Too Big to be Safe

Putting all your eggs in one basket is never a good idea, as it constitutes a ‘single point of failure’ or so Engineers will tell you. Hence, it is surprising why organisations, when it comes to choosing their outsourcing partner, usually go with one of the big Business Process Outsourcing (BPO) service providers in the market place. Not surprisingly, the answer is usually down to ‘it’s a safe choice’, but is it ‘safe’ going with only ‘big’? Are these Goliath-sized BPOs too big and too interconnected to their globally recognised clients, to be allowed to fail?

Mountains are big, but that does not make them safe.

Looking at the 2008 financial crisis, one of the complicating factors of the disaster was the inter-dependency between financial institutions, so that when one ‘big’ institution went down, it took other dependent institutions down too, who in turn took their dependents down, and so we had a cascading/domino effect that threatened to bring down the entire global financial system. Logically governments sought to counter this effect by successive company bail-outs, using tax-payers money, and coining the phrases: ‘too big to fail’ and ‘too interconnected to fail’. The casualty list of the 2008 financial tsunami contained names such as Bear Stearns, Fannie Mae and Freddie Mac, Merrill Lynch, Lehman Brothers, AIG and so on; all household names, with balance sheets in the trillions of US dollars and all considered as ‘a safe choice’, but all in 2008 needing rescuing, except in the case of Lehman Brothers, which was allowed to go bankrupt.

Nobody predicted the impending crisis, not even the rating agencies and regulators who monitor situations (Bear Stearns had $13.4 trillion notional value in 2007). Hence, with no provisions put in place, pre-crisis, for say envisaging a Lehman Brothers collapse, the aftershocks of its demise had to be suffered by those dependent on Lehman Brothers.

Applying this inter-dependent view to the BPO industry we can see, by just choosing the financial sector clients, a number of these financial institutions electing to deal exclusively with one or two of the four ‘big’ billion dollar Indian BPO companies,

using the same philosophy that ‘big is safe’. Let us suppose that one of these big Indian BOP companies, who provides critical IT and back-office business processing services, does so to ten household financial institutions, and was to suddenly go down (like Lehman Brothers).

The cascading domino effect on the ten client financial institutions, no longer able to function due to a lack of critical IT and back-office support and data, would be much greater than if the client institutions had a diverse BPO service provider/partner spread. Ironically, the trend for some large financial institutions is to ‘sell-off’ their entire back-office and/or IT support departments to a handful of the ‘big’ BPO companies, to gain attractive balance sheet positions, with little regard for exposing themselves to the inter-dependency effects of a BPO company failure.

In an unforeseen crisis, like the 2008 financial one, where would a rescue plan to bail out the ‘big’ BPO companies come from? Just like the Icelandic banks, are the governments of the countries in which the ‘big’ BPO’ companies incorporated, rich enough to underwrite them?

Recent history tells us ‘big is not always best’, but a combination of ‘big enough to cope and small enough to be safe’, together with ‘eliminating the single point of failure’, may be the risk averse strategy of the future.