A Systematic Work for Effective Outsourcing Risk Management

Introduction

The phenomenon of virtual corporation and its fundamental element of outsourcing became increasingly popular and common primarily with companies seeking out individuals and service providers to cut their costs of operations and improve their efficiencies. The concept of outsourcing led to a change in corporate thinking where operational control over the company’s various functions is transferred to external sources. Outsourcing is defined as the procurement of products and services from sources that are external to the organization (Lankford & Parsa, 1999). The contract between the organization and the external source ensures the delivery of products and services according to the business requirements and standards. Thus, when deciding upon outsourcing the companies should assess their core competencies and evaluate which process or business function could be carried out much faster, cheaper, and even better by an external entity. The strategic, operational, and financial benefits of outsourcing have convinced many businesses to transfer their different work functionalities to countries like India, China, the Philippines, Vietnam, Pakistan, and few others which offer abundant and talented human resources at less expensive values. Outsourcing has grown to new heights and is expected to reach a market value of US$402bn by the year 2012 with major China and India as major players (Wood, 2008).

Outsourcing was considered as a way of focusing on the core competencies of the business and saving precious resources has also been criticized for its hidden consequences including administrative costs, lower employee morale and performance, and ethical trade-offs (Eugene, 2001). Furthermore, many have criticized it for taking jobs from residents to other countries which companies argue as a way of transferring hideous and resource-consuming consuming and encouraging more technical and knowledge base opportunities. There are additional issues regarding outsourcing of a business functionality which requires careful planning and continuous monitoring including transfer of assets in particular intellectual property and methodology, information security, staffing, pricing and payment, warranty and liability, dispute resolution, and litigation (Lee, 1996). All these issues impose risks to the businesses which require efficient and effective risk management concerning outsourcing of work. ‘Risk management is now core business process’ (ICAEW, 2002) which has been inducted in response to failures in the financial services industry and further extended to all types of businesses. Loss of control and dependence upon external sources in outsourcing has put more pressure on the companies to ensure they have comprehensive risk management systems at all levels to maintain their sustainability and strategic positioning. Furthermore, risk disclosure becomes a pivotal element of the financial statements as stakeholders are becoming increasingly doubtful and worried about the companies not doing enough to revert or prevent their risky decisions of outsourcing.

The objective of the Research

The primary objective of this research paper is to identify various risks involved in the outsourcing of business functions and critically evaluate different risk management measures that companies should implement.

Research Background

This research will focus on the risks associated with Information Technology Outsourcing (ITO) and Business Process Outsourcing (BPO). These terms are commonly used in correlation to virtual corporations. The outsourcer and service provider in any outsourcing arrangement is driven by their respective objectives, culture, way of doing things, and employee relationships. The supply chain works in a virtual environment where a project or a business function is delegated to the service provider. The interaction is usually through cyberspace which allows virtual networking and online meetings. The outsourcer often places its key personnel to overlook the method adopted by the service provider and ensure that both confidentially and quality of work are achieved without jeopardizing its core business of the company. Outsourcing is carried out for achieving tactical, operational, and strategically oriented objectives of the company. The outcome of outsourcing may be more focused on core competencies, cost advantage, availability of wider skills and technology, achieve economies of scale, and even gaining access to the much larger market. However, this does require developing an understanding of the objectives that companies pursue when outsourcing their business functions to external sources. It has been observed that a large number of companies from both public and private sectors in different countries outsource their work to organizations or individuals. The growing nature of ITOs and BPOs has raised numerous issues about the risks involved in shifting from tight and integrated corporate culture to a diverse and comparatively less integrated structure involved in outsourcing. These risks could be managed through effective management by implementing key techniques such as identifying risks at the strategic and decision-making level, evaluating their direct effect, identifying and analyzing possible solutions, adopting the appropriate solution, monitoring, and improving (Steinberg, Everson, Martens & Nottingham, 2004).

