Outsourcing and offshoring (Key points (Firms have frequently outsourced ,…
Outsourcing and offshoring
Outsourcing and offshoring have become increasingly common practices
Firms have frequently outsourced
Typically done to reduce costs
One of the biggest drivers of offshoring has been the cheaper transport and communication costs as a result of technological progress over the past two decades
Its not just goods that can be outsourced but also services
There is a big wage difference between developed and developing countries which has contributed to this offshore movement and the narrowing of the educational gap
‘Cost reduction is usually a key driver in the decision to outsource but it is not the only consideration’
Comes from the economic principle of division of labor - based on the specialization of skills
Desired that some activities be undertaken by outsiders (eg the early mercenaries)
Businesses have always had to decide whether they would sell directly to customers or outsource selling to an agent and whether to operate their own transport.
'Make or buy' decisions
Buying when the price was deemed cheaper than manufacturing
Examples of sectors that are outsourced
Quality and cost are typically a consideration
Def - the devolution of operations to third parties,
while retaining responsibility for it
The growth of outsourcing
The list of outsourced services has grown dramatically
Recruitment and human resource management
Engineering and stores
Invoicing and payroll
The top reasons to outsource
Increase variable cost element
Access to skills
If costs are not reduced, the other reasons in themselves are
unlikely to be persuasive
There has been recent growth has come about since businesses realized that they could outsource any element of the value chain
Its a very strategic decision
If there were no strategic advantage in performing the function in house, why not outsource it and benefit from lower costs?
‘Do what you do best and outsource the rest’.
Added a new dimension to the surge in outsourcing
It possible to outsource any element of the value chain and the
range of destinations has grown.
In recent years many businesses have moved their outsourcing offshore which has become technically possible in a global economy with advanced technology and freedom of capital movement
Enormous savings are possible from the lower wage rates of developing countries
The risks of offshoring
Most businesses factor in the associated transport costs and the increased time in the supply chain
There can also be access problems if emergency visits prove necessary, so the location of airport and regularity of flights are a factor
Different time zones can be an issue too for personal communication - making control difficult
If pricing is set in the local currency, there is a clear risk when exchange rates move
But, even when this is not the case, because the outsourcer’s own currency is used for pricing, the problem may arise over time
The comparative cost advantage can be rapidly eroded in such
Some governments interfere more in business than others
Local rules and regulations, regarding licenses, local taxation, visas, etc. can impose a significant extra burden.
Exchange control can be a serious potential barrier
While most governments wish to assist their exporters and have reduced the level of bureaucracy, such is not always the case
Intellectual property rights may not be readily protected and appropriate insurance cover may prove either difficult to obtain or very expensive.
In the case of disputes local courts may not look kindly on foreign multinationals.
Successful outsourcing requires a good understanding of the legal implications at home and abroad
Political or economic instability
Economic instability may be a factor. While there may be no assets of the outsourcer to confiscate with a change of regime, there is a risk of serious disruption to the supple chain
Rampant inflation also complicates the conduct of business and in extreme cases, such as Zimbabwe, makes normal trade virtually impossible
Most businesses would be reluctant also to be involved with countries which cannot guarantee the security of foreign businessmen.
Quality and reliability of services
The availability, skills and education of the workforce are fundamental in deciding on a suitable location
Many call centres moved offshore have experienced serious
customer service issues.
It is important also to assess the relevant infrastructure, especially power and telecommunications.
For information technology, data security, backup and disaster recovery need to be evaluated
To ensure quality equivalent to the level available onshore
additional costs may be incurred.
Language and culture
Can provide barriers
For some businesses it may be essential to conduct business in English
The use of interpreters and translators as a minimum imposes an extra cost, but may also slow down the resolution of problems
The enforceability of contracts can vary in different jurisdictions and cultures.
Many businesses will avoid countries where bribery is part of the culture.
Goods manufactured in ‘sweat shops’ may provide cost savings, but be unacceptable to the values espoused by shareholders.
Labour issues, such as the conditions of the workplace and living quarters can become issues, as can the length of the working week and use of child labour
The fact that the factories are run by middlemen does not mean that the multinational shareholders will approve, as Nike discovered
Exposure of the dreadful conditions in some of the Asian free-trade zones, where much of the world’s garments, shoes, electronics and machinery are manufactured, has shocked Western consumers and obliged multinationals both to set and enforce minimum standards
Some businesses prefer to choose a destination closer to the core business or market
Within the EU certain Eastern European countries can provide an acceptable compromise.
Wage rates are much lower than Western Europe, which can compensate for lower productivity in many cases
In such cases near-shoring is preferred to offshoring.
It is inadvisable to choose an offshore location purely from a cost standpoint.
Sensible to consider the options from experience in outsourcing, based on the country’s share of the outsourcing market
As outsourcing can attract adverse publicity, it is important that businesses have a clear understanding both of the savings and the risks