AI outsourcing: A strategic guide to managing third-party risks

In an era of artificial intelligence (AI) revolutionizing business practices, many companies are turning to third-party AI services for a competitive edge. However, this approach comes with its own set of risks. From data security concerns to operational disruptions, understanding and mitigating these threats is crucial.

third-party AI services

This article discusses the key risks associated with third-party AI services. It offers strategies for companies to effectively manage them, ensuring they capitalize on AI’s benefits while safeguarding their interests.

Key risks associated with third-party AI services

Leaders must understand the threats that come with partnering with third-party AI services. On the one hand, teaming up with such a powerful ally as a vetted AI provider can boost customer experience (CX), sales, and loyalty. On the other hand, failure or missteps by the third-party provider can impact your company’s image and reputation.

The trick is knowing your challenges and dodging them intelligently. Let’s discuss the risks first:

Data security and privacy

According to IBM, the global average cost of a data breach in 2023 was $4.45 million. The risk of experiencing a data breach or bad actors misusing sensitive information has skyrocketed in the last several years. Additionally, compliance challenges with regulations like GDPR and CCPA have also increased. Intellectual property rights issues are at the forefront of the AI endeavor. The uptick in cybersecurity and regulatory issues highlights the importance of data governance and robust security measures.

Algorithmic bias and fairness

A study published in the Proceedings of the National Academy of Sciences (PNAS) found that facial recognition algorithms from Amazon, Microsoft, and Megvii exhibited racial bias. Bias may persist in many face detection systems. Naturally, this misidentification could have severe consequences for the parties involved. Diverse training data and transparent algorithms are necessary to mitigate the risk of discriminatory outcomes.

Furthermore, complex AI models often encounter the “black box” problem or how some AI models arrive at their decisions. Teaming with a third-party AI service requires human oversight to navigate the threat of biased algorithms.

Vendor lock-in and dependence

Most of us can admit that the risk of becoming overly reliant on AI is significant. AI can quickly become a go-to solution for many challenges.

It’s no surprise that companies face a similar risk, becoming too dependent on a single vendor’s AI solutions. However, this approach can become problematic. Companies can “get stuck,” and switching providers seems almost impossible. Diversification and clear contractual agreements are key in mitigating lock-in risks.

Operational disruptions and downtime

Quality and reliability concerns are top-of-mind for most company leaders partnering with third-party AI services. Some primary concerns include service outages, performance issues, and unexpected disruptions.

Operational resilience is necessary, and contingency plans are a significant piece of the resiliency puzzle, given the damage business downtime can cause. Avoiding disruption is key, but recovering from an outage or technical failure is undoubtedly part of risk management.

Strategies to mitigate third-party AI risks

As mentioned earlier, outsourcing AI services has become a go-to strategy for many companies hoping to leverage the power of AI without the investment in in-house development. But that route comes with plenty of risk.

Let’s discuss some effective risk management options for these fast-growing organizations:

Conduct thorough due diligence

Before partnering with an AI service provider, assess the vendor’s security practices, compliance certifications, and financial stability. Evaluate their AI model’s performance, ensuring it is accurate, explainable, and bias-free.

Also, review contracts meticulously and be bold about negotiating favorable data ownership, security, and liability terms. This upfront work can save a company from legal, financial, and reputational damage.

Implement robust security measures

AI systems often process large volumes of sensitive data. To protect this data:

1. Enforce robust security measures.
2. Utilize data encryption, access controls, and intrusion detection systems to safeguard against unauthorized access and data breaches.
3. Regular security audits and penetration testing are essential to identify and address vulnerabilities.

Establish clear governance and oversight

Clear contracts are the foundation of effective third-party AI governance. Ensure terms regarding data handling, confidentiality, and IP rights are explicit. Remember to include liability, indemnification, and dispute resolution clauses.

Also, define roles and responsibilities for AI deployment and risk management within your organization. Set ethical guidelines and establish monitoring mechanisms for bias and fairness in AI operations. An excellent approach is establishing an oversight committee to review vendor performance regularly and address emerging risks.

Promote transparency and explainability

It should go without saying that transparency in AI systems is key to building trust and accountability. So, request detailed information about the AI model’s development process and training data.

Advocate for Explainable AI (XAI) solutions that provide insights into the AI model’s decisions, enhancing the system’s transparency and accountability. Most importantly, communicate transparently with stakeholders about how you’re using AI and the potential risks involved.

Prepare for contingency situations

Despite best efforts, unforeseen situations such as service outages, data breaches, or vendor disruptions can occur.

Develop comprehensive contingency plans for these scenarios. Consider diversifying vendors and maintaining options for data portability to mitigate dependency on a single provider. Regularly review and update these plans to ensure they remain effective as risks evolve.


By following these guidelines, companies can navigate the complexities of outsourcing AI services while minimizing potential risks. This proactive approach ensures that they can reap the benefits of AI innovation while maintaining security, compliance, and trust.

And while these suggestions are pillars of solid risk management, there’s another piece of the puzzle — cyber liability insurance.

It acts as a safety net, covering expenses associated with data breaches, network security failures, and other digital mishaps. From recovering compromised data and notifying affected individuals to defend against lawsuits and repairing damaged systems, this insurance grants peace of mind by mitigating the financial burden of such incidents.

Key aspects of a cyber insurance policy include liability coverage for data breaches at the vendor’s end and ensuring protection against legal, regulatory, and compensatory costs arising from such incidents. Equally important is coverage for losses due to system interruptions, safeguarding against revenue loss and operational disruptions.

Lastly, the policy should also account for crisis management expenses to mitigate reputation damage post-incident.

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