BPO, B2B Integration, and MDM Opportunity

Takeaway Summary:   According to the theory of Nobel Prize winning economist Ronald Coase, corporations exist to manage the transaction costs involved in organizing work.   And the size of a corporation is determined by the optimal management of those costs.  However, new information technologies have changed that transaction cost landscape for business processes.  It is now more than ever possible to disaggregate the work of the firm, and still maintain corporate identity and control.  And for the B2B integration business, the good news is that integration technologies have a leading role to play in this evolution.  In support of a focus on "core competencies", corporations can now afford to disaggregate non-core functions -- and that means opportunity for the technologists that provide the low-cost, low-friction integration which makes it all possible.

Climb on board!  The forces of corporate re-organization are driving a whole train of IT integration opportunities.  (Version 1.1)

What are these forces, why does this imply IT integration, and what new business opportunities may be presented?

Informally, all readers of this blog are familiar with globalization, whether or not you agree with Thomas L Friedman's "The World Is Flat".  Supply chains stretch around the globe, and not just from developing to first world.  Corporate responses have included both business process outsourcing, for instance to India, and increasing specialization, for instance of manufacturing to China.

All this is known to you from reading the front page of your business journals. So, let's go deeper and see if we can't get greater leverage to exploit these phenomena.

First, a few terms to aid our analysis:  We'll start with a model of two actors, a relationship and a method:

1. ACTOR 1 -- THE FIRM -- BPO assumes by definition the existence of an organization ("the Firm") in the first place.

2. ACTOR 2 -- THE BPO OUTSOURCER -- Another organization, but specializing in the performance of work associated with the work to be outsourced.

3. THE BPO RELATIONSHIP -- Business process outsourcing defines the business, technical and legal processes related to having certain organizational functions performed by third parties.

4. THE BPO METHOD -- Otherwise known as business process integration and including the business, technical and legal processes which support the on-going relationship and connections necessary to sustaining the BPO relationship.

What are the rules that govern our little universe of two actors, a relationship and a method?  Let's start at the "beginning", (and we can get a little Biblical here). 

In the beginning (i.e. hundreds of years ago, or more), the world of work was without form and void, that is to say, most work was done by independent contractors or very small organizations.  Then through the 19th century and until today, we saw the rise of giant corporations. 

In 1937, the Nobel-winning economist Ronald Coase asked the question as to why these giant firms had emerged.

While it might seem obvious to the casual observer that large organizations were inevitable, Coase wanted to understand the laws or tendencies that governed organizational size. 

Coase's insight was related to transaction costs.  Specifically, any organization of work involves many different kinds of transactional or organizing costs, including technical, social, legal, logistical costs etc.  These transactional costs are over and above the costs to acquire the "factors of production", such as raw materials, labour and capital.  And any organization is constantly balancing these costs for optimal size.  For some kinds of economic activity, the economies of scale driven by these transaction costs mandated the growth of large firms.

Henry Ford's famous Rouge River manufacturing plant was one of the more extreme examples of enormous size and massive integration, including for instance Ford's own rubber making plant for tires.  Over time, Ford divested itself of many non-core automotive work functions, to the point that today the car industry is characterized by a complex ecosystem of specialist firms.

The basis of Coase's argument was "transaction costs".  And it is this powerful analytic tool that allows us today to consider the effect that new technologies will have on firm organization and firm size. 

Specifically, new information technologies have changed the transaction cost landscape for business processes.  It is now more than ever possible to disaggregate the work of the firm, and still maintain corporate identity and control

And for the B2B integration business, the good news is that integration technologies have a leading role to play in this evolution.

Interestingly, a search of the Web reveals that Coase's insights have not gone unnoticed by the champions of BPO.

Ramping up for BPO on the basis of better B2B integration sounds wonderful.  And insofar as B2B integration makes inter-organizational transaction costs lower, the swing to BPO proceeds.

The full realization of the BPO promise however requires that two "semi-technical" problems be more completely addressed.  Corporate BPO, or disaggregation facilitated by low-cost B2B integration, is hampered by:

1) TECHNICAL INTEGRATION COMPLEXITY -- The complexity of current B2B integration infrastructure is still daunting, although the pace of software technology development suggests that B2B integration will become progressively less expensive to implement and maintain.

2) BUSINESS SEMANTICS CHAOS -- Incompatible terminologies between organizations, compounded with data quality issues, generate significant cost hurdles that make it more difficult to build BPO business cases.  These problems are being addressed by programs for master data management (MDM), data quality improvement, common business domain ontologies and the "Semantic Web".

For both reasons, B2B integration costs are still high and B2B technologies have a long way to go to realize their full promise.  The realization of the promise of B2B integration is not only dependent on technology, but also on the "power politics" of technical ecosystems.  These questions will be addressed in this blog over the coming year.

But for now, even today's increasingly powerful B2B integration technology has made business process outsourcing both viable and attractive.  And as the technology continues to improve, the attraction will only increase.  That's business for the future!

Resource:  Here is a speech by Coase in 2002. It is very readable and towards the end summarizes some of the issues with which we are concerned:  Why Economics Will Change.