When music-subscription service Rhapsody spun out of former joint-venture parents RealNetworks and MTV Networks early last year, vice president of finance Michael McGinn faced a major challenge: building a finance team from scratch to support a business that was well under way. “Things needed to work right, and right away, because we already had hundreds of thousands of retail customers, and 100 employees who were used to getting a regular paycheck,” McGinn recalls.

To make the effort go more smoothly, McGinn made a leap that sounds almost too good to be true for finance executives at smaller companies: he outsourced most of his finance and accounting (F&A) work.

McGinn was initially skeptical of outsourcing, assuming that it was “most viable for huge multinational firms with high transaction volumes.” But making it work at Rhapsody “has been easier than expected,” he says. While he hired a controller and an accounts payable clerk into the company’s Seattle headquarters, all of Rhapsody’s transaction processing — including payroll, receivables, payables, and account reconciliations — is now done in India, courtesy of outsourcing firm Global Upside. What’s more, McGinn was able to get additional resources for the first six months, then scale back as things settled down, with no penalties.

All in, McGinn estimates that he gets about five full-time employees in India for the price of two U.S.-based employees, plus the option of scaling up or down as necessary.

Striking an outsourcing arrangement to cover fewer than 10 employees used to be nearly impossible. For one thing, “it’s not very profitable for [outsourcers] to serve smaller firms,” says Phil Fersht, CEO and head of research at HfS Research, a firm that advises companies on outsourcing strategies. For another, the energy required stateside to manage the relationship with an outsourcer might overwhelm any savings. “The rule of outsourcing is that if you’re not saving 30% or more, it’s not worth doing,” Fersht says.

Now, however, thanks to the maturity of the industry and more-easily deployed technology, it’s becoming increasingly viable for firms with smaller staffs to send all or part of their F&A work offshore, at rates much lower than they would pay domestically.

Declining Cost

In general, the price of F&A outsourcing has decreased between 6% and 8% a year for the past two years, according to a recent study by Alsbridge, an outsourcing advisory firm. Market competition is the major driver of the decline, with outsourcing providers taking smaller profit margins in order to win business (and becoming more efficient themselves in the process). “It used to be that there were only a few companies in this space — Cap Gemini, Accenture, Genpact — but now there are 15 to 20 real players,” says Dennis Winkler, director at Alsbridge and co-author of the study.

The movement toward the middle market is already happening, though much of that market is untapped, according to a recent report by HfS Research. The average value of an outsourcing contract fell from $30 million in 2004 to $18 million in 2010, a decrease the report attributes not only to “increased competitiveness and falling price points, but also [to] the increased number of engagements being signed with organizations in the $750 million to $3 billion revenue category.”

All told, that portends good opportunities for even smaller firms, especially since on a per-employee basis “the price point doesn’t change tremendously between a very small contract with only 10 people and a very large one with 1,000 people,” says Alsbridge CEO Ben Trowbridge. He estimates that the average cost per offshore finance employee is between $18,000 and $28,000 per year, compared with $70,000 (including benefits) for U.S. finance workers.

Established F&A outsourcing providers aren’t necessarily racing to see how small they can go, but at least one, Xerox ACS, is in the process of rolling out more offerings to companies with under $1 billion in revenues. “We’re certainly seeing activity pick up in the small and medium market,” says Richard Dobbs, managing director of finance and accounting services at ACS.

The key to making F&A outsourcing work for lower volumes of work, says Dobbs, is for ACS “to create as standard an offering as possible, and host it in the cloud where [smaller companies] can plug into it.” Unlike with large companies, where ACS works within existing systems and processes, “this is the opposite,” says Dobbs. “We’re saying, ‘Here’s our process, and you need to adapt to it.’ That allows us to scale.”

Other outsourcing firms use different business strategies but arrive at the same place. Ragu Bhargava, co-founder of outsourcing firm Global Upside and a former CFO, says his firm works with clients’ existing technology, accessing it remotely, and that it’s the mix of large and small that makes his margins work. He began taking on clients in start-up mode when he realized they typically have less urgency around their transactions, allowing his firm to layer in once-a-week requests with the overnight requests from other clients. “Because we have a fair number of larger clients, we’re able to use smaller clients’ work as fillers between jobs,” he says.

Currently, Global Upside’s largest client is a company with about $1.5 billion in revenues; its smallest is a start-up with six employees that uses less than 20% of a full-time finance employee’s hours. That’s fine with Bhargava, but he’s hopeful that at some point that will translate into even more business. “We take these clients on with the expectation that we will grow with them,” he says.

Obstacles

Despite the advantages of offshore outsourcing, most companies still prefer the domestic version. A CFO magazine survey of more than 150 finance executives last fall showed that only about a third outsource any finance work, and the vast majority of those — 83% — keep it firmly onshore.

Why aren’t more companies considering offshore outsourcing? Experts say some of the obstacles are the same as those for outsourcing in general — such as political sensitivities, loyalties to current employees, and concerns about data security.

For Rhapsody’s McGinn, who had a clean slate when it came to employees, the distance and time difference between Seattle and India were among his top concerns, but he says both have turned out to work for him rather than against him. “The reality is that [the distance] is a good thing, because it requires us to be more well-defined about our communication process,” he says. “And there’s almost an exact 12-hour time difference, so I’ll have three or four e-mails in my inbox in the morning, asking for approvals. They work while we sleep.”

As for data security, McGinn says “the contract is pretty clear that [Global Upside employees must] treat our data as if it were theirs.” Also, Rhapsody maintains control over all data, which resides in Seattle, along with hard copies of items like invoices.

Rhapsody has now grown enough that it is looking to hire additional staff in the United States. But that’s not a problem, says McGinn, since “our agreement with Global Upside allows us to scale up or down. And if we want to bring the work back in-house, we have the flexibility to do so with no penalty” — and with support through the transition from the outsourcer, McGinn says.