THE ADVANTAGES AND DISADVANTAGES OF OUTSOURCING IN LESS DEVELOPED COUNTRIES (LDC)
THE ADVANTAGES AND DISADVANTAGES OF OUTSOURCING
IN LESS DEVELOPED COUNTRIES (LDC)
1.1 Overview of Outsourcing Historical Perspectives
For the past years, the economic situation of the world has gone through significant changes. One of the prime causes of these transitions was the introduction of globalization. This is the process where the interconnection of neighboring nations is increased. Globalization is stimulated by heightened cross-border flow of goods, money, services, people, culture and information (1999). The introduction of globalization to the world is said to help in establishing stronger political, cultural and economic relations among the world’s many nations. One of the important outcomes of globalization is international trade expansion; this also led to higher international capital flows, labor and technology. Universality in cultural, political, legal and institutional practices among neighboring countries was also made possible through globalization.
With international trade, countries are able to distribute their goods to a larger market. Aside from economic development, the ties shared by participating countries can also be a useful resource for less developed nations. Ideally, international trade should promote world progress by means of economic enhancement and stronger world relationships. Because of the advent of international trade, several changes in business as well as in technology, a new important phenomenon has occurred, i.e. outsourcing. Several businesses are trying to apply outsourcing on their different internal operations in the attempt of establishing stronger business focus on primary competencies. The basic motivating factor for this decision is mainly concentrated on organizational restructuring and reduction of costs. There are some countries which has been able to achieve greater potentials through the use of outsourcing.
While these countries have already made their mark on the outsourcing business, other countries are also opening its doors for the current trend, most especially those less developed countries. Outsourcing has expanded through most every industry since the early 1980s ( 1995). The primary reason is to conserve staff in all areas of business. While lower wages may not be the prime motive to outsource, they are sometimes the result. Moreover, as the administration of employee benefit plans becomes more complex, companies are looking to outsourcing as a way to meet this challenge (1995).
Outsourcing is basically one of the service lines that globalization and the development of ICT pushed further in the business world. Williamson’s (1975) theory of transaction cost analysis can be the conceptual basis for outsourcing. It combines economic theory with management theory to determine the best type of relationship a firm should develop in the marketplace (1975). This basically strengthens the purchasing discipline that uses an analysis of the factors which determine the internal and external boundaries of the firm. The principle of (1975) TCA is that the properties of a transaction determine what constitute the efficient governance structure - market, hierarchy or alliance. (1975) stated that factors that produce transactional difficulties include: bounded rationality; opportunism; small numbers bargaining; and information implications.
Primarily, the main goal of this dissertation is to conduct a study that will investigate the advantages and disadvantages of outsourcing in less developed countries. This paper investigates international outsourcing as one of the most important phenomenon that influence less developed countries positively and negatively.
The perception of people towards outsourcing has been the key factors for less developed countries to consider its context and implement it as part of their economic strategy. Thus, the main objectives of this paper is to determine the advantages and disadvantages of outsourcing in less developed nations.. Specifically, the study aims on achieving the following objectives:
Ø To conduct literature review on the fundamental concepts of outsourcing
Ø To provide background study on outsourcing in less developed countries
Ø To examine the advantages and disadvantages of considering outsourcing.
1.3. Plan of the Dissertation
The study practically involves an analysis of existing secondary data and information regarding outsourcing, specifically the advantages and disadvantages it posts in less developed countries. This objective can be attained through conducting a detailed literature review pertinent to the development of outsourcing theory, background of outsourcing in LDC, and the pros and cons of outsourcing in LDC. A mixture of both qualitative and quantitative data will be used in analyzing and addressing the problem. Although this study will focus on outsourcing in LDC, related literatures, studies and experiences of other outsourcing in developed countries may be included in this study, provided they are relevant. To that end, data and information can be gathered from books, journals, previous studies, reports and various websites.
1.4 Overview of the Report
This dissertation will be divided into five chapters. The description of the succeeding chapters is as follows:
Chapter 2 will present the literature review undertaken for this study. This chapter will be divided into parts. The first section will present background of outsourcing in less developed countries or developing countries. The next part of this chapter will review the concept of the development of outsourcing theory, as well as the advantages and disadvantages of outsourcing.
In the third chapter, the researcher will analyze whether developed countries that outsource higher and higher technology intensive activities will continue to consider outsourcing or whether they will stop as they reached specific intensity.
Meanwhile, Chapter 4 will present the data analysis in line with outsourcing through Foreign Direct Investments by multinational enterprises. The discussion will provide details on how these activities helps less developed countries to achieve economic potentials.
