In 2004 the democratic presidential candidate race was zeroed down to which candidate proves his protectionism in eyes of average Americans, who are worried about the increasing number of jobs loses due to outsourcing and off-shoring. To sum up the sentiments management thinker Tom Peters puts it in one of his presentation (Tom Peters 2004) -"when I was young my mom use to tell me finish your food, people in India and China are dying of hunger. Today I tell my daughter finish your homework, people in India and China are looking for your job".
Outsourcing and off shoring has become the latest rage in corporate America. Companies are resorting to outsourcing to cut costs and be competitive in the market. This focus on outsourcing has led to shipping out of thousands of American jobs to far fetched place like India and China.
Today Young people sitting in their offices in Bangalore and Dublin are answering average American's insurance queries, planning their taxes, helping them fixing their computers, providing information regarding their credit card accounts and helping them in planning their debts. The surge doesn't last there it has now started threatening the white collar jobs which was once considered Americas birth right. So what will be the future for American jobs market, will it be as doomed as the candidates in the presidential race made to believe us or we have to dig deeper to find the real truth.
What is Outsourcing and difference between Outsourcing and Off-Shoring
Outsourcing and off-shoring are taken one for another but there is a fundamental difference between outsourcing and off-shoring.
Outsourcing is defined as the exporting of non-core business operations or jobs from internal production within a business to an external entity which specializes in that specific operation. Decisions regarding outsourcing are often made to lower operational costs or to focus on business core competencies.
Off shoring is when the company sets up its offices in foreign land to avail the resources, tax benefits or human capital. Unlike outsourcing, in off shoring operations and jobs are managed by the parent company rather than getting it done from external entity.
A related new term is out-tasking: it is typically on an annual contract, or sometimes even a shorter one. It involves continued direct or indirect management role play in decision-making by the parent company of the out-tasking business.
Why do we Outsource
Outsourcing is not a new phenomenon; it is with us since time immemorial. Europeans started outsourcing sugar from Latin American countries by employing local people. In modern economies it has its root in theory of comparative advantages by traditional economist David Ricardo (Ricardo, 1817). As the theory propagates that one should spend one's energies on things in which it has comparative advantage. It will ensure maximum utilization of the resources. Similarly outsourcing enables the business to focus its energy on its core competencies and avail the benefits of others dexterity in operations, in which other companies have efficiency. These efficiencies could be process related like company A is better than Company B in making T-shirts, or they can be formulated like one government providing more tax holidays then another so the first country become preferred destinations even though the actual cost of getting a T-shirt made is comparatively higher than the second country. According to the McKinsey consulting analysis off-shoring creates net additional value for both outsourcing economy as well as in-sourcing economy, taking India as example it says that for every dollar off-shored, the U.S. economy accrues between $1.12 and $1.14 while the India captures just 33 cents. US economy benefits from combination of reduced costs (58 cents), purchase from US Suppliers (5 cents) and repatriated earnings (4 cents). In addition some 67 cents for directly retained benefits and 45-47 cents from re-deployment of labor in high end jobs.
Advantages of Outsourcing
Companies like Dell and AT&T has received a lot of negative publicity for locating their customer support system off shore and thus taking away American jobs, but the companies still went ahead with outsourcing. So the big question is what are the advantages or benefits which are driving most top companies today to outsource their business processes from foreign shores.
• Business Cost Sharing - Large businesses continue to outsource as costs are shared by the third parties. As the third parties have their own area of specialization, they keep on investing in those facilities. It saves the American company to invest in that infrastructure.
• Reduce Costs - One of the most tempting reasons to outsource is that the third party will provide better service at lesser cost. This is one of the most significant reason why outsourcing is going to third world countries where labor is inexpensive compared to developed world. In third world countries where growth and prosperity level is low, companies are able to significantly reduce their wage bill by paying less salary to people for the same work which was done by a worker in developed country for higher salary. Is it exploitation - to answer it plainly in most cases it is not, as the income level these companies provide is relatively higher than the prevalent income level in those countries.
• Tax Benefits - As Outsourcing brings lots of jobs to the country where projects and tasks are outsourced, most government in these countries provide tax holidays and other benefits which makes outsourcing a viable option.
• Makes company competitive - As most companies are outsourcing today so the one which are not doing it have a cost disadvantage. To remain competitive against competitors, most companies these days resort to out sourcing. In fact this competitive benchmark usually leads companies to explore new foreign outsourcing destinations with better infrastructure and incentives. For example to provide cheaper clothes in 70's and 80's companies like Wal-Mart start outsourcing apparel from Japan and Korea. As the prosperity level grow in these countries and work force became relatively costly then before the companies moved to South East Asian countries like Indonesia, Vietnam and Thailand. In the mean time China developed its infrastructure and made it a more competitive place then by spreading their basket Wal-Mart moved to China. Today as a company Wal-Mart is the biggest trading partner of China and it actually exceeds some countries total foreign trade with China.
• More control over business outcomes - It may have started as cost reducing activity but today outsourcing is providing business executives a better scope to shape company's future. According to one of the recent survey of more than 800 health care, manufacturing , retail and travel executives in the US and Europe by consulting company Accenture (Advantages of outsourcing 2004) , 86% said outsourcing provides them more and more control over business results in a variety of strategic areas, the most important being the ability to plan. "Industry leaders today view outsourcing as a prescription for change versus an antidote to rising costs," says John Rollins, a partner in Accenture's products operating group(Advantages of outsourcing 2004). More and more companies are outsourcing so that they can focus on their core competencies. Companies like Nike don't even manufacture a single shoe or garment. It outsources all these activities from its dedicated third party factories in South East Asia, China and South Asia. The Nike headquarters in US only focuses its energy on developing new design and sharpening its marketing juggernaut.
