Server Consolidation within Outsourcing Contracts

Guest blogger Carol Wright of TPI’s Financial Analysis Services Group “blogging about the bottom line”

Service providers are increasingly touting “server consolidation” as a sure way to cut costs in IT sourcing contracts. Providers typically offer guaranteed price decreases based on a commitment to reduce the total number of client servers. However, guaranteed decrease in price shouldn’t drive hasty contract signing.

The two primary alternatives include: consolidation guarantees within a sourcing contract via contractual price reductions, and project by project consolidation efforts.

The upside of having server consolidation within a contract is the shifting of risk to the service provider. If the service provider does not meet commitments, companies still receive financial benefits via contractually guaranteed price reductions. But the following need to be considered:

Server-Software Inventory - Without an inventory that includes the physical properties of the server environment and server-specific software applications, server consolidation is unrealistic.

Reasonability - Are reduction commitments reasonable and achievable within the time frame quoted, and have other relevant activities been taken into account? 

Barriers - What barriers can prohibit the service provider from meeting commitments, and how will issues that arise be dealt with?

Unintended Costs – If commitments aren’t met, additional software, real estate and capital outlays may be incurred, which need to be factored into the sensitivity analysis.

Measurement - Does the contract define server consolidation measurement against targets as well as the financial implications if the service provider exceeds or falls short of consolidation targets and deadlines?

When leaving commitments undefined, the client works with the service provider on a project plan and pays for consolidation activities on a project by project basis. The upside is that all related savings accrue to the client, contract negotiations are simpler, and there are fewer issues with tracking service provider targets and contractual obligations. However, it puts more risk on a client to manage the project, determine allocation priorities, and get funding approval for each consolidation project.

Which of these two approaches makes more sense to you and why?  If you have sourced your server operations and services, what has been your experience with server consolidation?  Have service providers been able to meet reduction targets within the time frame specified in the contract?  What kind of financial benefits did you see from consolidation compared to your business case?   

Comments

[Ted Botzum]

Carol, you make a lot of great points. From a project / risk management perspective all of the criteria you mention should be laid out in writing in an effort to document the overall risk profile.

Many times with proper intent, service providers and their clients will embark on a plan that is great on paper but they really need to wrap major stakeholders into the conversation. of course, in the heat of getting a deal done, time is of the essence. maybe what we need to do is solicit intentions early on in the project life cycle so we can begin to address the inevitable.

Bottom-line, all involved want a deal that is successful for ALL parties. Planning, diligence and experience are essential ingredients to making the technical solution come together. There is so much money on the line here - services, HW, and SW cost savings - that this deserves proper inventment of time and effort. This is especially the case when it comes to getting inventories established.

Ted

[Carol Wright]

Ted, Thanks for your comments.

Early conversations about a client's desire / capacity to consolidate or a providers capabilities to support consolidation are key to a successful relationship. Clients need to be upfront with providers about the quality of their (the client) inventory information so that providers can review the data and set realistic expectations about consolidation timelines and targets. I've seen the conversations about consolidation happen closer to the end of contract negotiations rather than at the beginning and this is not helpful to creating a win-win situation.

[Dinesh Goel]

Carol -Great blog entry on an interesting topic. I was curious to know how does one deal with the risks that you have highlighted in a contractually guaranteed option. These are real risks since SP may not be able to deliver on the assumptions they have made, what happens in such a situation? Its not easy to estimate the impact of delay or non delivery of consolidations and the questions becomes who is it attributable to and who should pay for it? If its project by project with client accruing all the savings, I don't see much incentive for the provider to show any haste in undertaking such projects to the detriment of the client.

[Carol Wright]

Dinesh, For consolidation obligations that are included in a contract, the contract needs to spell out the penalties for the provider not meeting timelines. This could be a type of Service Level Agreement where the penalty for not meeting the timeline is actual costs incurred instead of a percent of invoice amount. As always, if the client has played a part in restricting the provider from meeting timelines, then there would be no penalties or the penalties would be modified.

For consolidation obligations that are on a project by project basis, the client (and the provider) should treat consolidation as any other project. The client typically has the ability to set priorities for Projects. Most contracts set out penalties for projects delivered late or over budget. Consolidation should be no different. If servers are priced on a per instance basis instead of per box, the main financial benefit to the client is in reduced hardware, software and maintenance costs. There may not be much reduction in billing to the provider, therefore the provider may not view consolidation as a threat to its revenue stream.

[Ruth]

I recently came across your blog and have been reading along. I thought I would leave my first comment. I don't know what to say except that I have enjoyed reading. Nice blog. I will keep visiting this blog very often.

Ruth

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