Finally, the fifth chapter will present a summary of the findings of this study, as well as the conclusions derived from the findings.
1.5 Scope of the Study
This study covers the areas of Outsourcing, developed countries, less developed countries, intellectual property protection in outsourcing, foreign direct investment and the advantages and disadvantages of outsourcing in less developed countries.This study will be deductive in its approach. This decision is based on several characteristics of a deductive approach elaborated by (2003): “[first], a deductive research can be quicker to complete; [second], data collection is often based on ‘one take’; and [third], this approach can be a lower-risk strategy” . Given the time restrictions resulting from the researcher’s other obligations outside of this study, as well as the financial limitations of this research work due to other expenses and projects outside the thesis, the researcher deemed the deductive approach as the most suitable research approach to be undertaken.
For this research design, the researcher gathered data, collated published studies from different local and foreign universities and articles from business and management journals; and made a content analysis of the collected documentary and verbal material. Documentary secondary data will be used for this study. Data sources crucial to the study include newspapers, journals, books, magazines, the Web, and financial reports. In terms of ethical considerations, all publication materials that will be cited in the study will be referenced properly. Plagiarism will be avoided at all cost.
2. Literature Review
Perhaps, every nation in the world today is striving to become a developed country for this new generation. Each country has to be strong because competition is very tough. In addition, government of each nation, specifically those underdeveloped countries are seeking ways on improving their economic stability. For many less developed countries, one way to reach such objective is through international outsourcing. Outsourcing as generally defined by those companies that provides certain services, requires turning over management responsibility for running a segment of business. In theory, this business segment is not mission-critical, but practice dictates otherwise. Outsourcing business is characterized by expertise not inherent to the core of the client organization. Accordingly, the past 10 years has seen extensive and significant increase in terms of international outsourcing ( 2001), specifically to less developed countries. Such occurrence has paved the way for different studies which tries to measure or identify the effect of international outsourcing in less developed countries. In order to determine whether outsourcing impacted countries or not, there is a need for a comprehensive study regarding this issue.
2.1 Outsourcing in Less Developed Countries
Developing countries’ outsourcing has seen enormous growth for the past years. Global or overseas outsourcing has taken the core stage during the past periods because of the new types of services that has been outsourced by the European and US firms to less developed nations. Accordingly, some authors view outsourcing as the strategic and effective use of outside resources so as to perform processes conventionally managed by internal employees and resources. They view outsourcing as an activity in which an industry or economy contracts out primary functions to specialized and successful service providers. These service providers then, became valued organizational partners. Industries or economies have always employed contractors for specific kinds of jobs, or to level-off peaks and channels in the work area, and have been able to established long-term partnerships with industries whose skills complement or even supplement their own. Nevertheless, the difference between actual outsourcing and simply supplementing resources via sub-contracting is that considerable and extensive restricting of specific business practice such as transferring of staff from a host country to a specialist, commonly smaller, firm with the required vital competencies.
Accordingly, because of the several changes in business as well as in technology, outsourcing at present is no longer an alternative strategy for developing countries but a priority. Several businesses are trying to apply outsourcing their different internal operations in the attempt of establishing stronger business focus on primary competencies. The basic motivating factor for this decision is mainly concentrated on organizational restructuring and reduction of costs. As previously mentioned, outsourcing also results to several benefits for both the client and the outside vendor. Upon deciding to pursue outsourcing, the following question would probably be where to outsource.
According to Shine Technologies (2004), possible outsourcing sites are found all over the world. In Asia for instance, the Philippines and India have flourishing offshore capacities. Poland and Russia of the Eastern Europe also have thriving offshore components. In the American sector, South and Central regions also have strong outsourcing potentials. Of course, Mexico and Canada, as United States neighbors, offer outsourcing options for American companies. Typically, these countries are commonly known as near shore options as opposed to the far shore alternatives.
Top Outsourcing Countries
While these countries have already made their mark on the outsourcing business, other countries are also opening its doors for the current trend. One of which is China. Recently, China has transpired into the competitive business environment based on its extraordinary development rate. In software outsourcing for example, China is determined to enlarge its market in Southeast Asia, Japan, South Korea, Europe and America. While India is the present and undisputed leader in outsourcing, by 2006, China will become the next dominant business competitor. By that time, both India and China will be generating greater than US$27 billion each in revenue (2004).
Why companies tend to apply outsourcing is a common inquiry. In a survey conducted by (2004) together with the World Trade Magazine, the 180 companies who participated stated various reasons for their decision to outsource. Among the common responses include capacity expansion, attainment of greater flexibility in production, product quality improvement, attainment of better focus on primary competencies, reduction of investment in capital assets and achievement of global presence in manufacturing. The researchers noted however, that the most common reason why companies apply outsourcing is to save monetary resources. In fact, 40% of the respondents stated that the reduction of costs is their major driver for outsourcing.
