Outsourcing

Outsourcing is the process of contracting an existing business function or process of an organization to an independent organization, and ceasing to perform that function or process internally, instead purchasing it as a service. Though this practice of purchasing a business function--instead of providing it internally--is a common feature of any modern economy, the term outsourcing became popular in America near the turn of the 21st century. An outsourcing deal may also involve transfer of the employees involved to the outsourcing business partner but it doesn't have to.

It is sometimes confused with offshoring which is sometimes described as “a company taking a function out of their business and relocating it to another country,” whether the country is offshore or not. Outsourcing, on the other hand, can be either foreign or domestic.

The opposite of outsourcing is called vertical integration or insourcing. However, a business function can be brought in house without involving vertical integration.

Overview

Two organizations may enter into a contractual agreement involving an exchange of services and payments. Outsourcing is said to help firms to perform well in their core competencies and mitigate shortage of skill or expertise in the areas where they want to outsource.

In the early 21st century businesses increasingly outsourced to suppliers outside their own nation, sometimes referred to as offshoring or offshore outsourcing. Several related terms have emerged to refer to various aspects of the complex relationship between economic organizations or networks, such as nearshoring, multisourcing and strategic outsourcing.

An often-overlooked benefit of outsourcing is greater budget flexibility. Outsourcing lets organizations pay for only the services they need, when they need them. It also reduces the need to hire and train specialized staff, brings in fresh engineering expertise, and reduces capital and operating expenses (Figure 2). When maintenance needs change, so can the amount of outsourcing provided.

One of the biggest changes in the early 21st century came from the growth of groups of people using online technologies to use outsourcing as a way to build a viable service delivery business that can be run from virtually anywhere in the world. The preferential contract rates that can be obtained by temporarily employing experts in specific areas to deliver elements of a project purely online means that there is a growing number of small businesses that operate entirely online using offshore outsourced contractors to deliver the work before repackaging it to deliver to the client. One common area where this business model thrives is in provided website creating, analysis and marketing services. All elements can be done remotely and delivered digitally and service providers can leverage the scale and economy of outsourcing to deliver high value services at vastly reduced end customer prices.

Reasons

The most common reasons why companies decide to outsource include cost reduction and cost savings, the ability to focus on core parts of its business, access to more knowledge/talents and experience, and revenue or profit.

Many companies decide to outsource because it cut costs such as labor costs, regulatory costs, and training costs. The difference in labor wages are where most of the costs are reduced. Foreign countries tend to have workers who will complete the same amount of work as in the United States, but for less than half the salary that an American employee will make . This motivates companies to outsource overseas to find foreign workers who are willing to work for these wages. Not only is the labor cheaper in other countries, but it is less expensive to educate these future employees in a foreign country. The company can spend up to half the usual cost to train these workers to become experts in a different country . In regards to companies spending less money on foreign workers, even those who may be domestic immigrants, lower regulatory costs are an addition to companies saving money when outsourcing. Comparing the costs to employing a worker in the United States to a worker in China, it is noticed that the employer in the U.S. has to pay for social security, Medicare, safety protection (OSHA regulations) and also FICA (taxes).

Companies are able to focus their money and resources more towards improving the core aspects of its business when outsourced. For example a company can hire new personal, or investments. Non-core services can be outsourced to higher expertise companies who specialize in that specific function. For example an insurance company may outsource its landscaping functions to a service provider that specializes in landscaping since it is irrelevant to the core company, insurance. This allows the outsourcing company to build onto its core functions that keep the business running smoothly, such as an insurance company’s accounting agency which is crucial to the company. Another example is that companies and public entities such as a public school district who are now outsourcing functions such as their payroll offices to companies like ADP which specializes in that specific field.

