VIDCAST: Hear more about Kate Vitasek and her innovative views on supply chain, as Kate talk with Dustin Mattison from Logipi.
Vested outsourcing uses collaborative economics or game theory, as well as incentive, to create a methodology for outsourcing that really binds the economics in that collaborative relationship to change the game. And finally, the foundation of vested outsourcing is a "what's in it for "we" relationship."
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Kate Vitasek, Faculty Member
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Meet Kate Vitasek
Kate Vitasek is a faculty member and lead researcher for the University of Tennessee’s Performance-Based Outsourcing program. She teaches executive development courses and serves as a mentor in the University’s Center for Executive Education. She also teaches MBA classes on performance management and lean supply chains for Wright State University, along with seminars for the Warehouse Education Research Council and the Council of Supply Chain Management Professionals.
The Creation of an Outsourcing Game-changer
Kate Vitasek is a name you might already know. If not, you should probably make a point of remembering it, because Kate Vitasek and a team of researchers may have uncovered a model that will transform the economics of outsourcing. It is called "vested outsourcing," and it has garnered quite a bit of media attention over the past few months. In short, vested outsourcing is a methodology that encourages companies and service providers to work collaboratively, and become "vested" in each other's success.
The term "vested outsourcing" was coined by researchers at the University of Tennessee, who, over the course of a four-year study funded by the United States Air Force and led by Kate Vitasek, examined companies with the very best outsourcing relationships and agreements. In the end, the research team identified "10 inherent ailments in today's flawed and old school outsourcing agreements." They also revealed five rules for creating a successful vested outsourcing agreement.
As the founder of the vested outsourcing concept, and in her role as lead researcher on the project, Kate Vitasek has created a business model that she, and many others, believe is an outsourcing "game-changer."
Game Theory, Freakonomics and SuperFreakonomics
In a recent interview with Logipi's Dustin Mattison, Kate Vitasek explained that vested outsourcing is associated with game theory, or behavioral economics. Game theory, you may recall, came into the general public's consciousness with the release of the film, A Beautiful Mind, which profiled the genius of mathematician John Nash. If you've seen the film, Kate advises to think back to the bar scene where Nash and his friends have their sights set on the same blonde woman, during which he also has "eureka moment." In the scene, Nash says, "If we all go for the blonde, we block each other, not a single one of us is going to get her. So, then we go for her friends, but they will all give us the cold shoulder, because nobody likes to be second choice. But what if no one goes for the blonde? We don't get in each other's way, and we don't insult the other girls. It's the only way we win." He went on to say, "The best result would come from everyone in the group doing what's best for himself, and the group." Game theory, which has proven to be successful, is also referred to as "Nash equilibrium," which as Kate put it, "really became the jettison for the study of collaborative economics and how people work together."
Kate Vitasek also referenced Freakonomics and SuperFreakonomics, co-authored by Steven D. Levitt and Stephen J. Dubner. An excerpt from the front flap of Freakonomics reads, "...economics is, at root, the study of incentives--how people get what they want, or need, especially when other people want or need the same thing." SuperFreakonomics on the other hand is about incentives and why people do what they do. In other words, according to Kate, "If you put an incentive out there, organizations and individuals will go toward those incentives."
"Vested outsourcing," Kate says, "uses collaborative economics or game theory, as well as incentive, to create a methodology for outsourcing that really binds the economics in that collaborative relationship to change the game."
And finally, the foundation of vested outsourcing is what Kate calls, a "what's in it for we relationship." It is an idea that flies in the face of how we have been trained to think about the art of negotiation, which is normally coming at it from a "what's in it for me" perspective. Vested outsourcing requires companies to sit on the same side of the table with their partners. After all, Kate said, both sides are working toward common goals, so it makes perfect for both sides to ask, "What's in it for we?"
The Five Rules of Vested Outsourcing
One of the key premises of vested outsourcing is its focus on buying results as opposed to buying tasks or activities. A conventional outsourcing relationship, Kate said, is activity or transaction-based. Companies pay for every touch, for every pallet to be stored and every call to be answered. In other words, every transaction generates a fee from the outsourcing provider. As companies become more efficient, and begin to eliminate transactions, they are literally creating a perverse incentive that penalizes outsource providers by reducing the number of transaction-based fees.
"What we need to do," Kate said, "is change the way we pay for things; instead of paying for activities, we pay for results." That is the whole idea behind vested outsourcing.
As we mentioned earlier, Kate Vitasek's research project identified five rules that should be applied anytime you're structuring an outsourcing deal. "If you follow these rules," Kate says, "you're likely to end up with a better outsourcing deal."
Rule #1
Replace the transaction-based business model with an outcome-based business model. The idea is to pay for the desired outcomes, not the individual activities. Begin by looking at the big picture. Ask yourself what you are you trying to achieve? Are you trying to lower supply chain costs as a percentage of sales, cut overall transportation costs, reduce inventory? Whatever your goals are, contract for the work based on outcomes.
Rule #2
Focus on the what not the how. Many conventional outsourcing agreements begin with a very long statement of work, where it is dictated what the service provider will do. Vested outsourcing "flips the concept on its head," and asks the question, why would you outsource to experts and then tell them how to perform the work? Remember to allow your service providers to be innovative in defining how service is delivered.
Rule #3
Clearly define measurable desired outcomes. Because payments will be paid based on outcomes, it is essential to define what you're trying to achieve and how those achievements, or outcomes, will be measured.
Rule #4
Develop a pricing model with incentives that are optimized for service tradeoffs. The idea is to create positive incentives that drive your outsource providers to solve a defined amd measurable set of problems.
Rule #5
Develop a governance structure that focuses on insight not oversight. Many companies have layers of people who are micromanaging their service providers. Move away from overseeing, or micromanaging, service providers and move toward a more positive environment where you have insight that is used in a positive way to achieve your desired outcome.
The Bottom Line
Vested outsourcing is a research-driven business model that is supported by The Outsourcing Institute (OI) as one of the next-generation, or what they call Outsourcing 2.0, concepts, and many thought leaders, including OI, ARC Advisory Group, and Palgrave MacMillan, who recently published Kate's book, Vested Outsourcing, believe the model will have the same significance that Six Sigma and Lean had on improved production processes in the 80s and 90s.
Under the direction of Kate Vitasek, University of Tennessee researchers studied outsourcing relationships and agreements, and have identified five rules that can help companies develop a sound outsourcing strategy and facilitate true vested, or performance-based, partnerships. "if you're not applying the rules of vested outsourcing," Kate said, "our research found that organizations typically get sick or have ailments, and we have revealed 10 common ailments in conventional outsourcing models in our book, as well as in an excerpt that we are allowing as a free download at www.vestedoutsourcing.com." You'll also find a wealth information on the vested outsourcing concept at the company's website, which those us of here at Logipi who have already done so, highly recommend you explore.
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