2.2 Development of Outsourcing Theory
In the advent of globalization, international competitiveness has taken the quest on the alternative sources. This quest brought about the notion of outsourcing. Outsourcing as generally defined by those organizations that deliver such services, requires turning over management responsibility for running a segment of business. In theory, this business segment is not mission-critical, but practice dictates otherwise. Outsourcing business is characterized by expertise not inherent to the core of the client organization.
Outsourcing simply means going outside your organization to get a job done. There are many reasons for outsourcing in a company or an organization. The most common reasons for outsourcing are the needs for expertise, that is due to lack of learning curve and re-creating; manpower, for having not enough staff; time requirements, because of the limited time available to accomplish the job; needed for economics, owing an overall cost savings; shifting of responsibility as for deniability; and removing of stumbling blocks in keeping the work for flowing.
Outsourcing is basically viewed as a form of predetermined external provision with another enterprise for the delivery of goods and/or services that would previously have been offered in-house (1994; 1999). Normally, there are two types of outsourced services, technology and business process. Each can be inert partial to the subsequent areas. The first type of outsourcing is the technology services. This type covers the electronic commerce (e-commerce), infrastructure (networks), software (applications), telecommunications and website development and hosting. The second type of outsourcing is the business process outsourcing. Under this type of outsourcing are customer contacts (customer relations management), equipment, finance / accounting, human resources, logistics, procurement/supply chain management and security.
Information technology (IT) outsourcing is defined as the process of contracting vendors outside the company to perform different IT functions like data entry, application maintenance and development, data center operations, network management and operations as well as disaster recovery. Outside vendors may either be individual information technology professionals, employee leasing companies, consulting firms, CPA firms and full service providers (1998).
As companies and firms depend more on IT to operate businesses, getting into large market research files to locate new customers and using the Internet as a storefront information technology development and maintenance costs have exploded. Due to this trend, it is no wonder why companies and firms have applied transfer systems of IT assets, leases and staff to outside vendors or third party members.
(1996) provide a definition of outsourcing as a “contractual relationship between an external vendor and an enterprise in which the vendor assumes responsibility for one or more business functions of an enterprise”. Accordingly, the context of outsourcing is always composed of exchanging information in a two-way channel which include coordination, and trust. Companies which provide specific service sense and perceive that the process of outsourcing needs turning over of the responsibilities of the management for running or operating a certain segment of business. Theoretically, such specific segment of the business must not be noted as mission-critical, but should be regarded as practice which often dictates management. Outsourcing is being describes by expertise who do not belong originally to the core of the industry.
Ever since the industrial revolution starts, industries are trying to find ways on how they can exploit their leadership position to increase and expand their markets as well as their revenue. The framework for 20th century was regarded to be a large interconnected industry which can own, control and directly manage its business assets. During the 50s and 60s, the battle cry was differentiation to expand corporations and take advantage of the scale of economies. By broadening this, industries are expected to safeguard profits, even if diversifying demands multiple levels of management. Consequently, companies trying to be competitive in the global environment in 70s and 80s were lacking of agility which leads to a bloated organizational structures.
Nonetheless, some industries were not completely self sufficient. Most of the companies outsourced some managerial functions which allow them to be none competent in the internal level. Principally, the major business objective for considering outsourcing is to improve the value of an industry’s products and services for their target market. According to (1996), such practice is called “smart” outsourcing. This implies a careful and efficient selection of business practice to be outsourced based on the management’s strategic decisions.
According to Irwin (1995) outsourcing strategies may come in many advantages. The advantages that can be gained in outsourcing are that activity can be performed better or more cheaply by outside specialist. Moreover, achieving the competitive advantage is not crucial in the activity. The risk of the firms in the exposure to the changing technology can be reduced. Furthermore, the cycle can be cut, the decision-making have sped –up and the coordination costs can be reduced. Finally, because of these outsourcing strategies, the firms can concentrate on its focal point in business.
According to (1998), in general, the following are considered the positive impact of outsourcing to business sectors and developing countries:
Access to state-of-the-art technology. Due to the volatility of information technology, skills tend to become obsolete quickly. Software for instance, is updated and replaced rather quickly, that by the time the company applies a particular program, the software may not be state of the art anymore. Through the outsourcing specialists, their skills become valuable for maintaining the up to date resources and facilities.
