Advantages and disadvantages of outsourcing - Essay Example

?Advantages and Disadvantages of Outsourcing Table of Contents Introduction 3 2.Growing Importance of Outsourcing 4 3.Influence of Outsourcing 6 4.Benefits of Outsourcing 9 5.Risk and Disadvantages of Outsourcing 11 6.Conclusion 13 Reference 14 1. Introduction Outsourcing has become a major business in today’s world. Most of the big companies outsource their work which is not their core operation. To understand outsourcing one has to know what does outsourcing means. Outsourcing can be defined as contracting out a work which is not the core function of the business. Various functions of the business can be outsourced. The function which are most popular in outsourcing are IT functions, customer care, human resource, financial functions, marketing function etc. Nike the famous sports accessories company had outsourced the work of manufacturing shoes to countries like India and China as this will reduce the cost is an example of outsourcing. Off shoring is also a type of outsourcing. When a company outsources its work to other companies which are situated in different countries is known as off shoring. The main off shoring companies are Price Waterhouse Coopers, HSBC, TCS, Wipro, IBM, Capgemini, Genpact etc. the various type of outsourcing are business process outsourcing, knowledge process outsourcing, finance and accounting outsourcing, legal process outsourcing, human resource process outsourcing etc. Outsourcing has resulted in increase in the number of employment. The process of outsourcing mainly consists of four stages they are 1) identifying whether outsourcing is required by the company 2) identifying and selecting the activities which can be outsourced 3) developing the contract 4) delegating the authority to the service provider so that the working can be smooth. The contract contains mainly three things they are the price at which the service will be provided, the legal terms and condition and the service level agreement. Outsourcing can be done by function, region and industry. 2. Growing Importance of Outsourcing With every passing day outsourcing is becoming popular. As per a study conducted by Capgemini more than 70% of executives think that in today’s competitive world outsourcing is important for survival. About 70% executives feel that savings made by outsourcing can be used for growth and 60% feel that flexibility can be achieved through outsourcing. Companies in manufacturing sectors prefer outsourcing more than the companies in service sector. The decisions of outsourcing are taken after assessing the profitability and companies, ability to grow. Companies who do outsourcing can invest their savings for future growth and innovation. Thus these companies are in better position than the companies who do not do outsourcing as they can save less than the former ones (Brady, 2011). Outsourcing helps the company not only to save money but also to achieve expert service. The firms who do the outsourced work have the human resource who are specialised to do that particular work. In this way the company can utilise expert skill that to without making any capital investment. Thus through outsourcing companies achieve reduction in cost as well as quality service. This is the main reason of growing popularity of outsourcing. Outsourcing is becoming a major business activity which has the potential of becoming an industry. In figure 1 we can see the growth of outsourcing in different sectors. As per the figure about 61% of outsourcing is done in software development, 58% in website and e- commerce, 55% in hosted application, 53% in disaster recovery service and 32% in data centre operations. The use of outsourcing has been increased most in software development organisations. There is almost 14% increase in outsourcing in website and e-commerce sector. The second largest increase in outsourcing is in hosted applications sector. In help desk activities there is no decrease in outsourcing. Thus one can find that every sector is involved in outsourcing. The activities outsourced ranges from software development to help desk or network operation outsourcing can be found in every organisation and in almost every part of the world. This proves the growing importance of outsourcing in business (Computereconomics, 2008). Figure 1 (Source: Computer economics, 2008) The reasons for growing importance of outsourcing can be listed as follows: 1) skilled human resource 2) cost savings 3) standard product or service 4) improved communication facilities 5) technical advancement 6) government policies etc. Nowadays outsourcing is also done in legal services field. Big companies like Infosys who are famous for IT services has also started operating in legal process outsourcing. Through legal process outsourcing, companies can easily handle the litigation involved in doing business in other countries. On the other hand law firms are also able to achieve clients from different parts of the world. In this way outsourcing can be classified in three broad categories business process outsourcing, Knowledge Process Outsourcing and Legal Process Outsourcing. 3. Influence of Outsourcing The global environment for the trade and business has become too competitive and hence, the prevailing market players are trying their best to gain an upper hand position in the market. In such scenario, a number of management strategies have been evolved including like integration, outsourcing etc. The previous section has described the growing importance of outsourcing strategy in the prevailing business world. However, it has also been discussed that in this current scenario, the outsourcing strategies are used extensively to for multiple reasons like flexible managements, quality maintenance, cost controlling etc. Due to this emerging important and extensive due of outsourcing, the entire global business world has been influenced significantly. Considering the growing importance of outsourcing, it can be claimed that it has been playing an instrumental role in the rapid development of global