In the turning to of outsourcing, companies can often find more talent, and more experienced employees which will improve the performance of the business. In the case of outsourcing, corporations are finding in some cases that workers in foreign countries are provide better customer support than they had found using domestic services. When companies provide better customer support, then consumers tend to continue to come back to that service to receive the same excellent support which can increase a company’s profits. For example a the coffee company in the article written by Business week, advocates about a online coffee shop owner who moved his calling center to the Philippines because he found that his customers received better customer support from workers in this country.

Revenue and profit plays a large role in the reason for a company outsourcing. Since the costs are cheaper in different countries for a corporation to run it, as well as to train the employees, this saves the company a large sum of money. More profit comes in when the vendors are able to purchase products at a less expensive rate and continue to sell them at a reasonable price for consumers. The prices are reduced for services as well as products when purchased at a cheaper price.

RISKS When companies outsource, even though it may not be the core parts of the business, the noncore parts of the business bring jobs to foreign countries. By moving the jobs overseas, this decreases the chances for citizens to obtain these types of jobs. This relocation of jobs overseas hurts the country’s economy. Another large risk companies are also taking is the security of their business along with its services. Companies lose money when they supply third party workers with passwords to accounts and the workers take money from those accounts, this is constituted as fraud.

ADVANTAGES Companies are able to provide services and products to consumers at a cheaper price while still having a large margin for profit. This profit margin benefits both the company as well as the consumer. The cheaper prices lead to an increase a company’s economy. Although losing jobs hurts the economy because more citizens become unemployed, the cheaper prices allows customers to purchase more products and services which helps to rebuild an economy.

Implications

Management, the corporation and consumers

Management processes

Greater physical distance between higher management and the production floor employees often requires a change in management methodologies, as inspection and feedback may not be as direct and frequent as in internal processes. This often requires the assimilation of new communication methods such as Voice over ip, Instant messaging, and Issue Tracking Systems, new Time management methods such as Time Tracking Software, and new cost and schedule assessment tools such as Cost Estimation Software.

Quality of service

Quality of service is best measured through customer satisfaction questionnaires which are designed to capture an unbiased view.

Language skills

In the area of call centers end-user-experience is deemed to be of lower quality when a service is outsourced. This is exacerbated when outsourcing is combined with offshoring to regions where the first language and culture are different.

Foreign Call center agents may speak with different linguistic features such as accents, word use and phraseology, which may impede comprehension. The visual clues that are missing in a telephone call may lead to misunderstandings and difficulties.

Security

Before outsourcing an organization is responsible for the actions of all their staff and liable for their actions. When these same people are transferred to an outsourcer they may not change desk but their legal status has changed. They are no longer directly employed or responsible to the organization. This causes legal, security and compliance issues that need to be addressed through the contract between the client and the suppliers. This is one of the most complex areas of outsourcing and requires a specialist third party adviser.^{[citation needed]}

Fraud is a specific security issue that is criminal activity whether it is by employees or the supplier staff. However, it can be disputed that the fraud is more likely when outsourcers are involved, for example credit card theft when there is scope for fraud by credit card cloning. In April 2005, a high-profile case involving the theft of $350,000 from four Citibank customers occurred when call center workers acquired the passwords to customer accounts and transferred the money to their own accounts opened under fictitious names. Citibank did not find out about the problem until the American customers noticed discrepancies with their accounts and notified the bank.

Qualifications of outsourcers

In the engineering discipline there has been a debate about the number of engineers being produced by the major economies of the United States, India and China. The argument centers around the definition of an engineering graduate and also disputed numbers. The closest comparable numbers of annual graduates of four-year degrees are United States (137,437) India (112,000) and China (351,537).

