Newsletter

Virtualization...Real or Imagined Cost Savings?

The FiveDysfunctions of an IT Procurement Team

Client Spotlight: Denver Health

In The News

Transportation Spending Pitfalls

Client Spotlight: FlightSafety

Here at NPI we have a unique opportunity to see which new technologies are actually gaining traction in the marketplace. And virtualization technology, which has been high on the list for a couple of years now, appears to be turning white hot.

The virtualization market is projected to grow at lightening speed over the next year, from an $810 million market today to $1.8 billion in 2009. Even the Wall Street Journal is covering the trend with Microsoft's announcement of its beta product, code-named Viridian, which is scheduled to ship in October of this year.

So with EMC, Microsoft and host of start-ups attempting to join and expand the market in new

directions (e.g. storage and application virtualization), we decided it was time to put the virtualization value proposition to the test. One of the key benefits touted is significant reductions in Total Cost of Ownership (TCO). The question is: Does virtualization really deliver?

All of the white papers and articles out there would suggest the answer is yes. Keep in mind, of course, many of these are funded, developed and promoted by a combination of software companies and analysts. So, we decided to talk with our clients and review a wide variety of literature to better understand common trends and develop our conclusions.

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Survey Says…Initial Reviews are Favorable
Pros and cons aside, the true test of whether virtualization can deliver on its promises are the experiences of the marketplace. The good news is that our clients and research are giving virtualization high marks so far.

A Yankee Group survey that showed three out of four organizations, regardless of size,

will deploy server virtualization in the next 12 months (July 2006). Half of the 62 percent of companies already utilizing virtualization say they have achieved significant cost benefits, including a decrease in software licenses and management time. And, a whopping 90 percent found deploying server virtualization technology a positive experience that was quick and relatively easy.

Making Virtualization Work for You
With cost benefits ranging from 20 percent to 40 percent of overall spending, not including gains in IT efficiency and responsiveness, virtualization is poised to become a must-have part of every IT strategy. However, it's important to note that the TCO benefits from virtualization accrue over time-you can't simply virtualize one system and expect to save money instantly.

NPI believes virtualization should be just one part of our clients' approach to resource optimization that is dependent on many considerations, like hardware sizing, software licensing, storage architecture, capacity planning, facility issues and network management. As a relatively new technology, we can also expect new challenges to arise as the technology spreads to applications, storage and enhanced tools for managing highly virtualized environments with multiple types of hardware, operating systems and applications.

IT procurement takes a village. If you're involved in IT purchasing, you may be an IT director pursuing the latest technology to monitor MySpacing or Facebooking (or some other activity that's eating away at productivity). Or, you may be in a centralized sourcing department tasked with making sure HR doesn't squander company profits on that perfect training system. Perhaps you're a legalese junkie pouring through dense software license agreements.

My point is that, in today's growing and complex corporate environments, rarely is there just one role participating in the purchasing process. You know what that means? You guessed it—there is a team that has to perform…and that team's performance is crucial.

A good performance can mean your team acquires the best solution for the best price—which can add up to millions of dollars of savings. A bad team performance can cause IT spending to skyrocket, all formal processes to be abandoned and cause corporate-political waters to churn.

No organization is perfect, but the degrees to which they can be dysfunctional can vary greatly. In a multi-million dollar project, like a new ERP system, dozens of people have to perform a dance more complicated than this past year's Super Bowl halftime show. On the IT side, solution requirements and justifications have to be ironclad. IT then has to coordinate with the rigid processes of procurement, which requires a hierarchy of approvals from the executive team. And, then it's off to legal where contracts pass through rigorous scrutiny.

If your procurement team operates at maximum effectiveness, the result is

spectacular. The right solution is selected for the project requirements, the price paid is aggressively proposed, and the roadmap to success is paved perfectly.

Do it wrong and—pow! You have an overpriced system causing conflicts all over the organization (both technical and human). Hordes of consultants will swarm over your lifeless beast of an ERP system. And, don't expect to straighten things out via your procurement team— half of them will have packed up and moved to Siberia out of fear and frustration.

discussion, it is more aptly called the Absence of Trust.

Trust is about vulnerability—and vulnerability is about not being afraid to show one's weaknesses and faults. The Absence of Trust in an IT procurement team opens the door to corporate politics, which wastes valuable time and energy. We see it when IT dreads sending its deals to procurement for fear they will find a lower cost alternative or discover some terms or condition they should have caught beforehand. We also see it from procurement departments, resentful IT doesn't see value in their part of the process, fearing they will be deemed redundant or immaterial.

Denver Health asked NPI to help structure and negotiate an agreement with Perot Systems, one of the world's leading claims processing specialists. By working as a team, Denver Health and NPI were able to accomplish the following:

• Identify financial and non-financial goals to ensure that Perot Systems would optimize the entire claims process as well as save Denver Health hard dollars.
• Reduce actual contractual costs by 3 percent.
• Structure the contract to include a termination for convenience clause, which would allow Denver Health to cancel its agreement with Perot Systems without incurring penalties after one year.
• Define a termination assistance clause that will ensure Denver can transition to another vendor easily.

• Develop a detailed implementation plan with a not-to-exceed price.
• Define clear and stringent Service Level Agreement criteria.

