Offshoring vs. Outsourcing: Difference and Benefits

By Indeed Editorial Team

September 3, 2021

Outsourcing and offshoring are both options that allow you to increase your organization’s productivity and, ultimately, profitability. In this article, we’ll define the differences between outsourcing and offshoring and the benefits of each.

What is outsourcing vs. offshoring?

Outsourcing refers to the process of transferring an aspect of the company’s operations to a third-party firm. This may occur within the same country or result in a cross-border transfer of work. Additionally, the outsourcing may be permanent or linked to a fixed-term contract for the performance of services.

Offshoring may share certain similarities to outsourcing, but it is different in several important respects. A company offshores its operations when it transfers them to another country to achieve certain benefits, such as cutting costs, reducing its tax burden or being able to ship products more easily to market. Unlike outsourcing, the decision to offshore does not necessarily mean that the work will be performed by a third party. While that can happen, the company may also choose to maintain direct control of its operations in another country. For example, it could choose to open a new location or factory overseas.

Related: Outsourcing: What It Is and How It Works

History of outsourcing and offshoring

The term outsourcing entered the world of business in the second half of the 20th century. Companies found that they could hire external providers who had the ability to get work done faster and more efficiently. This led them to increase the practice of hiring external providers to complete tasks where specialized skills were necessary.

Near the end of the 20th century, as improvements were made in shipping technology and telecommunications infrastructure, it became more efficient to have work done in countries where wages were lower. The practice came to be known as offshoring.

Benefits of outsourcing

There are several major benefits that outsourcing can bring to a business, provided that the move is planned correctly and carried out effectively.

Saving money

The decision to outsource may be driven by your company’s desire to cut costs. Outsourcing enables this to be achieved by paying only for the service when needed rather than employing workers full-time. For example, your employer could make the decision to outsource HR services because the organization isn’t large enough to need full-time help. This allows them to complete the necessary human resources tasks without the cost of another full-time employee. 

The decision to outsource may also bring savings in other ways, such as the ability to downsize the company’s main headquarters.

Benefiting from the specialists

Sometimes a particular service or manufacturing process may be so complex that it is best done by specialists. Your company may have decided that it is too time-consuming or expensive to train in-house staff to accomplish these tasks. This could be the case for certain IT operations or the manufacturing of a particular product, such as auto parts.

In these situations, your company could determine that the best course of action is to outsource the job to a specialist firm. In this way, they can gain access to highly-trained, expert professionals, while at the same time keeping their costs competitive.

Improving flexibility

Your employer’s decision to outsource may also be connected with improving the flexibility of its operations. An expert third party focused on providing a specific service, whether it be accounting, cleaning or legal services, may be able to offer these services in a more timely manner than an in-house team.

Furthermore, a third party is often better equipped to address sudden changes in demand, such as a drop or rise in the number of products a company requires to be shipped.

Read more: The Advantages of Outsourcing

Benefits of offshoring

Some of the benefits to be gained from offshoring are linked to efficiencies and labor costs, while others concern tax and legal obligations. During the decision-making process, your company will have to determine whether these benefits offset the potential drawbacks of offshoring. Only after doing so will your employer be able to decide whether offshoring makes financial sense.

Lower labor costs

One of the most obvious reasons a company might choose to offshore production or services is to save on labor costs. By opening a factory overseas, companies can access labor at rates considerably less than they would incur stateside.

Reducing the tax bill

Offshoring may also be motivated by a desire to reduce the amount of taxes the company is paying. This may be justified as a way to free up more capital for investments in new products or modernizing the business’ manufacturing equipment.

This strategy can work because there are several locations around the world where corporate taxes are low or even non-existent for businesses. The business may be required to move part of its operations to that country or simply register a company there in order to take advantage of such benefits.

Increasing productivity

Your employer may argue that the cost savings brought about by offshoring, along with greater levels of labor flexibility, could enable the company to operate more productively. For example, the company may be able to establish a modern facility at a relatively low cost due to investment incentives rather than trying to upgrade an old factory at considerable expense.

Higher productivity levels, whether in terms of producing 10 percent more product in a year or answering twice as many customer queries, will make the company more profitable. This enables the business to offer consumers more competitive pricing on products.

Related: How to Improve Employee Productivity

Business-friendly regulations

Some popular offshoring destinations market themselves as business-friendly countries. It’s often possible to complete all of the paperwork and arrangements required to set up operations in a day or two, and regulatory requirements can be minimal.

For some business operations, this may be attractive due to the flexibility it offers or the security of knowing that company assets are safe.

Risks and criticisms

Offshoring is subject to a significant amount of criticism. Many blame offshoring for stealing jobs from potential employees in the country. That said, offshoring lowers those costs for companies that can then pass those savings on to consumers. With offshoring, though, there are risks of project failure as a result of poor communication, political or civil unrest that could impact production or delivery, changes in the economic policy of other governments and poor infrastructure in developing countries that can impact quality.

Outsourcing is not subject to the same amount of criticism or risks. For example, outsourcing, when done within the country, isn’t blamed for stealing jobs. The main risks associated with outsourcing are associated with a lack of familiarity with the client’s business. The vendor and client also are not aligned with their long-term business objectives, which can potentially impact the quality of service.

Industry trends

Both outsourcing and offshoring are on the rise, as an economic recession worldwide has forced companies to consider alternatives for cutting costs and increasing efficiencies. Companies are continuing to increase both outsourcing and offshoring of larger parts of their businesses that are not considered core. Another trend is acquiring smaller vendors that carry the expertise needed to fulfill the needs of a large organization.

Read more: Definitive Guide To BPO

Tips for choosing offshoring vs. outsourcing

Here are some tips to help you decide whether offshoring or outsourcing would be best for your business.

Identify the length of time you need the service

The advantage of outsourcing is that it works well for services that you only need for a short period of time or only on occasion. For example, if you have a marketing company but only occasionally have client requests for video production, this is a great example of something to outsource. You can accommodate the request faster and avoid the cost of time required for hiring in-house.

Determine the amount of control you need

If you want to have complete control over the operations and quality control, you may want to consider offshoring. For example, let’s say your company manufactures plug-in air fresheners. Your team puts them together in the United States, but you purchase the bottles through a third-party overseas and have no control over how the bottles are manufactured.

In order to gain control over the process from start to finish, you may want to consider offshoring and investing in a factory overseas where your team can perform a quality assurance check based on the requirements you specify. The investment may be more significant up-front, but in the long term is may save you money and give you total control.

Consider confidentiality

If your company handles sensitive client information or must meet confidential legal requirements, outsourcing can be difficult or impossible. You may need to conduct additional monitoring of expenses or take steps to avoid breaches or misconduct from a third-party provider.

Decide how quickly you need the service

Training employees is essential when you engage in offshoring. You must take into consideration challenges in cultural differences and communication as well as time zone differences that can impact your ability to train. Because of the time involved in training offshore employees, you may see a temporary deceleration of productivity. Long-term, though, offshoring is highly productive and profitable.

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