Problem Definition

This research paper will investigate different types of risks associated with outsourcing arrangement are broadly classified into operational risks, strategic risks, and composite risks (Tucker, Alvarez & Niebuhr, 2005). Operational Risks pertain to process, technology, people, and even external event risks. These risks would result in a shortfall in quality, higher cost, or slowdown in the speed of process execution. Strategic Risks are related to the behavior of the service vendor. The issue may relate to intellectual property’s confidentiality & secrecy, pricing, and control over negotiations. Companies often find themselves in such a position where they are closely tied up with the service providers and are unable to switch to alternatives because of the strict terms and conditions of the binding contracts allowing service providers room for manipulation. Composite Risks are associated with a situation where the outsourcer has delegated its business functionality to an external source and does not retain the in-house capacity to perform outsourced work. This implies that the outsourcer does not have a fallback capability if its supplier becomes unfeasible or too much controlling. These risks are in one way or another result of the mismanagement or negation of responsibilities and conditions set out in the agreement. The outsourcer company should undertake careful screening of the potential service provider and should be able to highlight its weaknesses or contradictions with the company’s way of doing things. In addition to these risks, cultural compatibility in particular is vital in finding the right outsourcing mix. Corporate cultures are usually directed from the top management and could vary from one company to another. Understanding the significant impact of corporate culture on the outcome of outsourcing allows the executives to understand the pitfalls associated with weak arrangements (Stormy, 2005). This is an important issue when deciding between service providers who may share different or opposite corporate cultures. Where outsourcing brings benefits for businesses it also makes them vulnerable to various risks associated with the comparatively less regulated industries. Companies could implement an effective and efficient risk management system to ensure that outsourcing meets its desired goals and the risk exposure remains within acceptable levels. The current research will examine all the above risky issues related to outsourcing and the steps that companies should implement through their strategic positioning and decision-making to ensure that benefits are overturned to a complete mess.

Research Questions

This research will cover the following research questions which would assist the reader to develop an understanding of outsourcing risk management:

• What constitutes the business model for outsourcing?
• What are the different business functions companies outsource?
• What are the different types of risks involved in outsourcing?
• How the identified risks can affect businesses?
• How to balance the trade-off between the business objectives and outsourcing strategies?
• What risk management tools should be implemented?
• What are the expected challenges for outsourcing in the years to come?

Research Approach

The selection of a research approach is crucial as it will set out the scope of the research work. Different research methodologies have been suggested and adopted to assist in undertaking informed decisions about the research design which may not just involved ways of collecting data and determining procedures to analyze the data but also help to identify the research strategies which may or may not be suitable for a selected task. However, constraints on different research traditions also need to be understood when deciding upon a research approach (Easterby-Smith et al. 2002, cited in Saunders et al., 2007).

In the broader sense, two research methodologies including the quantitative approach and the qualitative approach are hereby discussed. Firstly, quantitative approaches deal with numerical measurements using mathematical tools and hypotheses. They are typically used as mainstream scientific approaches in psychology and are widely used to measure how many people feel, think or act in a particular manner. This involves methodologies of empirical, hypothetico-deductive, and experimental collection and analysis of data. These approaches result in determining numerical differences among groups under observation (UNR, 2008).

On the other hand, qualitative approaches deal with in-depth study and analysis of the subject in review. In contrast to quantitative research, it establishes hypotheses rather than testing existing ones. It usually involves self-participation, interviews, observations and gathering of data, and finally analysis. This type of research is suitable for social sciences and is based on the more focused investigation to assist in decision making (McBride & Schostak, 1994). Qualitative research may be implemented via deductive and inductive approaches.

Deductive and Inductive Research Approach

Under the deductive approach, a particular hypothesis is reviewed. This is usually carried with a specific objective and focused statement when carrying out aresearch and the outcome is either approval or rejection of that specific hypothesis. A theory regarding a specified research topic is tested rigorously. This is a common approach especially when research regarding natural sciences is carried out where where laws present the basis of explanations, allow the anticipation of phenomena, predict their occurrence, and therefore permit them to be controlled. (Collis & Hussey, 2003)

While on the other hand, inductive research moves from particular situations to make or infer broad general ideas or theories. According to Saunders et al., (p 118-199, 2007) inductive approach is an alternative approach for conducting research that is very much linked to a particular context in which various even are taking place. The logical ordering of induction is the opposite of deduction as it involves initially observation of the empirical world then moving towards the construction of explanations and theories about what has been observed earlier (Gill & Johnson, 2002).