business process. The prevailing organisations availing the outsourcing of business or knowledge process are trying to gain competitive advantages in market as outsourcing strives to offer necessary benefits. A report published by IBM disclosed that the IT companies often enjoy better growth after availing outsourcing process. The following figure represents this graphically. Figure 2: Difference in points in annual growth, as compared to sector median, prior to and after outsourcing IT (Source: IBM Corporation, 2010, p.4) The above results are based on the study of IT firm from 1998 to 2002 and considering the above figure, it can easily understood that there has been significant increase in earnings before interest & tax and return on assets. On the other hand, there has also been a decrease in expanses of selling, administrating and general including depreciation and amortisation that also indicate a positive growth for IT companies. Besides, outsourcing has also impacted the structure of economy and structure of the business world. For example, in German manufacturing industry outsourcing of service and other material have been increasing very rapidly and it has increased the demand of heterogeneous labour. However, a study conducted by Falk and Koebel revealed different result and they found that the purchased services and imported material are merely a consequence in increasing the output level. Moreover, they also explained that due to outsourcing services services and other kind of imported material, there is reduction in demand of different kind of skills (Falk and Koebel, n.d. p.15). Outsourcing also strives to offer an effective and fast way to achieve the organisational goal. A newly started venture can easily achieve the benefits of economies of scale. In this regard, it also helps the managements in making decision regarding buying and producing. This can be explained using a decision matrix for buy/produce developed by Willcocks, Feeny and Islei (1999). Figure 3: Buy/produce decision matrix (Source: Parlov, 2003, p.49) As per matrix, a company having lower capability of performing which lower economy of scale must opt for outsourcing of services or semi-finished of finished goods. Therefore, outsourcing can be very effective achieving overall goal of organization. This has lead to increase the market competition as the companies using outsourcing strategies are able to focus on the market competition for developing their core competencies and competitive advantage (Parlov, 2003, p.49). By analyzing the above discussions, it can be realized that outsourcing has been playing a vital role shaping the nature of competitive market by developing overall performance. Better performances of companies are necessary for industrial performance, and well performing industries are necessary for economic growth and development. On the other hand, the outsourcing has also led to emerge many new sectors like KPO and BPO. In many developing counties like India, Malaysia, Thailand etc, KPO and BPO sectors are contributing significantly in GDP growth rate (Rajan and Srivastava, 2006, p.40). 4. Benefits of Outsourcing As discussed earlier the importance of outsourcing is growing day by day. A particular concept can only become popular if numerous benefits can be achieved from that concept. In the table given under the heading growing importance of outsourcing it can be seen that many sector are practicing outsourcing, this shows there larger benefits involved in outsourcing. Many activities which were earlier done by the companies itself like help desk activities are now outsourced to other firms who are specialised in doing the activity. Thus one can find the use of outsourcing in every sector of business. There are many benefits of outsourcing. The most popular benefit of outsourcing is decrease in overhead expenses. Another main advantage of outsourcing is reducing noncore operation. This in turn helps to focus on the main goal of the organisation and also the possibilities of innovation and growth. It also helps to direct the staff to focus more on the critical projects. Outsourcing also helps to spread the risk. Every activity whether core or noncore involves a certain amount of risk. Outsourcing helps divide this risk as with the company the firm who is doing the out sourced work is also spending on the projects hence the risk gets divided. Outsourcing also helps the company to reduce expenses for advance technology used for the work which are outsourced. It also helps the management to concentrate more in making strategies for core operations. Through outsourcing the company can reduce staffing problems to a greater extent. Thus management can achieve more efficiency through outsourcing. Both the company who is outsourcing the work and who is providing the service are benefited through the process of outsourcing. The company can achieve cost efficiency by outsourcing its some of the work. If the work which is not the core operation is outsourced the company can concentrate more on its core operations. This will increase the chance of achieving more profit from operations. If the ancillary work is outsourced the company can spend less in capital expenditure because they will not have to spend money to develop the infrastructure required for those operations. Another benefit of outsourcing is quality service. Outsourcing will help the companies to achieve higher service or product quality by spending less money. Companies will not have to appoint specialised employees to do the work which they are outsourcing this will in turn help them to lower the overhead expenses and will in turn increase their profit. On the other hand the firms who are doing the outsourced work are able to get large number of clients from different parts of the world like the law firms are now able to get clients not only from its country but also from the foreign countries. This helps them to expand their business. Outsourcing also helps in increasing the number of employment opportunities thus helps in increasing the GDP of the country. Hence, outsourcing