Disadvantages of Outsourcing
• Political Risks - This is one of the most evident risks which a company has to face if it decides to outsource. The most hotbeds of the outsourcing revolution today carry a various level of political risk with them. For example - China is governed by a communist country, even though government proclaims to adhere to World Trade Organization laws but one can never be sure in a communist country as the government can over change a law overnight to benefit its own people. Other countries like Ireland, India, and Philippines etc at some point or other are marred by violence and other such activities.
• Growing dependence on the third party contractors - As the company dependence on the third party increases the relative cost of business also start increasing as the third party will start asking better share.
• Difficult to innovate - as the companies are dependent on third parties, it leaves lesser scope for a business to innovate business operations and get better than competitors. If the company wants to focus on a specific training and other such aspects, the third party will try to resist as it will put a hold on his business prospects with other business clients.
Outsourcing hotbeds in the world
You mention the name of China and India in the community these days and one will receive a serious gaze as if these countries are taking away the prosperity and jobs of average American. The most common reference I heard about is that incompetent people in the east are taking our jobs just because companies are able to get their work done in 20% of the amount it will cost to get it done by an American worker. So are all jobs going to China and India?
The answer is no, in fact it varies from industry to industry, so if you are a call center or an information technology worker, people in India and Philippines are competing for your jobs. If you are an insurance claim processor, Irish workers may be striving for their share and further facing competition from growing trained workforce in Poland and east European countries. If you are an aircraft engineer and designer, Russian workers may be more of a concern. And if you are a textile industry recruit then start looking for opportunities outside the industry as Chinese and Mexican companies will put you out of the job if they haven't by now.
Can these countries keep on having these comparative advantages
Well as mentioned earlier it depends upon the comparative advantage of the country, my personal analysis is that outsourcing is a long term phenomenon and countries and companies which will succeed at it will be those which will treat it as a part of their business strategy.
Companies which just want to ride the outsourcing bandwagon with no long term strategy in place will fail miserably at it. Like all supply and demand issues the outsourcing future will also be decided by the demand and supply of available resources in a particular country. For example off shoring and outsourcing activities during the cold war were from the United States and England to Ireland and Israel. As globalization stepped in more and more countries opened their door to free economy this change led to the emergence of new players like China, India, Philippines, Russia and South Africa.
Among these China emerged as the leader in manufacturing section while India is excelling in information technology. India today is considered one of the most employer-friendly countries for outsourcing because Ireland and Israel have almost saturated their surplus labor pools and salaries in those countries have started rising. While in India educational system churns out almost 3 million College graduates every year and they earn approximately one-tenth to one-fifth the salaries of their Western European or American counterparts.
As the cycle in previous outsourcing hotbeds proved that once the pool starts saturating and prosperity level increases the economy moves toward two things
• One higher salary for the working class as they require more money to sustain their life style.
• Secondly the countries will move towards higher end products. For example in 50's Japan use to manufacture clothing and garments for American market. As the Japanese economy developed it started churning out silicon chips and the made forage into automobiles and electronics. Today Japan is the second largest market in the world and it outsource most of its clothing and garments requirements from China, Japanese owned factories in Taiwan and Korea are producing chips for Japanese electronics. Today some of the biggest names in electronics in American market are Japanese. What started as a Akio Morita revolutionary Walkman today blossomed into Play Station 3 , next generation gaming console.
How outsourcing influencing the American economy
The growing tendency of companies in corporate America to go for outsourcing has seriously influenced the American job market. The fear and noises have almost the same decibel level as the one heard with the introduction of NAFTA ( North American Free Trade Agreement ) in early nineties. The fear at that point of time was that opening our borders for Mexican agriculture products will wipe of the agriculture industry in the country. It will flood US with Mexican workers all over and lots of manufacturing jobs in southern America agriculture and automobile sectors will be lost. Had these fears came true after the decade of free trade in North America. The free trade proponents believed it has created more jobs and the economy has grown at a faster rate then in the previous decade while the opponents believes it led to job cuts in manufacturing and textile sector, in which Mexico has become the largest clothing supplier to United States of America with in a decade. The truth lies somewhere in between.
Effect of NAFTA on US economy
As free trade brings more opportunities it also brings new competitors. NAFTA opened the US manufacturer doors for exporting products to Mexico plus setting up their factories in Mexico to make them more competitive to European manufacturers. Overall sectoral analysis throws some light on the true picture
Textile Sector
The protectionist most feared about the influx of Mexican garments in the US market resulting in job losses. Taking advantage of NAFTA , Mexico became the largest supplier of clothing and garments to United States with in a decade, but looking closely we will analyze that though it has taken away garment manufacturing jobs but it has increased jobs in spinning and weaving sectors of textile industry. The garment cut and tailored in Mexican factories is American. It provided a good value to our cotton farmers in the country. Additionally it created new jobs in retailing, transporting and hospitality industry.
If we look at it from country strategic prospective it kept away the dominance of China in US market. So it balanced our basket of clothing suppliers.