Recommended Research Approach

The current research will adopt the deductive approach for information gathering and analysis. The research will focus on the risk issues related to outsourcing then move to derive examples from real case scenarios. The research will be carried out by selecting a group of representative outsourcer and service provider companies for the understanding of their outsourcing arrangements. A questionnaire would be requested from these companies to be completed. Furthermore, various secondary resources will be used for gathering information regarding expert’s opinions and findings on the topic of outsourcing and risks associated with this industry. Finally, procedures adopted by industry participants would be reviewed for critically analyzing the strengths and weaknesses of the described methodologies.

Key Methods for Research

Primary Sources

A group of selected companies will be approached for the completion of a questionnaire. This questionnaire will highlight different aspects of the outsourcing business model. Furthermore, responses regarding risks involved in outsourcing arrangement and respective risk management techniques would be incorporated. However, before carrying out the questionnaire completion process permission would be requested from the thesis supervisor, and only selected personnel of the companies would be contacted for their responses.

Secondary Sources

The secondary data will be collected via various related internet articles, books, magazines, company information and so other possible sources. It is very important to ensure and verify that the right information is collected to be presented in the current thesis.

Research Design for Collecting Primary Data

The primary data is considered to be the first hand which is collected through the questionnaire to be designed for the current research. Permission from the supervisor will be requested to contact various companies that are using outsourcing services from external sources. Furthermore, service providers will be selected for another questionnaire to be completed. This would allow both buyer and suppliers perspective of the risks involved in the outsourcing arrangement and conclude the most likely risk management techniques to be implemented by businesses.

Reflections

The current thesis will cover different aspects of risk management and its application to the field of outsourcing. The methodology prescribed for this research is subject to certain issues and limitations which are underlined here to define the scope of the current thesis and set out the basis for the results which this report will conclude upon.

Firstly, the current thesis is an effort to study and summarize different issues relating to outsourcing risk management. However, extend of research coverage is subjective due to the limitation of time and the researcher’s ability.

Secondly, the current research will use both primary and secondary sources to converge on the study of risks associated with outsourcing. The limitations of primary resources in terms of participants’ responses and selection of participants need to be taken into account. Furthermore, the current research will also extensively use information from secondary sources. Therefore, the scope of the research is limited to data available from other sources.

Thirdly, an ethical issue about this study covers the recommendations which would be carried out after detailed fundamental research. The primary objective is to discuss and implement suitable valuation methodologies using the information regarding outsourcing risk management. The results are therefore subject to the understanding of the writer and any recommendations made through this report are subject to the understanding of the reader and this should be viewed in light of its limitations and subjectivity.

Tentative Schedule (Please fill in the respective dates and color boxes accordingly)

The following Gantt chart indicates the stages of the research work and tentative completion dates to ensure submission of the final complete thesis within the due date.

Conclusion

The assigned topic is an interesting one and it would help to develop knowledge and comprehensive insight into the process of outsourcing and the risks facing entities involved in this industry. The research methodology would be carefully implemented and all research questions will be addressed through this thesis. The above brief proposal description would form the basis for the main body of the thesis. Upon approval of the research proposal, further investigation related to the subject will be made to establish examples from the outsourcing industry. Also in the coming days further detailed review of the proposed literature will be carried out. The research will be initiated by preparation of questionnaire and carrying out interviews with the selected participant. At the end of the collection of data and responses, the final thesis would be furnished.

Through the current research paper, an understanding of the typical business models of outsourcing arrangement will be made with research of existing tools and suggestions by outsourcing industry practitioners and experts. The risk assessment of the outsourcing industry with identification of risks involved and the industry set standards and procedures of risk management would be discussed and critically evaluated for their strengths and weakness. Last but not least recommendations for the most desirable risk management techniques would be made.

