The ‘too big to fail’ myth

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18 December 2014 | 0

I was fascinated by a story on this web site headlined Service providers unchallenged in business cost reduction, particularly by the following sentence: The study from UK sourcing advisory firm Alsbridge said that managers are reluctant to question service providers because the multi-vendor ecosystems they have built are “too delicate to tamper with and too big to fail”.

That dread phrase “too big to fail”is something we know only too well about here in Ireland. Come to think of it, many other countries are very familiar with it too, as it was the well-worn explanation given for why they, their citizens, their citizens’ children and their grandchildren had to shoulder the huge debts racked up by the banks which led to the crash of 2008. If the banks had been allowed to fail, so the argument goes, they would have dragged the whole edifice of global capitalism crashing down after them in their wake.

So it is no wonder that when someone uses the words “too big to fail”, in whatever context, alarm bells start to ring. The parallels with the banking system do not end there. Alsbridge director Homan Haghighi argued that one of the reasons the ecosystems were becoming too big to fail was because of their complexity.

Most people are only too aware that governance, or the lack of it, was one of the major factors contributing to the crash of 2008

“The growth in multiple contracts and multiple vendors, who are often direct competitors, on the same sites and within the same large and valued clients, has created multi-vendor ecosystems which are very fragile and yet are simply too big and too critical to fail,”he explained.

In addition to making the entire system more opaque, the complexity was also making it more fragile. That is a statement which could just as easily have applied to the banks and the financial system in the run up to the most recent economic crash.

It is also intriguing that the manner in which organisations have responded to the situation is similar to the path adopted by the banks. Instead of cleaning up their act and reducing the bonus culture, many banks have sought to protect their bonus regime by making cuts in staffing levels instead. Unsurprisingly, those cuts have occurred in branches where the banks interact with customers rather than in those parts of the bank where people who have never seen a bank counter pocket huge amounts of cash merely for turning up to work.

The Alsbridge survey found that instead of looking for ways to make their arrangements with service providers more cost-effective, businesses tended to focus“excessively”on in-house labour costs. Haghighi accused organisations of “looking in the wrong place for cost reductions”, arguing that supplier cost management had “the potential to deliver better results for the enterprise in terms of reducing absolute spend, enhancing productivity and improving EBITDA (earnings before interest, tax, depreciation and amortisation)”.

The survey found that spend on sourcing as a percentage of total revenue was growing at a rate of six percent annually, while the same spend on labour was falling at an annual rate of 8%. “The data further finds that a one percent improvement in supplier cost management has a six-time greater impact on profitability than does a similar one percent reduction in labour costs,”Alsbridge said in its report.

All of which suggests customers are frequently acting against their best interests by hacking away at their own organisations because they dare not risk challenging their existing agreements with service providers. Does that not sound ever so slightly like austerity to you?

Even more chilling is the statement from Haghighi that fears over ecosystems being too big to fail “means that governance and cost management issues are avoided or not addressed with enough confidence by purchasers”. Most people are only too aware that governance, or the lack of it, was one of the major factors contributing to the crash of 2008.

While it is unlikely the IT vendor ecosystem will suffer the same catastrophic collapse as the global banking system did, it is worth pondering that the risk to many organisations if it did are as potentially devastating as those faced by many countries in 2008.

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