Interest in outsourcing is on the increase, fuelled by the pressure to cut costs as revenues fall. And this is no longer just a game for the big boys; small firms can also benefit from a little expert help

As many businesses look for ways to survive the recession, interest in outsourcing is on the increase. Outsourcing is the practice of subcontracting a business process to a third-party provider and is often seen as an obvious cost-cutting strategy. The National Outsourcing Association (NOA) reported in its last quarterly index, published in July, that the UK outsourcing market grew eight per cent last year. But are all companies getting into outsourcing for the right reasons?

NOA chairman Martyn Hart claims that although the number of outsourcing contracts is increasing, the average value of deals is down. This, he says, might hamper their chances of success. "With the increased pressure on companies to cut costs, many are pushing through higher-volume, low-cost contracts over shorter time frames. More often than not this sets the contract up to fail."

Clive Longbottom, service director at business process analysis firm Quocirca, has noticed a similar trend. "Although there has been an increase in the numbers of companies outsourcing, it is worrying because many companies are looking at it purely based on cost," he says. "Many firms think that the cost of having people sitting in the office answering customer phone calls is horrendous. They think if they outsource their contact centre to India it will cost them 60 per cent less. But this is just the upfront cost. If you choose the wrong partner, costs can increase, especially if you lose customers."

Longbottom believes the best approach to outsourcing is to start from the idea that the company you outsource to can do a better job than you, or can do it where you can't. It's not enough, he says, that someone else can do it for less. "You will find out that if you go in to these contracts thinking someone else can do a job better or they can do it and we can't, it will end up cheaper anyway. But if you go in looking at only the upfront cost, you deserve everything that happens to you," he says.

There are always plenty of good and bad stories about outsourcing. Some firms enjoy major savings, while others have brought services back in-house. In August this year, Bus operator Arriva London signed a 10-year extension to its outsourcing contract with Capgemini. Arriva London's operations director Jeff Quantrell says: "Capgemini's software has enabled us to achieve a high level of automation and has given us cost savings, including a clerical staff saving across our 15 garages."

Meanwhile BT announced earlier this year that it would bring 2,000 jobs back to Britain from call centres in India, where 5,500 people deal with queries and problems from customers. Despite rumours of cultural and linguistic barriers and irate British customers, BT insists the move had nothing to do with the quality of service but that bringing back work to the UK would reduce the number of jobs it cut in Britain.

So much for the large firms, what about SMEs? "Small businesses are the largest outsourcers of all, but they don't think of it as outsourcing," says Hart. "If you're running a small business you're probably in a serviced office with outsourced cleaning, outsourced accounts and outsourced lawyers. Small businesses see it just as a way of doing business. I think that's a measure of how accepted practices get."

Longbottom agrees. "There are things—such as payroll and expense claims—that people don't regard as outsourcing but that they have done for years." He believes SMEs can do well by outsourcing areas that are subject to legal changes. "For example, at the beginning of next year VAT could suddenly increase again. If you outsource your accounting then you don't have to maintain the skills or worry about what's happening in the market." He adds: "Large organisations started to look at outsourcing a few years back and very rapidly figured out there were certain things that they could outsource to enable them to free up resource, skills and money to do other things. Now more SMEs are becoming canny, too. They are starting to recognise they can outsource IT or accounting and free themselves up."

John O'Brian, senior analyst at Ovum, says the SME outsourcing market has been boosted by a growing number of organisations providing managed support services, such as IT infrastructure. These firms allow smaller companies to start looking at outsourcing where previously they wouldn't have been able to afford it. "They can share infrastructure. Rather than having the up-front costs of a big server they can share it with other firms," he says.

Piers Linney is a director of one such firm. Outsourcery, a provider of business mobile solutions, manages 25,000 SME customers. He claims: "We know a number of SMEs that would struggle to buy their IT and communication needs themselves because they can't raise the debt. A four-person company wanting proper email would have to go and buy a server, a Microsoft Exchange server, a maintenance contract, and if you use Blackberrys, a Blackberry Enterprise server. All that could cost £10,000. We remove all that up-front cost and give it to you on a per user, per month basis that allows you to budget."

He adds: "For our whole product set, you're talking about investments in hundreds of thousands of pounds of equipment. And small firms are getting the technology that only a large corporate can dream of affording. And it's all in an environment that is more secure than some smaller corporates."

Taking into account issues such as fraud and terrorism, which are factors in the choice of partner and destination, the majority of larger firms that small companies outsource to will have higher levels of security than they themselves could afford.

So where are companies outsourcing to? "If you take the contact centre as an example, the vast majority of end users are just chasing labour arbitrage. They are falling for the promises," points out Longbottom. "When India first started up in the contact centre market, that first generation of contact centres were world-leading. They employed doctorates who underwent in-depth cultural training—they really did understand and empathise with the person on the other end of the phone."

