Outsourcing affects hundreds of thousands of employees around the world every year and generates over $100 billion in outsourcing contracts in the United States alone. In simple terms, outsourcing is the contracting out of non-core organizational activity to an outside vendor. Outsourcing occurs both domestically and globally. Offshoring is the term used to describe the process whereby jobs are contracted out globally, usually to countries with talented but comparatively less expensive human resources. Current estimates indicate that over 80 percent and perhaps 90 percent of larger companies outsource at least part of their businesses. Although outsourcing initially targeted only transactional-type jobs like housekeeping and catering, it has moved to high-skill technical jobs such as information technology and human resource management. Activities that are often outsourced include information systems/technology, real estate and physical plant logistics, human resources, customer service, finance, marketing, and sales.
Offshoring, because it involves the transfer of jobs from one country to another, is politically controversial. Companies feel pressured to use this kind of outsourcing to maintain price competitiveness but often downplay the use of these practices. In 2004, Foresster Research projected that by 2015, 3.4 billion U.S. office-based jobs will go offshore. This is 10 times the number experienced in 2003. The main countries that have benefited from this practice have been Mexico, China, India, and other Asian countries.
Supporters of this practice suggest that these job losses will be replaced by higher-level technical and analytical jobs in other sectors spurred by the increased demand and purchasing power of the recipient countries. Until these new jobs are created, there are fears of unemployment in the countries where companies use this outsourcing practice. Questions of ethics and quality of the services provided are an area of debate.
It has been proposed that firms outsource to realize strategic advantages from cost savings, increased focus on core competencies, and increased strategic flexibility. Other common reasons include cost reduction, control and cash infusion from sale of assets, and personnel reductions. Outsource service providers through economies of scale and scope and technical expertise can provide services at a lower cost with skilled employees and up-to-date resources. Outsourcing strategy decisions are based on two management theories: the resource-based view of the firm (RBV) and transaction cost economics (TCE).
The use of the resource-based view (RBV) of the firm has directed most corporations to focus on core competencies. Companies now realize that it is most profitable to focus resources on those things they do uniquely well. The underlying assumption of the model is that resources are both unevenly distributed among competitors and are not perfectly mobile. Therefore, the greatest profits and competitive advantage come from focusing on an organization’s inimitable resources.
The choices that companies make on what functions or job types to outsource have been guided by transaction cost economics. TCE theory helps the organization determine which of their supportive, non-core functions they should buy and which they should produce or make in-house. The theory focuses on transactions rather than commodities or technology, stating that it is transactions that mainly determine the efficiency of one mode of exchange over another. The make or buy decision is made using TCE to evaluate the governance structures of firms and markets and to determine which is best suited to economize on transaction costs. The efficiency is determined by comparing costs of planning, adapting, and monitoring task completion under each governance structure. Contributors to these costs include uncertainty, frequency with which the transactions occur, and the degree to which specific investments are required to realize least cost supply. Simply stated, it answers the question: Should the firm make or buy the product or service?
Recently, external market conditions have encouraged outsourcing of various functions. The increased focus on competition and dependency on technology are just a few of the issues directing organizations to get expert help from outsourcing providers. Globalization, for example, requires expertise in national cultures and international business practices. Mergers and acquisitions present unique human resource questions that can be better answered by experts with previous experience.
There are several types of outsourcing. At one extreme there is pure labor contracting, where the contractor provides only employees and the host company provides everything else, including process, systems, technology, materials, facilities, and management. The other extreme is where the contractor provides everything from labor to equipment and the host’s sole but critical responsibility is limited to managing the relationship with the service provider. Some newer companies, often called virtual companies, outsource many of their services from the beginning; outsourcing is part of their original business plan. Other companies move to outsourcing for the above-mentioned reasons.
Outsourcing can be introduced to a company in three different ways. In the most severe case, the employees of the company pursuing outsourcing are terminated and their tasks are taken over by the company that specializes in that particular service. In this scenario, contract workers do the work formerly done by organization members. In other instances, what was previously a division or department of a larger company becomes a stand-alone operation. This is often set up as an arm’s-length management organization (ALMO). In a third case, employees and their tasks are taken over by an outside specialist (i.e., the services continue to be provided by those employees who have done the work in the past, but the original company is no longer responsible for their hiring and direct supervision). The results of outsourcing, especially the effects on the employees, can differ based on the type of outsourcing and the outsourcing process.
Most of the published outsourcing results focus on the financial issues. In general, the results are seen as positive, with reductions in cost and increases in capacity and quality of services. There are some outsourcing failures that are often blamed on unrealistic expectations, poor communication, lack of trust between contractor and host, and general mismanagement of the outsourcing relationship. The literature reports outsourcing failures at around 25 percent to 30 percent.
Possibly the greatest failure but least researched aspect of outsourcing is in human issues. In terms of the individual employees, outsourcing may be viewed as positive or negative in relationship to their careers. If the employee provides a technical skill, which is seen as only peripheral or supportive to the existing business, being transferred to a service provider that specializes in the employee’s skill will present promotional opportunities not available from the original employer. These outsourcing providers are growing at a rapid pace and will provide job opportunities for many. On the other hand, if the transferred job is in an area such as housekeeping, where the contracting firm has a flat organizational structure with little opportunity for advancement, then the individual’s future career prospects might be dim.
When firms outsource some employees, the outsourced employees are not the only ones that are affected. Often trust in and loyalty to the organization diminishes as the “survivors” (those remaining at the organization) see how the outsourced employees have been treated. In many cases, the outsourced employees are still on site, so other employees are constantly reminded of their plight. Once outsourcing starts at an organization, it is not unusual for the most talented employees to leave, seeking to find jobs before they themselves are outsourced. Commitment levels of the outsourced and the remaining employees may fall, negatively affecting organizational performance. Human resource issues must be addressed in order to prevent the negative response by the employees.
Employee careers and development can be affected by outsourcing in another direct way through the outsourcing of some or all of the human resources department activities. Some organizations see outsourcing human resources areas as a way to develop expert tools such as specific types of training. Other organizations, such as Southwest Airlines see human resources outsourcing as abdicating the role of the employer to lead their people.
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