To survive in today’s marketplace, companies must focus on their core competencies. To do this, they must divest themselves of necessary but non-core processes such as human resources, finance and accounting, and information technology, while simultaneously improving the quality of these services and reducing their costs. Increasingly, companies of all types and sizes are turning to outsourcing to accomplish this feat. Although many companies have used outsourcing for many years, many questions still surround it. What does outsourcing represent? What is the best way to go about doing it? Can real value be achieved through outsourcing?

What is Outsourcing?

Outsourcing is when an organization, or buyer, transfers the ownership of a business process to a supplier. When the buyer hands over the process, it also hands over the responsibility to determine if the tasks involved are appropriate, and if appropriate, how they should be executed. The buyer then focuses on communicating the results it wants to purchase to the supplier. The buyer and supplier then establish service levels to measure the results the buyer requires, and then continually monitors the metrics to make sure the buyer is receiving the results they are paying for.

Another way to define outsourcing is to define what it is not. Contracting is the purchasing of goods or services when the buyer owns the process. If they buyer owns the process but purchases time, products, or services to facilitate that process, then the buyer is in a contractual relationship. If the supplier owns the process, then the buyer is probably in an outsourcing relationship.

Why Outsource?

The following are the reasons why businesses most often choose to outsource some of their processes. At times, these reasons work in combination with one another. Companies outsource to:

•  Reduce and control operating costs
•  Improve company focus
•  Improve quality
•  Access capabilities not otherwise available
•  Free internal resources for other purposes
•  Make capital funds available
•  Reduce risk
•  Gain flexibility
•  Turn fixed costs into variable costs

The most frequent reason to outsource is to reduce operating costs. If a buyer cannot receive an improved economic position as a result of its outsourcing decision, then it should not outsource. Cost reduction is central to almost all outsourcing transactions—and certainly all successful ones. Another frequent reason to outsource is the buyer’s desire to concentrate the focus of the organization on more important areas. Companies find that if they can identify and focus on their core processes and functions, and allow other companies (which are expert in a process) to perform the non-core process or aspects of the business, they begin to thrive. By outsourcing non-core functions, the buyer can tap into more competence, energy and ideas.

How can the Supplier Provide Services at a Lower Cost?

For a supplier to take over an existing process and provide it back to a buyer at a lower cost and at an acceptable standard of performance, and still make money, the supplier must leverage a combination of economies of scale, expertise, and access to benefits not available to the buyer. The supplier’s economy of scale can create a large source of value in the business realm. If the supplier can transfer a buyer’s process into it’s own operation without significantly altering the way that business function works, and make use of under-utilize equipment and facilities, the supplier can significantly lower the per-unit cost. An outsourcing supplier must have or develop expertise superior to that of its prospective customers. To develop this expertise, the supplier will focus its full attention and investment on developing expertise in one area as its core business, while its buyers focus on a different areas as their core business. When a supplier has access to benefits not available to its potential buyers, it can use that access as a leverage point to lower cost or create value. Access to capital funds or lower cost raw material are examples of access benefits.

Key to Successful Outsourcing Arrangements

Many times, the outsourcing buyer and suppliers see themselves as partners. Partners have the same business objective, but in outsourcing, the buyer and supplier each have their own separate business objectives. What they do have is a common agenda specified in their outsourcing arrangement, making the buyer and supplier outsourcing allies, not partners.

Open communication and managing change is of paramount importance in a successful outsourcing arrangement as well as the need for a workable Service Level Agreement (SLA). The buyer and supplier should plan on a long term alliance, but should keep the contractual period short to enhance open communication. The supplier needs that long alliance to capitalize on the investment made to support the buyer, but should constantly be earning the buyer’s business through short contracts. As part of the contract, and the key document in an outsourcing arrangement is the SLA. The SLA helps manage the strategic relationship between the buyer and supplier, and includes the identification of responsibilities, and desired results. To be meaningful, the results must be objective, measurable, quantifiable, and comparable against pre-established criteria.

Like it or not, outsourcing is here to stay. It is already the foundation of the global, connected economy. It was once a strategic tool, but today, the Internet has made outsourcing an all-encompassing paradigm. You may choose to ignore it, but you do so at your own peril, because, your competitors are not ignoring it.