Outsourcing free essay sample

Outsourcing is subcontracting a service, such as product design or manufacturing, to a third-party company. The decision whether to outsource or to do in house is often based upon achieving a lower production cost, making better use of available resources, focusing energy on the core competencies of a particular business, or just making more efficient use of labour, capital, information technology or land resources. It is essentially a division of labour. Outsourcing became part of the business lexicon during the 1980’s. Research and Development The competitive pressures on firms to bring out new products at an ever rapid pace to meet market needs are increasing. As such, the pressures on the RD department are increasing. In order to alleviate the pressure, firms have to either increase RD budgets or find ways to utilize the resources in a more productive way. There are situations when a firm may consider outsourcing some of its RD work to a contract research organizations or universities. We will write a custom essay sample on Outsourcing or any similar topic specifically for you Do Not WasteYour Time HIRE WRITER Only 13.90 / page Reasons why a firm could consider outsourcing are: †¢ new product design does not work †¢ project time and cost overruns †¢ loss of key staff †¢ competitive response †¢ problems of quality/yield. The key drivers for RD outsourcing are emerging mass markets and availability of expertise in the field. In this context, the two most populous countries in the world, China and India, provide huge pools from which to find talent. Both countries produce over 200,000 engineers and science graduates each year. Moreover both countries are low cost sourcing countries. Other strategic drivers for outsourcing RD are access to expertise and intellectual property, filling gaps in the capabilities of the RD function, managing risk better, reducing the time to market, and focusing on the core competence or activities of the firm Manufacturing Often companies will develop and market products but leave the manufacturing to other companies that specialize in it. Thus a factory can do manufacturing for several companies and keep a large manufacturing plant operating at nearly full capacity when no individual contract could justify the expense of maintaining the infrastructure. An example of this would be Fabless semiconductor companies which do design etc but do not have their own, extremely expensive, fabrication facilities. Other examples would be companies that specialize in the tasks of procuring parts, assembly, QA, etc. and market these skills as their primary business to companies that outsource manufacturing to them. Information technology field Outsourcing in the information technology field has two meanings. One is to commission the development of an application to another organization, usually a company that specializes in the development of this type of application. The other is to hire the services of another company to manage all or parts of the services that otherwise would be rendered by an IT unit of the organization. The latter concept might not include development of new applications. Reasons for outsourcing Organizations that outsource are seeking to realize benefits or address the following issues: †¢ Cost savings. The lowering of the overall cost of the service to the business. This will involve reducing the scope, defining quality levels, re-pricing, re-negotiation, cost re-structuring. Access to lower cost economies through off shoring called labour arbitrage generated by the wage gap between industrialised and developing nations. †¢ Focus on Core Business. Resources (for example investment, people, and infrastructure) are focused on developing the core business. For example often organizations outsource their IT support to specialised IT services companies. †¢ Cost restructuring. Operating leverage is a measure that compares fixed costs to variable costs. Outsourcing changes the balance of this ratio by offering a move from fixed to variable cost and also by making variable costs more predictable. †¢ Improve quality. Achieve a step change in quality through contracting out the service with a new service level agreement. †¢ Knowledge. Access to intellectual property and wider experience and knowledge. †¢ Contract. Services will be provided to a legally binding contract with financial penalties and legal redress. This is not the case with internal services. †¢ Operational expertise. Access to operational best practice that would be too difficult or time consuming to develop in-house. †¢ Access to talent. Access to a larger talent pool and a sustainable source of skills, in particular in science and engineering. †¢ Capacity management. An improved method of capacity management of services and technology where the risk in providing the excess capacity is borne by the supplier. †¢ Catalyst for change. An organization can use an outsourcing agreement as a catalyst for major step change that cannot be achieved alone. The outsourcer becomes a Change agent in the process. †¢ Enhance capacity for innovation. Companies increasingly use external knowledge service providers to supplement limited in-house capacity for product innovation. †¢ Reduce time to market. The acceleration of the development or production of a product through the additional capability brought by the supplier. †¢ Commodification. The trend of standardising business processes, IT Services, and application services which enable to buy at the right price, allows businesses access to services which were only available to large corporations. †¢ Risk management. An approach to risk management for some types of risks is to partner with an outsourcer who is better able to provide the mitigation. †¢ Venture Capital. Some countries match government funds venture capital with private venture capital for startups that start businesses in their country. †¢ Tax Benefit. Countries offer tax incentives to move manufacturing operations to counter high corporate taxes within another country. Criticisms of outsourcing Quality Risks Quality Risk is the propensity for a product or service to be defective, due to operations-related issues. Quality risk in outsourcing is driven by a list of factors. One such factor is opportunism by suppliers due to misaligned incentives between buyer and supplier, information asymmetry, high asset specificity, or high supplier switching costs. Other factors contributing to quality risk in outsourcing are poor buyer-supplier communication, lack of supplier capabilities/resources/capacity, or buyer-supplier contract enforceability. Two main concepts must be considered when considering observability as it related to quality risks in outsourcing: the concepts of testability and criticality. Quality fade is the deliberate and secretive reduction in the quality of labour in order to widen profit margins. The downward changes in human capital are subtle but progressive, and usually unnoticeable by the out sourcer/customer. The initial interview meets requirements, however, with subsequent support, more and more of the support team is replaced with novice or less experienced workers. Some IT shops will continue to reduce the quality of human capital, under the pressure of drying up labor supply and upward trend of salary, pushing the quality limits. Such practices are hard to detect, as customers may just simply give up seeking help from the help desk. However, the overall customer satisfaction will be reduced greatly over time. Unless the company constantly conducts customer satisfaction surveys, they may eventually be caught in a surprise of customer churn, and when they find out the root cause, it could be too late. In such cases, it can be hard to dispute the legal contract with the outsourcing company, as their staff is now trained in the process and the original staff made redundant. In the end, the company that outsources may find that it is worse off than before it outsourced its workforce. Quality of service Quality of service is measured through a service level agreement (SLA) in the outsourcing contract. In poorly defined contracts there is no measure of quality or SLA defined. Even when an SLA exists it may not be to the same level as previously enjoyed. This may be due to the process of implementing proper objective measurement and reporting which is being done for the first time. It may also be lower quality through design to match the lower price. There are a number of stakeholders who are affected and there is no single view of quality. The CEO may view the lower quality acceptable to meet the business needs at the right price. The retained management team may view quality as slipping compared to what they previously achieved. The end consumer of the service may also receive a change in service that is within agreed SLAs but is still perceived as inadequate. The supplier may view quality in purely meeting the defined SLAs regardless of perception or ability to do better. Quality in terms of end-user-experience is best measured through customer satisfaction questionnaires which are professionally designed to capture an unbiased view of quality. Surveys can be one of research. This allows quality to be tracked over time and also for corrective action to be identified and taken. Language skills In the area of call centers end-user-experience is deemed to be of lower quality when a service is outsourced. This is exacerbated when outsourcing is combined with off-shoring to regions where the first language and culture are different. The questionable quality is particularly evident when call centers that service the public are outsourced and offshored. The public generally find linguistic features such as accents; word use and phraseology different which may make call center agents difficult to understand. The visual clues that are present in face-to-face encounters are missing from the call center interactions and this also may lead to misunderstandings and difficulties. In addition to language and accent differences, a lack of local social and geographic knowledge is often present, leading to misunderstandings or mis-communications Public opinion There is a strong public opinion regarding outsourcing (especially when combined with offshoring) that outsourcing damages a local labor market. Outsourcing is the transfer of the delivery of services which affects both jobs and individuals. It is difficult to dispute that outsourcing has a detrimental effect on individuals who face job disruption and employment insecurity; however, its supporters believe that outsourcing should bring down prices, providing greater economic benefit to all. There are legal protections in the European Union regulations called the Transfer of Undertakings (Protection of Employment). Labor laws in the United States are not as protective as those in the European Union. Social responsibility Outsourcing sends jobs to the lower-income areas where work is being outsourced to, which provides jobs in these areas and has a net equalizing effect on the overall distribution of wealth. Some argue that the outsourcing of jobs (particularly off-shore) exploits the lower paid workers. A contrary view is that more people are employed and benefit from paid work. Despite this argument, domestic workers displaced by such equalization are proportionately unable to outsource their own costs of housing, food and transportation. On the issue of high-skilled labor, such as computer programming, some argue that it is unfair to both the local and off-shore programmers to outsource the work simply because the foreign pay rate is lower. On the other hand, one can argue that paying the higher-rate for local programmers is wasteful, or charity, or simply overpayment. If the end goal of buyers is to pay less for what they buy, and for sellers it is to get a higher price for what they sell, there is nothing automatically unethical about choosing the cheaper of two products, services, or employees. Social responsibility is also reflected in the costs of benefits provided to workers. Companies outsourcing jobs effectively transfer the cost of retirement and medical benefits to the countries where the services are outsourced. This represents a significant reduction in total cost of labour for the outsourcing company. A side effect of this trend is the reduction in salaries and benefits at home in the occupations most directly impacted by outsourcing. Staff turnover The staff turnover of employee who originally transferred to the outsourcer is a concern for many companies. Turnover is higher under an outsourcer and key company skills may be lost with retention outside of the control of the company. In outsourcing offshore there is an issue of staff turnover in the outsourcer companies call centers. It is quite normal for such companies to replace its entire workforce each year in a call center. This inhibits the build-up of employee knowledge and keeps quality at a low level. Company knowledge Outsourcing could lead to communication problems with transferred employees. For example, before transfer staff have access to broadcast company e-mail informing them of new products, procedures etc. Once in the outsourcing organization the same access may not be available. Also to reduce costs, some outsource employees may not have access to e-mail, but any information which is new is delivered in team meetings. Qualifications of outsourcers The outsourcer may replace staff with less qualified people or with people with different non-equivalent qualifications. In the engineering discipline there has been a debate about the number of engineers being produced by the major economies of the United States, India and China. The argument centers on the definition of an engineering graduate and also disputed numbers. The closest comparable numbers of annual graduates of four-year degrees are United States (137,437) India (112,000) and China (351,537). Failure to deliver business transformation Business transformation promised by outsourcing suppliers often fails to materialize. In a commoditised market where many service providers can offer savings of time and money, smart vendors have promised a second wave of benefits that will improve the client’s business outcomes. According to Vinay Couto of Booz Company â€Å"Clients always use the service provider’s ability to achieve transformation as a key selection criterion. It’s always in the top three and sometimes number one. † While failure is sometimes attributed to vendors overstating their capabilities, Couto points out those clients are sometimes unwilling to invest in transformation once an outsourcing contract is in place. Productivity Offshore outsourcing for the purpose of saving cost can often have a negative influence on the real productivity of a company. Rather than investing in technology to improve productivity, companies gain non-real productivity by hiring fewer people locally and outsourcing work to less productive facilities offshore that appear to be more productive simply because the workers are paid less. Sometimes, this can lead to strange contradictions where workers in a developing country using hand tools can appear to be more productive than a U. S. worker using advanced computer controlled machine tools, simply because their salary appears to be less in terms of U. S. dollars. In contrast, increases in real productivity are the result of more productive tools or methods of operating that make it possible for a worker to do more work. Non-real productivity gains are the result of shifting work to lower paid workers, often without regards to real productivity. The net result of choosing non-real over real productivity gain is that the company falls behind and obsoletes itself overtime rather than making investments in real productivity. Standpoint of labour From the standpoint of labor within countries on the negative end of outsourcing this may represent a new threat, contributing to rampant worker insecurity, and reflective of the general process of globalization. While the outsourcing process may provide benefits to less developed countries or global