Outsourcing is the transfer of the provision of services previously carried out by in-house personnel to an external organisation, usually under a contract with agreed standards, costs and conditions.
Outsourcing at its simplest is when a firm or individual delegates some of its specific tasks to another individual who is not their direct employee, or to another business. The individual or the firm receive a fee in exchange for the services rendered. Outsourcing, however, is not always about getting manufacturing work done overseas. There are situations where both the client and the service provider are located in the same country. It is understood that outsourcing often brings cost benefits; however outsourcing work overseas is not always necessary for this purpose. Although cost saving is one major reason why companies outsource, there are also other factors like greater flexibility and access to a larger number of skilled people without actually employing them. Outsourcing is seen as a method of reducing costs as the outside firm promises to do the job for less than the outsourcing firm would spend to do the work inside. It is seen as a way of achieving greater commercial 'focus'.
Even domestic outsourcing can also reduce costs. Employees hired on a contract/outsourcing basis do not have to be paid for medical expenses, pensions and other benefits and so overall costs can be considerably lower.
Outsourcing does not necessarily mean only situations where large corporations are involved. It can also apply to small firms and entrepreneurs who get some of their work done by people who are not their employees.
If a firm is looking to expand, outsourcing is a cost-effective way to start building foundations in other countries.
Firms may choose to move their entire production to locations overseas where manufacturing costs, particularly wage costs, are lower, or they may choose simply to outsource components. In the service sector the initial contact with customer is now commonly the responsibility of specialist call centres. These act as a filter, separating routine requests for information from enquiries requiring more technical or specific knowledge. The call centre deals with the former issues and passes the latter on to specialists in the outsourcing firm.
In practice, when activities are outsourced, it is common for the firm winning the contract, to rehire some of the staff made redundant by the outsourcing business since they have working knowledge of the operations. Indeed, there may be a term in the contract that guarantees this. However, these staff may work harder and for longer hours, often for lower wages. The question has to be asked whether they will be motivated to do their jobs better.
There is considerable debate about the benefits and drawbacks of outsourcing. These are summarised as follows.
Advantages of outsourcing:
- Specialists are hired to do top quality work at guaranteed prices.
- Internal staff numbers can be reduced, saving salaries, benefits and bonus payments.
- Firms become more flexible. Supply can be matched more closely with demand. If demand is low there is no need to reduce staff numbers. As demand increases, production is contracted out to external suppliers.
- It is a method of quick growth without incurring significant capital costs.
- Outsourcing to Less Economically Developed Countries may stimulate economic growth in those countries and provide employment opportunities.
- Import tariffs may be avoided by producing in countries where the products are to be sold.
- New technologies are coming on stream to make the process easier and probably more successful.
Disadvantages of outsourcing:
While outsourcing may prove highly beneficial for many companies, it also has many drawbacks:
- Outsourcing often eliminates direct communication between a company and its clients. This prevents a company from building solid relationships with their customers, and often leads to dissatisfaction on one or both sides.
- There is the danger of not being able to control some aspects of the company, as outsourcing may lead to delayed communications and project implementation.
- Any sensitive information is more vulnerable, and a company may become very dependent upon its outsource providers, which could lead to problems should the outsource provider back out on their contract suddenly.
- Firms locked into outsourcing contracts may suffer losses if the prices of the finished goods or services fall.
- Motivation within the firm may drop as redundancies are made.
- Administration and monitoring costs of running the contract may be high.
- There are ethical problems. Outsourcing may involve the exploitation of labour, which may be paid poorly, in working environments with little or no health and safety regulations. Many large multinationals have also been accused of hiring child labour.
- Quality control is more difficult. Outsourcing may destroy the image or goodwill of a firm built up over many years, if the quality of the goods and services fall.