Reduce Operating Costs

Companies which attempt to do everything themselves generally incur higher research, development, marketing and deployment expenses, and all of these are passed on to the customer.The outsourcing can help a company to reduce its costs as an outside provider's lower cost structure, normally as a result of a greater economy of scale or other advantage based on specialization, reduces a company's operating costs and increases its competitive advantage. This is the reason most often given for outsourcing.The logic for using outsourcing to manage and reduce costs is clear.

An outsourcer will provide the same service to a number of customers, and should be able to do this at a cost to itself that will be less than the total cost of the individual customers all doing it themselves. The major area for this will be in the overheads such as accommodation, administration, finance and other services. It may apply also to staff costs, as the number of staff needed to perform the outsourced service could be less than the total number required if all the customers employed staff themselves. An example of this is in computer operations. In addition, an organization needs to invest in research and development and in training so that it can continue to grow and develop.

An outsourcer can be more cost effective than in-house departments for some of these functions. This logic depends, however, on the organization making these investments; too often, in my experience, there tends to be little investment in R&D and staff development within a customer organization, while an outsourcer will have to make these investments to stay in business. It can be argued, although costs may increase as a result of the outsourcer's need to invest, that these costs are actually better managed than before. The customer's lack of investment would eventually have led to further, unforeseen and uncontrolled costs later on.

When assets are sold in this way, they are normally sold at their present book value, which is often higher than their market value. An outsourcer buying a three-year-old mainframe from a customer will be doing so at a price that far exceeds the current market value of that mainframe. In the case of PCs, the market value is likely to be zero within a few months, although they may continue to have a book value for some years. It would make commercial sense for an outsourcer to make up the difference between the market value and book value through its charges to the customer, and this is what often happens. The result is that the customer receives the required cash infusion, but will then be paying an additional cost throughout the period of the outsourcing agreement.