How to Structure a VMO

After Jim Lester was appointed CIO of Georgia-based insurance giant Aflac in 2001, he set out to change the way the company buys hardware, software and IT services by creating a VMO. He had been on the other side of the fence in his previous job as a software vendor and wanted to create a system in which Aflac would be able to get the best technology deals. That would mean treating vendors with respect, but also making them compete amongst themselves to provide discounts when possible.

Lester's first task was to find a VMO manager with an understanding of technology and experience in finance and legal issues. He knew that someone with this combination of skills would be best equipped to handle accounting and contract issues. After searching for several months, he hired Stephen Guth, a former programming analyst who had also earned a law degree and worked as senior manager of sales operations support for Dell.

Over three years, Lester and Guth have put together a process in which IT managers create project briefs and submit some of them to the VMO, which in turn finds the best deals - in terms of price, quality, and vendor commitment and expertise - from vendors and negotiates IT contracts for Aflac. The project brief is generally a two-page description of an IT project, drawn up by the project sponsor, that includes a full explanation of the technology and business needs.

Guth and his group, working with the project sponsor, then start looking for an appropriate vendor, basing the search on their own research, experience and vendor metrics. Once negotiations start with a vendor, after a complete RFP process, Guth uses his own standardized contracts rather than relying on those drawn up by the vendor. "When you set up a standardized practice [for vendor selection] with people who do it over and over again, you are going to get the best deals for your company," says Lester.

This centralized approach has formalized Aflac's relationships with vendors that in the past were handled on an ad hoc basis. Before the VMO, vendors met with a wide variety of IT managers and even technology users. Aflac's technology projects are now completely aligned with business initiatives, says Lester, because they are initiated by the business, not by technology vendors.

Aflac treats its VMO as a concrete office with a dedicated team. But a VMO can also be a virtual office, experts say, made up of individuals in disparate geographical locations. Most important, though, the VMO should remain within the IT department if CIOs want to maintain control over technology procurement. "The CIO has traditionally been focused on IT," Gartner's Dreyfuss says. "But we are telling them they need to establish a [business-level] relationship with the CFO and business leaders. This will be easier to do with a VMO in place." Dreyfuss says that in rare cases companies have expanded the VMO to include all types of procurement. But he says this type of arrangement can lead to turf wars.

The VMO is still in its infancy, however, and there are no firm statistics that show how many companies have one. VMOs are especially appealing to large companies with diverse IT needs, simply because they are handling so many vendor relationships. But the centralized office isn't for every company. In industries where competitiveness is not based on IT - such as petrochemical and steel or paper mill companies - a VMO may not be necessary because vendor relationships are relatively static. In large multinationals with offices around the globe, a single, centralized VMO may be difficult to implement. And small companies, which simply don't have very many vendor relationships, may not need it.

One Advantage of a VMO: Save Money

CIOs report that VMOs have saved them money in hardware, software and IT services, mainly because they are constantly comparing prices and vendors. "An application development manager may go into the market two or three times a year," says BCBS's Ascenzo. "But those in a VMO are constantly in the marketplace and therefore are very aware of market changes. The VMO is invaluable when it comes to reacting to market changes," he says.

At the American Red Cross, CTO Dave Clarke says he has cut ongoing operating costs by more than 20 percent from three years ago by rebidding, restructuring or not renewing contracts with software and hardware vendors that his VMO has found to be performing poorly. Clarke says the VMO has helped him save money by tracking spending, which helps the management teams find better deals. "The VMO is a major element of our approach to financial rigour," Clarke says.

The collaboration between Guardian Life Insurance's VMO and its telecommunications department has helped the company cut telecomms costs by 35 percent by negotiating a new contract, says Rick Omartian, CFO for IT. By bringing in all of the major telecomms players in an RFP process, the company found that it could save money by switching from MCI WorldCom, which had been chosen several years before by the head of the company's telecommunications department, to Sprint and Quest. Before Guardian had a VMO, contracts were often negotiated without RFPs, which meant they didn't always get the lowest price.

Aflac has also saved money through careful negotiations by its VMO. Guth says that when negotiating with a supplier on a hardware purchase, he can leverage volume discounts by adding some IT services into the deal. "Instead of using two companies, I'll use one and get a big discount," he says. In fact, he was able to negotiate such a deal with IBM, which provides both desktops and services to Aflac.

Guth emphasizes that first and foremost, his goal with the VMO is to "maximize Aflac's tech investments so that the company pays a fair and reasonable price in return for superior delivery". He reminds CIOs that getting the lowest price is sometimes less important than assuring a vendor performs well and brings in senior staff to do the job. "Some customers are not savvy and try to get a supplier down on price at any cost," he says.