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Unforseen Costs and Flexible Outsourcing Contracts

by: Admin

Tuesday, November 3, 2009 |

Outsourcing any function to a foreign component always implies a loss of control; control over quality output, security, but also - due to unforeseen expenses - cost. Cost effectiveness, to date, remains the number one reason for companies to outsource. The Philippines, for example has earned the majority of its outsourcing contracts from recession-plagued Western countries such as the US. BPAP (Business Process Association of the Philippines) cited mergers, disruptions, corporate restructuring, cost containment needs, and business changes as the main factors contributing to investments in the Philippine outsourcing sector.

IT outsourcing to cut costs

Many service providers will boast that the use of IT-enabled services and outsourcing is not just a cost-cutting measure, but the purchase of expertise at the highest standards in the process of achieving global competitiveness. This may well be true, but the numbers clearly indicate that contracts earned by offshore service providers have been primarily caused by companies either trying to weather a financial storm, or simply looking for lowered costs. Sourcing advisory firm, EquaTerra, for instance, indicated in their study on “Advisor and Business/IT Service Providers Pulse Survey” that 68% predicted the market trend for IT outsourcing will continue to rise due to “defensive” action plans of outsourcing companies:

"The bulk of outsourcing demand is still defensive, aimed at short-term cost-cutting and cost-containment strategies," said Stan Lepeak, managing director of global research.

Yet another study, this one from a YouGov survey commissioned by the NCC group, indicates that participants in IT outsourcing believe that they are exposing themselves to more risks (with 20% indicating as such). Yet the continued domination of IT outsourcing in the global outsourcing market is proof that perhaps buyers are willing to overlook these risks in favor of lowering costs.

In an uncertain environment, flexibility is a key factor; especially with regards to newcomers to the outsourcing market. As there are simply too many unforeseen costs that can come from technical difficulties, manpower changes, and communication barriers; buyers are increasingly looking at flexibility in outsourcing partnerships. A study by Olswang cites some of the well-established mechanisms for flexible outsourcing contracts: effective governance and change control, gain-sharing, market testing and benchmarking, break-clauses and other levers to retender and/or renegotiate.

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