The Advantages and Disadvantages of Outsourcing in Business

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Outsourcing (sometimes referred to as "contracting out") shifts tasks, operations, jobs, or processes to an external workforce, by contracting with a third party for a significant period of time. Businesses typically do this to reduce costs or improve efficiency. Outsourced functions can be performed by the third party either onsite or offsite of the business.

Why Outsource?

Sometimes a company experiences growth at a rate that it cannot support with its own, internal staff. To keep up the pace, the firm can choose to hire a pre-trained workforce from a third-party firm, to deploy as needed and where needed in its operations without interrupting its business flow.

Additionally, a company might have processes that only take place for a short time, making it much more efficient to hire a temporary, outsourced team of workers for completion. If the company implements a new process it can outsource the work to trained workers, instead of investing the time, money and effort to train and maintain internal workers.

Additionally, outsourcing firms often provide management-level employees along with their work teams, which frees up internal employees to take on other work.

Some Examples

As a cost-saving measure, outsourcing can have significant impacts in sectors like manufacturing. In the U.S., for example, manufacturers have outsourced jobs to workers in countries like China and Bangladesh.

This practice is also known as "offshoring," which involves outsourcing to a third party in a country other than the one where the outsourcing company is based in order to save on labor costs.

Outsourcing is not limited to manufacturing jobs. Customer service jobs, such as those in call centers, and computer programming jobs also are outsourced by companies seeking ways to reduce costs. A large number of companies outsource at least some functions of human resources tasks, such as employee benefits management and payroll.

Outsourcing also can involve the purchasing of components from another source, such as components for computer equipment. Components sometimes can be purchased for less than it would cost for companies to manufacture those components themselves, and the components may be of higher quality.

Apple is a good example of this. While its products are designed in the U.S., many of the components used in those products are purchased from third-party vendors.

Information technology (IT) services also can be outsourced. For example, cloud computing and software-as-a-service (SaaS) offer companies access to computer services and tools that once were managed in-house by companies' IT departments.

Advantages

Outsourcing can free up cash, personnel, facilities and time resources. It can result in cost savings from lower labor costs, taxes, energy costs, and reductions in the cost of production.

  • In addition to cost savings, companies may also employ outsourcing strategies in order to focus on core business competencies. This allows companies to devote more resources to what they do well, which can improve efficiency and increase competitiveness. Production can be streamlined and production times shortened while reducing operational costs.
  • The noncore functions that a firm outsources will usually go to outside organizations for whom those functions are a core business competency, further benefiting the business through the improved management of those functions.
  • A company also may benefit from outsourcing by avoiding government regulations or mandates, such as environmental regulations or safety regulations and requirements.

Disadvantages

While outsourcing has many advantages, it also presents some disadvantages.

  • The relationship with the third party that takes on the outsourced functions must be managed. This includes negotiating and signing contracts, which requires time and the involvement of a company's legal counsel, as well as the day-to-day communication with and oversight of the outsourced work.
  • Security also is an important factor in outsourcing. Many outsourcing relationships inevitably will involve the third party organization's access to sensitive business data, trade secrets, and other confidential information that is necessary to perform contracted functions.

    There may be some negative public relations impacts for companies when outsourcing results in the loss of a large number of jobs for workers in their local communities.