List of References

Collis, J. & Hussey, R, (2003)., Business Research: a Practical Guide for Undergraduate and Postgraduate students. 2^nd. Basingstock: Palgrave Macmillan.

Easterby-Smith, M., Thorpe, R. and Lower, A., (2002). Management Research: An Introduction. 2^nd ed. London: Sage Publications Ltd.

Eugene, G. (2001). Outsourcing: The Hidden Costs. AllBusiness.com. Review of Business. [online]

Gill, J. and Johnson., (2002). Research Methods for Managers. 3^rd ed. London: Sage Publications Ltd.

ICAEW, U.K. (2002). Risk management for SMEs. Faculty of Finance and Management.

Lankford, W. M. & Parsa, F. (1999). Outsourcing: a Primer. Richards College of Business, State University of West Georgia. MCB University Press.

Johnson, P. and Gill., (1997). Research Methods for Managers. 2^nd ed. London: Paul Chapman Publishing Ltd.

McBride, R & Schostak, J. (1994) Chapter 1: What is Qualitative Research? EnquiryLearning.net [online]

Saunders, M., Lewis, P. and Thornhill, A., (2007). Research Methods for Business Students. 4^th ed. London: Prentice Hall.

Stormy, F. (2005). Avoiding culture clash: Forming successful outsourcing relationships. AllBusiness.com. [online].

Steinberg, R. M., Everson, M. E. A., Martens F. J. & Nottingham L. E. (2004). Enterprise Risk Management – Integrated Framework. Committee of Sponsoring Organizations of the Treadway Commission (COSO).

Tucker, J., Alvarez, E. & Niebuhr, J. (2005). Reining in Outsourcing Risks. Wharton.

University of Nevada (UNR). (2008). Chapter 4: Quantitative and Qualitative Research. [online]

Wood, L. (2008). Global Market for Technology Outsourcing & Managed Services to Grow at a CAGR of… Business Wire, Reuters. [online]

Further Proposed Study and References

1. Downey, J. M. (1995). Risks of Outsourcing – Applying Risk Management Techniques to Staffing Methods. Vol. 13 No. 9/10. MCB University Press.
2. Foogooa, R (2008). IS Outsourcing – a Strategic Perspective. Vol. 14 No. 6. Emerald Group Publishing Limited.
3. Frost, C. Outsourcing or Increasing Risks? Vol 8 No. 2. Global Risk Management Solutions PWC.
4. Greaver, M. F. (1999). Strategic Outsourcing: A Structured Approach to Outsourcing Decisions and Initiatives. AMACOM Div American Mgmt Assn.
5. Hirschheim, R. A., Heinzl, A. & Dibbern, J. (2006). Information Systems Outsourcing: Enduring Themes, New Perspectives and Global Challenges. Springer.
6. Kannan, N. (2008). Reducing Operational Risk in Business Process Outsourcing. SourcingMag.com [online]
7. Lacity, M. C., Willcocks, L. P. & Rottman, J.W. (2008) Global Outsourcing of Back Office Services: Lessons, Trends, and Enduring Challenges. Vol. 1 No.1. Emerald Group Publishing Limited.
8. Lee, M. K. O (1996). IT Outsourcing Contracts: Practical Issues for Management. City University of Hong Kong. MCB University Press.
9. Machrotech.com (2008). Offshore Outsourcing: Vendor Evaluation. [online]
10. Ngwenyama, O. K. & Sullivan W. E. (2007). Outsourcing Contracts as Instruments of Risk Management. Emerald Group Publishing Limited.
11. Tafti, M. H. A. (2006). Risks Factors Associated with Offshore IT Outsourcing. Hofstna University. Emerald Group Publishing Limited.
12. Trott, P. & Hoecht, A. (2006). Outsourcing, Information Leakage and the Risk of Losing Technology-based Competencies. University of Portsmouth. Emerald Group Publishing Limited.
13. Zamorski, M. J. (2000). Risk Management of Technology Outsourcing. Federal Deposit Insurance Corporation.