Article: Arthur D. Little Energy Executive Newsletter

As energy companies push to increase efficiencies and reduce costs, a

"shared services" approach to managing support services is paying off for

many companies—cutting costs by as much as 40 percent. Some compa-

nies actually find they can provide improved services at these reduced

costs. However, shared services need to be closely managed by incorporat-

ing best practices to avoid potential pitfalls.

Management theorist Peter Drucker once commented that serv-

ice and support costs in the 1950s accounted for a small percent-

age of total costs. In recent years, automation has helped increase

productivity and reduce costs in direct line operations, driving up

the proportion of service and support costs within

the total cost structure. Simultaneously, the mar-

kets have become more competitive and clientele

more demanding, forcing companies to address

their internal support services.

Oil companies typically have lower Selling,

General, & Administrative expenses (SG&A) than

general manufacturing companies as a percentage

of revenues. Manufacturing companies tend to

add more value to raw materials and spend more

money supporting sales of their manufactured

products (Figure 3). However, oil company SG&A

costs are still large, offering huge potential for cost

reduction. In addition, oil companies often include

some support costs (e.g., elements of exploration

expense) in other cost categories. For instance, the

average SG&A expenses reported by ExxonMobil,

BP, Shell, and ChevronTexaco reported in 2000

surpassed $8.3billion (5 percent of revenues).

As energy companies look for ways to increase

efficiencies in support services (e.g., human

resources, accounting, information technology),

some companies are turning to a "shared services"

model. Shared services can be defined as the

establishment of a new organization to offer sup-

port services to multiple groups within a company

at a lower cost than each group procuring the

services separately. Combining existing resources

from around the company's business units and

operating companies is the most common way the

new organizations are created. Energy companies

are not alone, as nearly half of the Fortune 500

have created shared services organizations to sup-

port financial transactions, IT activities, and

human resources. The general rule of thumb is

that a company should produce at least $500 million in revenues

to benefit from the economies of scale that shared services can

offer.

Support services can be managed as: (1) a corporate-level func-

tion, (2) a decentralized function at line-of-business or business

unit levels, or (3) a shared service. Increasingly, chemical, oil, and

utility companies are adopting a shared services approach to serv-

ice functions—though not all services in these companies are

treated alike along the centralized-decentralized continuum.

Overall, the human resources function is typically centralized;

Energy Executive 2002 | Issue 2 | Page 5

Majors: ExxonMobil, BP, Shell, ChevronTexaco

Fortune 500: Wal-Mart, GM, Ford, General Electric (these are the four largest non-energy companies in the Fortune 500)

Note: All calculations are based on fiscal year 2000

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

Margin on COGS SG&A / COGS SG&A / Revenues

Majors

Fortune 500

Majors: ExxonMobil, BP, Shell, ChevronTexaco

Fortune 500: Wal-Mart, GM, Ford, General Electric (these are the four largest non-energy companies in the Fortune 500)

Note: All calculations are based on fiscal year 2000

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

Margin on COGS SG&A / COGS SG&A / Revenues

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

Margin on COGS SG&A / COGS SG&A / RevenuesMargin on COGS SG&A / COGS SG&A / Revenues

Majors

Fortune 500

Source: Arthur D. Little, Inc.

Figure 3. Oil Industry vs. Manufacturing Industry

Centralized DecentralizedShared Service

Information

Technology

Engineering

Accounting

Procurement

Facilities

Human

ResourcesEnterprise-

Wide

Division/

Line-of-

Business

Business

Unit

Logistics

Service L

evel

Centralized DecentralizedShared Service

Information

Technology

Engineering

Accounting

Procurement

Facilities

Human

ResourcesEnterprise-

Wide

Division/

Line-of-

Business

Business

Unit

Enterprise-

Wide

Division/

Line-of-

Business

Business

Unit

Logistics

Service L

evel


Figure 4. Typical Management of Support Services

Shared Services: Payoffs and Tradeoffs

logistics often decentralized; and engineering, IT, procurement,

and accounting managed through shared services. Moreover, in

large companies, centralized functions and shared services exist at

two levels: enterprise-wide (e.g., human resources, facilities, IT)

and by division or line-of-business (e.g., procurement, account-

ing, engineering). Shared services do not have to be managed

enterprise-wide to gain the desired efficiencies (Figure 4).

No major companies use shared services for all support func-

tions, but increasingly companies manage one or more functions

as shared services and selectively outsource certain functions to

third parties. For example, BP, Sempra Energy, and

ChevronTexaco outsource almost all of their IT services. Energy

companies should consider outsourcing non-core services to cap-

ture the functional experience of their partners to provide a bet-

ter, faster, and cheaper service than they could deliver internally

and to enable strategic advantage through future innovations.

One major consideration is the way an outsourcing contract is

structured. Developing a performance-based contract that com-

mits a supplier to final results rather than interim tasks reduces

the customer's exposure and puts the final responsibility with the

supplier. Metrics such as the effect on operating portions of cash

flow and working capital can be tied to the contract, enabling the

customer to gauge the true value of its outsourcer.

Regardless of the chosen approach, implementing a shared

services unit implies a series of major organizational challenges

(Figure 5). Companies must determine the optimal service offer-

ings needed to support entire organizations and force different

groups and business units within the company to make tradeoffs.