Low price clothing has also kept inflation rate at lower levels. Today when the protectionist are screaming from the top of their voices about pitfalls of outsourcing, I like to remind them that the minimum price of a 'Made in America' jeans can't be less than $80 dollars, it is just because of outsourcing that we are able to buy it at $12 in nearby Wal-Mart stores. (Jim McKay, Pittsburgh Post-Gazette, 2004)
Automobile and manufacturing sector
Going through an article of New York Times economist Paul Krugman (New York Times 2005), he stated that Toyota has decided to start its car manufacturing plant in northern Canada instead of Southern and Central America. The reason the aptitude level of the Canadian workforce is higher than the American. The answer is simple when foreign investment is shying away because we are not investing in health care and educational benefits for average Americans then it will foul to cry that we are loosing jobs to off-shoring. First and foremost thing is to put our house in order.
Agriculture Sector
Agricultural tariffs were reduced to zero for half of American exports to mexico. The other half will be eliminated by 2009. On grains, dairy, and poultry, NAFTA eliminated Mexico's licensing requirements. The opening contrast to Mexican flooding the US market with its product it provides avenue for US food companies to develop business processes to subsidy flushed Western European farmers.
Overall scenario
Compare to its NAFTA partners U.S. domestic exports to have increased dramatically-with real growth of 95.2% to Mexico and 41% to Canada-growth in imports of 195.3% from Mexico and 61.1% from Canada overwhelmingly surpass export growth
Conclusion
How this outsourcing will influence the long term prospects of US econmy is still to be seen but to put things in context, with or without outsourcing economies shed and creates new jobs every year especially American economy which is the most robust economy in the world. Every years millions of American change or leave their jobs due to technological invention like ATM machines which reduce the number of banking executives needed, process redundancy like need for type writers etc. Job outsourcing is also not one way traffic, one countries outsourcing is other countries in-sourcing. In the manufacturing sector the US economy may be facing trade deficit but in service sector it has trade surplus.
Globalization is bringing new opportunities and challenges for companies and employees, it is also putting stress on governments to provide its citizen better education, improved health care and an overall better standard of living. Outsourcing is developing new markets for American products as these countries which are having rising per capita income and changing lifestyle.
Outsourcing is a win win situation for both parties right now, all the protectionist are trying today is kill the American spirit of freedom and innovation. We became the largest economy in the world not because we were protected but because we opened our doors to foreign capital. Foreigners invested their hard earned money here and created jobs. Today we have similar opportunity to alleviate poverty from some of the poorest countries in the world. Just to put a test ask the Bangladeshi women who makes T-shirt for GAP and Wal-Mart. Government and corporate America must understand that they have a bigger responsibility that goes beyond boosting up the bottom line or fattening top management's collective wallet.
Tuesday, November 3, 2009
Can Slow Growth Boost Outsourcing?
It is no secret that more and more companies are moving their projects outside of the company walls by using outsourcing and freelance services to complete the projects. This move has made it possible for companies the world over to remain profitable in the face of economic downturns. This speaks directly to the benefits to be had when outsourcing projects to freelance professionals from all over the world. So many people are skilled in certain areas that they hardly ever use, mostly because they took a job in the world that was outside of their qualifications in order to survive in the failing economy that is plaguing the world. This is not uncommon. Those with degrees in electronics and their inner-workings are especially prone to this because of the cut throat market that reigns. Upon graduating, these people will most often take a job that has little to do with the education they have received. This is a huge waste of resources as many companies will not hire such persons because they have little or no skills in the real world.
Barring a complete and total makeover of the way that companies hire professionals, the only chance these people have is to take on freelance jobs that have been outsourced by a company in need of such services. This is becoming common place in this world as freelancing takes a hold and makes it mark on the professional world. Outsourcing is rapidly becoming the best way for companies to save money in light of the downturn that the economy has taken. Little can be gained by these companies when they attempt to keep the projects in house. Moreover, they stand to lose substantial amounts of money by attempting to hire and train someone for the project when you take into consideration all the benefits and salary that must be paid to persons that work inside the company. Outsourcing does away with the need for such benefits by hiring professionals from outside the company walls to make certain that the project is completed in a timely and efficient manner without the large costs involved in training someone for the project.
The beauty of outsourcing lies in the simplicity of it all. The freelance professionals that are available for outsourcing the projects are already trained in the inner-workings of the project. This saves the company not only time but money in the long run. The fact remains that hiring a professional for full time work is not productive in most cases when the project is a one time thing that may lead to the possibility of more work but does not guarantee as such. This means that a company may only benefit from a person’s knowledge once and never again. Then if they have already hired such a person then they are required to put into place a full time salary and benefits package that will cost them more than the project is worth in the end. So in essence the company has wasted the valuable resources they have when it comes to a one shot project that is not guaranteed to bring in any long term profits for the company. That is where the outsourcing of projects comes into play. Instead of hiring a full time employee with long term pay and benefits, the company takes part in outsourcing by opening the bidding floor to qualified freelance professionals who will bid for a one time flat fee for the project.
Under the outsourcing system, freelance professionals bid and are awarded the project based on their individual merits and the price that they have bid for the project. If they have the skills required then they simply complete the project in exchange for the pay that is agreed upon. That is the only connection that the freelance professional that is hired for outsourcing has to the company and can make no claims to the company for more than the agreed upon pay. This is all done in the comfort of outside locations. This means that the person does not have an office inside the company and is not subject to any benefits that the other employees of the company enjoy. This in itself has saved the company a lot of money.
