Relying on third parties to handle payroll or IT services can provide several benefits, but outsourcing these functions has some risks and challenges to consider.

Benefits of Outsourcing

The primary reason for shifting to outsourcing is to save money, with lower costs reflecting better labor rates or economies of scale.

Outsourcing can also result in:

  • Higher efficiencies from working with functional experts – Outside resources can bring new ideas and technologies into your processes, making you more responsive and able to meet changing needs.
  • Increased focus on (and investment in) core competencies – This creates a faster time to market or provides increased capacity for growth.

Risks of Outsourcing

One significant challenge making outsourcing difficult is reaching agreements with providers as you seek to save money and they pursue profit. The struggle to create a mutually beneficial relationship can be hampered by other factors such as:

  • Providers lacking industry knowledge
  • Lack of control over response times
  • Language and time zone barriers

How to Structure Outsourcing Agreements

Outsourcing agreement should support your business needs. Options for structuring engagements include:

  • Time/materials – For functions where scope changes quickly, or specifications are difficult to determine, paying for fundamentals is appropriate.
  • On-demand/per unit – Suppliers have set rates for service levels and you pay based on usage.
  • Fixed pricing – With stable needs, objectives and a clear scope, fixed pricing helps predict costs over time.
  • Adjustments – This approach lets you start with limited support and adjust as needs change.
  • Cost/plus – You pay for actual costs and a profit percentage. Although terms are transparent, you have limited flexibility to adjust for changing needs.
  • Hitting targets – You and your supplier set hurdles for performance and you pay incrementally above the base contract when goals are met.
  • Gain-sharing – When improved performance from the supplier results in better sales rates for you, both organizations gain some percentage of the profit increase.
  • Risk/reward – Both parties fund solutions development and if results are favorable, the supplier shares the rewards.

For information about the effect of outsourcing on your financial position, contact the VanKeith Commercial Capital team.