Outsourcing is a common practice of administering some processes of a business to a third party, mainly for the benefit of cost-cutting and efficiency. As such, it is often subjected to pitfalls and limitations, requiring one to use best practices, such as service level agreements, to ensure success. For example, the conflict between the cost of outsourcing and the profit the vendor makes can result in issues with the quality of services. Additionally, because the outsourcing organization is not a part of the business, it has a different culture and a different organizational environment, which can affect the processes. This paper examines the best practices of outsourcing and assesses the main pitfalls and limitations of this practice.
Companies can experience issues when trying to integrate a new process into their operations because the cost of setting it up or re-engineering required for it is overly complicated. Outsourcing is the practice of involving a third party in managing a specific task, operation, service, or function. While beneficial in terms of costs and effort, outsourcing is also challenging as it may be challenging to align the objectives of the outsourcing vendor and client. This paper aims to review the best practices of outsourcing and analyse methodologies, factors, and pitfalls.
Best Practices, Methodologies, and Pitfalls
The practise of outsourcing has become more widely accepted in recent years, and thus many theories and best practices were developed to ensure that outsourcing is beneficial for a business. In general, outsourcing is common for non-core business activities, especially in emerging markets, where the demands of the customers are increasing (Akbari, 2016). Therefore, the basis of outsourcing is to delegate only the tasks and work that is not critical for a business.
Official agreements and contracts that clearly outline the responsibilities of the outsourcing company and the client’s expectations are the main strategies for ensuring a successful partnership. Service level agreements (SLA) are contracts mainly used by information technology (IT) companies, and they contain an outline of service level or an understanding of what services the vendor will provide (Overby, Greiner, & Paul, 2017). As such, it allows an outsourcing client to compare the results to set benchmarks. Thus, another best practice is to use contracts and agreements that clearly define all roles and responsibilities and protect the business from vendors’ mistakes.
Transaction Cost Economics (TCE) is used to assess the tasks that a business needs to outsource and prepare the company for the process. Moreover, because outsourcing has become widely popular as part of supply chain management, the TCE can be used in the complex process of examining vendors’ offers and selecting the best one (Willcocks, Lacity, & Sauer, 2017). For a more in-depth understanding of the preparation and relationship management phases of outsourcing, the combination of TCE and Incomplete Contracts theory can be used.
TCE helps finds answers to some core questions regarding the business and its operations because it outlines the costs that a company pays for certain activities, such as legal fees or payment for information. If the vendor offers a service with lower costs when compared to a business’s own efforts, it is more efficient to use outsourcing. Therefore, TCE helps determine the areas that can be outsourced based on the cost of a transaction.
There are various tools that can help managers make decisions regarding outsourcing and vendor. One example is SWOT, which aids in the process of evaluating the strength of the vendor and possible issues that may arise as a result of this partnership. Other methodologies, such as PESTEL, can also be used for an assessment. Next, through tenders, businesses can receive the best value offer from different outsourcing vendors, which is also beneficial in terms of cost-cutting.
Another methodology that helps make adequate outsourcing decisions is the agency theory, which was initially used to example the relationships with stakeholders. Currently, it helps understand the interactions between different organizations and manage relationships with vendors. This theory suggests that management acts considering the interests of the stakeholders, and thus the outsourcing decisions are made considering the benefit the company will receive (Willcocks, Lacity, & Sauer, 2017). This theory helps understand the process of managing relationships with the vendors.
Factors, which impact the decision of the firm to outsource may vary, for instance, if an outsourcing subject is too costly to perform by the firm or if it does not possess the competency and resources to do it. In the past 25 years, the practice of outsourcing as an integral part of supply chain management has become more important for businesses (Akbari, 2016). Hence, many contemporary companies that outsource consider the factor of investment in an activity as the primary decision-making factor. Notably, due to the specifics of outsourcing, the efficiency of the vendor’s operations has a direct impact on the service that the buyer receives, hence it is the main factor that one has to consider.
The main issue associated with outsourcing is the conflict of interest regarding the price of services and the profit that a provider makes. The central premise of outsourcing is the ability to hire a vendor who will complete a task for cheaper when compared to a business entity setting up the process itself. However, the vendor of outsourcing activities aims to be profitable, which can mean cutting corners and other potential issues associated with efficiency. Hence, one of the critical measures relating to choosing an outsourcing vendor is understanding the business philosophy they adhere to and whether it aligns with that of the company.
The failure rate of setting up a successful outsourcing practice is extremely high as well (Willcocks, Lacity, & Sauer, 2017). Therefore, another pitfall is a correct analysis and the ability to find a vendor that fulfils all requirements and can be trusted in the long term. During the preparation process, when the company establishes which elements of work can be outsourced, the issue of protecting intellectual property arises.
Due to the transfer of certain information, it is vital to ensure that the vendor will not be capable of using the intellectual property of this business after the cooperation is over. In order to avoid these pitfalls, it is vital to spend sufficient time developing management and establishing a relationship with the vendor. Additionally, SLAs are crucial for ensuring that all requirements are followed by the outsourcer.
Overall, this paper examined the best practices of outsourcing, a business practice that gained a lot of popularity as part of supply chain management in recent years. While outsourcing allows for better cost efficiency, the failure rate of setting up a good outsourcing relationship is high. The best practices that can help ensure outsourcing success are the use of TCE theory for analyzing the business processes that can be outsourced. Additionally, the use of SLA contracts is another crucial factor that helps mitigate the pitfalls of outsourcing.
Akbari, M. (2018). Logistics outsourcing: A structured literature review. Benchmarking: An International Journal, 25(5), 1548–1580. Web.
Overby, L. S., Greiner, L., & Paul, L. G. (2017). What is an SLA? Best practices for service-level agreements. Web.
Willcocks, L., Lacity, M., & Sauer, C. (Eds.). (2017). Outsourcing and offshoring business services. London, United Kingdom: Palgrave Macmillan.