When you take all the factors into consideration you see that outsourcing is the way to go for a lot of things. Many companies are finding that they can run with a surprisingly low number of employees on their payroll as compared to previous years when they use outsourcing as their main method of completing projects especially when it comes to those things that require special training and knowledge that is not taught in the base education of the employees that they regularly hire. There is the possibility that many companies will find improved profit margins in relation to the former bottom lines that they once thought to be too low. In the essence of good business decisions, more and more companies are outsourcing their projects in an effort to streamline their business with an eye to the future.
There is much to be gained by outsourcing the projects that a company needs completed. All over the globe there are people who are highly skilled but not using those skills in their normal jobs. This is a tragedy to many who know that these professionals can be tapped to provide valuable services to the companies all over the world that are spending millions of dollars more than they should be to get the work done that is so vital to the company.
Most of the knowledge that can be found in the freelance professionals of the world that take part in outsourcing is mandatory for the companies of today. So much is relied upon by these companies and it is of the utmost importance that they work to maintain a higher profit margin in an effort to boost the world out of the recession that it currently is in to provide the best work possible for their customers. In the end if there are no customers than there is no business and they need to find cheaper ways in which to maintain an airtight business without harming that which is important to them.
Outsourcing is the only solution to the problem as more and more companies are struggling and laying off workers in an effort to remain profitable. They will notice a 50% decrease in costs when outsourcing takes place on the projects that can be completed by freelance professionals. If the economy continues on the downward spiral than a great loss of jobs is not far off in the horizon. This speaks directly to the need for outsourcing of the projects that companies need to the freelance professionals of the world who can get the job done at a fraction of the cost and normally within a shorter amount of time than originally conceived. To maintain this type of business most companies will benefit in a short period of time when they outsource the projects to those who do not operate in house.
Furthering the cause of outsourcing is of vital importance to all those who need the work completed in a timely manner and with the professional quality that so many can bring to the table.
Barring a complete and total makeover of the way that companies hire professionals, the only chance these people have is to take on freelance jobs that have been outsourced by a company in need of such services. This is becoming common place in this world as freelancing takes a hold and makes it mark on the professional world. Outsourcing is rapidly becoming the best way for companies to save money in light of the downturn that the economy has taken. Little can be gained by these companies when they attempt to keep the projects in house. Moreover, they stand to lose substantial amounts of money by attempting to hire and train someone for the project when you take into consideration all the benefits and salary that must be paid to persons that work inside the company. Outsourcing does away with the need for such benefits by hiring professionals from outside the company walls to make certain that the project is completed in a timely and efficient manner without the large costs involved in training someone for the project.
The beauty of outsourcing lies in the simplicity of it all. The freelance professionals that are available for outsourcing the projects are already trained in the inner-workings of the project. This saves the company not only time but money in the long run. The fact remains that hiring a professional for full time work is not productive in most cases when the project is a one time thing that may lead to the possibility of more work but does not guarantee as such. This means that a company may only benefit from a person’s knowledge once and never again. Then if they have already hired such a person then they are required to put into place a full time salary and benefits package that will cost them more than the project is worth in the end. So in essence the company has wasted the valuable resources they have when it comes to a one shot project that is not guaranteed to bring in any long term profits for the company. That is where the outsourcing of projects comes into play. Instead of hiring a full time employee with long term pay and benefits, the company takes part in outsourcing by opening the bidding floor to qualified freelance professionals who will bid for a one time flat fee for the project.
Under the outsourcing system, freelance professionals bid and are awarded the project based on their individual merits and the price that they have bid for the project. If they have the skills required then they simply complete the project in exchange for the pay that is agreed upon. That is the only connection that the freelance professional that is hired for outsourcing has to the company and can make no claims to the company for more than the agreed upon pay. This is all done in the comfort of outside locations. This means that the person does not have an office inside the company and is not subject to any benefits that the other employees of the company enjoy. This in itself has saved the company a lot of money.
When you take all the factors into consideration you see that outsourcing is the way to go for a lot of things. Many companies are finding that they can run with a surprisingly low number of employees on their payroll as compared to previous years when they use outsourcing as their main method of completing projects especially when it comes to those things that require special training and knowledge that is not taught in the base education of the employees that they regularly hire. There is the possibility that many companies will find improved profit margins in relation to the former bottom lines that they once thought to be too low. In the essence of good business decisions, more and more companies are outsourcing their projects in an effort to streamline their business with an eye to the future.
There is much to be gained by outsourcing the projects that a company needs completed. All over the globe there are people who are highly skilled but not using those skills in their normal jobs. This is a tragedy to many who know that these professionals can be tapped to provide valuable services to the companies all over the world that are spending millions of dollars more than they should be to get the work done that is so vital to the company.
Most of the knowledge that can be found in the freelance professionals of the world that take part in outsourcing is mandatory for the companies of today. So much is relied upon by these companies and it is of the utmost importance that they work to maintain a higher profit margin in an effort to boost the world out of the recession that it currently is in to provide the best work possible for their customers. In the end if there are no customers than there is no business and they need to find cheaper ways in which to maintain an airtight business without harming that which is important to them.
