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Consider the legal issues before outsourcing offshore

Although outsourcing has been utilized by thousands of U.S. companies since the 1970s, it has become an increasingly controversial topic. In fact, lawmakers in more than 35 states have introduced legislation restricting outsourcing just as its popularity among corporations as an effective cost-cutting tool has begun to soar. Early in its growth outsourcing did not usually mean offshore outsourcing, it was often viewed as a way for a business to focus on its "core" competencies while allowing more specialized service providers do other jobs (for example, handle payroll).

Technology has become one of the key areas of outsourced work. The availability of highly-educated individuals in low-wage countries (e.g., China, India, Israel, Malaysia and Russia) was not initially a source of "outsourcing" since there was no way to use the talent of those individuals unless they were in the U.S. However, a surplus of high-speed communication technology has made the world increasingly "flat" (to use columnist Tom Friedman's term) and offshore outsourcing has become one of the primary instruments used to cut application development and maintenance costs, deal effectively with the peaks and valleys of software demands, and to make the greatest productivity gains. In fact, nearly two-thirds of all Fortune 500 companies are currently using offshore outsourcing, some saving over 70 percent in labor costs.

Before a company decides to transfer any of its work offshore, it should consider first whether outsourcing is the best available option and, second, what legal issues might arise once they move offshore. When a company decides to look overseas to satisfy its labor needs, it has basically two options. One option is that it could establish its own business (for example, in the form of a branch office). Advantages of owning the offshore business include better control over management of the company and whether the processes of the outsourcing company will be properly carried out. Disadvantages include incompatibility between the parent company's policies and the legal and cultural framework of the foreign country and management complications that come with supervising a remote set-up that is less accessible for direct review.

A second option for a business considering offshore outsourcing is for the company to outsource its work to an existing offshore company. This approach can be especially beneficial if the work is relatively minor or intermittent, for example work on updating a specific software module or developing web pages for divisions of a company. In addition, outsourcing can be advantageous in that many offshore companies possess international experience that they are able to bring to a project. However, some hurdles related to incongruent cultures and conflicting laws are increased when a business relies on outsourcing. Although many of the basic problems experienced early on have been resolved, successful outsourcing, to India for example, is still difficult. For example, while telecommunications and English fluency has improved, cultural issues, high-service expectations, transitional costs and ongoing relationship management remain substantial barriers to building a successful relationship.

In order to develop a profitable association, companies contemplating transferring work offshore must consider the various legal aspects involved and create a strategy to minimize the risks of moving work overseas. The risks involved with outsourcing are primarily the result of conducting work in two different countries having conflicting legal systems. Not only do the intellectual property laws differ from country to country, a company must also take into consideration the nature of the judicial system, the various local laws, and the rules that would be imposed if the offshore company would become bankrupt. In addition, the company should ensure that an accepted dispute resolution procedure is expressly set out, including where the case would be filed should a conflict arise.
A critical part of any successful outsourcing arrangement is a comprehensive contract. For example, information technology managers have reported getting less out of technology and product outsourcing contracts then hoped for, because of a lack of willingness on the part of vendors to perform beyond the service levels identified in the contract. It is critical to identify performance metrics that are up-to-date and contain meaningful incentives for the supplier to conscientiously meet the terms of any agreement. The contract should expressly include:

• detailed specification for the work to be performed;

• schedules and deadlines for projects and penalties for failing to meet these deadlines;

• quality guarantees to measure development performance that comprehensively define the standards that need to be met;

• payment terms and cycles;

• lock in those key personnel (if you are outsourcing offshore because of the availability of specific key personnel of the vendor) for your projects;

• the method of conflict resolution when the offshore company does not satisfy the required quality level or deadlines; and

• the contract's term, such as when it expires and conditions of renewal. (While many offshore companies attempt to obtain long term contracts to compensate for the set-up labor and infrastructure requirements, it is critical for the outsourcer to identify what can go wrong in an agreement and to be able to extricate itself should the supplier not meet its commitments.)

Careful consideration of the legal issues related to outsourcing is vitally important for any organization. It is critical to work with experienced attorneys who understand your issues and also to work with local counsel in the offshore country to make certain that the laws related to data protection, intellectual property, privacy and other statutory requirements are complied with in a manner that most benefits the outsourcer.

The provisions of any outsourcing contract must be conscientiously crafted because the contract provides the foundation for any deal and acts as a binding factor between the two parties involved. The business relationship is less likely to be undermined if the two companies, which will be inevitably from different backgrounds, strategically construct a plan that will jointly carry out the business goals of both parties.

In addition, when considering offshore outsourcing, a business should choose a country that is fairly compatible with the business' homeland and is moderately socially developed, preferably one that has been tried and tested. Many countries offering outsourcing services do not have the necessary infrastructure to support offshore outsourcing. The chosen country should not only have the requisite knowledge level, but it should also possess the manpower necessary to support the corporation's needs. For example, many countries do not promote English as a common language and it may be more difficult to communicate the project's requirements and to get the project done efficiently. Even more important to successful offshore outsourcing is appreciating and accommodating the other's cultural norms. Misunderstandings over directions, documentation, and work habits have been the demise of many relationships.

One of the most important steps to ensure a successful relationship between the U.S. corporation and the offshore company is to take the time to construct a clear outsourcing strategy. For example, the basic goals and processes should be well thought-out and understood by everyone involved before the company ventures offshore. It is extremely important to structure and define your processes, have methods of measuring the performance of these processes, and have a plan for improving any complications that may arise due to the movement overseas. At the same time, the carefully defined processes and goals should remain flexible enough to anticipate future changes.

Rob Petershack is a partner at the law firm Michael Best & Friedrich, LLP, focusing his practice on intellectual property law with an emphasis on trademark law as well as software and licensing agreements. He can be reached at The author wishes to thank Angi Kujak, a law clerk at Michael Best & Friedrich LLP, for her assistance on this article.

The opinions expressed herein or statements made in the above column are solely those of the author, & do not necessarily reflect the views of Wisconsin Technology Network, LLC. (WTN). WTN, LLC accepts no legal liability or responsibility for any claims made or opinions expressed herein.

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