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The concepts of offshoring and outsourcing are mutually related and often confused. Sometimes offshoring and outsourcing notions are used interchangeably without paying any attention to the difference between the two concepts. Outsourcing is a more general term than offshoring. Outsourcing is a reallocation of production processes or jobs of the company to external providers. Offshoring is a reallocation of production processes or jobs of the company to external providers in other countries. This means that location is the only and at the same time crucial difference between the two terms (Amiti & Wei 5). Therefore, outsourcing may include reallocation of resources and processes to providers both within the given country and abroad, while offshoring refers only to international reallocations. This paper considers companies that transfer their jobs or manufacturing abroad. Therefore, concepts of outsourcing and offshoring are used interchangeably.
Transferring of resources and manufacturing services to foreign providers has been carried out for decades. However, offshoring has started attracting public attention only recently when services outsourcing has become increasingly important. Increased interest to the services offshore comes as a result of the interaction among three factors: recent advancement in technologies, competitive and economic strain which leads to decreasing costs of production, and increase in productivity as well as changes in the institutional background leading to trade liberalization (Fixler & Siegel 71).
The phenomenon of offshore outsourcing brings dubious implications for companies, economy, and the country as a whole. According to the Duke Offshoring Research Network 5th annual report, approximately 50% of all American companies had corporate offshoring strategy developed in 2008. This is almost twice more compared to 2005. Moreover, there is evidence that 60% of those companies that currently offshore their activity either fully or partially are going to substantially expand the scope of their offshore actions. American companies usually outsource their production and/or services, and resources to China and India. These countries have cheap labor force and liberal institutional frameworks (Public Citizen’s Congress Watch 4). According to the estimates of Public Citizen Organization, 29 leading offshore companies in the Unites States have outsourced at least 53,000 domestic jobs abroad since 2000. A little more than 11,000 of those jobs have been in the financial sector, around 25,000 jobs have been in the computer technology sphere, and 17,000 jobs have been lost in the telecommunication services (Public Citizen’s Congress Watch 4).
Offshore outsourcing in the economic settings of a company that transfers its resources and/or services to foreign providers may come in a variety of ways. There is no consistency in the literature about the impact of the offshore outsourcing on the companies. There are arguments both in favor and against transferring the production abroad. They are considered in the following two sections.
Advantages of the Offshore Outsourcing
1. Cost effectiveness. One of the major reasons and at the same time the primary benefit for the American companies to outsource their resources and services abroad is cost saving. Labor force outside of the United States is cheaper, especially in the countries like India and China. Transferring its business activities to these countries enables companies to reduce their operational costs. This sustains the level of profit margins for the company as well as gives an opportunity to lower the price and win price competition in the market (Heshmati 12).
2. Quality of services provided. While considering the offshore outsourcing of services abroad, one should makes an emphasis on the quality of services provided by the external stakeholders. They are usually located in poor countries with high unemployment rates. Therefore, they are interested in maintaining high-quality services provided to the American companies that are outsourcing services. In the meantime, this creates a guarantee for the U.S. companies that delivery of outsourced services will be of appropriate quality. This kind of the offshore outsourcing activity is very common for telecommunication companies (Görzig & Stephan 4).
3. Specialized skills access. Following the logics of the previous argument, it should be added that in the country of the external stakeholder, the market of offshore services is very competitive as well. Therefore, companies are developing specialized skills in their employees as well as specific profiles so that they may be helpful for particular needs of American companies.
4. Mitigation of the risk. American companies frequently outsource parts of their businesses that do not form the core of their activities. These non-core functions may become crucial at times and require experienced interference that the American businesses may not have at the moment. If this non-core function is outsourced abroad and experienced intervention is needed, American company mitigates the risks faced. This can be explained by the fact that companies providing services to American businesses have already gained enough experience to deal with this kind of intervention. Therefore, if an American company offshores its services abroad to a skillful service provider, it simultaneously mitigates its risks.
5. Managing the capacity. Another benefit of the offshore outsourcing is capacity management. Non-core functions that are mostly outsourced by American companies may at times require additional workload and, as a result, more efforts of employees to meet deadlines. Unless this non-core function is outsourced, American company is facing a lot of problems related to how to deliver necessary amount of effort in a short period of time. On the other hand, outsourcing of this business activity to a foreign provider sets an American company free from concerns about efforts needed to be delivered since the main burden of unexpected increased workload will be transferred abroad.
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6. Staffing. The recruitment process in any company requires a lot of efforts and sometimes substantial amounts of financial resources. When a company is outsourcing a certain fraction of its functions abroad, the emotional and financial recruitment burden will be reallocated abroad. This will enable an American company to concentrate on strategic planning and development of business (Slaughter 8).
7. Increased efficiency. Offshore outsourcing brings more flexibility and control over the strategic planning, business expansion, and development. At the same time having more disposable time saved on the recruitment and management results in the increased efficiency for an American company.
8. Savings on capital expenditures. Finally, offshore outsourcing of a part of a complete scope of work abroad results in savings on capital expenditures as one of its direct implications. American companies no longer have to spend huge amounts of financial resources on the rent and thus save money (Garner 45).
Offshore outsourcing can be an arguably necessary form of conducting business. In addition to the above mentioned advantages, outsourcing is very helpful with regard to saving time and efforts making American business more flexible to changes. Those companies that partially or relatively completely outsource their activities abroad on average have more control over their business (Garner 46).
