Going Overboard on Outsourcing

Outsourcing was a good option when Jeff Cohn started his full-service marketing agency, Cohn Marketing, in 2000. Before long, he found himself outsourcing everything from media buying to accounting to copywriting.

"We've been able to grow as a company and take on bigger pieces of work over time because I've been able to outsource," says Cohn, 46. Revenue at the 12-employee, Denver-based company surpasses $1 million a year.

These days, the mantra is to outsource as much as possible so you can focus on the core business. For growing companies, "it's not a question of deciding [whether to] outsource this or outsource that. It's a question of can I outsource this," says Bruce Judson, a senior faculty fellow at the Yale School of Management and author of Go It Alone! The Secret to Building a Successful Business on Your Own, which advocates "extreme outsourcing"--outsourcing everything but your core competencies--as the key to success as an entrepreneur today. "Every month, you should be saying, 'Are we at scale, or are there new systems and services that allow us to outsource this function?'"

Businesses with fewer than 100 employees comprised 10.4 percent of the total U.S. business-process outsourcing (BPO) market in 2005, according to research and consulting firm Gartner Inc. Financial and accounting services are the top area small companies either outsource or have plans to outsource in 2006. HR--in particular, payroll and 401(k) administration--comes in a close second. The small-business BPO market "is definitely growing," says Robert H. Brown, a Gartner analyst who researches the small and midsize business outsourcing market.

Are You In or Out?
Deciding what's best to outsource can be a challenge, however, especially when entrepreneurs can mistakenly outsource functions that simply require better delegation, communication or technology. "Often, it's an information problem, and by outsourcing it, you complicate the problem," says Timothy Ferriss, guest lecturer of entrepreneurship at Princeton University and co-founder of 5-year-old Adaptagenix Applied Biosciences, a San Jose, California, sports training and nutrition company with $1.2 million in 2006 projected sales. "Before you outsource, determine that you need to in the first place."

If outsourcing seems in order, Judson suggests shedding "mechanized" functions such as HR and payroll while keeping tasks at the heart of the business' success: ideas, strategies and jobs that require a personal touch. In fact, Gartner's research shows that small companies are less likely than large firms to outsource business processes that directly affect their suppliers and customers. "There's not a lot of outsourcing of supply-chain management, for example," Brown says. "It's predominantly confined to back-office functions."

Your outsourcing strategy may change over time. Cohn started his company with the intention of outsourcing everything. Today, he outsources payroll, media buying and project-based work. But he's pulled some functions, such as PR, back in-house as the company has grown. "I realized that certain functions needed to be in-house for many reasons," he says. "How do you decide when to outsource and when not to? It really comes down to [the question]: At what point do we have enough work in that category to warrant bringing it in-house?" Cohn estimates 20 percent of the company's budget goes toward outsourcing.

Gartner's four-step decision-making model for outsourcing includes assessing your strategic priority and risk tolerance for outsourcing; checking the local marketplace for outsourcing firms willing to work with you; deciding which tasks you're most comfortable performing in-house and how much of a task you're comfortable outsourcing (for example, will you outsource all of HR, or just payroll, training or background checking?); and finally, running a cost analysis. If you're spending half your time doing HR-related tasks, for example, you can estimate the time and salary you spend on it annually, then add in any investments in HR and payroll software. The resulting number is an estimate of what the HR task costs to keep in-house-numbers you can compare to the cost of outsourcing it. "For a lot of small businesses, their measure of success [with outsourcing] is sort of a gut feel," Brown says. Failing to measure the overall cost is "a fairly risky thing to do because you don't have an actual measure to figure out, once you outsource, how effective the outsourcing provider has been."

Ultimately, deciding what's best to outsource depends on your comfort level and whether outsourcing will allow you to focus on boosting your bottom line. "It enables me to keep my overhead costs in check, which enables us to provide fair value to our clients," Cohn says. This mind-set is catching on: Gartner predicts the small-business BPO market will grow from $6.2 billion in 2006 to $8.1 billion by 2009.

This article was originally published as "Out With It" in the March 2006 issue of Entrepreneur magazine.