Outsourcing is the only solution to the problem as more and more companies are struggling and laying off workers in an effort to remain profitable. They will notice a 50% decrease in costs when outsourcing takes place on the projects that can be completed by freelance professionals. If the economy continues on the downward spiral than a great loss of jobs is not far off in the horizon. This speaks directly to the need for outsourcing of the projects that companies need to the freelance professionals of the world who can get the job done at a fraction of the cost and normally within a shorter amount of time than originally conceived. To maintain this type of business most companies will benefit in a short period of time when they outsource the projects to those who do not operate in house.
Furthering the cause of outsourcing is of vital importance to all those who need the work completed in a timely manner and with the professional quality that so many can bring to the table.
Outsourcing: a Complex Series of Tradeoffs
Outsourcing is not a new concept as basically it’s a “subcontracting of tasks” which were prevalent & even prevalent today, & we know that the Rationale for subcontracting is to save cost & time so that the party subcontracting the task may specialize itself in its core competencies without wasting time & intellect in the task that may be subcontracted.
When we talk about outsourcing we say that An organization entering into a contract with another organization to operate and manage one or more of its business processes. We call it as outsourcing of process. Outsourcing originated and became popular as a cost-saving strategy during a recessionary environment. Usually the processes that are outsourced are the support processes and not of extremely high strategic importance, but necessary for doing business. In a nutshell outsourcing deals with the people and processes in and around business.
No doubt about the success of outsourcing which is visible in present context & even a favourable regime for a country like India where human capital is abundant. But Organizations have now begun to recognize the real costs and inherent risks of outsourcing. Instead of simplifying operations, outsourcing often introduces complexity, increased cost, and friction into the value chain, requiring more senior management attention and deeper management skills than anticipated. It is generally said that “Outsourcing is an extraordinarily complex process, and the anticipated benefits often fail to materialize.”
The outsourcing requires a complex series of tradeoffs: cost savings versus growth, speed versus quality of service delivery, and maintaining organizational cohesion versus knowledge and innovation. Service providers and organizations have inherently conflicting objectives, putting the organization’s objective for innovation, cost savings, and quality at risk. Moreover, the service provider’s structural advantages do not always translate into cheaper, better, or faster services. The world’s largest companies should be able to replicate the service provider’s structural advantages in-house and rely on the service provider only under specific circumstances, such as fixing deep-seated structural problems or maintaining infrastructure operations.
An unfavorable mix of rising costs and increased demand will drive up the cost of outsourcing for organizations and vendors. Weaknesses in operational management will result in more deal failures, prompting organizations to bring more operations back in-house. In the long run, organizations that continue to outsource will experience a loss of bargaining power to vendors as the supply side consolidates. Those that apply strong skills in deal structuring and risk management and strong management skills to oversee deals from inception to execution will be best positioned to reap the benefits of outsourcing.
In the Real World, Outsourcing Frequently Fails to Deliver Its Promise. To prove this statement Here is a chart which represent that what were the expectations of the companies & what were the resultant of the outsourcing there task.
Outsourcing of jobs were done to increase the efficiency of the Outsourcing company & to increase their core competency as we said earlier but the trade offs are heavy as compared to the benefits which are anticipated.
Let’s understand that what may be the various risks which are attached with this process.
Concerns over Data Security
It is an important factor which is bothering the minds of top management of the companies whose core business involves transfer of confidential data, like banks.
Two successive well published cases in the immediate past of Indian BPO’s not being able to protect confidential client data bring into sharp focus not just the security issues connected with one of India’s fastest growing areas in the services sector.
The first case involves a fast growing areas listed BPO which has a strong business relationship with Citicorp, the worlds largest financial service group one of the pioneers of outsourcing.
A few employee of the BPO allegedly obtained, through fraudulent means, confidential data including passwords from their clients. All citibank’s customers in US & thereafter withdraw money.
The most recent case has arisen out of a “sting operation” mounted by a British tabloid. One of its undercover reporters managed to “buy” data of some 1000 account holders of several British banks from a junior employee of a delhi based BPO, to which the banks had outsourced a chunk of their routine business.
Here the tradeoff is clear easiness of work at the cost of Data Security. Is outsourcing really reducing the burden?
Structural Risks
Outsourcing Generates Fundamental Risks and Concerns, More than Half of Which Are Structural and Cannot Be Fully Mitigated. Companies are exposed to fundamental outsourcing risks and are facing go/no-go challenges as new risks emerge. 45 percent of the companies who outsoucing stated that an organization should not outsource processes that it does not fully understand. emphasized that outsourcing without fully understanding the organization’s processes and cost structure is extremely risky because the organization will not know what to demand from vendors and how much to pay. In the below given graph are given some structural risks which are faced by the companies.
Limited transparency and an increased lack of control due to vendors’ subcontracting is again defecting the objectives of outsourcing. Global companies often are unable to find global vendors to provide standardized services across the different regions, driving them to employ multiple vendor relationships or scale back outsourcing objectives.
Loss of Control
Loss of control over outsourced functions poses a substantial threat to ongoing operations. It is viewed that loss of control over outsourced functions is a substantial risk.
– “Avoid outsourcing ‘lock, stock, and barrel,’ in order to maintain control (over our value chain).” Said by an top management official who is not in favour of outsourcing.
Due to the above cause many companies are bringing outsourced functions back inhouse because they realize they have lost control over critical processes. – “Too much outsourcing results in lack of control. Companies should not outsource key areas where losing control can be disastrous.” Is a statement which shows again a serious tradeoff i.e outsourcing a critical process is to save cost but at the cost of loss of control over that process & finally increased dependency.