But the trouble, says Longbottom, is that we're now on the fourth generation. "These employees often have strong accents and are getting no training because the companies have a staff turnover rate of up to 80 per cent. There's no point in training someone if they're not staying there long enough."

Emerging outsourcing destinations such as Kenya, South Africa and parts of Eastern Europe are now beginning to compete with the Indian giants, says Hart. And even some near-shore destinations are picking up contracts. Longbottom explains: "Strangely enough, Ireland is coming back on the map. The Irish economy is such a basket case at the moment, that there are contact centres in Ireland that are now getting close to Indian rates."

But when choosing an outsourcing destination, Longbottom says rather than looking at countries, it's better to look at centres of excellence and to focus on cities that are specialising in certain niches: "Sri Lanka, for example, has just come out of civil war but there is good impetus from the top. The president announced that this is the year of English and IT. They are teaching as many Sri Lankans as possible to speak good business English and learn IT skills. Sri Lanka still educates its people based on the old English model. Their accountancy degrees are English certified and it has lots of outsourcing centres focused on the discipline. So if you want to look at outsourcing accountancy, Sri Lanka is a good place. But I wouldn't look at outsourcing to Sri Lanka at this stage for contact centres, because they don't have that environment."

According to Madu Ratnayake, the general secretary of SLASSCOM, the trade body for Sri Lankan offshoring, the outsourcing industry is worth around $250m to Sri Lanka, with 90 per cent of it being SME contracts. He believes SMEs are attracted by the advantages of Sri Lanka's smaller market, which offers better relationships. There are also low attrition rates and a labour pool that has been through a UK-oriented education system. "We have many SME clients who have built long-term relationships with their outsourcing partners and have done so successfully for many years," says Ratnayake.

But there is a more fundamental debate about whether during a recession—and with UK unemployment as high as it's been for decades—jobs should be taken out of the UK at all. When the government announced in July that it intended to outsource more than 100 British Council jobs to India as part of a cost-cutting drive, there was outrage among the unions, who denounced the move as an "absolute disgrace". The Public and Commercial Services Union (PCS) claimed that it was contrary to prime minister Gordon Brown's claims over "British jobs for British workers" and could not be justified during a recession.

But Hart believes this year may be different in terms of where companies look to source potential suppliers. He thinks we may see a natural reduction in offshore outsourcing. "With rising unemployment in the UK, companies may be reluctant to send jobs offshore in favour of outsourcing to within the UK or at least a nearer shore," he comments.

Longbottom disagrees. "In a competitive environment—and particularly in a downturn—the focus has to be survival. Although many would possibly like to buy British, it is unlikely that they would do this if it meant that they would be less competitive in the market. Although it sounds harsh, there's no room for a soft approach when it comes to employment."

Where Longbottom agrees is that UK customers like to be dealt with by UK workers. "If the customer knows that their call is being handled abroad, and they get a bad experience, then very often some basic xenophobia creeps in. Therefore, for the likes of First Direct to keep its call centres in the UK, is not about jobs for the UK, but a case of 'we can be more competitive this way'."

10 tips for smarter outsourcing

1. Be clear on your motivation and objectives. Make sure that the decisions you take are well-informed. It's crucial to get the research right says Brian Shaw, managing director, business group, UKTI.

2. Take time to meet your potential partner. If it is overseas, visit the country and get a sense of how your partner operates. Ask yourself: 'does it sit well with my company's values and the way I like to do business?'

3. Think about risk and reward. Be very clear about the impact on cashflow. Do you have the right product or the management and financial capacity to see it through once you've started?

4. Take advantage of the advice and guidance available. UKTI, for example, is well equipped to help companies that are thinking about these opportunities.

5. Understand what you can outsource. Not everything is suitable, says Madu Ratnayake, general secretary of SLASSCOM, the trade body for offshoring in Sri Lanka.

6. Make sure relevant quality controls are in place. Look for ISO 9000 or whatever is appropriate for the market you are in, says Clive Longbottom, service director at business process analysis firm Quocirca. Make sure you are allowed to visit your partner at any time to ensure that quality meets your expectations.

7. Ensure any deal is done in sterling. This way it's down to the outsourcing company to deal with currency issues. It may cost more up front—your partner might want to minimise its risk—but you protect your firm from these risks.

8. Agree service-level agreements (SLA). Research by Nelson Hall has found that 40 per cent of outsourcing contracts don't have SLAs in them. Specify what you want done within an agreed time.

9. Get top-level support. Depending on the size of the firm, either the finance director or managing director should be involved in the decision.

10. Don't outsource your core business. Make sure that what you are outsourcing is not the essence of what your business does. If it's not core to your business, then it's fair to ask why you are doing it.