Outsourcing and offshoring have become hot political topics in the United States and the EU. However, this is not the first time that offshoring became a political issue in the United States. One only needs to go back to the mid-1990s when independent presidential candidate Ross Perot colorfully declared that the loss of American jobs to Mexico as a result of the passage of NAFTA would lead to a "giant sucking sound". Even Germany’s politicians have borrowed a page from U.S. political style when Chancellor Schröder recently accused German companies of being "unpatriotic" if they engage in offshoring.

What is meant by "outsourcing" and "offshoring"? On a fundamental level, outsourcing is a contractual relationship whereby a third-party vendor performs a contractor’s specified tasks according to predetermined performance criteria. This may involve the transferring of staff or resources. Offshoring is outsourcing’s not so distant cousin as it involves the transferring of such tasks to a different country. Since offshoring is currently such a politically charged word, companies sometimes prefer to use euphemisms such as "global resourcing" or "co-sourcing".

For U.S. companies, offshoring often involves moving tasks to India (sometimes referred to as the "world’s back office"), China, the Philippines and South America while for EU companies, eastern European vendors — and to a lesser extent, Indian and Chinese vendors — are typically the primary beneficiaries of offshoring.

Offshoring provides various distinct advantages, the most well-publicized of which is cost, i.e., for many companies the lower cost of labor serves as the sole (or at least primary) impetus to offshore some of its tasks. However, if a company is engaged in offshoring merely to reduce costs, it is quite possible that it is not doing itself a favor. Unreliable vendors, lack of sufficient know-how by vendors, lower productivity and work being completed too slowly may not only add to increased frustration, but in the long run, to increased costs. Other commonly listed benefits of offshoring include that it permits a company to focus on its core competencies, permits access to different skills and/or technologies and allows for greater flexibility.

What types of tasks are being outsourced? Primarily high- volume manufacturing, IT services, call centers and help desks, technical support, service and repairs, labor-intensive and standardized business processes, distribution and other logistics systems and software development. However, companies are becoming increasingly creative in terms of offshoring. Nowadays, U.S. companies may offshore their standardized legal work to Indian vendors, and the Austrian Ministry of Justice recently announced that it will soon outsource to Romania the task of imprisoning Romanians who are currently serving prison sentences in Austria.

Whether to engage in offshoring requires the review of a number of business, financial and legal matters. As a result, if a contractor decides to go forward with an offshoring arrangement, it should undertake a business, financial and legal due diligence review. Legal considerations for an offshoring arrangement should include at least the following (obviously, this list could include other legal matters depending on the type of tasks being offshored):

Corporate and Commercial Matters. When concluding offshoring contracts with vendors, companies need to be aware not only of the risks involved with offshoring, but also what rights they may have if the vendor’s performance is inadequate or untimely. Also, they should focus on how long the contract with the vendor is to last; whether, and to what extent, the vendor needs to provide information regarding certain milestones; whether incentives should be provided for exceeding benchmarks; and to what extent export laws ( e.g., regulations limiting the export of encrypted software) may apply.

Transfer of Intellectual Property Rights. Typically, contractors will only want to transfer the "how" and not the "what and why". Contractors will wish to retain not only all existing intellectual property rights, but also to gain ownership of any IP rights created in the outsourcing relationship. The extent to which the contractor has a right to such intellectual property rights will depend not only on whether the country in which the vendor is located is a signatory to such international treaties as the Paris and Berne Conventions, but also on the national laws and very importantly, the enforcement of such laws. "Work for hire" laws may also play an integral role in the offshoring arrangement in terms of to what extent, if at all, the contractor has a right to IP rights created by employees in the outsourcing arrangement ( e.g., research and development results) and whether the contractor can require the vendor to assign such rights to the contractor, and if so, at what cost. Other precautionary measures include limiting the vendor’s right to make copies, or requiring that code be transferred to the contractor on a regular basis, as opposed to only at the end of the relationship.

Labor and Employment Issues. Although it can generally be stated that labor and employment issues in the European Union will be more significant than in the United States, each jurisdiction has specific rules that must be obeyed. When deciding to offshore, companies will often lay off many of their domestic employees. In the EU, mass layoffs may be subject to regulation by the local employment authorities. For example, German employers must notify the local employment agency before they may lay off employees as part of a mass layoff. Similarly, if the transaction at issue involves a domestic outsourcing, the employee relationships affected by the outsourcing project may be subject to the EU’s rules on transfer of undertakings, i.e, the employees may automatically be transferred from the contractor to the vendor.

In the United States, the laws regarding the termination of employees are not as heavily regulated, though companies may need to take certain steps to avoid running afoul of the WARN law ( i.e., if a company has 100 or more employees, it must provide at least 60-days’ notice before a plant closing or mass layoff) or of COBRA provisions. Union issues may also play a role if an outsourcing arrangement is considered. Of course, the contractor should also make itself aware of the labor and employment laws of the country in which the vendor is located to ensure that there are no surprises.

Data Protection Issues In general, companies in the EU may not transfer data to countries outside the EU/EEA unless the receiving entity is located in a jurisdiction that the EU has deemed provides "adequate protection" or if other steps have been taken to ensure that data is treated with sufficient care. None of the primary offshoring centers, i.e., China, India, the Philippines and Mexico, are deemed to provide adequate protection, meaning other steps must be taken to ensure that the data privacy rules are not run afoul, e.g., through the use of standard contractual clauses. Although the U.S. data privacy laws are not as rigid as those of the EU, Senator Hillary Clinton recently introduced a bill resembling the EU law in that the draft law sets for th that if a company wishes to transfer personally identifiable data regarding a U.S. citizen to any foreign affiliate or subcontractor, it may only do so if the receiving company is located in a jurisdiction that provides adequate protection. Whether this bill will ever see the light of day remains to be seen, but companies must be aware that the United States is paying increased attention to data privacy matters. Contractors should also be aware that the country in which the vendor is located may also have data privacy laws that may play a role.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.