Outsourcing paper on Malaysia Airlines

(As an example only, this term paper needs more improvement in terms of being more critical)

Executive summary

Outsourcing is a critical activity that is adopted by many organizations primarily in order to bring their cost of operations down. There are many reasons for why it is such a popular move. Brown and Rutner gave six points of why outsourcing would be the choice for an organization.

Vendor selection involves the practice of due diligence which involves:

1) Contract and legal review

2) Reference visits

3) Verification of expertise and authority

4) Verification of track record

The fact that deciding which vendor to choose from has been described as the most important of the outsourcing activities, it is very important that this process is done properly and thoroughly.

The analysis of Malaysia Airlines (MAS) experience with outsourcing is a very interesting case. MAS during the first five years after 2000, was suffering huge losses. The government of Malaysia decided that there should be a change in leadership and Idris Jala was appointed as the Chief Executive Officer (CEO) of the company. He quickly brought change into the company and it was under him that the plan to change where the company was headed at the time, called the Business Turnaround Plan (BTP), was unveiled and Jala was tasked to oversee its execution.

Among the initiatives taken was to outsource the IT systems in the organization. SITA was chosen to handle and manage the change needed for the company to turn around. Many benefits were obtained by the agreement and MAS managed to cut significant losses in 2006, and started making profits in 2007.

The deal was very significant in that even after eight years of the ten-year deal, there hasn’t been any major problems among the two organizations. There were no media reports of any conflicts or breaches of agreements. More importantly, the vendor company was able to meet their required deadlines and also bring profits MAS.

SITA was tasked with overseeing and managing the change in the IT systems needed in MAS, not only in meeting the International Air Transport Associations requirements, but also to make MAS more competitive and provide better customer service. 

Five tasks were given at the initial stage of the agreement which was the following:

1) Reservations- A new, more efficient and functionally rich system, to meet today’s industry standards and requirements.

2) E-commerce - Allowing MAS to reduce distribution costs by providing a convenient easy-to-use internet booking engine.

3) E-Ticketing and DCS - Moving from the traditional paper to e-ticketing by May 2008, in line with IATA’s requirements, along with an upgraded Departure Control System so that MAS could offer new self-service options to passengers, including kiosk and web check-in, to also meet IATA’s requirements under the Simplifying the business (StB).

4) Revenue integrity – to authenticate every booking, ensuring it produces an actual passenger upon departure, avoiding the revenue leakage which occurred in the past.

5) Fares management – to enable Malaysia Airlines distribute fares more efficiently around the world and to improve pricing decisions.

SITA has managed to tackle all the five responsibilities within the required deadline. In fact, SITA managed to implement MAS ability to issue e-tickets for all their flights within 11 months,  which was an excellent achievement, given the fact the normal and standard procedure would normally take around three years.

Throughout the years, even after the BTP2 has passed, SITA has worked closely with MAS to deliver service to improve their IT capabilities. In 2013, SITA announced that they are implementing the usage of the FMS Wind Link in MAS and this would cut cost by reducing the usage of fuel. In November of the same year, it was announced that MAS will have an upgraded ability for their baggage tracer services.

In 2010, it was observed that MAS continued to outsource their IT activities by choosing Tata Consulting Services (TCS) to manage their data centers, IT security and IT networks. This shows that MAS is serious in outsourcing their IT activities and it arrived to the point that most of the IT activities within the company has been outsourced to external vendors.

Although MAS suffered serious setbacks beginning in 2011, this has not brought about any changes in their outsourcing deal with SITA, and the agreement is very likely to continue, even after the contract ends in 2016.

Introduction

Why do most organizations, including most airline organizations, choose to outsource their IT capabilities? McCarthy has given several reasons why organizations in general choose to outsource IT systems, and gives it as follows:

1) Outsourcing allows companies to refocus their resources on their core business

2) Expensive technologies could be accessed or utilized from vendors at a lower cost than purchasing it.

