How does offshoring differ from outsourcing? When a company hires a third-party organization to perform one or more business functions in a country other than the one that is the major market for the final product or service – that's offshore or overseas outsourcing (which I will refer to simply as 'outsourcing' for purposes of this discussion). By contrast, when you transfer business functions to a foreign affiliate like a subsidiary,...
that's referred to as 'offshoring.' The distinction may be a fine one, but it's important not to confuse these different strategies. What do think is the biggest misconception about outsourcing today? The biggest misconception is that outsourcing always results in significant cost savings. Many companies overestimate their cost savings or potential savings. But there are valuable benefits to outsourcing? Certainly. Technology has made outsourcing cost effective. And there are various reasons why companies choose to do it. It often allows management to focus on core business practices; or reduces costs associated with ancillary activities; or reduces non-core assets and therefore increases the return on assets. Also, it can improve operations efficiency, provide a convenient vehicle for a company to enter a new market, or make it easier for a company to scale outsourced resources quickly in response to market changes.
Outsourcing also helps protect a company by allocating risk to a third party -- examples might be human resources or infrastructure -- and enables a company to leverage outside expertise and resources.
Companies often fail to properly evaluate the legal and regulatory requirements in the country or countries in which they decide to outsource activities. They too often assume no regulations exist or that compliance with U.S. law is sufficient. Nor do companies spend sufficient time preparing an agreement and/or contract with the service provider to protect against potential liability, or in crafting an agreement that protects its IP and other critical interests. What practical issues should companies consider when determining if outsourcing and/or offshoring is right for them?
Don't overestimate the savings. Make sure you take into account both the potential savings and the costs involved, including the costs of developing and maintaining a relationship with the service provider. Security, including protection of data and IP, disaster recovery planning and contingency planning are all important considerations. Often. management gets sold on a particular service provider only to learn later that regulations or other barriers in that provider's country negatively impact their company. So it's prudent to identify the right country first before selecting a provider. Once you do select a provider, negotiate your contract carefully, and never concede on any important issue just to secure a deal. Finally, the transition phase is critical to any outsourcing strategy, so be sure to plan accordingly. How should a company go about determining which location is the most appropriate for outsourcing its business?
Consider labor costs; the maturity and sophistication of the legal framework; the country's stability and openness to foreign investment; infrastructure; educational system; geopolitical risks in the region; language capabilities of the workforce; cultural barriers; and potential market for goods and/or services. India is clearly among the most popular destinations for outsourcing. What makes India so attractive?
As the fourth largest economy on a purchasing power parity basis, and with a large pool of English-speaking skilled and semi-skilled labor available at low cost, India is currently the most popular destination for outsourcing. It also is attractive because of its high economic growth rate and access to sophisticated vendors. More than 200 Indian companies are quality-accredited, serving the needs of 255 Fortune 500 companies.
India also is attractive to U.S. companies because it is a democracy with an established legal system based on English common law and has liberal and transparent investment policies. For instance, 100% foreign investment is now permitted in the software industry and in information technology-enabled services without requirement of prior government approval. What can companies do to protect themselves from liability or other risks if they decide to outsource one or more business functions?
You can protect yourself by fully evaluating the country's legal system and by entering into agreements with service providers that address potential business, legal and other risks. For example, a technology company shouldn't transfer its most coveted intellectual property to outsourcing providers in countries where intellectual property rights are not protected. Also, if you're dealing with sensitive client information, such as health or financial data, you need to be particularly careful about not outsourcing functions to countries that lack strong privacy laws, as that can expose you to lawsuits. Where do you see outsourcing going in the future?
It's likely that companies will continue to use a combination of offshoring and outsourcing during the coming decades. However, as the cost of doing business in countries such as India inevitably increases over time as such countries become more developed, we will see companies looking for other lower-cost locations. China is expected to have an even greater role in both outsourcing and offshoring in the coming years. Another emerging trend is that many U.S. companies are now 'near sourcing' functions to places such as Canada, Mexico, and to lower-cost areas of the United States like Utah and Nevada.