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Disadvantages of the Offshore Outsourcing
Even though there are numerous positive implications of the offshore outsourcing, it does have few shortcomings and milestones in relation to American businesses.
1. Language barriers. Offshore outsourcing of business activities to a foreign country is complicated by the language barrier, first of all. Most of the countries where American companies transfer their activities are low-income countries that are not English-speaking. Even though English is considered to be the most widespread language in the world, the language barrier is considerable . Outsourced positions should be filled in not only by qualified people, but by qualified English-speaking professionals (Garner 47).
2. Social responsibility. One of the most common arguments against offshoring is outsourcing of American job opportunities for people, which increases the unemployment rate. However, the negative effect of the increased unemployment rate in the country can be moderated or even outweighed by the following logics. The companies that outsource their jobs into foreign countries by the same token reduce their operational costs and hence increase profit margins. Improved profitability of companies results in the economic development of the country.
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3. Company experience. Knowledge about American company’s operations, its weaknesses and strengths, as well as of specific regulations in the industry is accumulated over time among employees and management. This knowledge and experience underpin the successful operation of any company in the market. Once the company decides to outsource certain functions to an external stakeholder abroad, it becomes endangered to the risk of mismanagement (Keshmati 8). Even though foreign service providers will accumulate knowledge about company’s specific policies and experiences, it takes a lot of time to accomplish that.
4. Turnover of staff. Staff turnover can become a problem not only for a foreign services provider, but within its in-house employees as well. However, there is an increased risk of larger staff turnover in the outsourced businesses abroad due to relatively lower wages and poor working conditions which are common for those countries (Keshmati 9).
5. Exposure to risks. Conducting a business on distance is dangerous per se. In addition it is threatened by a number of factors. For example, a foreign service provider can operate American business activities of several companies at the same time. Depending on the experience and professionalism of this foreign service provider, the quality of the work performed can vary substantially. This poses a threat to the American companies that the external stakeholder does not deliver 100% of its efforts.
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6. Hidden costs. In offshore outsourcing, the major motivation is cost reduction. At the same time, American companies can face substantial hidden costs. In particular, signing a contract with a foreign service provider can be accompanied by considerable financial expenditures on legal issues. At the same time, opportunity costs can be added to the hidden cost of offshore outsourcing. This means that a lot of time and effort need to be spent on finding a foreign service provider, negotiation process, and finally signing a contract. These efforts could have been made in order instead in order to develop alternative and possibly more cost-efficient strategies (Garner 44).
7. Management and control. The management process as well as control of the business performance in the foreign country is complicated by distance. Managers of American companies may find it difficult to maintain the management abroad as efficient as it is maintained in the domestic company due to distance, cultural differences, misunderstandings, lack of communication, reviewing contracts, etc.
8. Confidential information exposure. Preparation of tax reports and payroll processing services will make it possible for a foreign service provider to get access to the American company confidential information. Access to this kind of confidential information can threaten the overall confidentiality and security of a given company (Garner 43).
So, offshore outsourcing of the American companies’ businesses abroad brings not only advantages to these companies, but a number of risks and shortcomings associated with this kind of the firm’s behavior.
Offshoring and Outsourcing Effect on Economy
The actions of offshoring and outsourcing undertaken by businesses bring both positive and negative implications not only to the company, but to the whole economy of the country. First, outsourcing as well as offshoring means reducing the amount of jobs available in the country and thus increases the unemployment rate. For example, since 2001 Ohio has lost more than 160,000 jobs of which one third was due to outsourcing. It should be emphasized that in the beginning outsourcing of jobs was mostly oriented on low-skilled jobs. However, recent technological advancements have enabled more valuable jobs to be outsourced abroad. If the situation remains unchanged, only unskilled jobs will remain in the USA offering low wages to employees while jobs requiring high skills will offer higher wages for foreign service providers (Slaughter 9).
Even though there is an increasing trend of outsourcing a number of jobs abroad, there is evidence that the amount of insourced jobs has exceeded that of the outsourced. Between 1983 and 2000, the number of outsourced jobs has increased from 6 to 10 million. However, during the same time period, a total amount of insourced jobs has risen from 2.5 to almost 6.5 million jobs. Moreover, wages at the insourced jobs are usually higher compared to those at the outsourced (Slaughter 10). Therefore, currently there is no threat of loss of jobs in the country related to outsourcing.
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Outsourcing and offshore outsourcing in particular play a very important role in the economic development of the country. Transferring resources and services abroad optimizes and improves business operations and bring numerous implications. Even though that there are two sides to this question, I think it is obvious that the U.S. government should not protect American jobs by imposing rigid punishments on companies that relocate jobs offshore by outsourcing and manufacturing in a different country. Shortcomings of the offshore outsourcing can be neglected and moderated for a company in particular and the country as a whole. Cost reduction increases effectiveness and profitability of American companies that cannot be disregarded. In the meantime, on the country level trade liberalization stimulates economic growth and development. There is consistent evidence in the literature that the increase in unemployment cannot be substantially affected by the outsourcing activities. Even when jobs are being outsourced abroad, a lot of jobs keep being insourced into the country, which outweighs the loss and even exceeds it. Moreover, wages paid at the insourced jobs are higher compared to wages at the outsourced businesses. Therefore, it becomes clear that American government should not impose any kind of penalties for companies that offshore its businesses abroad. Moreover, the U.S. government can develop economic policies for stimulation of the offshore outsourcing. In particular, government can introduce lower tariffs and duties for goods produced by outsourced companies.