3) It allows companies to become more efficient, and saves time and cost in their operations.

4) It Reduces costs, especially in the longer term.

Most airlines tend to outsource their IT activities, the difference would be, to how much extent of the activities. Around 85% of airlines around the world have already outsourced either some or all of their IT activities (Buhalis, D., 2003). SITA is a famous company providing IT solutions and is the preferred choice for many airlines around the world. In fact, nearly all airlines have business dealings with SITA, whether outsourcing, purchasing, training or other activities.

Brown and Rutner (1999) gave six factors why airlines choose to outsource their activities, and they are:

1) the level of unionization of the carrier

2)  State of the economy

3) Ownership composition of the company

4) Availability and types of financing for the carrier

5) Age of the company

6) Complexity of the service considered for outsourcing.

They also state that the age of the company would also have an effect on their policy towards outsourcing, where older companies tend to keep many of their operations in house and only outsourcing the most basic services. Newer airlines tend to outsource most of their operations including more complex ones. Generally speaking, this is true, older companies do have more capital and experience to manage their operations in-house while newer companies may not yet have these.

Making the decision to choose which companies to make an agreement with have been termed as the most important step in the whole outsourcing process (Lonsdale and Cox, 1998), and with this, comes the step of due diligence in choosing the right company.

Vendor selection usually has four main elements, described as due diligence:

1) Contract and legal review

2) Reference visits

3) Verification of expertise and authority

4) Verification of track record

There are several risks indeed, to be considered in outsourcing, related with IT activities. Earl [11] mentions possibilities of weak management, inexperienced staff of outsourcer, outdated technology skills, lack of organizational learning, loss of innovation capabilities and technological invisibility as key risk factors which a firm needs to analyze before making a decision on ITO.

Indeed in this case study of MAS, the company itself and the vendor chosen are both well established companies and are very competent in their respective fields. The process of due diligence was thoroughly followed. Another risk involves the long time span of the agreement for IT outsourcing, usually ten years, which could open the risk for major failures if the deal does not go as planned. For the case study, SITA was given a ten year deal to manage MAS’ IT systems however we could see how that SITA has managed it well.

Background of the deal

Malaysia Airlines had been experiencing major losses due to their high operational costs in the first five years after 2000, and was in need of a reform plan to save the company from further losing money. The organization came up with the Business Transformation Plan (BTP), which came in two phases. The first phase, or BTP1, was to be implemented from 2006 to 2008 and targeted to reduce their losses from RM 1.7 billion to RM620 million in 2006 and achieve profits in 2007 and 2008 respectively. BTP2 commenced in 2008, building on the success of the first one.

During BTP1, as part of MAS’ plan to revamp their operations and cut their losses, they decided to outsource their IT activities, mainly the Passenger Services System (PSS). Their decision do this was to ensure the adoption of industry best practices in sales and airport operational processes, a reduction of developmental costs and time-to-market for new capabilities, and an increase in passenger self-service offerings.

Prior to that, the company was handling the PSS themselves, using in-house expertise, but it was in the best interest to start outsourcing this project.

MAS started focusing on outsourcing their IT services in 2003, when they embarked on their Strategic IT Outsourcing (SITO). Since then, the company has gained experience in dealing with IT outsourcing and gained a better understanding of its benefits. Initially, the main aim of the company for outsourcing wasn’t cost savings, but to transform itself into a more service-oriented organization with enhanced end-to-end activities.

From their experience in 2003, they decided to outsource more IT activities like the PSS.

In 2006, at the start of the implementation of BTP1, they announced a tender for companies to manage and develop their PSS, and in May, after evaluating the options of various vendors, and conducting due diligence, MAS decided to choose SITA as their vendor.

