The trend toward sending a broad range of business activities offshore-either to company-owned facilities or to an outsourced partner-is increasing, according to the PRTM-World Trade Magazine Survey. 1 In fact, our survey shows that offshore transfers and related outsourcing topics rank as top-of-mind business issues for a wide variety of companies.

And offshore activities are no longer the sole prerogative of Fortune 100 companies. Many small- and medium-sized organizations are actively pursuing such activities. A size advantage for them is that often, they can move from the evaluation to the implementation phase more rapidly than their counterparts in large organizations. Our survey also shows that decisions to move numerous operational processes offshore apply to a broad range of industries, from consumer services to high-tech, and not just those involved in manufacturing.

For 60 percent of our survey respondents, offshore-related decisions rank as the most strategic decision management has taken, or will take, in the next 12 months. Consequently, more than 55 percent of survey respondents involve the company's most senior leadership to make the final offshore decisions.

What drives offshore decisions?

Since offshore-based business models are increasing, our study examined the drivers of this trend. The reasons vary significantly, based on the type of business activity sent offshore and the competitive dynamics of a particular industry. The offshore decision is typically related to a broader "make or buy" review. The drive to improve the company's overall cost performance is most important and constant, but is not the sole reason. The table summarizes the most frequent reasons companies give for moving activities offshore.

Offshore outsourcing

If an organization does not achieve best-in-class performance in a non-strategic business area, it tends to consider moving offshore with an outsourcing partner. In this case, overall cost savings is the primary driver (30-40 percent reduction). But raw savings are not enough, even for these companies: Improvements in service level are also expected. Most third-party outsourcing vendors have improved their service levels and overall ability to integrate with a company's infrastructure and management systems. Another key expectation when making this type of decision is flexibility: 35 percent of the companies surveyed expect developments in the partner relationship over time (e.g., on matters of volume of business, terms and conditions, exclusivity, etc.).

Offshore in-house facilities

While considering offshore outsourcing for parts of their business, a majority of the companies we interviewed (59 percent) are exploring or have implemented in parallel the launch of fully-owned facilities in select offshore locations. Beyond specific regulatory reasons requiring a minimum portion of the product to be locally produced, companies will open local facilities offshore (beyond sales and marketing offices) primarily to benefit from an attractively-priced talent pool while mitigating the overall business risk by reducing dependencies upon one or a few locations.

In-house offshore facilities are more available to larger businesses that can more effectively fund such investments while benefiting more rapidly from the resulting economies of scale.

Not all offshore opportunities are equal

Though common drivers are impacting decision-making about offshore transfers, the study indicated that significant differences exist by functional areas. The overall maturity of offshore operations for a particular business process and the typical risk tolerance level by function are driving the adoption of offshore solutions.

Manufacturing

It's not surprising that companies who are outsourcing manufacturing, the most mature area insofar as offshore and outsourced business activities, have the highest level of satisfaction (65 percent). Many companies surveyed (47 percent) are comfortable dealing with a large number of established vendors, and over 35 percent of respondents have moved the majority of their manufacturing activities offshore.

In addition to low cost, companies are achieving extremely competitive service levels from offshore activities. For most companies developing products, development and engineering are among the most critical activities of the business, as well as the most costly.

Information Technology

Sending IT offshore is a more recent activity for the companies we surveyed. Large companies adopted the practice several years ago, but only a minority of small- and medium-sized businesses send a significant portion of their IT needs (infrastructure, applications, etc.) offshore. Many companies (42 percent) do not maintain all IT activities in-house; 21 percent are outsourcing IT selectively offshore. Nevertheless, over one-half expect the trend toward offshore IT services to increase over time. Several survey participants expect their U.S.-based IT partners (system integrators) to continue shifting their own activities offshore, although some such activities may be invisible to the end user.

Offshore transfer of other business processes

This category includes a broad range of business activities and processes, some horizontal in nature and common to most industries (e.g., payroll, customer support), others specific to an industry (e.g., claim processing, financial analysis/audit). Also, this category includes operational activities that must be executed as part of being in business, but that are not seen as a critical source of competitive advantage for a particular company. Some of these activities are prime outsourcing candidates. Assessing the portion of these activities that are sent offshore is difficult, because some business processes already have been outsourced to a third-party vendor with domestic facilities.

That said, 29 percent of those surveyed have sent some business process activities offshore; for the majority, this has been done through their third-party outsourcing partner. Clearly, the main driver for this type of decision is cost. But the relationships with outsourced vendors also have to allow for two-way communication when strategic value is associated with the outsourced activities.

In the case of call centers, for example, the information collected by offshore service representatives is often critical to the rest of the organization (sales, marketing, engineering). In addition to sheer cost performance, companies expect their offshore vendors to track key performance indicators and expect a seamless integration of the offshore partner's system with the company's system (e.g., CRM). Nevertheless, over 85 percent of those surveyed are satisfied with sending some of their business processes offshore, and most expect an increase in scope and scale of this type of offshore transfer.

Product development

With the talent pool in short supply in some domestic locations in the late 1990s, numerous companies sent part of their development infrastructure to offshore places with an emerging and abundant talent pool. These companies also realized the significant cost advantage of offshore labor, which can be significantly lower than domestic labor for even complex operations like development and engineering. Survey respondents reported that once an offshore development is operational, net savings range from 25-40 percent.

This explains why nearly one-third of those interviewed have implemented at least one product development effort involving a significant portion of offshore resources. These companies, on average, are sending 15-20 percent of their R&D activity offshore. What are the benefits? Substantial cost savings and a better ability to handle the variations in product pipeline activities. Also, nearly 50 percent of companies pursuing offshore development programs achieved a net gain in time-to-market.

The most significant issue remains the risk of losing critical IP by going offshore, especially if development efforts are outsourced to third-party vendors. The most common practice adopted to mitigate this significant risk involves "slicing" a new product development program in connected-but separate-building blocks that, taken individually, do not allow the offshore facility to commercialize the entire end product.

Increase value through innovation

At a micro level, companies that successfully and repeatedly implement offshore transfer have a better chance to systematically achieve better results. In several highly competitive industries, not anticipating fast enough the next offshore move across the value chain can be fatal to a business: In this case, the decision to outsource is not an option. Offshore transfers are a competitive necessity. "Making offshore work" requires competencies that early adopters can apply across numerous offshore transfers. Early and frequent experimentation with offshore transfers can create a significant competitive advantage.

At a macro level, the offshore and outsourcing trends may cause significant shifts in the overall economy: Some developing regions will continue to experience double-digit growth, while corporations in developed economies may continue to improve their bottom lines and satisfy shareholder expectations on the upside while continuing to shrink the domestic employment base on the downside. This phenomenon is what some economists see as one of the major sources of the U.S. economy's "jobless recovery."

Long-term, these shifts will put more pressure on developed economies to innovate and upgrade their local talent pool. The key unknown, however, is how much time developed economies will have to adjust. For the majority of companies surveyed, trying to stop market forces is not the answer; the various offshore waves should be seen as a daily reminder that the only way to stay ahead is to create increasing value through innovation.