• Baseline Magazine, IT Cost Containment: Five Best Practices: Jon Winsett, managing partner of NPI, gives advice on how to avoid common negotiating pitfalls in the IT contract renewal process.

 • The New York Times, Outsourcing 2.0: The Next Wave: Jeff Muscarella, managing partner of NPI, comments on the evolution of outsourcing, from a cost-savings tactic to a strategic way to improve overall business performance.

• NPI press release, NPI Launches Transportation Spend Management Practice to Reduce Logistics Costs, Increase Profitability: NPI announces its newest spend management practice.

With dozens of years of experience at major shipping carriers, NPI's transportation experts recommend four ways to avoid overspending:

1. Justify Carrier Costs

NPI believes you have two choices—you can ask carriers to demonstrate they're making reasonable profit margins on your account, or you can be gouged.

The more cues you can give your carrier that you're savvy at understanding carrier shipping characteristics, as well as your own shipping characteristics, the easier it will be to achieve fair, justified rates. Be sure to understand the following things about your internal shipping characteristics before discussing price:

• What is the average weight of your packages?
• What is the average zone?
• What are the dimensions of your packages?
• What are the densities (both pickup and delivery)? Are they commercial or residential? Rural or urban?
• What type of accessorials do you use and how frequently?

2. Debunk Discount Myths

There are several types of hidden costs that can be associated with discounts. For example, did you know that discounts typically do not apply to shipments that fall in the minimum charge range? Or, while you may think you're getting a discount on a residential delivery, you're actually getting billed a residential delivery surcharge at a premium rate? It's scary, isn't it?

So, how do you avoid falling victim to “discount” ploys? Peel the onion back. During contract negotiations, make sure these items are on the table and are fully explained. Analyze your “effective incentive” based on your own shipping characteristics, not your “contracted incentive,” which is a one size fits all carrier approach to discounting. Don't let them tell you discounts are not negotiable—everything is negotiable!

3. Check the Addendum/Contract Language (Fine Print)

Many cost pitfalls lie in the fine print of addendums. NPI recommends companies have a third-party review every carrier contract. At the very least, it's important to ask your carrier how the following questions impact your shipping expenses:

• Are all products contributing to your discount calculations (especially with revenue commitment discounts)?
• Are net charges or gross charges used when calculating?
• Do accessorial charges contribute?  
• Do your discounts apply to all different types of billing (prepaid, freight collect, third party)?
• If your contract uses rolling averages what is the time period specified? If you have seasonality in your shipping, be careful!
• How do minimum charges impact your discounts?
• What is the process for reviewing contracts and addendums?

4. Evaluate the Competition

One of the smartest things you can do is periodically evaluate competing carriers. You don't have to be unsatisfied with your service to justify this process. If you've only used one carrier for the last five years, how do you know your paying fair market value or receiving the best service?

It can be as simple as reviewing your contracts on an annual basis or even re-issuing RFPs periodically. Regardless, it's important to keep carriers on their toes—and you may be surprised to see the positive impact this has on customer service levels.

If you've ever flown with a regional airline, chances are your pilot was trained at one of FlightSafety's world-renowned pilot training centers. A member of the prestigious Berkshire Hathaway family of companies, FlightSafety International is the world's largest provider of aviation services, training more than 75,000 pilots annually in its 43 learning centers in the U.S., Canada, France and the U.K.

FlightSafety's decades of experience and global presence has made it the world leader in pilot training—but it has also brought about a few challenges. One such challenge has been managing the company's growing transportation costs. The company had witnessed a sharp increase in the cost to ship training materials and supplies to each of its learning centers over the years.

The company's logistics team also had concerns that they weren't receiving competitive discounts on their shipping volumes. Furthermore, while corporate headquarters used one primary transportation carrier, FlightSafety's satellite offices and training centers used a hodgepodge of different carriers.

Without a way to centrally manage and monitor transportation costs, and a suspicion that they weren't maximizing their carrier discounts, FlightSafety contacted NPI in April 2007 to review their carrier agreements.

NPI's analysis confirmed that FlightSafety was not receiving premium market value discounts for their international, air and ground shipments. As a result, NPI executed a three-step transportation savings strategy:

Create a new contract with stronger discounting. NPI worked with FlightSafety to create a new contract with their primary transportation carrier. The new contract drastically reduced minimum charges and increased discounts in the following ways:

• International shipments – NPI reduced the minimum shipment fee required to receive discounts by more than 30 percent.
• Air shipments – NPI doubled the discount rate for all air shipments.
• Ground shipments – Where FlightSafety previously received no discount for ground shipments, NPI pressed the carrier to provide a substantial market discount.

Consolidate carrier selection across satellite training facilities. NPI worked with more than half of FlightSafety's learning centers to create contracts with the same primary carrier. This enabled FlightSafety to realize similar shipment discounts across the entire enterprise.

Conduct ongoing contract and bill auditing. NPI continues to audit FlightSafety's carrier bills to ensure accuracy and compliance with contracted discounts.

In just 90 days, NPI saved FlightSafety more than 21 percent of their total transportation spend. NPI expects FlightSafety will continue to realize these savings month after month over the course of the three-year contract.