Cost savings and quality. Because of the intense competition in the business world, most management is left with no other choice but to lay off employees so as to reduce costs. Even the most established companies find ways on how to compete along with new entrants while reducing company expenditures. In outsourcing, companies are enabled to save costs primarily through the outside vendors. This is become third party members have a much tighter regulation of fringe benefits as well as able to run leaner overhead structures. They are also more aggressive in using low-cost labor pools and can move data centers to areas of low cost through the help of modern telecommunications. Furthermore, outside vendors are able to apply world class standards to the firm’s available IT staff, in which all of whom have to re-qualify for appointment at outsourcing time. Third parties can also reduce costs as they can utilize more effective bulk leasing and purchasing arrangements for all software and hardware and have more control over licenses of software as they often are better informed negotiators. Also, outside vendors encounter certain contractual pressures; hence, they are obligated to meet deadlines.
Flexibility. Through the use of outsourced functions, businesses must be able to adapt well in the constantly changing business environment so as to quickly respond to changing trends and demands. Thus, flexibility is essential to the business. The outside vendors are able to tap a wide array of skills, resources and capacities, while the internal information technology staff has limited abilities.
Job security for regular employees. Through outsourcing, companies are able to hire staff knowing that they will be hired for a limited period. Hence, they can easily drop or add employees into the workforce without putting the reputation of the company as a stable employer in danger. Further, outsourced employees buffers regular workers from changes in demand as well as enable the firm to create a more established relationship with its regular employees than would otherwise be plausible.
(1998) noted that while outsourcing has its positive effects on business operations and developing country, it is not a general matter. Thus, the application of outsourcing does not always necessarily lead to success. In reality, outsourcing is not for every client or company. This then gives rise to the issues questioning outsourcing regarding its credibility and efficacy. In the article of (1998), the following are considered the possible negative outcomes brought about by outsourcing:
Media hype and outsourcing benefits. Oftentimes, managers of most companies report success stories related to outsourcing during its debut to the business operation. During this time, both the company and the selected vendor have high hopes on the outsourcing effort. However, in some cases, only the projected savings that will be derived from outsourcing will make it into the headlines. The enormous fees caused by contract amendments however, are left out of publicity as there are only a number of companies who wish to advertise their failures.
IT is not easily outsourced. IT is different from other resources; it is not like the other resources that some companies have successfully outsourced in the past. IT is not the same as legal services, logistics, security advertising and the purchase of other raw materials of the company.
Information technology evolves rapidly. Due to the fast evolution of IT, prediction beyond three years may no longer be true or applicable by that time. Thus, settling on long term outsourcing contracts is particularly risky.
Mercurial economics. Price-performance improvements take place in every industry. However, only a few can do the underlying economics shifts as efficiently as they can on information technology. For instance, mainframe that cost $1 million in 1965 costs less than $30,000 today and probably will cost 20% to 30% less next year. This makes it difficult for decision makers to evaluate costs of outsourcing bids.
The cost of switching is high. Shakeout is often a problem in outsourcing, which occurs among vendors, with takeovers and mergers becoming commonplace. In the future, it is likely that only a few suppliers will survive; hence, difficulty will most likely be encountered in shopping for the right price.
Lost of Control. There are some critics who noted that the services provided by in-house function is often unmatched by those provided by third parties, in terms of service levels and responsiveness. This is because outsourced employees are not under the same management regulation and direction as the internal workers. Moreover, there is a strong concern among third parties with regards to data confidentiality, provisions and strategic applications for disaster recovery.
Bad for employee morale. Lay offs or the transfer of available employees to the outside vendor are often the resulting outcome of outsourcing. This transition is likely to cause a significant negative impact on the employees’ morale. Regular employees may fear for the security of their employment, thereby affecting their daily work output.
Less flexibility. The specification of the services is in the contract provided by the outsourcing vendor. In this provision, the outsourcing vendor utilizes the technological platform that is appropriate. Due to this contract, the company may lose a certain degree of flexibility, particularly in shifting to a new computer platform.
Being held hostage. There were professionals who argued that outsourcing permits the user to become bound to the vendor, becoming its “hostage”. Outsourcing may lead to the company’s loss of technical staff as well as be locked to the outside vendor’s proprietary hardware and software. While initially, the company may have the upper hand in a long term contract during negotiations, in the long run, the outside vendor has the most advantage when the outsourcing is already in operation.
Expenses. Several managers presume that outsourcing vendors are intrinsically more competent because of economies of scale. (The economies-of-scale theory says large companies can achieve lower average costs than small companies due to mass production and labor specialization efficiencies.) Within the outsourcing arena, nonetheless, this model may not always be applicable. For instance, small companies may have lower costs than large companies by employing older technology, offering below-market wages and maintaining tight controls and procedures. When vendors submit bids that indicate savings, CPAs should always consider whether they can achieve similar results themselves. If the vendor is not essentially more capable, probably the company can reduce its own IT expenses through data center consolidation and resource optimization.
