Outsourcing vs. Captive Operations – Which model suits your company best?

While the feasibility of using offshore / nearshore resources to execute certain activities or business processes has already been established, the long-term strategic feasibility and suitability of different engagement models is still under review.

Today, the most common approaches are to work with an external outsourcing provider or set up internal operations in cheaper locations. Engagement models can be distinguished based on the client organization’s need for management control, operating costs, risks and other factors.

Outsourcing of third parties

Outsourcing by third parties is a traditional customer-supplier relationship that is governed by contractual obligations and service level agreements. It is primarily driven by tactical reasons such as short-term cost savings and flexible staffing. Non-core activities or non-critical activities are typical candidates for outsourcing.

Traditional third-party outsourcing has two main forms:

  • Project-based outsourcing is considered to be best suited for software development with well-defined requirements and results. It is suitable for irregular but ongoing or one-off projects. On-site presence may be required to facilitate estimation, specification and relationship management. Typical pricing models are time and materials (T&M) and fixed price.
  • Special development center model is suitable for software with changing requirements, maintenance and support of large systems, research and development, testing and other types of complex medium or long term ongoing tasks. For this type of assignment, the supplier provides the necessary facilities and assigns a team that only works on account projects and is managed by the customer’s representative. This option is usually preferred when resource requirements are low. The customer pays a fixed monthly amount per full-time employee (FTE).

Captive Operations

When considering how to organize the remote delivery of software development services, the captive subsidiary option is often not fully considered when compared to outsourcing. While it is generally accepted to outsource certain non-critical activities, in some cases this approach is not suitable for core functions and critical activities. The decision to go offshore / nearshore doesn’t necessarily mean you have to outsource it. Using external resources to provide functions that are close to the core business while maintaining operational control and real cost benefits can be achieved through the creation of an in-house facility, keeping the work within the company.

Captured model means that the customer organization makes a strategic decision to create its presence in the cheaper location and perform work there as part of its own operations. The work is carried out remotely, but is not outsourced to the supplier. This allows the customer to remain in full control and mitigate the respective risks related to intellectual property and other sensitive business information.

Organizations that want to establish captive centers have similar goals to those who implement traditional business or shared services activities. First, prisoners should cut costs through labor arbitrage. But recent research shows that buyers are not just looking for cheaper but skilled labor in offshore / nearshore locations. They want to gain competitive advantage and profit from process improvements. To avoid risks of underutilization of own capacity, organizations should thoroughly assess their long-term operational needs and predict the service needs that may arise in the future.

The most common approaches to setting up internal operations are the following:

  • Create a captured center from the start (do-it-yourself in captivity) can be successful if the client organization has the necessary resources, local expertise and market knowledge. The decision to set up a private center for captivity can grow organically through growth. The organization can independently conduct extensive due diligence or purchase an existing business with activities at the chosen location.
  • Build-Operate-Transfer (BOT) approach means working with an external supplier to establish and stabilize the center. The supplier is responsible for the initial installation, personnel and activities of the captive center during the predetermined period. Ownership is transferred to the customer at the end of the contract period. In this way, the organization takes over the turnkey captive center, tailored to its specific needs. BOT option best suits organizations that lack local expertise or extensive resources. With this type of engagement, only logistics related to the layout of the captive center is outsourced. Build-Operate-Transfer optimally combines the control element of the pure captive model with flexibility of outsourcing. Essentially it offers maximum control with minimal risk.

Main advantages of your own internal center:

  • Continuous realization of real cost savings
  • Full operational control and monitoring
  • Full ownership after the transfer
  • Minimization of intellectual property and data security risks
  • Retain industry knowledge, specific business processes and techniques
  • Improved communication through continuous reinforcement and experience
  • Easy replication of the parent organization’s processes
  • Captive center can be commercialized at some point in the future

Both outsourcing and captive activities have similar drivers (cost savings and competitive pressure in the first place) and special benefits, but the main factors for choosing one or the other vary.

Both approaches will bring benefits in terms of improved focus, optimization of processes, reduction of operational costs, faster time-to-market etc. But companies must thoroughly evaluate each option to identify one that best suits their specific requirements, company culture and strategic goals.

The approach chosen will depend on whether the primary driver is short-term cost savings or whether the company has a long-term vision for offshoring / nearshoring and wants to maintain control over processes and intellectual property.

Establishment of a coastal internal center in Ukraine via bone model

If software development is a core competency of your business and you have long-term specialized resource requirements, it makes sense to build your own capabilities to support the full software lifecycle, secure intellectual property and build specific know-how. Today, this process is not as difficult as it used to be. The key to success is to find a trusted partner who is already active in the rural environment. This allows you to benefit from:

  • Clearly defined setting methodology and timeline
  • Planned step-by-step implementation
  • Responsibility for all logistics related to setting up an internal center
  • Practical knowledge of setting up an IT business and dealing with related legal and contractual issues
  • Deep understanding of cost and effort components associated with setting up and running a software development center in the offshore / nearshore country
  • Hands-on experience in software engineering, widely recognized methodologies, processes and quality assurance that can be adapted to the captive center
  • Established HR practices, experience in recruiting qualified IT personnel
  • Attention to addressing security and business continuity issues
  • Advice and support during the installation process
  • High degree of business commitment and responsiveness
  • Flexible customer-specific approach

Source by Hans Kriniger