society as a whole, in some form and to some degree include rising wages or increasing standards of living these benefits are not secure. Further, the term outsourcing is also used to describe a process by which an internal department, equipment as well as personnel, is sold to a service provider, who may retain the workforce on worse conditions or discharge them in the short term. The affected workers thus often feel they are being sold down the river. Careers Impact Industry Impact Security Before outsourcing an organization is responsible for the actions of all their staff and liable for their actions. When these same people are transferred to an outsourcer they may not change desk but their legal status has changed. They no-longer are directly employed or responsible to the organization. This causes legal, security and compliance issues that need to be addressed through the contract between the client and the suppliers. This is one of the most complex areas of outsourcing and requires a specialist third party adviser. Fraud is a specific security issue that is criminal activity whether it is by employees or the supplier staff. However, it can be disputed that the fraud is more likely when outsourcers are involved, for example credit card theft when there is scope for fraud by credit card cloning. In April 2005, a high-profile case involving the theft of $350,000 from four Citibank customers occurred when call center workers acquired the passwords to customer accounts and transferred the money to their own accounts opened under fictitious names. Citibank did not find out about the problem until the American customers noticed discrepancies with their accounts and notified the bank. An offshore financial centre (or OFC), although not precisely defined, is usually a low-tax, lightly regulated jurisdiction which specializes in providing the corporate and commercial infrastructure to facilitate the use of that jurisdiction for the formation of offshore companies and for the investment of offshore funds. The term offshore financial centre is a relatively modern neologism, first coined in the 1980s. Although the terms are not synonymous, many leading offshore finance centres are regarded as tax havens, and the lack of precise definitions often leads to confusion between the concepts. In Tolleys International Initiatives Affecting Financial Havens the author in the Glossary of Terms defines an offshore financial centre in forthright terms as a politically correct term for what used to be called a tax haven. However, he then qualifies this by adding The use of this term makes the important point that a jurisdiction may provide specific facilities for offshore financial centres without being in any general sense a tax haven Most offshore financial centres now promote themselves on the basis of light but effective regulation, and generally only seek to regulate high-risk financial business, such as banking, insurance and mutual funds. An extremely high proportion of hedge funds (which characteristically employ high risk investment strategies) who register offshore are presumed to be driven by lighter regulatory requirements rather than perceived tax benefits. Many capital markets bond issues are also structured through a special purpose vehicle incorporated in an offshore financial centre specifically to minimise the amount of regulatory red-tape associated with the issue. Some offshore jurisdictions have sought to replicate this success with equity issues by forming local stock exchanges, but these have not been a notable success to date. A number of internet-based businesses have recently set up business in offshore financial centres which, whilst lawful in the offshore financial centre, would not be lawful in its target market. These businesses often relate to pornography or gambling. Critics of offshore financial centres suggest that they are not effectively regulated in all areas, and in particular that they are vulnerable to being used by organised crime for money laundering. However, partly in response to international initiatives and partly in a defensive move to protect their reputations, most offshore financial centres now apply fairly rigorous anti-money laundering regulations to offshore business. Some even argue that offshore jurisdictions are in many cases better regulated than many onshore financial centres. For example, in most offshore jurisdictions, a person needs a licence to act as a trustee, whereas (for example) in the United Kingdom and the United States, there are no restrictions or regulations as to who may serve in a fiduciary capacity. Some commentators have expressed concern that the differing levels of sophistication between offshore financial centres will lead to regulatory arbitrage, and fuel a race to the bottom, although evidence from the market seems to indicate the investors prefer to utilise better regulated offshore jurisdictions rather than more poorly regulated ones. Confidentiality Critics of offshore jurisdictions point to excessive secrecy in those jurisdictions, particularly in relation to the beneficial ownership of offshore companies, and in relation to offshore bank accounts. The criticisms are slightly difficult to assess. In most jurisdictions banks will preserve the confidentiality of their customers, and all of the major offshore jurisdictions have appropriate procedures for law enforcement