Subcontractors. It is not unusual for companies to find out that their outsourcing project is working not for the company, but for someone else. There are some outside vendors, particularly those who are looking for hard to find technical skills, who will subcontract a part of their computer systems to small and unknown companies. These actions are done without the knowledge of their own clients. Problems such as acquisition of viruses from subcontractors, high costs, poor communications and poor quality service may arise due to subcontracts.
In general, the impact of outsourcing worldwide is divided into two, and that is either outsourcing is a success or a failure. While these effects are based on various factors within the outsourcing parties involved, China, Philippines and India are one of the major Asian countries that have been into outsourcing efforts. Several nations, from both east and west, foresee less developed countries with rich outsourcing potential.
3. Are the developed countries (the North) outsourcing higher and higher technology intensive activities or do they stop when certain technology intensity is reached?
The motivations for firms in developed countries to outsource high technology intensive activities have been one of the cornerstones of research in international business to the traditional motivations for location by multinational enterprises, such as market-seeking or resource-seeking investments, we have in recent decade’s added "new motivations" such as the search for ideas and innovation, and strategic motivations such as keeping a global competitor in check (1985).
Most of the industries from developed countries are taking advantage of the higher performance and skills offered by those industries in less developed countries so as to improve their operational performance. Most of the industries in developed countries are being independent on the original design made by the companies in less developed countries. For example, the American computer companies are relying too much on the unique and original designs manufacturers, which are primarily based in a developing country like Taiwan so as to storm the electronic market environment. Another example is the transferring of sophisticated aspects of the interactions of leading American financial services industry with its clients to the e-telecare, company based in the Philippines. Most companies in developed industries find it more preferable to consider offshore outsourcing of key business activities. For them, considering outsourcing means that aside from gaining advantages, they also provide higher opportunities for most industries. It is noted that the offshore providers of outsourced types of services provides essential and sometimes unique skills which are available in a more developed economies only at much higher price.
It has been said that the less developed countries have cost advantages in accordance with unskilled and skilled workers. But, because of the poor Intellectual property protections in these regions, most developed country have to pay the higher efficient skilled wages in order to avoid skilled workers from working defectively.
The term ‘intellectual property’ refers to a range of legal rights over new ideas relating to patents, copyright and related rights, trademarks, geographical indications, industrial designs, layout designs of integrated circuits and the protection of undisclosed information. As international trade has developed and the significance of technology as a commodity of that trade has increased (1994), so an awareness of the importance of intellectual property protection has also grown (2000)
Today, intellectual property constitutes a valuable economic asset that accounts for an ever greater ‘value added’ in high technology areas such as the pharmaceutical and information technology industries, and in audiovisual entertainment areas such as the music and cinema industries. In the pharmaceutical sector, for example, US and European companies invest about 20 per cent of their sales income in research and development with the aim of producing the next generation of medicinal products, this being by far the highest level of investment of any industrial sector. Unfortunately, high technology sectors, such as proprietary medicines, also produce commodities that have proved particularly susceptible to misappropriation through piracy (1992).
Intellectual property rights are granted by national governments and are enforceable only in the country in which they are granted. Once granted, they can be traded or licensed like other forms of personal property. Intellectual property can best be defined as "information with a commercial value" (1989). In addition, intellectual property rights can also be regarded as the protection of government for private innovations and discoveries (1998) In terms of intellectual property law, the provision is made to protect “original thoughts or design, new inventions, creative or innovative forms of expression, and trade secrets (1992)
As noted intellectual property rights consists of copyrights, patents, trademarks and trade secrets (1999) Each of this intellectual property is comprises of its own standards and procedures, that establishes the subjects or topics protected, the application procedures included to achieve protection or security, the duration or expiration of protection and the solutions for infringement or violations (1999)
Nonetheless, the basic attribute of these various types of intellectual property rights is the private right to prevent other from certain activities (1998) Conventionally, laws or provisions that govern the protections of intellectual property rights expand only to the boundaries of a certain state where the maker or inventor gas given protection. However, in order to adapt to the changes in the global world and because of the emergence of outsourcing, many states have tried to expand the intellectual property rights protection in both domestic and international boundaries. This adaptation can be attributed to two main grounds.
First, as developing nations steadily increase their exports of industrial products into places which was originally controlled by industrialized nations, the industrialized states must rely more profoundly on their relative advantage in the intellectual property ( 1995). Secondly, the high value of the research and development linked with the susceptibility of high technological ideas to free-rides has pushed industries to find international protection of intellectual property rights.
