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Set Clear Ground Rules When Ready to Outsource

July 15, 2002

Executive Roundtable is a weekly column by TEC International, an organization of more than 7,000 business owners, company presidents and chief executives. TEC members meet in small peer groups to share their business experiences and help one another solve problems in a round-table session. The following question and answer are a summary of a discussion at a recent TEC meeting in Southern California.


Question: We recently decided to outsource the human resources function in our small manufacturing company and are just starting negotiations with the vendor. What should we look out for in this type of relationship and what should we make sure to include in the contract?

Answer: According to experts, more companies are turning to outsourcing as a means of reducing costs in nonessential functions.

When done well and with the right vendor, outsourcing can enable you to reduce operating costs, free up investment dollars, add resources currently not available to you, gain control over certain hard-to-manage functions and concentrate on your core business.

To achieve these outcomes, however, you must make sure the outsourcing relationship is carefully constructed and well-managed from the get-go.

For starters, the contract should answer the standard questions that arise during any customer/vendor relationship: What specific products and/or services are to be delivered? How and when will they be delivered? What are the terms of payment? What forms of redress will you have if the vendor fails to live up to the agreement?

Because outsourcing relationships involve two companies working together at a deeper than normal level, the contract also should answer questions such as: Who in the outsourcing firm has access to what information in your company? Who has the authority to do what? What are the potential liabilities, and who has responsibility for them? How will conflicts be resolved?

The more you can work out these kinds of issues ahead of time, the better your chances for a mutually beneficial relationship.

When building agreement on how you will work together, don't forget to address what happens when the relationship comes to an end. In that respect, your contract also should cover key issues such as how and when the relationship will terminate, who owns what assets and how those assets will get allocated when your two firms go their separate ways.

Another issue commonly overlooked involves your intellectual property.

Depending on the vendor and the function you're outsourcing, the contract should identify who in the outsourcing firm has access to your people, technologies and proprietary information; what intellectual properties are likely to come out of your collaborative relationship; and who will own the intellectual properties and have rights and licenses to use them--both during the course of the relationship and after it ends.

In addition, make sure the contract includes specific targets the vendor must meet and a system for monitoring and measuring them throughout the relationship.

Ideally, the vendor should be willing to assume some financial risk (usually a portion of the fees) if it does not meet the agreed-on targets. Plus, the contract should call for regular meetings to review the measurement process and adjust it if necessary.

Keep in mind that any information you provide within the relationship belongs to you, not the outsourcing vendor. The vendor simply works with it and recombines it for you. For that reason, you need to manage the data and keep control at all times. One way to accomplish this goal is to store and maintain the data on your internal systems while giving the vendor access within the scope of very specific functional responsibilities.

Above all, make sure you set very clear expectations for the relationship.

To have any chance at success, both sides must be in alignment and agreement concerning the scope of the project.

By managing the expectations as you move through the outsourcing process, you dramatically increase the chances for a win-win outcome.


If there is a business issue you would like addressed in this column, contact TEC at (800) 274-2367, Ext. 3177. To learn more about TEC, visit

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