# How Outsourcing Reduces Business Costs: Strategies and Examples

## What Is Outsourcing?

Outsourcing involves hiring external parties to perform tasks or create goods, often cheaper than [in-house](https://www.investopedia.com/terms/i/in-house.asp) efforts. Companies widely adopt this approach to cut costs and focus on core business aspects. Although outsourcing was popularized in the 1990s for logistics and manufacturing, its economic impact remains controversial. Opponents cite domestic job losses, while supporters argue it promotes resource efficiency and strengthens [free-market](https://www.investopedia.com/terms/f/freemarket.asp) dynamics.

### Key Takeaways

*   Outsourcing is a practice where a company hires an external party to perform services or produce goods to reduce costs and improve efficiency.
*   Companies often outsource non-core business tasks to focus on main business operations and potentially gain a competitive advantage.
*   While outsourcing can save money, it can also present challenges such as security risks and communication issues between the company and third-party providers.
*   Many companies internationalize their outsourcing to benefit from lower labor and production costs in other countries.
*   The practice of outsourcing has been criticized for contributing to job losses and the creation of inequities within the labor market.

![Outsourcing](https://www.investopedia.com/thmb/36s3c8bzJEHvgdEfdHGXiWXoDCU=/1500x0/filters:no_upscale():max_bytes(150000):strip_icc()/TermDefinitions_Outsourcing-410e9120dbc44211a93c2716b883db05.jpg)

*— Investopedia / Mira Norian*

## Deep Dive Into Outsourcing Practices

When a company uses outsourcing, it enlists the help of outside organizations not affiliated with the company to complete certain tasks. The outside organizations typically set up different compensation structures with their employees than the ones used by the outsourcing company, enabling those organizations to complete the work for less money. This ultimately enables the company that chose to outsource to lower its labor costs through the combination of less pay and fewer benefits.

Outsourcing helps businesses avoid costs related to [overhead](https://www.investopedia.com/terms/o/overhead.asp), equipment, and technology.

In addition to cost savings, companies can employ an outsourcing strategy to better focus on the core aspects of the business. Outsourcing non-core activities can improve efficiency and productivity because another entity performs these smaller tasks better than the firm itself. This strategy may also lead to faster turnaround times, increased competitiveness within an industry, and the cutting of overall operational costs.

> **Important**
>
> Companies use outsourcing to cut labor costs and business expenses, but also to enable them to focus on the core aspects of the business.

## Outsourcing Examples and Benefits

Outsourcing's biggest advantages are time and cost savings. A computer maker might buy parts from other companies to [save on production costs](https://www.investopedia.com/terms/i/internationalization.asp). A law firm might use cloud services for file storage, accessing technology without high investment.

A small company may decide to outsource bookkeeping duties to an accounting firm, as doing so may be cheaper than retaining an in-house accountant. Companies often find it beneficial to outsource HR tasks like payroll and health insurance. Properly using outsourcing can cut costs and give a business a [competitive edge](https://www.investopedia.com/terms/c/competitive_advantage.asp).

## Criticisms and Drawbacks of Outsourcing

Outsourcing has disadvantages. For instance, signing contracts with other companies may take time and extra effort from a firm's legal team. In addition, security threats can occur when another party has access to a company's confidential information and that party suffers a data breach. Furthermore, a lack of communication between the company and the outsourced provider may occur, which could delay the completion of projects.

Beyond these factors, outsourcing has faced criticism due to the job precarity and lack of job promotion opportunities for contract workers. As mentioned above, contract workers often earn lower compensation than full-time workers and have fewer benefits, creating inequities in the workforce.

## Exploring the Global Advantages of Outsourcing

Outsourcing internationally can help companies benefit from the differences in labor and production costs among countries. Price dispersion in another country may entice a business to relocate some or all of its operations to the cheaper country in order to increase profitability and stay competitive within an industry. Many large corporations have eliminated their entire in-house customer service call centers, outsourcing that function to third-party outfits located in lower-cost locations.

In 2023, a Deloitte survey found that India, Poland, and Mexico were the top countries for outsourcing shared services. Meanwhile, outsourcing IT service desk functions was the top service exported in the information technology sector globally.

## What Is Outsourcing?

First seen as a formal business strategy in 1989, outsourcing is the process of hiring third parties to conduct services that were typically performed by a company itself. Often, outsourcing is used so that a company can focus on its core operations. It is also used to cut costs on labor, among other costs. While privacy has been a recent area of controversy for outsourcing contractors, the practice has also drawn criticism for its impact on the labor market in domestic economies.

## What Is an Example of Outsourcing?

Consider a bank that outsources its customer service operations. In this case, all customer-facing inquiries or complaints with concern to its online banking service are handled by a third party. While choosing to outsource some business operations is often a complex decision, the bank determined that it would prove to be the most effective allocation of capital, given consumer demand, the specialty of the third party, and cost-saving attributes. 

## What Are the Disadvantages of Outsourcing?

The disadvantages of outsourcing include communication difficulties, security threats where sensitive data is increasingly at stake, and additional legal duties. On a broader level, outsourcing may have the potential to disrupt a labor force. One often-cited example is the outsourcing done by the manufacturing industry in America, which has, to a large extent, moved production of its goods to other countries. In turn, higher-skilled manufacturing jobs, involving robotics or precision machines, have emerged at a greater scale.

## The Bottom Line

Outsourcing provides significant cost savings and operational efficiency by delegating non-core tasks to external vendors. This strategy allows companies to focus on core competencies, leading to increased competitiveness and productivity. However, challenges such as communication difficulties and security threats may arise, affecting control and confidentiality. Companies should diligently assess the potential [benefits and risks](https://www.investopedia.com/ask/answers/032415/when-outsourcing-preferable-vertical-integration.asp) for each specific task before deciding to outsource, ensuring alignment with strategic goals and maintaining critical oversight where necessary.

> **Article Sources**
>
> 1.  Deloitte. "[2023 Global Shared Services and Outsourcing Survey](https://www2.deloitte.com/content/dam/Deloitte/de/Documents/finance-transformation/Executive%20Summary_2023%20Shared%20Services%20Outsourcing%20Survey.pdf)."