Exports for primary sectors are frequently discouraged by overvaluation, taxes, low administered prices, and inefficient government marketing monopolies, as well as by industrial protection and restrictions on foreign investment. The principal sources of foreign direct investment today are global enterprises that were earlier described as enterprises that operate in multiple nation states, that have some degree of central control over the strategic business aspects, and whose competitive position in one nation significantly impacts, and is impacted by, their competitive position in other nations.
The entrances of these global enterprises in developing countries are considered as key factors that affects the economy of these nations. Analysis show, that outsourcing through foreign direct investment by Multinational enterprise has helped to boost high technology intensive activities in developing countries.
The Intellectual property protections impacts accelerated with rising company technology-intensity. The cost advantage of the developing countries are said to be offset at the equilibrium technology intensive activities while the developed countries tends to stop in shifting more technology-intensive activities to the less developed countries. In the replication, there can be seen an interesting outcome that occurs. First, the elasticity of replacement among unskilled and skilled work forces is very low; Secondly, the Intellectual property protection has extreme costly impact on skilled workforce in high technology intensive activities. In this regard, there exist two equilibriums. This equilibrium includes those activities with technology-intensive activities below the lower- equilibrium value and beyond the higher- equilibrium value is being outsourced. For this the explanation is that the cost of labor directs at low technology-intensive activities, while intellectual property protections are being dominated at high technology-intensive activities.
As (2000) argues, stronger protection of intellectual property right will lead to increased royalty payments for licensees of technical knowledge and higher prices due to the monopoly-like position. In the case of pharmaceuticals and food security, such development can be a matter of life and death for millions of people. Actually, many studies (, 2000) recognize that the key drive of implementation of intellectual property protection agreement is responding to pressure from many industrial countries, such as US ( 2003). On the other hand, some agreed, technological knowledge is concentrated in developed countries, often in the hands of multinational companies which dominate research and development activities worldwide. As stated before, valuable knowledge is primarily in the hands of developed countries and developing countries have to import this know-how. In the other words, developed countries are regarded as innovators and suppliers of product whereas developing countries serve as market ( 2000).
Therefore, enhance protection on intellectual property right is mainly in the interest of the developed countries and now because of outsourcing, this IPP has also been considered by less developed countries. According to (2000) research, US pharmaceutical industry claims to lose $500 million a year in India due to the country’s bad intellectual property right protection. On the other hand, after adopted IPP, US received royalty payment of $36 billion in 1998. Growing importance of intellectual property for the US can be illustrated by its increases as a percentage of exports (2000). In addition, in 1947, intellectual property comprised almost 10% of all US exports. By 1986 intellectual property formed 37% of US exports. In 1994, intellectual property right accounted for over half of the US exports.
Firms exporting technology abroad now have an enforceable legal remedy against foreign infringers of their intellectual property rights. In particular, pharmaceutical and agricultural chemical industries are the strongest winners because of the "supernatural" property rights they receive under the TRIPS agreement (1996). Indirectly, developed countries benefit through the increased financial and welfare gain of their own citizens and firms. At first glance, it appears that the biggest losers are the developing countries, who previously depended on imitating foreign technology as a tool for industrializing and growing economically. With the implementation of the IPP and the increased limits on these countries' abilities to imitate foreign technology free of cost, these firms are forced to either develop their own technology or to obtain licenses from the patent owners.
It can be said that when the developed countries has been able to outsourced higher level of technologies, developed countries still continues to find more and more technology intensive activities that will boost their economy as well as the economy of those developing countries involved. The importance of transferring higher technology intensive activities can also help developing countries to have a more advanced-skills.
The strong affiliations of the developed (north) and less developed (south) countries and the trade related diffusion of technology may have positive effect on having higher technology intensive activities in developing nations. In addition, this may also help the developing countries in promoting portfolio expansion, industrial diversification and as well as enhancement of productive capabilities in developing countries, particularly in less developed countries.
4. Outsourcing via Foreign Direct Investment by MNE
Foreign direct investment (FDI), defined as investment in which a firm acquires a substantial controlling interest in a foreign firm (above 10 per-cent share) or sets up a subsidiary in a foreign country, has grown rapidly, even faster than international trade, in the recent past. Investment inflows in 1995 increased by 40 per cent, to $315 billion. Thus FDI and international trade belong to the two most important international economic activities which integrate the world economy. In comparison to international trade, the development of FDI in the last decade has not only shown rapid growth but also violent (sharp) fluctuations.