MAS criteria for vendor selection varies according to the size of the projects. For this agreement, they considered the financial stability of the vendor and the proven track record of services with other established airlines. SITA as mentioned has a large customer base among airline carriers. MAS also looked at whether the vendor has a good product and technology road maps. The other factor is the existence of the vendor’s presence and their support in the countries deemed important to MAS’s market.

The final factor was the cost competitiveness of the vendor company. This last criterion may not in actual fact be on the bottom in order of importance, but it is nevertheless not as important as the other criteria at the time, especially if this is to save cost in the longer term.

SITA had been given five main tasks to handle and bring change to MAS. As stated on their website, they are:

1) Reservations- A new, more efficient and functionally rich system, to meet today’s industry standards and requirements.

2) E-commerce - Allowing MAS to reduce distribution costs by providing a convenient easy-to-use internet booking engine.

3) E-Ticketing and DCS - Moving from the traditional paper to e-ticketing by May 2008, in line with IATA’s requirements, along with an upgraded Departure Control System so that MAS could offer new self-service options to passengers, including kiosk and web check-in, to also meet IATA’s requirements under the Simplifying the business (StB).

4) Revenue integrity – to authenticate every booking, ensuring it produces an actual passenger upon departure, avoiding the revenue leakage which occurred in the past.

5) Fares management – to enable Malaysia Airlines distribute fares more efficiently around the world and to improve pricing decisions.

In meeting the above five criteria, SITA has undertaken enormous amount of work. Firstly, they brought out their transformation program called SITA horizon. They implemented the paper ticketing and the systems to manage them which saved MAS millions of dollars. SITA also re-engineered MAS’s fares strategy, or revenue management, by providing competitive monitoring of the ticket prices at the time, offered by other competitors.

SITA also introduced the passenger self-service initiatives, including online booking, kiosk and web check-in, which was highly in need at the advent of the internet. By 2007, MAS managed to use Common Use Self-Service (CUSS) under the handling of SITA, as well as bar coded boarding passes, both also components of IATA’s StB program.

MAS would not have been able to meet the IATA deadline to change to 100% e-ticketing by themselves, and also not without incurring huge cost and diverting their focus from their core business of managing flights. The decision to choose SITA proved to be very beneficial as SITA was able to make this change in just 11 months after the May 2006 deal. It was estimated that MAS would have taken a process of around three years for the same project without SITA.

Another key component of the deal regarding the PSS project, was SITA’s E-commerce Platform. The platform allows passengers to have a choice of a series of solutions to make their travel easier, faster and more efficient, through the use of e-booking, e-ticketing and e-check in. MAS’ numbers of passenger bookings have doubled since then.

In 2013, it was reported that SITA managed to help MAS in reducing fuel cost by the former’s FMS wind link upwind service, which constantly updates key flight calculations, so that the airline can adjust flight plans according to changing wind and weather conditions and enabling the aircraft to achieve cost-effectiveness in terms of fuel usage.

Further statement from an official of SITA illustrates the usage of this technology: “Wind Uplink enables airlines to take advantage of beneficial changes in weather so crews can bring flights in one time and on budget, reducing fuel costs whenever possible. Due to high fuel prices, we anticipate increased demand for Wind Uplink in the future and are already in discussions with many other potential customers. In addition, because Wind Uplink is packaged as a single service, it can be up and running in just a few hours for SITA Flight Briefing Service and AIRCOM Datalink customers- without any capital expenses.”

There is also another report about SITA helping MAS handle the issue of baggage handling. SITA working together with MAS, managed to halve the average processing time for mishandled bag claims with a new gadget tablet called WorldTracer.

We have seen that MAS’s decision to outsource their IT activities with SITA have achieved the benefits of reducing costs, increasing revenues and increasing customer satisfaction.

Evaluating the deal

As mentioned, overall the outsourcing activity was a very wise move and was critical to helping MAS reduce the cost of operations and start on their road ahead to making profits. The nature of the outsourcing deal with SITA has been described as more of strategic partnership.

