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Market-Based Solutions to Vital Economic Issues
Research
Mar 1, 2014

Choice of Geographical Location as Governance Strategy in Outsourcing Contracts: Localized Outsourcing, Global Outsourcing, and Onshore Outsourcing

Abstract

Outsourcing, which involves business-to-business arm’s-length exchanges with suppliers to supplement in-house activities, has grown internationally in scope with the advent of offshore outsourcing in which firms outsource business processes to be executed by suppliers in other countries. In spite of the dramatic growth in outsourcing, managerial governance concerns about controlling and coordinating suppliers’ activities are prevalent. We propose that the geographic location (i.e., localized outsourcing, global outsourcing, and onshore outsourcing) from where the outsourced task is performed by the supplier should influence the degree of relational governance achievable, i.e., degree to which informal relationships and implicit norms of behavior are established among clients and suppliers. We apply transaction cost economics to suggest that depending on the degree of relational governance required for an outsourced task, firms might benefit by outsourcing the task to specific geographic locations. We use an event study to investigate shareholder perceptions of the mode of 185 outsourcing announcements of Fortune 500 multinational corporations during 1996–2004. The results from a model that accounts for the endogeneity of the choice of geographic locations show that for most outsourced ventures global outsourcing is a more effective relational governance strategy than onshore outsourcing or localized outsourcing.

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