The world FDI flows have been concentrated in a few countries. Developed countries invested $270 billion of $315 billion of the worldwide investment inflows and received $207 billion in 1995. The rapid growth of FDI among developed countries was accompanied by a hefty rise in flows into developing countries ($100 billion). Outward investment from developing countries also rose ($47 billion).
FDI is very concentrated. The ten largest host countries received two-thirds of total inflows in 1995 and the smallest 100 recipient only 1 per cent. In the case of outflows, the five largest countries – the United States, Germany, the United Kingdom, Japan and France – accounted for about two-thirds of all outflows in 1995. With the effect of FDI to developed countries, most underdeveloped countries have realized the importance of FDI, with such, they are also trying to attract more FDI to boost their economy.
FDI of MNEs in developed countries and in host developing countries tends to be characterized by horizontal direct investment, meaning the foreign production (not just investment in distribution, wholesaling and servicing) of products and services, technology transfer roughly similar to those produced for home market. This horizontal FDI tends to be important in industries with five characteristics: high R&D intensive input of technical workers; a new or technically complex product; product differentiation; and a high level of advertising.
Accordingly, the overall rationale for any type of outsourcing is that it provides, flexibility, cost effective, greater economies of scale, and levels of expertise and lower costs and enhances add-value through out the value chain (1995). and his colleague, states that using these functions internally, may buy in more economical compromises competitive advantages against the rival company.
In addition, outsourcing allows concentration on core activities, decreases internal costs, reduces time delays and prevents political pressures which may lead to a more compact organizational structure, sharper focus in terms of recruiting, complimenting hierarchy, establishing and motivating key personnel in terms of core competencies and competitive advantage. In the study conducted by (2001), he emphasizes the strategic dimension of outsourcing.
According to him, heavy investments along with the challenges of forceful market place, suggests that the concept of outsourcing strategy, focusing on strategic supplier partnerships can be considered as a is an important value differentiator (2001). In addition, it is said that in current business environment, that can described as turbulent, each organization needs flexibility in order to meet its current and future opportunities. Hence, outsourcing gives the ability to adjust to rapid changes in market conditions so as to remain competitive.
Outsourcing activities are being divided into two steps, one is the selection of production location and the other is shipping products back to its home country. It is being measured as the ratio of associate sales over a nation’s parent sale. In lieu with cost comparison, elements which influence production costs and aspects that affect trade cost are both significant. The development of an effective IPP are said to accelerate outsourcing by decreasing the effective cost given to skilled labor and through strengthening of the effects of research and development activities. It is said that the bilateral agreements among developed and less developed countries can be used in this kind of investigation. It is said that when the outsourced nations are categorized into developed and developing countries, intellectual property protection is only essential for the developed countries. Outsourcing through foreign direct investment can be a valuable source of technology, capital, and connections to world markets. Policies attractive to foreign investors include macroeconomic stability, protection of property rights (including intellectual property rights), a stable and transparent regulatory environment, and liberal access to foreign exchange for profit remittances and imported inputs and services. This kind of good climate for investment is likely to be superior to special incentives, such as tax holidays, which may attract footloose industries that leave when the holiday is over.
Outsourcing has been defined in literature by several analysts and authors. In general, outsourcing is a present business trend wherein companies extend its services to other locations do as to distribute internal functions. Various companies have chosen to conduct outsourcing to nations with potentials in order to obtain several organizational benefits. Nonetheless, outsourcing also results to certain difficulties primarily because there are third parties and barriers involved.
The advent of outsourcing has revolutionaries the manner by which transactions are made between different countries, aside from the ease that it provides businesses and companies, it has also reduced transaction cost without compromising the quality of products that can be traded. Furthermore, it has served as a window to the world. Economic superpowers such as the European Community and the United States are continually embarking on this method as an alternative tool and possibly the dominant tool in dealing with business activities. And some developing countries are now trying to follow the steps of these developed economies. Outsourcing further drives firms and companies to develop their competitive advantage through information technology in order to persist and be globally competitive.
Moreover, outsourcing has become one of the most powerful management tools: speed to market, a standardized global presence, overcoming skill shortages, and coping with trends like the rise of e-business, deregulation and privatization. Shortage in skilled workers will be solved. However, the damaging effect is that there would be lower employment on this kind of businesses. Nonetheless, the reward for qualified workers would be significantly raised.
In the less developed country setting, outsourcing has started to flourish along with the economic progress of developing countries. As LDC possesses several potentials of a good outsourcing location, foreign companies have been interested in conducting outsourcing in these nations. As seen from the cited sample foreign companies outsourcing in LDC, these multinationals chose to outsource in developing countries so as to establish back-offices and call centers. Through outsourcing in LDC, these multinationals where able to obtain company objective as well as various benefits, including increased market, profit gains, enhanced global presence, reduced costs and company flexibility.