agencies to obtain information regarding suspicious bank accounts. Most jurisdictions also have remedies which private citizens can avail themselves of, such as Anton Piller orders, if they can satisfy the court in that jurisdiction that a bank account has been used as part of a legal wrong. Similarly, although most offshore jurisdictions only make a limited amount of information with respect to companies publicly available, this is also true of most states in the U. S. A. , where it is uncommon for share registers or company accounts to be available for public inspection. In relation to trusts and unlimited liability partnerships, there are very few jurisdictions in the world that require these to be registered, let alone publicly file details of the people involved with those structures. However, there are certainly well documented cases of parties using offshore structure to facilitate wrongdoing, and the strong confidentiality laws in offshore jurisdictions have clearly played a part in the selection of an offshore vehicle for those purposes. Offshore structures are formed for a variety of reasons. Legitimate reasons include: †¢ Asset holding vehicles. Many corporate conglomerates employ a large number of holding companies, and often high-risk assets are parked in separate companies to prevent legal risk accruing to the main group. Similarly, it is quite common for fleets of ships to be separately owned by separate offshore companies to try to circumvent laws relating to group liability under certain environmental legislation. †¢ Asset protection. Wealthy individuals who live in politically unstable countries utilise offshore companies to hold family wealth to avoid potential expropriation or exchange control restrictions in the country in which they live. These structures work best when the wealth is foreign-earned, or has been expatriated over a significant period of time (aggregating annual exchange control allowances). †¢ Avoidance of forced heirship provisions. Many countries from France to Saudi Arabia (and the U. S. State of Louisiana) continue to employ forced heirship provisions in their succession law, limiting the testators freedom to distribute assets upon death. By placing assets into an offshore company, and then having probate for the shares in the offshore determined by the laws of the offshore jurisdiction (usually in accordance with a specific will or codicil sworn for that purpose), the testator can sometimes avoid such strictures. †¢ Collective Investment Vehicles. Mutual funds, Hedge funds, Unit Trusts and SICAVs are formed offshore to facilitate international distribution. By being domiciled in a low tax jurisdiction investors only have to consider the tax implications of their own domicile or residency. †¢ Derivatives trading. Wealthy individuals often form offshore vehicles to engage in risky investments, such as derivatives trading, which are extremely difficult to engage in directly due to cumbersome financial markets regulation. †¢ Exchange control trading vehicles. In countries where there is either exchange control or is perceived to be increased political risk with the repatriation of funds, major exporters often form trading vehicles in offshore companies so that the sales from exports can be parked in the offshore vehicle until need for further investment. Trading vehicles of this nature have been criticised in a number of shareholder lawsuits which allege that by manipulating the ownership of the trading vehicle, majority shareholders can illegally avoid paying minority shareholders their fair share of trading profits. †¢ Joint venture vehicles. Offshore jurisdictions are frequently used to set-up joint venture companies, either as a compromise neutral jurisdiction (see for example, TNK-BP) and/or because the jurisdiction where the joint venture has its commercial centre has insufficiently sophisticated corporate and commercial laws. †¢ Stock market listing vehicles. Successful companies who are unable to obtain a stock market listing because of the underdevelopment of the corporate law in their home country often transfer shares into an offshore vehicle, and list the offshore vehicle. Offshore vehicles are listed on the NASDAQ, AIM, the Hong Kong Stock Exchange and the Singapore Stock Exchange. It is estimated that over 90% of the companies listed on Hong Kongs Hang Seng are incorporated in offshore jurisdictions. An article in the Daily Telegraph in March 2007 indicated that 35% of companies listed on AIM during 2006 were from OFCs. †¢ Trade finance vehicles. Large corporate groups often form offshore companies, sometimes under an orphan structure to enable them to obtain financing (either from bond issues or by way of a syndicated loan) and to treat the financing as off-balance-sheet under applicable accounting procedures. In relation to bond issues, offshore special purpose vehicles are often used in relation to asset-backed securities transactions (particularly securitisations). Illegitimate purposes include: †¢ Creditor avoidance. Highly indebted persons may seek to escape the effect of bankruptcy by transferring cash and assets into an anonymous offshore company. †¢ Market manipulation. The Enron and Parmalat scandals demonstrated how companies could form offshore vehicles to manipulate financial results. †¢ Money laundering. A number of high profile money laundering investigations have