Brief History of Outsourcing
For most of the 20th century, a successful firm was defined by its ability to own, manage and directly control all of its assets and processes. In the 1950s and 1960s, to protect profits, companies began to look for ways to broaden their base and take advantage of economies of scale. This resulted in the emergence of diversification as a popular strategy.
As competition became more global in the 1970s and 1980s, organizations found that diversification had actually bloated their management structures. Consequently, they had lost their flexibility. To counter this undesirable development, many large companies began to consider outsourcing. Shifting the focus to their core processes, they handed off non-critical (non-core) procedures, to be managed by third parties.
It wasn’t until the early 1990s, however, that outsourcing really caught on. Companies, now focusing on cost-saving measures to increase revenues, realized the value of handing-off functions necessary, but not directly related, to their core businesses. The trend toward using outsourcing as part of an effective business strategy continues to the present.
Traditionally, headcount and cost reductions were the primary drivers of outsourcing initiatives. Today, however, outsourcing is a more strategic decision, focusing on core competencies. Some common reasons for outsourcing in the 21st century include:
- Improving company focus
- Gaining access to world-class capabilities
- Freeing internal resources ” cash and personnel ” for other departments such as collections, or other purposes, for instance, R&D
- Requiring specific expertise for functions that are either time-consuming or are currently out of control
- Sharing risks and costs with a partner
- Scaling the project to match increases & decreases in staffing
An “outsourcing strategy” is the process of determining if and what you should outsource. Once you determine that outsourcing is a good fit for your organization, you need to identify which functions you should outsource.
A multi-step approach, including Planning, Analysis, Design, Implementation and Operations phases “along with a contingency exit strategy ” is required to achieve a successful outsourcing implementation. In this first installment of a 5-part series, we’ll look at Phase 1: Planning.
Deciding What to Outsource
Before outsourcing a business function, a Strategy and Goals document should be drawn up. This is a document detailing your organization’s outsourcing intentions and the strategic rationale for outsourcing. It should describe:
- Goals and objectives for outsourcing, along with their relationship to overall corporate strategy
- Processes to be outsourced and why these processes have been selected for outsourcing
- Critical risks involved in the outsourcing initiative
- Expected duration of the outsourcing initiative
The Strategy and Goals document thus developed becomes a value proposition outlining the expected benefits of outsourcing to customers, both internal and external.
Defining Goals and Objectives
Before you can determine what processes to outsource, you need a clear understanding of your organization’s strategic goals and objectives. Is the sole driver for considering outsourcing cost reduction? Is the objective to increase scalability and flexibility, so that mergers and acquisitions can be better integrated into the organization? Does management hope to drive growth through a redirection of capital and human resources? Is the objective to improve quality, or more efficiently and effectively service customers? Is the aim to access tools or skills not available in your organization?
An understanding of the company’s objectives provides insight into the type of relationship your company is seeking and how the outsourcing initiative should be managed.
Typically, organizations can expect to realize the following benefits from an effective strategic outsourcing initiative:
- Improved focus, as the outside “experts” take on necessary but non-core responsibilities
- Increased customer satisfaction
- Reallocation of internal resources to core activities
- Access to world-class capabilities, systems and services, without the need to build them from the bottom up
- Staffing flexibility, whereby staffing levels are “in sync” with immediate needs
- Reduced operating costs, resulting in increased capital funds availability for things like research and development, market analysis, etc.
- Reduced risk. Markets, competition, government regulations, financial conditions and technologies all change extremely quickly. Outsourcing is a vehicle that enables the organization to share these risks with the outsourcing provider.
- Improved cost, quality, service and cycle times
Selecting the Processes to be Outsourced
Processes that are highly transactional and have low strategic value (non-core) to your organization are typically good candidates for outsourcing.
The definition of a non-core competency is: “any process that does not generate income or help your organization increase its market share.” To help identify internal business functions that are non-core, ask:
- Does this process create or provide a unique competitive advantage for the organization?
- Is the process contributing directly to business growth or expansion?
- If your organization were a start-up, would you build this capability internally?
- Would other companies hire you to perform this process?
- If your organization were in decline, would the staff associated with that function be laid off or furloughed?
Typical Outsourcing Strategy Risks
Outsourcing relationships fail when they are viewed as short-term or tactical solutions, rather than part of long-term strategic plans. To be effective, the process of considering an outsourcing solution ” large or small, long-term or short-term ” must be systematic and fully documented.
Some of the risks involved at this stage include:
- Outsourcing undesirable functions rather than ones that provide the greatest competitive advantage
- Not clearly defining goals and objectives before starting the outsourcing project
- Not establishing an effective internal baseline against which providers are measured
- Inadequate business-case development for the outsourcing decision
- Making a decision to outsource without complete information on internal costs and processes
- Not considering the impact of outsourcing on other functions
- Ignoring areas of risk such as environmental and regulatory factors
- Failure to understand human relations and employment law requirements for an outsourcing initiative
- Announcing outsourcing before sufficient details have been finalized, creating morale issues with internal staff
- Not developing a communication plan tailored to those affected that clearly defines the business reason for outsourcing
- Lack of risk analysis and risk assessment planning
Duration of the Outsourcing Project
When most of us think of outsourcing, we think of jobs lost as they move overseas. However, outsourcing need not be an “all or nothing” venture. It’s possible to utilize outsourcing for a short-term cleanup or to take on only part of the internal department’s duties. Following up on invoices/ receivables is a case in point.
An outsourcing initiative could be used to handle a one-time influx of new credit accounts from a merger or acquisition. Or, you could outsource the handling of a specific subset of your customers, perhaps the smaller accounts that you never have time to contact.
Understanding the outsourcing initiative in terms of your company objectives will help you make key decisions. It will help you determine whether your approach should be to hand-off total responsibility for a non-core function, or to use outsourcing as a strategy to efficiently manage (perhaps seasonally) short-term increases of new accounts.
Phase 2: Analysis and Selection of the Outsourcing Vendor
Browse through our other outsourcing articles below:
- Nine Earmarks of the “Right” A/R Outsourcing Partner
- Managing an Outsourcing Initiative-2
- Managing an Outsourcing Initiative-3
- Managing an Outsourcing Initiative-4
- Managing an Outsourcing Initiative-5
- Receivables Outsourcing
- Using Targeted Outsourcing to Increase Cash Flow
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