Offshoring and outsourcing are often confused. However, the different terms have very different implications and can't always be used interchangeably.
The Difference Between Outsourcing and Offshoring
Outsourcing means delegating business processes to another company or independent contractors. Offshoring involves running a portion of business operations in another country.
The business may own and manage the offshore facility, such as if it builds a factory overseas, or it may outsource to a local business. Both strategies are frequently employed to help scale operations, reduce costs, and enhance operational efficiency. In fact, many large enterprises utilize a combination of outsourcing and offshoring to scale various segments of their business according to their needs, available funds, and required skills.
We will explore the benefits and risks related to offshore and outsourcing, along with associated staffing models.
Benefits of Outsourcing
There are several reasons companies outsource services, including:
- To reduce labor costs
- To access specialized services
- To focus on core business competencies
- To deliver short-term or seasonal projects
- To get hard-to-find skills
- To find talent faster
Specialized Outsourcing Services
One of the key ways outsourcing firms set themselves apart is by providing specialized services that they can manage more efficiently than their clients can on their own.
There are many outsourcing sub-industries, including:
- Manufacturing Outsourcing — companies hire another business to manufacture their products
- Business Process Outsourcing (BPO) — hiring specialized companies for back-office tasks like customer service and data processing
- IT Outsourcing – a business's information technology infrastructure is hosted and managed by a third party
- Call Center Outsourcing – Businesses hire external teams to handle customer support, sales, and inquiries using call center softwares
- Software Development — Software development outsourcing is contracting with a company to build software products. To ensure efficiency and quality, businesses often leverage one of the best software development analytics tools to track performance, monitor progress, and optimize the development process
- Project Outsourcing—specialized help is needed to deliver a complex project
- Design Outsourcing — companies like Crowdspring can help you with professional quality custom design, from logos to websites to the industrial design of products.
Again, not all these functions are outsourced offshore.
For example:
- Medical device contract manufacturers build prototypes and produce products in the U.S.
- U.S. accounting firms audit publicly traded U.S.-based companies
- U.S. IT companies build and manage other business's cloud-based infrastructures
If the firm whose skillset, availability, and rates most closely meet a business’s needs happens to be in another country, then it also makes sense to offshore.
Offshoring Economics
Companies usually outsource operations to developing countries with low wages to reduce costs. These savings are passed on to the customers, shareholders, and managers of these companies. However, offshore outsourcing has been criticized for hurting the U.S. economy by cutting jobs.
That said, the idea that offshoring hurts the U.S. economy has been challenged. A McKinsey study, "Offshoring: Is it a Win-Win Game," found that every dollar offshored generates $1.45 in new revenue, with $1.12 of that revenue returning to the U.S. and 33 cents going to the offshore nation. Those 33 cents represent about $20 of equivalent spending power in a country like the Philippines.
Benefits of Offshoring to Businesses
The primary driver of offshoring is cost reduction—70% of businesses move services overseas to reduce expenses.
The second biggest reason companies offshore services is for fast access to labor pools in countries with a much better ecosystem for specific business functions.
As the offshoring industries of India and the Philippines have grown, for example, the countries' educational and professional systems have adapted to create mature training infrastructures and talent pipelines. It takes an average of four months to hire an individual in the United States, and with offshoring, businesses can get entire teams up and running in a few weeks.
Benefits to Offshore Nations
Offshoring also benefits the economies of developing countries and can help stabilize nations. India's $100 billion offshoring industry has made it the world's third-largest economy. The country’s offshoring sector specializes in software development and IT services. Meanwhile, the Philippines has emerged as a leader in BPO offshoring, with the industry generating $27 billion in revenue and supporting 1.3 million jobs.
The Philippines is becoming an increasingly popular destination for recruiting due to its exceptional English proficiency, a workforce known for strong work ethics, and rising literacy and education levels. The country’s favorable time zone for global business operations, cultural compatibility with Western markets, and expertise in industries such as customer support, IT, and creative services further enhance its appeal. Global consultancy Tholons recognized this growing prominence, ranking the Philippines fifth in its Top 50 Digital Nations, solidifying its position as a leader in the offshoring landscape alongside India.
Risks of Offshoring
Offshoring, particularly when referring to outsourced jobs, has faced criticism. Offshore companies encounter reputational risks stemming from the perception that they are relocating "American jobs" abroad. As McKinsey found, the economics of offshoring are not straightforward. There are additional risks associated with offshoring:
- Project failure or missed deadlines and ensuring legal battles over blame
- Communication issues that slow projects down
- Changes in offshore nations' political and economic requirements that disrupt business
- Lack of control over outcomes
While the benefits of outsourcing and offshoring overlap, they don't share the same risks. Outsourcing in the U.S. doesn't risk alienating consumers over lost jobs or risk political, social, or economic unrest.
Offshoring vs. Outsourcing Post Covid
The COVID pandemic and the shift to entirely or mostly remote work have blurred the distinctions between outsourcing, offshoring, and directly hiring full-time employees. When everyone works remotely, does it really matter if employees are down the street or on the other side of the world? In an increasingly digital economy, many services can be provided online and from anywhere.
Coincidentally, the gig economy is leading more workers to pursue independent contracting from Silicon Valley to Manila. This gives workers more agency and gives employers more flexibility to staff on demand from any geography.
New Models of Offshoring
While offshoring traditionally means setting up operations in another country, new outsourcing models are emerging, and they accelerated during the pandemic. One is to hire individuals and teams overseas and blend them with your domestic teams as virtual co-workers. Online marketplaces like Upwork make it possible to hire individuals for projects and ongoing work.
Managed service providers like Prialto hire, train, and manage virtual administrative assistants in Guatemala and the Philippines to work with U.S.-based executives and teams. Another managed service provider, Andela, employs, places, and supports software developers from African nations who work with U.S. tech companies.
Related: Why Outsourced Executive Assistants Make Sense for Any Size Company
Mitigate Uncertainty with a Managed Offshore Outsourcing Model
Managed service offshoring enables businesses to adjust their scale as needs evolve. Companies gain greater control over their operations by incorporating offshore workers into their teams, rather than outsourcing tasks to another firm. This level of control is crucial, as customers now wield more power and have more options than ever, making the quality of the customer experience essential. You can find the right employee for the right role, no matter where your business is located.
The managed service model of offshoring also gives overseas workers more than a gig—the managed service provider trains, supervises, pays, and provides benefits and career paths that aren't available to independent contractors or marketplace workers. The employees work for the service provider, so the risks involved in political or social disruption are on that company. The good news is that you don't need to manage the employee's performance. That's up to the service provider.
Offshoring vs. Outsourcing: Conclusion
Offshore vs. Outsourcing: What's right for your business? The most significant difference lies in the location of the service provider you hire. Another key distinction is that offshoring carries certain risks that domestic outsourcing can often sidestep. Additionally, a third option, managed offshore service providers, strengthens your team with the specialized skills and oversight you need, all while keeping your overhead and risk minimal.
The right option is going to depend on your business, needs, and the provider you can find!
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