indicated schemes facilitated by offshore structures. †¢ Tax evasion. Although numbers are difficult to ascertain, it is widely believed that individuals in wealthy nations unlawfully evade tax through not declaring gains made by offshore vehicles that they own. †¢ Terrorist financing. It is often suggested that offshore vehicles might be used to assist terrorist financing, although exhaustive investigations have yet to obtain any evidence of this. Proponents of offshore jurisdictions argue that because their regulatory structures tend to be designed to focus closely on high risk geo-political areas, and since September 11, 2001 attacks all financial institutions tend to scrutinise United Nations embargoed persons lists with enormous care in international transactions, trying to use an offshore structure for terrorist financing would be like putting a red flag on it. Although these structures are characteristically set up as companies, they can also be set up as trusts or partnerships, and many offshore jurisdictions offer specialised forms of these entities (for example, the STAR trusts in Cayman and the VISTA trusts in the British Virgin Islands). Insurance A number of offshore jurisdictions promote the incorporation of captive insurance companies within the jurisdiction to allow the sponsor to manage risk. In more sophisticated offshore insurance markets, onshore insurance companies can also establish an offshore subsidiary in the jurisdiction to reinsure certain risks underwritten by the onshore parent, and thereby reduce overall reserve and capital requirements. Onshore reinsurance companies may also incorporate an offshore subsidiary to reinsure catastrophic risks. Critics argue that attractions of an offshore financial centre in these circumstances include favourable tax regimes, and low or weakly enforced actuarial reserve requirements and capital standards, but evidence that offshore actual reserve requirements and capital requirements are weak or poorly enforced is difficult to come by in an industry that is most effectively regulated by the markets. Proponents of offshore markets suggest that only experienced market participants tend to form offshore affiliates in the insurance market, and this is a very useful way to facilitate arbitrage of risk pricing between insurance and re-insurance markets. In Bermuda the insurance and re-insurance market has grown so large and sophisticated, that it is now the third largest reinsurance market in the world. There are also signs the primary insurance market is becoming increasingly focused upon Bermuda; in September 2006 Hiscox PLC, the FTSE 250 insurance company announced that it planned to relocate to Bermuda citing tax and regulatory advantages. Banks Traditionally, a number of offshore jurisdictions offered banking licences to institutions with relatively little scrutiny. International initiatives have largely stopped this practice, and very few offshore financial centres will now issue licences to offshore banks that do not already hold a banking licence in a major onshore jurisdiction. The most recent reliable figures for offshore banks indicates that the Cayman Islands has 285 licensed banks, the Bahamas has 301 List of main offshore financial centres There are a large number of offshore financial centres (by some measures, there are more countries that are offshore financial centres than not), but the following jurisdictions could be considered to be market leading jurisdictions for various reasons: †¢ Bahamas, which has a considerable number of registered vessels. The Bahamas used to be the dominant force in the offshore financial world, but fell from favour in 1970s after independence. †¢ Bermuda, which is market leader for captive insurance, and also has a strong presence in offshore funds and aircraft registration. †¢ British Virgin Islands, which has the largest number of offshore companies. †¢ Cayman Islands, which has the largest value of AUM in offshore funds, and is also the strongest presence in the U. S. securitisation market. †¢ Gibraltar, which, whilst not dominating the offshore market in any particular specialisation, retains a strong presence in most fields. Gibraltar is no more an offshore centre since 30 June 2006. No new Exempt Company certificates are being issued from that date. †¢ Luxembourg, which is the market leader in Undertakings for Collective Investments in Transferable Securities and is believed to be the largest offshore Eurobond issuer, although no official statistics confirm this. †¢ Panama, which is a significant international maritime centre. Although Panama (with Bermuda) was one of the earliest offshore corporate domiciles, Panama lost significance in the early 1990s. Panama is now second only to the British Virgin Islands in volumes of incorporations. Although there are many, many other offshore jurisdictions, some of which are relatively sophisticated (for example, Guernsey and the Isle of Man are particularly well developed and well regulated offshore centres, although they tend to be overshadowed by Jersey; and the offshore aircraft registration market, unusually, is not dominated by one jurisdiction but is fragmented amongst Bermuda, Cayman, Aruba, Netherlands Antilles and the Seychelles), those seven jurisdictions are generally considered to be the key market participants, and to possess the most sophisticated offshore infrastructure.