Advantages. Cost efficiency is the greatest advantage of shared

services—obviously gained through economies of scale, common

processes and systems, and simplified business policies and proce-

dures. Industry-wide studies show that shared services can reduce

costs by as much as 35-40 percent—both Shell and ExxonMobil

have reported this kind of savings. Some companies have even

been able to provide improved service levels at these reduced

costs. Other benefits include reduction in layers of management

and the ability of business units to focus on core competencies

and customer value (Figure 6).

Disadvantages. Disruption in moving a function into a shared

service is an often-cited problem, resulting in lost time and effi-

ciencies. Loss of control by the business units and an inability to

handle the business unit's specific complexities are other com-

mon pitfalls. Company-specific problems, such as the lack of a

single ERP system, can also impede efforts toward shared

business processes.


Long-Term Thinking Short-Term Delivery

Growth Performance

Innovation Efficiency

Flexibility Standardization

vs

vs

vs

vs

Long-Term Thinking Short-Term Delivery

Growth Performance

Innovation Efficiency

Flexibility Standardization

vs

vs

vs

vs


Figure 5. Organizational Challenges of a Shared Services Model

� Maximizes economies of scale and scope across enterprise or

line-of-business; 30-40 percent cost reductions have been

reported

� Frees up business units from support functions distractions

� Capitalizes on scale to afford best practices, expertise, and

systems

� Defines desired levels of service with unit pricing known in

advance

� Facilitates data, systems, and process standardization

� Motivates services personnel

� Provides reliable information throughout the organization

� Benefits entire organization since employees in support roles

have specialized training

Potential Merits

� Causes disruption during change-over to shared services

� Reduces control and flexibility for business units

� Requires business units to coordinate/negotiate with third party

� Creates difficulties when adopting “common” practices

� Could overemphasize outside customers at expense of internal

users

� Could distance shared services providers from internal

customers

� Potentially creates intra-company conflict if transfer pricing

issues cannot be resolved

� Could damage efficiency and customer relationships when

things go wrong

Potential Pitfalls


Figure 6. Potential Merits and Pitfalls of Shared Services

Best Practices in Shared Services

In our experience, the following best practices help ensure

success with shared services:

Business Approach. A truly shared service is operated as a busi-

ness within a business. It has its own P&L, mindset about service,

understanding of customer needs, budget management process,

and accountability for achieving strategic objectives (e.g., cost

reduction, service improvement). Through its Global Services

Business, for example, DuPont has developed a highly successful

business approach to shared services. Support costs are signifi-

cantly lower, shared services revenues continue to grow, and

customer satisfaction levels are high.

Customer Service Orientation. Transforming a bureaucratic

corporate functional department into a service-oriented activity

takes time, a fundamental attitudinal shift, strong relationships,

and a rethink of performance measures, incentives, and rewards.

All successful shared services organizations must align themselves

with the needs of their customers and employ customer satisfac-

tion surveys to understand customer needs. However, the

customer satisfaction metrics must be sophisticated enough to

recognize bottom line impact, not just direct cost savings allocat-

ed to a particular business unit. For example, improving billing

and collecting cycle time and the resulting capital could be more

beneficial to the corporation than simply lowering the SG&A

cost of the support function. An example of customer input going

beyond costs was Shell's recent decision to only allow its shared

services arm, Shell Services International (SSI), to service Royal

Dutch/Shell operating companies. SSI had alienated some of its

Shell customers while marketing its offerings to non-Shell oil

and gas companies for the past few years. SSI's change in busi-

ness model came about after Shell's business units said they were

not receiving the attention they desired and sought more of an

emphasis on their needs rather than those of outside companies.

Service Level Agreements. Business units can better access the

level of service they need and can afford through "service level

agreements." Allowing each business unit to choose from a

limited menu of service options provides a way for that business

to control the level of service it needs and can afford. For exam-

ple, the IT shared services group might offer a choice of help-

desk services at "24 hours a day, 7 days a week" or "8 hours a day,

5 days a week." Since too many choices can raise costs, the

shared services business often starts out providing few if any

choices until it fully understands its customers and the right set

of service levels to offer. In order to ensure that the services being

purchased affect the bottom line, customers should actively work

with their service providers from day one to determine the

appropriate service mix, priority, and expected results.

Common Processes. To achieve the desired cost benefits, com-

panies should adopt a common set of processes and systems

where there is no risk to business advantage or competitive dif-

ferentiation. For example, major companies—e.g., BP,

ExxonMobil, and Shell—are reducing their number of SAP sys-

tems as part of an overall business simplification program that

will lead to greater economies of scale and reduced costs.

Do we think shared services are always the answer? No. It

depends on the company's specific situation and the service areas

involved. But for many complex companies, shared services can

provide a proven way to balance cost efficiency with business unit

responsiveness. Furthermore, there is enough experience now

available to learn from the best practices and common pitfalls

when implementing a shared services approach.

About the Author

Maury Bronstein is a Consultant in

Arthur D. Little's Global Energy

Practice, based in Houston. He focuses

on strategy development and implemen-

tation, change management, and process

improvement.

Contact: (1) 713.646.2271;

[email protected]