Companies looking to outsource their engineering activities should evaluate the capabilities of the providers. There are many bench marking reports by independent research and consulting firms which analyze the vendors capabilities.^{[citation needed]}

Diversification

The early trend in outsourcing was manifest in a financial construct where a function's associated capital and personnel were sold to a vendor and then rented back over a series of years. Early benefits were a boost in expertise and efficiency as outsource vendors had more focus and capability in their specialization. As time progressed, the year 0 benefit was off the books, customer needs evolved and contracts generally aged poorly. Rigid contracts hampered the ability of customers to respond to emerging business drivers, and simultaneously tied the hands of the vendor's team who was focused on increased efficiencies for static problems. The result tended to be additional "project" contracts for incremental changes in a monopoly environment. Many deals became contentious, and many customers have become very uncomfortable surrendering so much power to a single vendor. As the contract aged, it became increasingly difficult to even negotiate with vendors with confidence, because the customer began to lack any real knowledge of the cost structure of the function, or the competitive situation of the vendor.

Industry leaders turned to each other, trade journals and management consultants to try to regain control of the situation, and the next answer that grabbed hold of the industry was labor cost arbitration; leveraging cheap, offshore resources to replace or pressure increasingly expensive legacy outsource vendors. Pressure led incumbent vendors to move resources offshore, or to be replaced wholesale. As this renegotiation was under way, many customers seized the opportunity to restructure to gain more control, transparency and negotiating power. The end result has been fragmentation of outsource contracts and a decline in mega-deals. Many companies are now relying on several vendors who each offer specialization and / or lowest cost.

Insourcing

As mentioned above, outsourcing has gone through many iterations and reinventions. Some outsourcing deals have been partially or fully reversed citing an inability to execute strategy, lost transparency & control, onerous contractual models, a lack of competition, recurring costs, hidden costs, etc... Many companies are now moving to more tailored models where along with outsource vendor diversification, key parts of what was previously outsourced has been insourced. Insourcing has been identified as a means to ensure control, compliance and to gain competitive differentiation through vertical integration or the development of shared services [commonly called a 'center of excellence']. Insourcing at some level also tends to be leveraged to enable organizations to undergo significant transformational change.^{[citation needed]}

Further, the label outsourcing has been found to be used for too many different kinds of exchange in confusing ways. For example, global software development, which often involves people working in different countries, it cannot simply be called outsourcing. The outsourcing-based market model fails to explain why these development projects are jointly developed, and not simply bought and sold in the marketplace. Recently, a study has identified an additional system of governance, termed algocracy, that appears to govern global software projects along side bureaucratic and market-based mechanisms. The study distinguishes code-based governance system from bureaucracy and the market and underscores the prominent features of each organizational form in terms of its ruling mechanism: bureaucracy (legal-rational), the market (price), and algocracy (programming or algorithm). So, global software development projects, though not insourced, are not outsourced either; rather, they are developed together where a common software platform allows different teams around the world to work on the same project together.

Standpoint of labor

From the standpoint of labor, outsourcing may represent a new threat, contributing to worker insecurity, and reflective of the general process of globalization.

On June 26, 2009, Jeff Immelt, the CEO of General Electric, called for the United States to increase its manufacturing base employment to 20% of the workforce commenting that the U.S. has outsourced too much and can no longer rely on consumer spending to drive demand.

Standpoint of government

Western governments may attempt to compensate workers affected by outsourcing through various forms of legislation. In Europe, the Acquired Rights Directive attempts to address the issue. The Directive is implemented differently in different nations. In the United States, the Trade Adjustment Assistance Act is meant to provide compensation for workers directly affected by international trade agreements. Whether or not these policies provide the security and fair compensation they promise is debatable.

By country

United States

"Outsourcing" became a popular political issue in the United States, having been confounded with offshoring, during the 2004 U.S. presidential election. The political debate centered on outsourcing's consequences for the domestic U.S. workforce. Democratic U.S. presidential candidate John Kerry criticized U.S. firms that outsource jobs abroad or that incorporate overseas in tax havens to avoid paying their "fair share" of U.S. taxes during his 2004 campaign, calling such firms "Benedict Arnold corporations".

