These days, it is rare for a business not to outsource some part of its information technology function. According to the IT research and advisory company Gartner, global spending for IT outsourcing was projected to reach $287 billion in 2013. What’s more, the growth of cloud computing may make IT outsourcing even more common.
For many companies, reducing operating costs is a key goal of IT outsourcing, but not all companies realize such savings. One reason managers may not realize the expected gains from IT outsourcing is that they narrowly focus on only their IT costs. However, our research suggests that outsourcing IT can also help to reduce other expenses such as sales and general and administrative costs, which are often four to five times IT costs. When managers think of IT outsourcing as a mere substitute for internal IT investments, this narrow focus hides many potential cost benefits.
In our study, based on data from approximately 300 U.S. companies over the 1999-2003 period, we found that a $96.14 million increase in IT outsourcing spending by a company was associated with, on average, a $121.14 million drop in operating costs in other, non-IT functions at the company. (Detailed findings from our study were published in the March 2013 issue of MIS Quarterly. See “Related Research.”)
We also found that IT outsourcing is not a substitute for internal IT investments, especially investments in personnel. Although outsourcing was associated with a significant reduction in non-IT operating costs, that reduction in non-IT operating costs was greater for companies that made higher levels of internal IT investments. We believe this is because IT outsourcing can increase the operational efficiencies of existing processes and free up resources, thereby allowing resource reallocation. Furthermore, companies’ complementary internal investments in IT can make business processes more information-intensive and facilitate coordination with vendors, thereby magnifying outsourcing’s cost-cutting effects.
An intriguing finding from our study is that among the various components of internal IT investments (hardware, software, employees, etc.), only investments in employees have a synergy with IT outsourcing in reducing non-IT costs.