The agreement means they would have a close relationship and not just simply a customer and supplier approach; instead, they are very closely integrated. Top tier airlines have a more mature partnership models that illustrates this. Continental Airlines has a structured program of meetings with its partners of different levels to relay their understanding in the business and what they are trying to achieve. Managing Director of IT for Continental, Bill Miller stated “people who treat service providers as vendors deprive themselves of the feedback that would be beneficial to them”.

Other airlines also have such approach of looking at the outsource company as more of a partner, like Etihad and Virgin Blue.

Ryanair however, sees an outsourcing company purely as an outsourcing deal, because of their business model of being a low-cost carrier. Andreas Diederich, managing director of Airline Industry Consultants said “They (Ryanair) do not see any strategic partnership or strategic development. They simply look at it ffrom the cost perspective. We have contracted now for Ryanair for more than five years, but it’s a pure cost negotiation and targets are given.”

MAS view of outsourcing, as is common with other top-tier airlines, have received praise from experts such as Sanjiv Puri, managing director of Infotech, who said “progressively, people have realized cost saving is just an event and you have to continuously improve operations. Mature outsources look at partnerships, collaboration and more proactive involvement in managing the relationship so that value is actually delivered.

Thus, even though the deal between MAS and SITA is one of outsourcing, their close collaboration makes it seems like it is one of a partnership agreement.

In 2010, MAS outsourced some more of its IT activities to Tata Consulting Services (TCS), part of the Tata group, driven by cost-savings and their need to align the services to the Business Profit and Loss (P&L), which was also part of the BTP2 aims. Their initiative is to align their outsourcing strategy to deliver the required business at a lower cost and TCS seems to be the best partner for this.

TCS was given the responsibility of the managing MAS’ data centres, IT networks and IT security, while they are also responsible to set up an ITIL (Information technology infrastructure library) compliant service management.

It can be seen that the deal was given to the correct organization, which is SITA. MAS must have awarded the contract to SITA through a professional manner, taking into considerations what exactly to outsource, to which company and for how long. It is an example of an excellent arrangement between the two parties.

Although MAS did well from 2008 until 2010, where in 2010 they made a profit of RM234 million, they began to make huge losses from 2011 onwards and the two incidents involving flights MH370 and MH17 certainly did not help to make things better. Beginning 2011, they made a loss of RM2.5 billion and the reasons cited at the time for was rising fuel costs, provisions for the redelivery of aircraft, impairment of freighters and stock obsolesecence.

In 2014, with losses still being made, the company decided to change the CEO and elected Christopher R. Mueller to be the new CEO replacing Ahmad Jauhari. There are also reports that the company may elect a new Chief Information Officer. This may signal that greater control on their IT outsourcing deal, however it was still unclear if it has anything to do with their deal with SITA or TCS.

It was reported by a local business newspaper that the outsourcing deal of MAS for most of their IT services was what led to the current CIO to lose control on handling various kinds of demands, like guiding the management on what is the most cost-effective and optimum solution for selling tickets. This however, is not because of the deal with SITA itself, but more to do with MAS decision to remove the responsibilities of the CIO for handling these matters. The CIO could have been given the responsibility to oversee this under the arrangement of the board of directors of the company.

The company could do little to outsource any other IT services within it, but in their attempt to reduce cost, MAS might want to consider reviewing the nature of their agreements with vendors after their term ends, and if there are other alternatives, for instance, other companies that could provide similar or better service with a lower cost, than it is recommended that MAS pursue the deal. It is not recommended at this time, that MAS backsource their IT services, after seeing the many positive aspects brought by it.

Conclusions

Evaluation of a company is indeed critical to the outsourcing activity. MAS has handled the process well by choosing a very able and competent vendor which has brought major positive changes to the company. As of date, it has been eight years since the deal was struck and it seems that, there are no major problems faced because of it.