Reduction in the Responsiveness to the changing environment
Outsourcing Often Reduces Organizations’ Responsiveness to Market Changes and Poses
Internal Political, Organizational, and Cultural Challenges. Multi-year contracts result in a loss of flexibility to react to market changes, hurting companies’ competitiveness. are concerned about the loss of flexibility to react to changes in the market (e.g., competitive, regulatory), as a result of being locked into multi-year deals.
Vendors push for long-term deals to recoup initial investments and make profits. When pressed to shorten deal length, prices increase. Here we find a There is an explicit trade-off between maintaining flexibility and lowering cost.
We find a clear Shift of Bargaining Power to the Vendors, While Contracts Often Provide
Limited Protection. Handover of control and knowledge to the vendor creates an ongoing dependency on the vendor. This dependency ultimately shifts power to the vendor and weakens the organization. This is slow but sure process, Once an organization has gone through the process of adjusting its retained organization and its skill sets, it no longer holds the capabilities and skill sets to manage these functions in-house, increasing dependency on the vendor.
Long-term contracts and proprietary systems further increase vendors’ bargaining power. Vendors might lock companies into using proprietary systems, making it difficult to switch vendors in the future.
Organizations are trying to offset this trend by negotiating shorter-term, more flexible contracts and by working with multiple vendors. However, these mitigation strategies provide limited protection. Short-term deals even (less than three years) often create high dependency on vendors, holding organizations captive. “Second sourcing” (wherein two outsourcers provide services to forestall monopoly pricing power) is difficult with services outsourcing. Multi-vendor models increase the level of complexity, requiring additional resources from the organization. Vendor dependency cannot be fully mitigated because the organization no longer owns the functions, knowledge, people, and systems.
And, organizations then find themselves trapped in deals with higher rates and low-quality delivery.
Illusion of Costs saving
Outsourcing, which originated as a popular cost-saving strategy during a recessionary economic environment, is still dominantly driven by cost-related objectives and the perception that organizations benefit from vendors’ economies of scale. However, evidence of tailored deals and inhouse economies of scale at large organizations suggests that vendors’ scale advantages may be illusory. Lack of transparency, bundling of services, and a variety of marketing techniques have created suspicion about the savings from outsourcing. Real-world experiences suggest that the potential for cost savings has been overstated.
Limited transparency to a vendor’s pricing and cost structure makes it difficult to understand cost savings. Transparency to a vendor’s costs decreases as outsourcing contracts are bundled with other services. Bundling makes it difficult for organizations to distinguish unit costs and complicates business cases. Bundling allows financial engineering that hides the true economics of the deals. Vendors employ marketing techniques that can create illusory cost savings. Under-market pricing is common due to fierce competition among vendors. Vendors undertake contracts that are not economically viable for them, especially with early mega-deals or strong brand entrants. Which results in poor performance & losing quality.
Conclusions
Organizations have now begun to recognize the real costs and inherent risks of outsourcing. Instead of simplifying operations, outsourcing often introduces complexity, increased cost, and friction into the value chain, requiring more senior management attention and deeper management skills than anticipated. In addition, outsourcing has allowed organizations to transfer financial and operational risk to vendors, but organizations are discovering that their contracts will never fully protect them against customer damage and business losses caused by service disruption. Many have responded by bringing operations back in-house.
Outsourcing will lose “holy grail” status. In the future, companies will not outsource because it is the latest management fad, and “it is the thing to do.” Vendors will become more selective in choosing new clients to avoid taking on “mess for less.” Organizations will outsource less. Organizations will carefully define core, strategic, and “thought-leadership” functions and will keep those inhouse to retain knowledge, confidentiality, and control over key functions. Some organizations will decide to outsource only short-term using the Transform-Operate-Transfer model. As a result of outsourcing only “commodity processes” or outsourcing temporarily for a transformation, organizations will outsource a smaller percentage of their operating expenses. Many organizations will also engage in large scale reinsourcing thereby further eroding the outsourcing market. Organizations’ attempts to manage margins and increase the level of caution when outsourcing will lead to shorter contracts and a squeeze on profit margins of large providers. This situation will prompt Vendors to continue to rationalize services, cost structure, and pricing.
However, Outsourcing Will Remain a Useful Solution Within the Conservative Context of These Five Models.
Centralize-Standardize-Outsource
• Initially, organizational processes that have been targeted for outsourcing are centralized and standardized, allowing the company to achieve efficiencies internally and to gain detailed management insights into processes and costs.
• Newly-achieved efficiencies allow visibility into potential outsourcing business cases.
• Increased management insight into the functions enables clear definition of operational and cost demands from vendors.
• These companies will engage in typically lower levels of outsourcing, and will keep most cost savings in-house rather than sharing them with the vendor.
Transform-Operate-Transfer
• Organizations employ vendors to transform a function and to run it for a short-term period.
• Transformations are often more easily achieved externally than internally; thus, the benefits outweigh short-term outsourcing costs.
• This model is relevant especially for companies in volatile/ fast-moving industries, where rapid changes and adjustments are required.
Commodities Outsourcing
• Companies will pursue outsourcing of non-core, non strategic, and non-differentiating functions (e.g., Webhosting and mailroom services).
• Companies will outsource these types of functions to vendors that specialize in these areas. The vendors’ “economies of expertise” suggest the vendor will better manage and run these functions.
