Expense reduction is often cited as one of the primary objectives of offshoring. However, because financial analysis doesn't always take all factors into account, cost savings may not add up. We report on the realities of offshoring.

In an era of fierce competition, organisations are doing everything possible to slash labour costs. This includes outsourcing many functions that were previously handled in-house.

As the corporate playing field has grown to encompass the globe, many outsourced functions have ended up in other countries, often overseas; hence the term offshoring.

Outsourcing is inextricably linked to cost-cutting

Lured by opportunities for savings, companies sometimes move labour-intensive operations abroad. Indeed, according to the 2005 Offshoring Survey Report just released from the Society for Human Resource Management (SHRM), a majority of organisations, 76 percent, cite lower labour costs as the primary reason for offshoring.

Clearly, the prevailing perception is that offshoring results in less expensive labour and therefore lower costs. But there can be obstacles.

Labour issues

"Most are political obstacles," says Hans Sennholz, former professor and chairman of economics at Grove City College in Grove City, Pennsylvania, who now explores economic issues as an author, consultant, and lecturer.

Sennholz indicates that despite the popularity of moving operations abroad, there is a great deal of anti-offshoring sentiment. "All those who are adversely affected will object or complain, mostly the labour unions," he says.

This is particularly true where the policy is to work less and earn more, Sennholz tells Expatica. "Those industries seem to be shrinking," he says.

But even labour unions are under pressure says Sennholz, noting how old European countries have 10, 11, and 12 percent unemployment. "Labour costs more than it produces," he says.

In the United States, where unemployment currently hovers around 5 percent, the cost of labour is also an issue. "Benefits costs make labour very expensive," Sennholz explains, citing how fringe costs can double employee pay.

An analysis of offshoring opportunities usually highlights differences in rates of pay. However, the goal of offshoring, according to Sennholz, is not merely to find less expensive labour, but to find more productive labour.

"Labour that costs more than it produces is unproductive," he explains. "The German firm that goes to Poland is trying to find productive labour."

Operating abroad

Nevertheless, attempting to do business in another country can be problematic. "You can have difficulty in a new institutional setting," says Sennholz.

One issue is language. A language barrier presents a variety of challenges. For example, language differences may impede training.

Political corruption, which can adversely affect a work climate, is also an issue.

Religion is another factor, Sennholz notes. Plus there is the issue of geography. "The distance is a cost factor," he says.

Decision making

Although Sennholz concedes that income/profit is the ultimate goal of an offshore arrangement, he doesn't believe that most companies are motivated by greed.

"It's a painful decision to go abroad," he tells Expatica. "It's not a pleasant decision to leave your hometown and try to make a living in Indochina."

But when expenses exceed production, he says companies have no choice but to look elsewhere.

Today that often means going overseas, with China the most popular destination. "Your hope is always that if you go to China, your ink will be in the black," Sennholz says.

Still, the decision to move offshore is not one most companies make lightly. Nor is it with an eye on exorbitant economic gain. "It's a matter of survival. It's a necessity. It's an awkward, painful necessity," Sennholz says.

Facing reality

The reality is that offshoring is subject to failure.

HR involvement is linked to overall success

Sennholz tells Expatica of a German executive who spent four painful months in China overseeing company operations, only to realise things were not working.

Organisations don't always weigh costs accurately, Sennholz explains. "When they suffer losses, they move somewhere else or come back," he says.

Many that return do so because they were not very profitable, says Sennholz, and this creates an awkward situation, not to mention disappointment at the corporate home base.

Even under the best circumstances, where there is growth and success, it is less than ideal. This is largely because there is still disturbance, says Sennholz, giving the example of an American company that goes abroad, builds new factories, and leaves US employees behind.

Political issue

Because disruption in the home country is such an issue, Sennholz believes the next wave of trends in offshoring in the US and Europe is most likely to come from political intervention.

He cites how offshoring was a topic of debate in the last US presidential campaign, and says he expects it to be at the forefront of the next election. "And Congress may actually intervene," he says. "I would observe Washington. There are voices that would close borders."

Meanwhile, in Europe, activity is also being watched and questioned. There is a massive movement of labour from old EU member countries to new member countries, Sennholz says, giving the example of industry moving from Germany to Poland.

Ongoing considerations

Although offshoring can be fraught with difficulties, it can also be highly successful, provided all elements and related costs are considered.

Indeed, many companies have furthered objectives by moving select operations offshore.

In this regard, HR is playing a pivotal role. The SHRM survey finds that more than one-third of organisations that are currently offshoring or have plans to offshore indicate that HR was involved in the decision-making process.

“HR professionals are involved in corporate strategies that investigate the viability of offshoring and, in some cases, the subsequent decision to offshore certain business functions and/or units,” explains Evren Esen, SHRM survey research specialist.

What’s more, Esen indicates HR has a strategic role in offshoring implementation, and suggests HR involvement is linked to overall success.

She cites how corporate HR trains HR professionals based at offshore sites in the home organisation’s culture and policies, and how HR is charged with developing strong channels of communication among global satellite offices.

“HR’s involvement is crucial to effectively managing cross-border human capital,” Esen reports.

Those studying offshoring, including Esen and Sennholz, agree that debate over the process is likely to continue. Nevertheless, it seems offshoring is here to stay.

One reason is that management professionals generally believe the benefits outweigh any potential downside. The SHRM survey finds HR concurs. A majority of HR professionals believe that organisations should have the flexibility to operate business anywhere in the world in order to meet objectives and do not believe limitations should be imposed through government legislation.

At base, Sennholz also sees offshoring as beneficial. "Altogether it adds economic welfare for mankind," he says. "Provided it's moving in the direction of freedom."

25 October 2005

Paula Santonocito is a freelance writer specialising in workforce management issues. She is the author of more than 500 articles on a wide range of topics.

Subject: Human resource management and offshoring, HR and off shoring