The changes brought by SITA have been enormous and very encouraging. We have seen that MAS’ approach to outsourcing with SITA of viewing them as a close partner is not unique; indeed, it is the practice with many top-tier airlines all over the world. This relationship has brought the two companies closer together to collaborate and tackle various issues with high knowledge sharing between the two organizations.

The loss that MAS is facing at the moment is not related with their IT outsourcing service, and it is not clear whether the organization could outsource anything else with regard to their IT services that would bring significant changes in saving cost.

References:

1) An Interview with CIO of MAS Available from http://www.the-outsourcing.com/subpage.php?pn=region&regid=2&aid=88 [Accessed 9^th December 2014]

Brown, J and Rutner, S (1999), Outsourcing as an airline strategy, Journal of Air Transportation Worldwide, Vol 4. No. 2 pp. 25. Available from http://ntl.bts.gov/lib/000/700/744/jatww4_2rutner.PDF [Accessed 9th December 2014]

2) Buhalis D. (2003) eAirlines:Strategic and tactical use of ICTs in the airline industry, pp 22. Available from http://epubs.surrey.ac.uk/1120/1/fulltext.pdf [Accessed 7th December 2014]

3) Earl, M (1996). The risks of outsourcing IT. Sloan Management Review

En route to being the world’s five star value carrier. Available from http://www.sita.aero/content/malaysia-airlines  [Accessed 9^th December 2014]

4) Five Star Value Carrier: Business Transformation Plan 2. 4^th August 2014 Available from: http://idrisjala.my/wp-content/uploads/2014/08/Business-Transformation-Plan-BTP-2.pdf[Accessed 8^th December 2014]

5) Jenner, G (2009) Airline deepen ties with outsourcing partners. Airline Business [Online] 24^th April 2009. Available from: http://www.flightglobal.com/news/articles/airlines-deepen-ties-with-outsourcing-partners-325543/ [Accessed 7^th December 2014]

6) Kumar, A. (2010) Malaysia Airlines signs deal with Tata Consultancy Service. March 26^th 2010. Available from:http://www.cio-asia.com/mgmt/outsourcing/malaysia-airlines-signs-five-year-deal-with-tata-consultancy-services/ [Accessed 10^th December 2014]

7) Lian L.W. (2012) MAS losses soar to RM2.5 billion. 29^th February 2012. Available from: http://www.themalaysianinsider.com/malaysia/article/mas-losses-soar-to-rm2.5b [Accessed 8th December 2014]

8) Londsdale C and Cox, A (1998) Outsourcing: A Business Guide to Risk Mangement Tools and Techniques. Boston: Earlsgate Press.

9) Malaysia Airlines and SITA cut time to file bag claims in half. 20^th November 2013. Available from http://www.aviationpros.com/press_release/11239666/sita-and-malaysia-airlines-cut-time-to-file-bag-claims-in-half [Accessed 9th December 2014]

10) Malaysia Airlines adopt SITA reservations system as turnaround enters new phase. 1^st December 2008. Available from: http://www.sita.aero/content/malaysia-airlines-adopts-sita-reservations-system-turnaround-enters-new-phase [Accessed: 8th December 2014]

11) Malaysia Airlines to reduce fuel cost with SITA’s wind and weather service. 22^nd August 2013. Available from http://www.asianaviation.com/articles/418/MALAYSIA-AIRLINES-TO-REDUCE-FUEL-COSTS-WITH-SITA-s-WIND-AND-WEATHER-SERVICE [Accessed 8th December 2014]

12) McCarthy, E (1996) To Outsource or Not to Outsource - What's Right for You? Pension Management, 32, 4, pp. 12-17.

13) Sidhu, B. K. (2014) Foreigners as CEO of Malaysia Airlines. The Star [Online] 7^th October 2014. Available from http://www.thestar.com.my/Business/Business-News/2014/10/07/Foreigners-for-Malaysia-Airlines/?style=biz [Accessed 8^th December 2014]