How Much Can You Outsource a Risk?

A common corporate credo nowadays is: ‘make only what you cannot buy’. The idea is that if a supplier is already making an affordable, quality component or product, there is no sense in re-inventing the wheel. The company would be better off using its internal resources to develop more strategic advantages related to its core differentiating competences. Similarly, corporate activities such as accounting, logistics and procurement can also be handled by third parties offering different benefits to the purchaser – sometimes, but not always, in terms of cost reduction. But in such cases, does the purchasing company’s risk go down or up? And to what extent is it still responsible for the outsourced activity?

Risk analysis applies to outsourced activities just as it does to in-house operations. Risks and business impacts can be compared for the two cases. In some cases, risk to an organisation may be lowered by using an external partner if that partner can guarantee supplies of goods or services that the client company cannot. An example can be seen in third party logistics providers that provide a reliable distribution service allowing a company to meet customer demand in areas it could not otherwise serve.

Whether or not a risk can truly be outsourced is another matter. In the logistics example above, the purchasing company can modify its risk – exchanging the risk of extending its own transport facilities for the risk of dealing with a third party. However, the company still has the associated market risk to deal with. If its target customers choose not to buy, the company will have to pay the third party logistics provider for its services anyway. Likewise, the company will also retain overall responsibility for its operations, possibly to the extent of the actions of the third party appointed to act on its behalf. In short, your company will still retain risk and responsibility when outsourcing. It therefore makes sense for you to ensure that it also receives a commensurate reward.

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