Public sector outsourcing is "in," as state and local IT leaders contend with shrinking budgets, limited human resources, and increasing demand for IT services. "There appears to be a perfect storm for IT outsourcing at the state and local level today," says Jason Khan, chief technology strategist for Washington, D.C.-based Touchstone Consulting Group.

Jim Harvey, partner and co-chair of the global technology, outsourcing and privacy group at law firm Hunton & Williams, agrees. "State and local governments are feeling the same, if not more, economic pressure as everyone else," he says. "Outsourcing is one switch they can throw to accomplish some combination of cost savings, improved performance and reduced fixed cost structures."

Public sector IT outsourcing is nothing new. Government agencies, particularly at the federal level, have outsourced a significant portion of technology services over the years.

IT service providers such as Northrop Grumman, SAIC, Computer Services Corporation, Unisys and IBM count on government IT contracts for a significant portion of their annual revenue, points out Sandeep Karoor, managing director for outsourcing consultancy Neo Advisory.

The major difference today is that local government IT organizations are outsourcing to cut costs. "The primary driver in government outsourcing has been resource flexibility and scalability," says Karoor. "Traditionally, cost containment was not high on the agenda."

Today, it's at the top of the list, and that's pushing an increasing number of state and local IT leaders to turn to third parties for help.

"It was probably something that some governments wanted to put off as long as possible," says Harvey. "There are always concerns when any organization changes the model it uses to deliver services, particularly in the government sector. But I think governments are basically saying if we can do this for less some other way, we have to consider it."

Government Outsourcing: The Challenges

The road to outsourcing in the public sector, however paved with good intentions, has been bumpy at best. "Let's face it, outsourcing is not a popular internal option," says Touchstone Consulting Group's Khan. "It shifts jobs and budgets from agency managers to the outsourcing company."

In addition, some early attempts at wholesale IT outsourcing at the state level have come under scrutiny recently. A state audit of Virginia's 10-year, $2.3 billion IT services contract with Northrop Grumman noted that inadequate planning and poor understanding of state agency needs delayed projects and disrupted key services.

In Texas, Chief Technology Officer Brian Rawson resigned after an audit accused the state IT organization of mismanaging the $863 million data center consolidation initiative outsourced to IBM.

But, Khan says, "a few non-popular outsourcing projects cannot stop the inevitable." Indeed, government IT organizations from Washington state to Houston are currently considering sending IT out the door.

State and local IT organizations simply need to learn how to manage third-party providers better, says Khan, who holds the state of Pennsylvania up as an example of what can be accomplished with an outsourcing provider.

But effective government-outsourcer partnerships take time to develop. And time is, most assuredly, money for state and local governments today.

The pressure to cut costs—or increase efficiency—overnight may set these fledgling public sector deals up to disappoint.

"State and local agencies are in crisis mode, having to save money any way they can. Also, a lot of them are faced with looming deadlines," says Khan. "Unrealistic deadlines are unrealistic deadlines, and outsourcing companies can get into trouble when they sign up to deadlines like these."

The Offshoring Option

One option that could enable state and local governments to save money on IT services—offshoring—appears to be off the table for now.

In 2004 and 2005, lawmakers in virtually every state introduced legislation to restrict state contractors from performing work outside of the United States. Hundreds of bills of varying restrictiveness—from outright bans on offshore contracts to location disclosure rules—were introduced, although only a handful became law in states including Colorado, Illinois, New Jersey, North Carolina and North Dakota.

Around that time the state of Indiana backed out of a $15.2 million contract with Tata America International, the domestic arm of India's Tata Consulting Services.

Several government agencies that have attempted to offshore customer-facing services have caved to citizen complaints about the practice. Florida and Nebraska had outsourced food stamp inquiries to JP Morgan Chase, which routed them to Indian call centers for a time.

Georgia Governor Sonny Perdue famously said he would welcomeoffshore bids on the state's IT outsourcing work, but the state eventually sealed a deal with IBM.

Yet increasing opportunities for states and cities to offshore non-core, non-customer facing IT services, such as remote infrastructure management, exist.

"Once you get outside of call centers, which is a traditional hot button area, there are many, many services that can be provided from offshore for less money," Hunton & William's Harvey says. But most public sector IT leaders are steering clear of the subject.

"None of the government agencies that we have worked with have wanted to attempt offshoring or nearshoring due to socio-political challenges," says Roshan Nambiyattil, director for Neo Advisory. Public sector leaders are unlikely to reconsider offshoring until the economy rebounds and "there are plenty of opportunities for all," Nambiyattil says.

Even then, adds Khan, large scale offshoring in the public sector is unlikely: "It's a losing battle and better left to commercial IT services."

Harvey disagrees. "There are just so many cost and performance advantages offered by offshore solutions that the public sector will inevitably consider that structure," the attorney says. "It's a tense and charged issue, but if a government can do more with less and deliver cost-efficient services to its constituents, it will be on the table."

For a glimpse of the future, he says, just peer across the pond where the U.K. National Health Service has created a joint venture to provide payroll, finance and accounting services from India, reportedly reducing operating costs by as much as 30 percent.

"State and local IT leaders simply have to be sure that what they're doing results in at least material cost savings and hopefully improved performance to their constituents," says Harvey.