Criticism of outsourcing, from the perspective of U.S. citizens, generally revolves around the costs associated with transferring control of the labor process to an external entity in another country. A Zogby International poll conducted in August 2004 found that 71% of American voters believed that “outsourcing jobs overseas” hurt the economy while another 62% believed that the U.S. government should impose some legislative action against companies that transfer domestic jobs overseas, possibly in the form of increased taxes on companies that outsource.

Union busting is one possible cause of outsourcing. As unions are disadvantaged by union busting legislation, workers lose bargaining power and it becomes easier for corporations to fire them and ship their job overseas.

Another given rationale is the high corporate income tax rate in the U.S. relative to other OECD nations, and the practice of taxing revenues earned outside of U.S. jurisdiction, a very uncommon practice. However, outsourcing is not solely a U.S. phenomenon as corporations in various nations with low tax rates outsource as well, which means that high taxation can only partially, if at all, explain US outsourcing. For example, the amount of corporate outsourcing in 1950 would be considerably lower than today, yet the tax rate was actually higher in 1950.

It is argued that lowering the corporate income tax and ending the double-taxation of foreign-derived revenue (taxed once in the nation where the revenue was raised, and once from the U.S.) will alleviate corporate outsourcing and make the U.S. more attractive to foreign companies. However, while the US has a high official tax rate, the actual taxes paid by US corporations may be considerably lower due to the use of tax loopholes, tax havens, and "gaming the system". Rather than avoiding taxes, outsourcing may be mostly driven by the desire to lower labor costs (see standpoint of labor above). Sarbanes-Oxley has also been cited as a factor for corporate flight from U.S. jurisdiction.

European Union

Where outsourcing involves the transfer of an undertaking, it is subject to Council Directive 77/187 of 14 February 1977, on the approximation of the laws of the Member States relating to the safeguarding of employees’ rights in the event of transfers of undertakings, businesses or parts of businesses (as amended by Directive 98/50/EC of 29 June 1998; consolidated in Directive 2001/23 of 12 March 2001). Under that directive, rights acquired by employees with the former employer are to be safeguarded when they, together with the undertaking in which they are employed, are transferred to another employer, i.e. the contractor. An example of a case involving such contracting-out was the decision of the European Court of Justice in Christel Schmidt v. Spar- und Leihkasse der früheren Ämter Bordesholm, Kiel und Cronshagen, Case C-392/92 [1994]. Although subsequent decisions have disputed whether a particular contracting-out exercise constituted a transfer of an undertaking (see, for example, Ayse Süzen v. Zehnacker Gebäudereinigung GmbH Krankenhausservice, Case C-13/95 [1997]), in principle, employees of an enterprise outsourcing part of its activities in which they are employed may benefit from the protection offered by the directive.

Seeking to implement the cost-cutting solutions, many Western European firms have been transferring tech projects eastward. For example, Deutsche Bank has some of its software developed in Ukraine, Siemens possess R&D center in Romania. Europe Outsourcing has produced outstanding results and henceforward they are increasing them in numbers.^{[citation needed]}

See also

• Application Management Services Framework
• Business process outsourcing (BPO)
• Business Process as a Service (BPAAS)
• Call center industry in the Philippines
• Co-sourcing
• Comparative advantage
• Contingent workforce
• Crowdsourcing
• Engineering process outsourcing (EPO)
• Farmshoring
• Freelance marketplace
• Globality
• Global sourcing
• Homeshoring
• Insourcing
• Knowledge process outsourcing (KPO)
• Legal process outsourcing (LPO)
• List of management topics
• Nearshoring
• Offshore outsourcing
• Offshore software development
• Offshoring IT Services
• Offshoring Research Network
• Print and Mail Outsourcing
• Programmers Guild
• Recruitment Process Outsourcing (RPO)
• Regional insourcing
• Socially responsible outsourcing
• Supply chain
• Telecentre
• Telecommuting
• Third-party logistics (3PL)
• Transition Methodology
• Verifiable computing
• Vertical integration
• Vested Outsourcing

External links

• Job migration at the Open Directory Project