Offshore outsourcing of services: Theory and evidence

Advances in Information Technology have allowed firms to outsource services with different complexity using different governance structures. We survey the functioning of offshore outsourcing in several labor regimes (including the US, UK, Singapore, Mauritius and India). Three essays are then developed to study the offshore outsourcing of services: determinants of output quality, the hybrid governance structure, and the effectiveness of different governance instruments for improving output quality. The findings have many important implications for the buyer as well as the provider firms on searching for the most cost-effective way to govern different outsourcing transactions and to improve output quality. In the first essay, we build an econometric model to investigate the factors that affect output quality of services outsourced offshore. Based on the data from our field research, we show that the extent to which processes can be codified and output quality can be objectively defined are two principal factors that drive the output quality of services outsourced offshore. Contrary to some prior work we find that training and experience (of information workers) has only weak impacts on output quality. The second essay studies the emergence of a hybrid governance structure which we termed the Extended Organizational Form (EOF). We formulate an analytical model of an incomplete contract between the buyer and the provider of services as a multi-stage game with the attendant problems of moral hazard. In addition to the traditional price mechanism, the buyer is able to monitor and control some of the activities of the provider's agents---thus creating a hybrid governance structure. We derive the Subgame-Perfect Nash Equilibrium solution for the game and comment on the welfare implications of the EOF. In the last essay, we conduct empirical tests to investigate the effectiveness of different governance instruments for improving the output quality of services outsourced offshore based on our primary data. We find that while monitoring instruments are very effective for improving output quality in general, a buyer firm's real-time monitoring is far more effective than a provider firm's monitoring for improving the quality, and this comparative advantage increases as process codifiability decreases.