September 13 2005
The practice of outsourcing IT functions overseas is growing rapidly as businesses seek to reduce costs, release capital, increase profitability and capitalize on the low cost structures of outsourced suppliers. Countries such as India, the Philippines and China are all popular destinations: their low labour costs offer the tempting prospect of immediate cost reductions and increased profits.
However, offshore outsourcing is not always a sure path to financial savings and a competitive advantage. While it may reduce some costs, it increases others. It also creates additional business risks associated with issues such as geopolitical stability and business continuity. Businesses contemplating the offshore outsourcing of their IT functions should consider certain key factors.
The factors that are most likely to have a negative impact on the target business and the projected financial results are:
For companies in the United Kingdom, India is the most popular destination for BPO. This is because India offers a low cost structure and a large pool of skilled workers, a significant proportion of whom are university graduates. However, firms must choose the location that best suits their overall business requirements; India's geopolitical climate and supply infrastructure may make it unsuitable for some.
Each BPO model has its own set of legal, commercial and financial advantages and disadvantages. With the help of experienced BPO consultants, advisers and investors should consider which of the common models is promoted in the business plan, as it may not be appropriate for the location or have the potential to deliver the expected financial performance.
Direct outsourcing involves the business contracting directly with the overseas supplier. It has three main advantages:
Disadvantages of the model include:
Alternatives to direct outsourcing include the following models:
The savings in labour costs resulting from any BPO plan - especially in countries such as India, the Philippines and China - are significant and are usually the main reason why a UK company turns to offshore outsourcing. However, the initial cost savings achieved by adopting an overseas BPO model can easily be negated, at the macro level by the additional expense of conducting business offshore and at the micro level through the adverse impact of local jurisdictional issues.
Both levels must be evaluated when assessing the accuracy of the projected cost savings and increase in profits. As in any investment risk assessment, the due diligence exercise should be commensurate with the size of the proposed investment, the quality of the financial information and the state of the market. Inadequate due diligence may result in the erosion of the projected savings and a failure to achieve the projected profits. Some existing costs associated with outsourcing are increased by moving offshore, while other entirely new costs may arise:
Offshore outsourcing of IT functions can realize significant cost savings and give UK companies a competitive advantage. However, many factors can erode the projected gains. Investors and investment advisers must examine the business model supporting the forecast figures to determine whether the gains are likely to match the predicted level.
For further information on this topic please contact Craig Rattray at DLA Piper Rudnick Gray Cary UK LLP by telephone (+44 8700 111 111) or by fax (+44 20 7796 6666) or by email (Craig.Rattray@dlapiper.com).
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