Risk Transfer (“Insurance”)
• Outsourcing functions, such as disaster recovery, enables organizations to spread the operational and financial risk for functions that they are less able to perform in-house, providing insurance-like protection.
Shifting Fixed Costs to Variable Costs
• In human and financial capital intensive areas, such as legal or infrastructure, vendors offer organizations economies of scale and flexibility, allowing the shift from fixed costs to variable costs.
When we talk about outsourcing we say that An organization entering into a contract with another organization to operate and manage one or more of its business processes. We call it as outsourcing of process. Outsourcing originated and became popular as a cost-saving strategy during a recessionary environment. Usually the processes that are outsourced are the support processes and not of extremely high strategic importance, but necessary for doing business. In a nutshell outsourcing deals with the people and processes in and around business.
No doubt about the success of outsourcing which is visible in present context & even a favourable regime for a country like India where human capital is abundant. But Organizations have now begun to recognize the real costs and inherent risks of outsourcing. Instead of simplifying operations, outsourcing often introduces complexity, increased cost, and friction into the value chain, requiring more senior management attention and deeper management skills than anticipated. It is generally said that “Outsourcing is an extraordinarily complex process, and the anticipated benefits often fail to materialize.”
The outsourcing requires a complex series of tradeoffs: cost savings versus growth, speed versus quality of service delivery, and maintaining organizational cohesion versus knowledge and innovation. Service providers and organizations have inherently conflicting objectives, putting the organization’s objective for innovation, cost savings, and quality at risk. Moreover, the service provider’s structural advantages do not always translate into cheaper, better, or faster services. The world’s largest companies should be able to replicate the service provider’s structural advantages in-house and rely on the service provider only under specific circumstances, such as fixing deep-seated structural problems or maintaining infrastructure operations.
An unfavorable mix of rising costs and increased demand will drive up the cost of outsourcing for organizations and vendors. Weaknesses in operational management will result in more deal failures, prompting organizations to bring more operations back in-house. In the long run, organizations that continue to outsource will experience a loss of bargaining power to vendors as the supply side consolidates. Those that apply strong skills in deal structuring and risk management and strong management skills to oversee deals from inception to execution will be best positioned to reap the benefits of outsourcing.
In the Real World, Outsourcing Frequently Fails to Deliver Its Promise. To prove this statement Here is a chart which represent that what were the expectations of the companies & what were the resultant of the outsourcing there task.
Outsourcing of jobs were done to increase the efficiency of the Outsourcing company & to increase their core competency as we said earlier but the trade offs are heavy as compared to the benefits which are anticipated.
Let’s understand that what may be the various risks which are attached with this process.
Concerns over Data Security
It is an important factor which is bothering the minds of top management of the companies whose core business involves transfer of confidential data, like banks.
Two successive well published cases in the immediate past of Indian BPO’s not being able to protect confidential client data bring into sharp focus not just the security issues connected with one of India’s fastest growing areas in the services sector.
The first case involves a fast growing areas listed BPO which has a strong business relationship with Citicorp, the worlds largest financial service group one of the pioneers of outsourcing.
A few employee of the BPO allegedly obtained, through fraudulent means, confidential data including passwords from their clients. All citibank’s customers in US & thereafter withdraw money.
The most recent case has arisen out of a “sting operation” mounted by a British tabloid. One of its undercover reporters managed to “buy” data of some 1000 account holders of several British banks from a junior employee of a delhi based BPO, to which the banks had outsourced a chunk of their routine business.
Here the tradeoff is clear easiness of work at the cost of Data Security. Is outsourcing really reducing the burden?
Structural Risks
Outsourcing Generates Fundamental Risks and Concerns, More than Half of Which Are Structural and Cannot Be Fully Mitigated. Companies are exposed to fundamental outsourcing risks and are facing go/no-go challenges as new risks emerge. 45 percent of the companies who outsoucing stated that an organization should not outsource processes that it does not fully understand. emphasized that outsourcing without fully understanding the organization’s processes and cost structure is extremely risky because the organization will not know what to demand from vendors and how much to pay. In the below given graph are given some structural risks which are faced by the companies.
Limited transparency and an increased lack of control due to vendors’ subcontracting is again defecting the objectives of outsourcing. Global companies often are unable to find global vendors to provide standardized services across the different regions, driving them to employ multiple vendor relationships or scale back outsourcing objectives.
Loss of Control
Loss of control over outsourced functions poses a substantial threat to ongoing operations. It is viewed that loss of control over outsourced functions is a substantial risk.
– “Avoid outsourcing ‘lock, stock, and barrel,’ in order to maintain control (over our value chain).” Said by an top management official who is not in favour of outsourcing.
Due to the above cause many companies are bringing outsourced functions back inhouse because they realize they have lost control over critical processes. – “Too much outsourcing results in lack of control. Companies should not outsource key areas where losing control can be disastrous.” Is a statement which shows again a serious tradeoff i.e outsourcing a critical process is to save cost but at the cost of loss of control over that process & finally increased dependency.
Reduction in the Responsiveness to the changing environment
Outsourcing Often Reduces Organizations’ Responsiveness to Market Changes and Poses
Internal Political, Organizational, and Cultural Challenges. Multi-year contracts result in a loss of flexibility to react to market changes, hurting companies’ competitiveness. are concerned about the loss of flexibility to react to changes in the market (e.g., competitive, regulatory), as a result of being locked into multi-year deals.