not only benefits the companies but also the country that is doing the outsourced work. 5. Risk and Disadvantages of Outsourcing Previous sections have specifically focuses on necessity and benefits of outsourcing, and it has disclosed that outsourcing has enabled betterment of business process and market development which has also bring major development to developing nations. However, along with the multiple benefits of outsourcing, there are a number of risks and disadvantages of outsourcing are associated with it for firms as well for the economy. Firstly, outsourcing is often criticised as it creates major threats for employment opportunities. One of the primary benefits of outsourcing is that the can avail services and material at much lower cost that in-house production in absence of economies of scale. In this process, the firms offering outsourcing services are mainly based in developing countries where cost of labour and other cost are much lower. This has caused to shift of major employment opportunities from one country to another. For example, increasing IT services by India has led to reduce the employment opportunities in America. In fact in America, annual salary of American software development is around $70,000 whereas, in case of India, a software programmer’s average salary is around $8,000. A survey conducted by Associated Press-Ipsos disclosed that nearly 69% of American felt that outsourcing from another developing has negative effect on the economy (Reyna, 2010, p.4). Another major issue and risk in availing outsourcing in the threat to security of firms’ internal process. In case of in-house process, the necessity security can be maintained properly but while availing outscoring, to some extent access of control are passed to the company offering outsourcing services. This can cause serious damage to security of the company. On the other hand, it also becomes quite risky in maintaining the benchmark quality of the imported services or material. Low quality works can harm corporate image. Moreover, by availing outsourcing, department is entire shift out of the company that may produce lack communication and proper synchronisation between cross functional department. Necessary information also cannot be obtained for better decision making purposes (Mierau, 2007, p.4). Ethical concern is also major issue in outsourcing process. The companies offering outsourcing often engages in unethical practises which hampers the image of the company availing outsourcing. In this regard, the case of Nike can be explained. In fact, Nike does not have in-house production for its footwear and the most of shoes are outsourced from countries like China, Indonesia etc. Nike’s shoe manufacturer in China are blamed for unethical labour practises like low wages, unconventional working environment etc. Nike was criticised for outsourcing shoes from these manufacturers (Ruth, 2010). Basically, the major threats from the bad outsourcing services can also pose greater threat to the sustainability of the company. In case of offshore outsourcing degree of such risk is higher. They put the companies “at risk by exposing, stealing, and/or reselling confidential assets” and motivation behind such reasons include “mischief, retribution, extortion, or even for profit” (Juniper Networks, Inc, 2010, p.2). For example, in case of global financial institutions, fund of many customers were stolen by offshore outsourcing company. Besides in case of a popular U.S.-based hospital, due to outsourcing errors, detailed information regarding 50 patients was posted on website. These examples clearly described potential threat that can raise more serious issues in future (Juniper Networks, Inc, 2010, p.2). 6. Conclusion With development of trade and business, the necessity of multiple strategies tools and techniques are increasing, and outsourcing is one of the most widely used strategic processes. The emergence of outsourcing business has brought major developments in business world including economic development. Major strengths of outsourcing services includes better performance of business as it is meant to offer low cost production, operational efficiency, more focused business process, availability of better technology etc. The discussion has also given evidences of increasing financial performance of company after availing outsourcing services or material. On the other hand, it is also creates major issues and threat to the company and to employment opportunities. American employment opportunities have been hurt significantly due to offshoring outsourcing. Moreover, issues related to quality, security, ethical performance are major drawbacks in outsourcing. Reference Brady, R. (2011). Growth in outsourcing like it or not. [Online]. Available at: http://www.businessweek.com/managing/management_innovation/blog/archives/2009/08/growth_in_outso.html. [Accessed on: July 20, 2011] Computer Economics. (2008). Growth in computer outsourcing no end in sight. [Online]. 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Available at: http://www.hrotoday.com/pdf/white-papers/strategic-implications-of-kpo.pdf. [Accessed on: July 20, 2011]. Parlov, I. (September 09, 2003). The Influence of Outsourcing on Achieving Business Goals in Large Croatian Companies. [Doc]. Available at: http://www.efst.hr/management/Vol9No1-2004/3-parlov.doc. [Accessed on: July 20, 2011]. Rajan, R. S. and Srivastava, S. (June, 28, 2007). Global Outsourcing of Services: Issues and Implications. [Pdf]. Available at: http://www.hcs.harvard.edu/~hapr/winter07_gov/rajan.pdf. [Accessed on: July 20, 2011]. Reyna, P. (June 18, 2010). Looking at the Advantages and Disadvantages of Outsourcing. [Pdf]. Available at: http://next.eller.arizona.edu/courses/outsourcing/Fall2009/student_papers/final_papers/Reyna%20Padilla.pdf. [Accessed on: July 20, 2011]. Ruth, C. (April 28, 2010). Jim Keady Tells Nike, "Don't Sweat It". [Online]. Available at: http://www.generationpulse.org/en/content/explore/pages/globalization/jim-keady-tells-nike-dont-sweat-it. [Accessed on: July 20, 2011]. Read More