As a former management consultant I was often faced with the question: Build or buy? I would always first frame the discussion with whether the activity, in this case building software is “core” to the company or “context”. This framework illuminates whether value is being created or destroyed by the decision to insource or outsource.
Core activities are those that generate shareholder value, where the firm can differentiate on any variable that impacts the customer purchase decision. Context tasks are everything else. The goal of context activities is to execute them as efficiently in as standardized manner as possible. A firm should always insource core activities and outsource context activities.
The interaction between core and context determines how much value gets through to the marketplace. Without careful management, context interferes with core. Bearing the total cost of context activities destroys value. Creating value from enterprise activities is about disengaging the company from context – recapturing scarce resources to refocus on core activities. When making these decisions companies should consider:
For insurance companies, their core competency is underwriting risk – building software is therefore not a core activity but rather a context one. The only time it would make sense for a company to stray from core is where there is a process or workflow that is so unique to the company that it requires internal development because there is not a commercial solution available.
When there is a commercial solution available any company would be better off buying. In the case of software companies they bear only marginal costs (i.e. product built for many) whereas if an insurance company builds the software, they bear the total cost. Some of the major issues insurance companies would face building their own software include:
The pace of technology innovation is accelerating at an exponential rate, making it difficult for the average internal IT group to cope with this pace of change. The struggle commonly lies in the fact that they not only have to create the software internally, but they must also maintain and upgrade it indefinitely. The advantages of buying are clear: