In recent decades, Business Process Outsourcing (BPO) has become a standard instrument in the strategic management toolbox. The continued growth of the global BPO industry, which is expected to grow at an annual rate of 8.7% between 2018 – 2022 to a value of $278.6b (TBRC, 2019), suggests that outsourcing is still an attractive option for executives to enhance efficiency despite some prominent failures and numerous risks being addressed in the literature.
What have we learned about the dynamics and potential pitfalls of BPO in the past decades? What should managers consider when evaluating a BPO project? This article will reinvestigate these questions and outline recommendations for executives.
2. Reasons to Pursue BPO
BPO concerns the provision of business processes by a third-party service provider (Deloitte, 2016). There are three main reasons to pursue a BPO project:
First, managers argue that they can focus on the company’s core business if non-essential processes are being outsourced to a third party. Thus, resources occupied by non-value adding activities can be freed up and reallocated to other more strategic tasks. It is often claimed in this context that BPO provides a higher degree of flexibility to the client.
Second, there is the belief that cost savings can be realized through BPO. The underlying reasoning is that specialized BPO providers can achieve economies of scale which allow them to execute a specific service at lower cost. If the service provider is located in an emerging economy, additional savings can be achieved through labor cost arbitrage.
Third, companies expect to gain access to new technology and skilled labour through BPO (Gewald, 2010).
3. Risks and Challenges of BPO Projects
The decision to pursue an outsourcing project has far-reaching implications, including numerous short- and long-term challenges which decision makers need to consider carefully.
3.1. Short-Term Risks
Concerning the main objective to achieve greater focus, the client should be mindful that any BPO project will inevitably inject complexity into its business since there is a need to coordinate with a third-party vendor. The client needs to prepare the BPO project, transfer knowledge to the vendor and monitor the execution of the outsourced services going forward. All these activities require a commitment of resources by the client which impact focus and achievement of the cost saving targets.
Apart from the above client-centric issues, the vendor might also become a source of adversity. The BPO service provider might lack the relevant competence and industry expertise leading to unsatisfactory service quality, increased customer complaints and potentially even service failure including shutdown of operation. High staff turnover, which is common among BPO service providers located in economies with dynamic labor markets, might be an aggravating factor impacting service quality and productivity.
Low service quality and productivity are typically addressed by adding more resources. This in turn drives up the headcount required on the vendor side, offsetting the expected economies of scale leaving only a potential saving from labour cost arbitrage. This benefit can be counterbalanced by the hidden costs for the coordination efforts that are easily overlooked by clients embarking on a BPO endeavor. As a result, the economies of a BPO project can fall apart quickly, leaving the client with lower service quality and increased cost of operation.
A BPO project often involves a reduction of the client’s workforce. With loyal, capable staff leaving the company, there is a risk that vital business knowledge, including confidential information, will be lost. The reduction of the workforce might also entail labor law risks, including conflicts with the workers’ representation. These conflicts can generate negative publicity, leading to a tainted reputation.
Lastly, the client-vendor relationship might be responsible for failed BPO undertakings. Roles and responsibilities as well as the target operating model might not be sufficiently clear to both parties. Cultural and language differences might cause friction or misalignment (Shi, 2007).
3.2. Long-Term Risks
Apart from these short-term challenges, BPO projects bring about long-term risks that might affect the business as well. While these challenges are not obvious at the beginning of the project, the potential implications to the client can be serious and far-reaching. Moreover, there is research which indicates that efforts to address short-term risks might exacerbate the long-term risks of a BPO project. For example, weak service quality or poor productivity might necessitate the client to approve additional resources which leads to price or contract creep and potentially increased operational dependency. In turn, a higher degree of dependency reduces agility and flexibility for the client to react quickly to unforeseen market developments and curtails the capacity to innovate. Short-term quality issues might also prompt the client to consider standardizing the outsourced processes which impacts the long-term competitiveness of the business since the services become more generic (Shi, 2007).
Furthermore, there are other potential implications, such as tax, regulatory and security risks which might have serious long-term consequences for the client (Deloitte, 2016).
4. Implications for Managers
There are many pitfalls and drawbacks which might cause a BPO project to fail. How do executives deal with these complex and interrelated challenges? The following recommendations might be useful to make an informed decision and thus reduce the risk profile of a future outsourcing project:
- At the outset, the client must consider which activities are of vital strategic relevance and a source of competitive advantage to the business. These activities constitute core competencies which are not suitable for outsourcing and should be kept in-house (Insinga and Werle, 2000). In identifying these core competencies, managers need to look beyond products and services at the skills the company possesses to provide unique value to its customers (Quinn and Hilmer, 1994).
- Managers need to be aware that outsourcing implies to disintegrate the value chain. However, at the end of the day, all individual components need to be reintegrated into a uniform, coherent product that is compelling to the client’s customers. Research indicates that a deep understanding of the design and make-up of the individual components is important to assess the overall performance of the product. Such knowledge, also known as “architectural knowledge,” plays an essential role in determining the performance of complex products and solutions. Therefore, managers should critically ponder outsourcing of strategic activities that directly or indirectly impact the overall character of the product (Zirpoli and Becker, 2010).
- Managers need to be mindful that outsourcing always implies making a tradeoff between control and flexibility. There is a large spectrum of outsourcing arrangements in order to meet the client’s demand ranging from full ownership, through joint venture to long- and short-term outsourcing agreements which determine these critical attributes, as well as other important aspects such as investment needs, management involvements and business risks (Quinn and Hilmer, 1994).
