How Outsourcing Reduces Business Costs: Strategies and Examples

What Is Outsourcing?

Outsourcing involves hiring external parties to perform tasks or create goods, often cheaper than in-house efforts. Companies widely adopt this approach to cut costs and focus on core business aspects. Although outsourcing was popularized in the 1990s for logistics and manufacturing, its economic impact remains controversial. Opponents cite domestic job losses, while supporters argue it promotes resource efficiency and strengthens free-market dynamics.

Deep Dive Into Outsourcing Practices

When a company uses outsourcing, it enlists the help of outside organizations not affiliated with the company to complete certain tasks. The outside organizations typically set up different compensation structures with their employees than the ones used by the outsourcing company, enabling those organizations to complete the work for less money. This ultimately enables the company that chose to outsource to lower its labor costs through the combination of less pay and fewer benefits.

Outsourcing helps businesses avoid costs related to overhead, equipment, and technology.

In addition to cost savings, companies can employ an outsourcing strategy to better focus on the core aspects of the business. Outsourcing non-core activities can improve efficiency and productivity because another entity performs these smaller tasks better than the firm itself. This strategy may also lead to faster turnaround times, increased competitiveness within an industry, and the cutting of overall operational costs.

Outsourcing Examples and Benefits

Outsourcing's biggest advantages are time and cost savings. A computer maker might buy parts from other companies to save on production costs. A law firm might use cloud services for file storage, accessing technology without high investment.

A small company may decide to outsource bookkeeping duties to an accounting firm, as doing so may be cheaper than retaining an in-house accountant. Companies often find it beneficial to outsource HR tasks like payroll and health insurance. Properly using outsourcing can cut costs and give a business a competitive edge.

Criticisms and Drawbacks of Outsourcing

Outsourcing has disadvantages. For instance, signing contracts with other companies may take time and extra effort from a firm's legal team. In addition, security threats can occur when another party has access to a company's confidential information and that party suffers a data breach. Furthermore, a lack of communication between the company and the outsourced provider may occur, which could delay the completion of projects.

Beyond these factors, outsourcing has faced criticism due to the job precarity and lack of job promotion opportunities for contract workers. As mentioned above, contract workers often earn lower compensation than full-time workers and have fewer benefits, creating inequities in the workforce.

Exploring the Global Advantages of Outsourcing

Outsourcing internationally can help companies benefit from the differences in labor and production costs among countries. Price dispersion in another country may entice a business to relocate some or all of its operations to the cheaper country in order to increase profitability and stay competitive within an industry. Many large corporations have eliminated their entire in-house customer service call centers, outsourcing that function to third-party outfits located in lower-cost locations.

In 2023, a Deloitte survey found that India, Poland, and Mexico were the top countries for outsourcing shared services. Meanwhile, outsourcing IT service desk functions was the top service exported in the information technology sector globally.

The Bottom Line

Outsourcing provides significant cost savings and operational efficiency by delegating non-core tasks to external vendors. This strategy allows companies to focus on core competencies, leading to increased competitiveness and productivity. However, challenges such as communication difficulties and security threats may arise, affecting control and confidentiality. Companies should diligently assess the potential benefits and risks for each specific task before deciding to outsource, ensuring alignment with strategic goals and maintaining critical oversight where necessary.