In conclusion, outsourcing in less developed countries has its advantages and downsides. While some companies are hesitant in venturing into outsourcing, the benefits gained by foreign companies in less developed countries apparently outweigh the risks involved. Moreover, from the experiences of the sample companies cited, these difficulties are manageable by means of certain risk management strategies and prompt actions.
Conducting business operations and making business deals in whatever aspect naturally has its pros and cons. Outsourcing is then no different. Thus, the gain from outsourcing in less developed countries has its potential risks. The good thing about these difficulties is that they are manageable. In the article by (2004), the authors states that in spite of the known difficulties in establishing business partnerships in less developed countries, foreign companies still take the risk as the advantages and benefits gained from it is indeed very real. So as to minimize expected difficulties, companies who intend to outsource in less developed countries must consider certain factors and conduct important initial procedures.
- Consider all possible costs when evaluating
In order to do these step, read on recent literature regarding outsourcing in less developed countries. Weigh over the benefits and risks. In this case, a balance between the two is crucial. To support the documentary findings, it is advisable to consult foreign companies who had outsourced in less developed countries. From this brief conversation, invaluable data that is not publicly available may be obtained. Through this step, foreign companies may learn from others’ experiences, successes and pitfalls. The company may also learn of other qualitative or quantitative factors to evaluate through consultations.
- Ensure that the products to be outsourced suits LDC
This step is a major driver for the company’s cost analysis. It is important to remember that mature products do not need ground-breaking manufacturing capabilities. Hence, these products are likely to lead to near-term cost savings if transported to less developed country. Moreover, mature products that have clear and established manufacturing mechanisms will result to a much flatter learning curve when transported to a new area. In addition, this type of products does not need much management attention and engineering.
- Make it certain that internal resources can support outsourcing relations
The manner in which companies conduct outsourcing with less developed countries is essential for business success. For this purpose, a high-touch model must be used to attain a higher possibility to succeed. High-touch basically means that the role of both parties involved is clearly defined. Ideally, this can be achieved through a joint service agreement (JSA), which provides legal contracts, enabling both business partners to comprehend their core objectives. This clear agreement also encourages both parties to direct all activities towards their constant improvement.
- Make sure that sufficient supply chain personnel is available
Adequacy is not only measured in number. Hence, it is important that the supply chain personnel is also adequately capable or skilled and has the necessary experience to manage the change to an outsourcing strategy. They must also be able to work efficiently with individuals in developing countries’ business partners. While it is a plus if the company personnel can communicate well, the ability to work and deal well with foreign employees is more advantageous and useful.
- Previous experience is crucial
Past experiences on outsourcing are vital factors for success. If the company intends to do outsourcing in LDC for the first time, it is recommended that the people behind the transition process are not new to it. Their experiences may be vital in resolving present problems related to outsourcing. Moreover, their experiences can enable the prediction of possible problems in the future. Thus, the companies can resolve it immediately before it affects the business operations.
- Design and implement business practices with the new LDC Partner
Supply chain management practices are not generalized. Hence, the practices of the foreign companies may not necessarily be applicable to the LDC setting. Work instructions that the foreign company have been using for years can be incomprehensible to their partner. In order to design and implement a more effective supply chain management practice, variation in techniques, skills and equipment may require re-evaluation.
This also applies to core supply chain procedures. For instance, the foreign company may have to make essential changes to its planning and sourcing procedures so as to operate within the outsourcing model. In this case, the core staff members that will be in charge of managing cultural and communication issues must fully understand all that it takes to change major supply chain procedures from the internal environment to the work environment of the LDC partner.
- Do not determine the level of expertise in supply chain of the partner on their sales pitch alone
This a common practice among most company management, in which their supply chain expertise is based on their general customer base, overlooking the company site they have considered for outsourcing. Several manufacturing service providers that are operating in less developed country have developed through acquisition. In order to achieve consistency and successful assimilation of new partners and facilities, sufficient time should be allotted combined with a huge amount of management attention. Effort must be exerted by the foreign company to fully understand the company site it has considered for transition.
In general, in conducting outsourcing in less developed country, or to any site for that matter, the key to success is to make sure that all factors, both qualitative and quantitative, have been taken into account. Consider the experience of other companies as well; their achievements, and most importantly, their mistakes. Foreign companies should never be overly confident about outsourcing. They should not underestimate the difficulties and possible risks in managing and implementing outsourcing operations abroad. Good human and social skills are also essential in this type of business setting. Not only will this enable a more profitable and successful outcome, but it will also help in the establishment of long-term relationships.