Businesses evaluate different strategies to find the most effective way to minimize costs and bring their products to the market.  One of those strategies is outsourcing, which involves arranging for a third party to perform certain internal business functions.  These business functions could include accounting, customer service, and supply chain, to name a few.  The outsourcing provider may be in the same country as your business operations or in another country.   

Why Businesses Choose Outsourcing to Optimize Supply Chain Operations?

Outsourcing may be beneficial for the start-up or emerging company that may not have all the expertise internally to address its operational needs, including its supply chain function. For the more established company, it may want to access other markets where it does not have a business presence and use a third party to obtain lower cost raw materials or even finished products to meet customer demands.  In both cases, outsourcing allows a business to tap into “outside expertise” to fill an internal business need.  Outsourcing then allows the business to concentrate on its core competencies. 

This article will provide a general overview of the questions you should ask when considering whether to outsource certain internal business operations to a third party, whether domestically or internationally. 

Key Legal Questions to Ask Before Signing an Outsourcing Agreement:

1. Who Is the Outsourcing Provider?  Does the outsourcing provider have its own employees, facilities, and technology to provide services? What are the connections or business ties to other potential vendors or manufacturers in the area?  What is the track record of the outsourcing provider in the industry? 
2. What is the Financial Capability of the Outsourcing Provider? Does the outsourcing provider have sufficient capital to meet its financial obligations?  Is the outsourcing provider part of a larger group of companies or a one stop shop? If there were a dispute, is there a likelihood that damages are recoverable? Should you obtain a letter of credit, bond, parent guarantee or some other form of financial security? 
3. Is this an Exclusive Relationship?  Does the outsourcing provider have other customers? While the contract may include language that this is a “non-exclusive” relationship, this alone may not be sufficient. Additional questions to explore are: (a) is the outsourcing provider taking an entrepreneurial risk; and (b) is the outsourcing provider (mostly) dependent on your business for its existence? 
4. What About Your Intellectual Property?  Are you sharing your intellectual property with the outsourcing provider?  The outsourcing agreement should include provisions addressing ownership of intellectual property, creation of any derivative work, and protection of confidential information.  If this involves a cross-border outsourcing provider, understanding how intellectual property laws work in other countries is critical to identifying ways to protect such information, implement additional processes and controls, and mitigate risks. 
5. Which Laws Impact the Business Relationship? Even with U.S. based outsourcing providers, international laws could still apply, especially if your outsourcing provider is sourcing raw materials and goods from other countries.  Your outsourcing agreement should include, but are not limited to, provisions addressing: (a) import and customs laws; (b) export controls and sanctions (including the Export Administration Regulations (EAR), International Traffic in Arms Regulation (ITAR), and Office of Foreign Assets Control (OFAC) and similar laws); (c) supply chain integrity laws (including the Uyghur Force Labor Prevention Act); (d) anti-corruption and anti-bribery laws (including the U.S. Foreign Corrupt Practices Act (FCPA), the U.K. Anti-Bribery Act, and similar laws); and (e) data protection laws. If your outsourcing provider is based in another country, you will want to confer with local counsel to confirm that your proposed business relationship will not trigger potential liabilities under local employment and tax laws. 
6. How Will Disputes Be Handled?  Before a dispute escalates, will management be required to have a face-to-face meeting?  How is management defined?  If arbitration is the preferred dispute resolution, the arbitration provision should include sufficient details to avoid later disputes on the provision itself. At a minimum, the arbitration provision should identify the arbitration rules, the experience of the arbitrators, and location for the arbitration.   
7. What About the Metrics to Gauge Performance? What metrics will you use to determine if your outsourcing provider is meeting contractual requirements? Are reports provided timely?  How responsive is the outsourcing provider notifying you when shipments are delayed or re-routed?  Are services being delivered on time?  Using objective measurements or metrics to gauge performance will assist you in evaluating the performance of the outsourcing provider under the contract. It also will provide the opportunity to adjust as needed when new or unexpected situations arise. 
8. What Are Some Other Considerations with a Cross-Border Outsourcing Provider?  In addition to being in a different time zone, does your outsourcing provider have a different work week (e.g., Sunday to Thursday rather than Monday to Friday)?  Beyond the work week and time zone issues, there may be other cultural differences that could impact the business relationship.  Understanding these differences will assist in limiting miscommunications. 

Outsourcing Does Not Limit Your Company’s Role in Supply Chain Management

Outsourcing part of your supply chain does not remove supply chain management from your company’s responsibilities.  The outsourcing agreement may have all the bells and whistles in place to limit risk.  However, it is still your company’s reputation on the line and possible financial exposure if things go wrong. 

Being proactive in monitoring the business relationship with your outsourcing provider is key.  Confirming metrics are met, identifying issues, spotting trends, and adjusting as necessary – all to ensure your outsourcing strategy is meeting the company’s goals. 

Conclusion

Understanding the legal risks and issues is key when, not only negotiating, but implementing an outsourcing strategy.  While this article provides a general overview of questions to consider when deciding to outsource any part of your supply chain, it may lead to more questions specific to your company’s outsourcing strategy. As with any business strategy (and outsourcing is no exception), performing due diligence on the front end (before the contract is signed) identifies potential risks and level sets business expectations.  Once the outsourcing agreement is signed, the company’s responsibilities do not end.  Being proactive and monitoring the outsourcing provider’s performance serves a key purpose, which is mitigating issues and risks.