Vendors push for long-term deals to recoup initial investments and make profits. When pressed to shorten deal length, prices increase. Here we find a There is an explicit trade-off between maintaining flexibility and lowering cost.
We find a clear Shift of Bargaining Power to the Vendors, While Contracts Often Provide
Limited Protection. Handover of control and knowledge to the vendor creates an ongoing dependency on the vendor. This dependency ultimately shifts power to the vendor and weakens the organization. This is slow but sure process, Once an organization has gone through the process of adjusting its retained organization and its skill sets, it no longer holds the capabilities and skill sets to manage these functions in-house, increasing dependency on the vendor.
Long-term contracts and proprietary systems further increase vendors’ bargaining power. Vendors might lock companies into using proprietary systems, making it difficult to switch vendors in the future.
Organizations are trying to offset this trend by negotiating shorter-term, more flexible contracts and by working with multiple vendors. However, these mitigation strategies provide limited protection. Short-term deals even (less than three years) often create high dependency on vendors, holding organizations captive. “Second sourcing” (wherein two outsourcers provide services to forestall monopoly pricing power) is difficult with services outsourcing. Multi-vendor models increase the level of complexity, requiring additional resources from the organization. Vendor dependency cannot be fully mitigated because the organization no longer owns the functions, knowledge, people, and systems.
And, organizations then find themselves trapped in deals with higher rates and low-quality delivery.
Illusion of Costs saving
Outsourcing, which originated as a popular cost-saving strategy during a recessionary economic environment, is still dominantly driven by cost-related objectives and the perception that organizations benefit from vendors’ economies of scale. However, evidence of tailored deals and inhouse economies of scale at large organizations suggests that vendors’ scale advantages may be illusory. Lack of transparency, bundling of services, and a variety of marketing techniques have created suspicion about the savings from outsourcing. Real-world experiences suggest that the potential for cost savings has been overstated.
Limited transparency to a vendor’s pricing and cost structure makes it difficult to understand cost savings. Transparency to a vendor’s costs decreases as outsourcing contracts are bundled with other services. Bundling makes it difficult for organizations to distinguish unit costs and complicates business cases. Bundling allows financial engineering that hides the true economics of the deals. Vendors employ marketing techniques that can create illusory cost savings. Under-market pricing is common due to fierce competition among vendors. Vendors undertake contracts that are not economically viable for them, especially with early mega-deals or strong brand entrants. Which results in poor performance & losing quality.
Conclusions
Organizations have now begun to recognize the real costs and inherent risks of outsourcing. Instead of simplifying operations, outsourcing often introduces complexity, increased cost, and friction into the value chain, requiring more senior management attention and deeper management skills than anticipated. In addition, outsourcing has allowed organizations to transfer financial and operational risk to vendors, but organizations are discovering that their contracts will never fully protect them against customer damage and business losses caused by service disruption. Many have responded by bringing operations back in-house.
Outsourcing will lose “holy grail” status. In the future, companies will not outsource because it is the latest management fad, and “it is the thing to do.” Vendors will become more selective in choosing new clients to avoid taking on “mess for less.” Organizations will outsource less. Organizations will carefully define core, strategic, and “thought-leadership” functions and will keep those inhouse to retain knowledge, confidentiality, and control over key functions. Some organizations will decide to outsource only short-term using the Transform-Operate-Transfer model. As a result of outsourcing only “commodity processes” or outsourcing temporarily for a transformation, organizations will outsource a smaller percentage of their operating expenses. Many organizations will also engage in large scale reinsourcing thereby further eroding the outsourcing market. Organizations’ attempts to manage margins and increase the level of caution when outsourcing will lead to shorter contracts and a squeeze on profit margins of large providers. This situation will prompt Vendors to continue to rationalize services, cost structure, and pricing.
However, Outsourcing Will Remain a Useful Solution Within the Conservative Context of These Five Models.
Centralize-Standardize-Outsource
• Initially, organizational processes that have been targeted for outsourcing are centralized and standardized, allowing the company to achieve efficiencies internally and to gain detailed management insights into processes and costs.
• Newly-achieved efficiencies allow visibility into potential outsourcing business cases.
• Increased management insight into the functions enables clear definition of operational and cost demands from vendors.
• These companies will engage in typically lower levels of outsourcing, and will keep most cost savings in-house rather than sharing them with the vendor.
Transform-Operate-Transfer
• Organizations employ vendors to transform a function and to run it for a short-term period.
• Transformations are often more easily achieved externally than internally; thus, the benefits outweigh short-term outsourcing costs.
• This model is relevant especially for companies in volatile/ fast-moving industries, where rapid changes and adjustments are required.
Commodities Outsourcing
• Companies will pursue outsourcing of non-core, non strategic, and non-differentiating functions (e.g., Webhosting and mailroom services).
• Companies will outsource these types of functions to vendors that specialize in these areas. The vendors’ “economies of expertise” suggest the vendor will better manage and run these functions.
Risk Transfer (“Insurance”)
• Outsourcing functions, such as disaster recovery, enables organizations to spread the operational and financial risk for functions that they are less able to perform in-house, providing insurance-like protection.
Shifting Fixed Costs to Variable Costs
• In human and financial capital intensive areas, such as legal or infrastructure, vendors offer organizations economies of scale and flexibility, allowing the shift from fixed costs to variable costs.
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