Pieces and Parts

The implementation of any sourcing relationship occurs over three stages that Pillsbury has historically referred to as T3: Transfer, Transition and Transformation. Transfer is comprised of those activities, like the movement of people, sale of assets or assignment of licenses, that need to occur at the start of any third-party sourcing relationship so that the supplier has the necessary factors of production (resources) required for it to perform its scope of service. Transition are those initial steps taken by a supplier to begin providing the services and might include activities like moving data centers, installing its tooling and implementing a service level and reporting regime. Transformation are those follow-on activities that reflect value-added changes (either known or unknown) that the customer expects a supplier to implement and deploy in order to deliver key parts of the value proposition identified by the supplier as one of the reasons for the customer to enter into the sourcing relationship.

What Pillsbury has referred to as the transformation stage is what people are now calling innovation. To properly contract for such innovation (transformation) it is important to recognize that there are two fundamental types.

• Narrow. This is innovation within a given process that is assigned to a supplier. Take the process of service desk as an example. The innovation to be reasonably expected would be for the supplier to continuously improve its ability to perform the process. In doing so it could: reengineer the service desk procedures to improve throughput and increase quality; implement new applications to automate/standardize the handling of certain functions; increase the quality of the resources performing the functions via training, recruiting and reward; and relocate where the function is performed to reduce the cost of labor or facilities. While this type of activity might be labeled dynamic (rather than static), it often represents a continuation of the change that the customer may have been implementing year-over-year as part of its normal evolution of the service desk process.
• Broad. This is the innovation that occurs across multiple processes assigned to the supplier to produce something that optimizes the whole rather than a single, discrete process. While seemingly obvious, the supplier’s ability to achieve this type of innovation is dependent upon having been allocated the applicable processes required to produce such innovation (i.e., a customer should not expect a supplier who is merely assigned IMAC and repair processes to produce innovations that require architectural, engineering or platform changes). On the other hand, by sourcing a wide swath of related processes to the supplier and directing that the supplier change the manner in which these related processes are delivered (innovation or transformation), it is reasonable for a customer to expect that broad-based innovation should occur. Picking up on the service desk example, the supplier, in addition to performing the narrow innovation of the service desk, could also (based on what processes it is additionally assigned) be: enhancing the desktop itself (or the OS and application portfolio) to be more reliable or require less intervention by the service desk and repair personnel; working with other providers in the customer’s IT environment (both internal and external) to streamline the interactions and/or improve the results among all to produce meaningful outcomes for the users; and optimizing the design/performance of the additional end user technologies so as to reduce the problems or issues that create bottlenecks or increase user frustration.

Once the type of innovation desired (narrow, broad or both) is determined, customers and their supplier(s) should document their sourcing relationship accordingly. While doing so will neither improve nor guarantee the results of the innovation, it will help those involved to maintain a proper focus on what is likely to be accomplished and what is not within the scope of the relationship.

By aligning a sourcing with a customer’s desire for innovation, key aspects of the relationship can be set appropriately. Pillsbury’s experience is that such alignment does not occur routinely or happen by itself without substantial resources by all being devoted to identify, structure and document the specifics of the anticipated innovation. In short, innovation is a function of scope and solution, not something that is bolted on to the side. Innovation is operational and occurs continuously. It does not get turned on and off like a light switch.

To ensure that the desired level of innovation is actually implemented, the customer and supplier must be aligned so that there is a mutual willingness on each side to invest and to share in both the potential gain and operational risk that comes with any degree of change. This alignment cannot be achieved simply by writing a contract clause that says the parties will cooperate or that each will use commercially reasonable efforts to implement the desired level of innovation. Rather, it is necessary that:

• A jointly prepared transformation plan be developed specifying what each party is responsible for doing (and, in almost all cases, it will be true that the customer has significant responsibilities that it must perform in order for the innovation to be successful);
• Care and thought go into developing appropriate pricing mechanisms so that both the customer and the supplier benefit from successful innovation (and, potentially, that each suffers if the innovation is not successful) thereby embedding incentive mechanisms into the sourcing relationship designed to foster a spirit of innovation; and
• The governance between the customer and the supplier expressly include focus on the innovation work and the degree to which each has performed those responsibilities assigned to it for a successful innovation program.

Achieving innovation is not easy. It requires an understanding of the type of innovation desired (narrow, broad or both), specification of the scope and solution in a manner designed to facilitate achieving the level and type of innovation desired, preparation of a transformation plan documenting the innovation to be implemented, pricing terms that provide adequate incentive for everyone to perform their responsibilities for achieving the innovation, and a governance mechanism that focuses on innovation and the importance of implementing the activities (both customer and supplier) as necessary to achieve that innovation.