- Once a decision has been made with respect to outsourcing an activity and the most appropriate framework, clients should carefully select a vendor with suitable industry expertise and relevant knowledge for the target activities. There is evidence that BPO projects in which the client leverages the technology of the vendor are on average more successful. Managers should therefore select a vendor that offers efficient technologies and architectures in order to make an additional contribution to the overall project success (Willcocks et al., 2012).
- The business plan must be prepared carefully by the client. All risks and downsides including restructuring cost – as well as the cost for the retained activities and necessary investments – must be accounted for; the cost-saving potential should be calculated thoroughly, and excessive expectations must be avoided (Shi, 2007).
- Clients should consider whether the target process is sufficiently mature and ready to be outsourced. The process should be reviewed thoroughly, and complexity reduced before embarking on the outsourcing journey (Shi, 2007). In fact, research has found strong correlation between process standardization and BPO success (Wüllenweber et al., 2008).
- Both client and vendor must ensure that roles and responsibilities are sufficiently clear. Agreements must be prepared, including Standard Operating Procedures (SOPs) and Service Level Agreements (SLAs) to align expectations and govern daily operation (some recommendations for SLA are provided by Deloitte, 2014).
- All stakeholders need to be aware that effects on short-term profit targets of the firm might not be aligned with the long-term strategic objectives. Senior management should thus be included in decision making process to complement project managers’ bias towards fixing short-term problems, for example as members of the steering committee organization (Shi, 2007).
- Successful BPO projects are based on arrangements that include strategic business targets, account for potential changes in the business model and leverage data and insights. Clients should thus pursue a holistic view and consider the overall value of the project beyond mere cost savings (Willcocks et al., 2012).
- A sufficiently staffed project organization needs to be put in place with strong emphasis on change management to overcome any cultural and language barriers. The change management efforts also have to address the needs and motivation of the retained organization as well as to involve worker’s councils and labor unions (Willcocks et al., 2012).
- The pricing of a BPO deal should not simply be based on a remuneration per headcount which constitutes a fixed cost. Instead, the client should pursue a variable pricing structure with a separate consideration for predefined business outcomes to ensure flexibility and achievement of the desired goals (Willcocks et al., 2012). Also, incentives could be included in the agreement to motivate innovation and productivity improvements, for example by means of gain share arrangements (Willcocks and Lacity, 2013).
- The client should devise a governance model based on the nature of the outsourced processes. If the outsourced process is characterized by low complexity, low strategic importance and high independence, the governance approach should focus on low levels of operational and managerial involvement of the client and instead place emphasis on the ongoing monitoring of the execution of the process through the vendor. Conversely, if the outsourced service is complex, highly strategic and deeply embedded in the firm’s business, it is advisable for the client to pursue a close partnership with strong focus on coordinating tasks, such as strategic dialogues and frequent exchange of ideas (Johnson, 2006).
- Embarking on a BPO project might entail direct and indirect tax consequences. It is therefore important to devise a tax model which supports the project. For multi-national companies, local transfer pricing regulations and double tax treaties shall be considered (Deloitte, 2016).
- The client should conduct proper due diligence before embarking on a BPO project since re-insourcing or switching vendors is complex and expensive. Nonetheless, the client should give these scenarios sufficient thought during the project stage and build in the necessary precautions in the BPO agreement (Deloitte, 2016).
- A well-defined, transparent and properly executed communication strategy towards all internal and external stakeholders will be important to achieve buy-in and support for the outsourcing project (Deloitte, 2016).
BPO is not a failsafe remedy to cure an inefficient business. Firms should carefully investigate whether BPO is the right choice to achieve the desired efficiency gains and improvements to the overall delivery of the business.
The greatest value can be realized if BPO is considered as a tool to drive strategic value. In this sense, BPO is not only about cost saving, but it can be an enabler for growth and transformation as it allows the firm to add services or obtain skills without costly investments (Craumer, 2002).
The mere outsourcing of inefficient processes with the objective to achieve cost saving is unlikely to be a highly successful undertaking. Instead, the added complexity of coordinating with a third party, increased dependency as well as reduced agility and flexibility might lead to major adverse consequences to the overall business. Some of the drawbacks can be addressed by setting up a Shared Service Center (SSC), which is basically an outsourcing approach within the firm. Alternatively, advances in technology offer numerous options to automate processes. In recent years, Robot Process Automation (RPA) has developed significantly and now offers capabilities well beyond simple rule-based automation. Empowered by cognitive skills through machine learning, RPA is now capable of handling many tasks which previously required human intervention. RPA is relatively low-cost, easy to implement and does not require deep systems integration (Boulton, 2018).
Boulton, C. (2018) ‘What is RPA? A revolution in business process automation’, CIO.com (Accessed 21.12.2020).
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Willcocks, L., Lacity, M., Simonson, E., Sutherland, C., Hindle, J. and Mindrum, C. 2012. Achieving High Performance in BPO. Accenture.
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About the author: I am a professional active in the freight forwarding and logistics industry for almost 20 years with numerous postings in Asia, America, and Europe.
Currently, I am acting as Chief Financial Officer at Yusen Logistics, Germany. Before that I held various management positions at DB Schenker Logistics. I studied business management at the University of Applied Sciences in Bochum, Germany and earned a doctorate at the University of South Australia, Adelaide.
I have published numerous papers and magazine articles. Moreover, I am grateful for the opportunity to have spoken at the Argyle CFO Forum in New York, the ACT conference in Manchester as well as the Eurofinance conference in Copenhagen. Contact: www.linkedin.com/in/drkarenfort/