Welcome to my introduction to outsourcing – this is the first article of many on the subject. I will in the first article, concentrate on what outsourcing is and its purpose, in addition to seeing when outsourcing is applicable.
Outsourcing is related to the «make or buy» dilemma. What should be done in-house and what should be outsourced? The model of a traditional company, which is self-supplied in all areas, is considered outdated by most. A new way of aligning a company`s operation is through a network of partners and suppliers. The partners and suppliers specialize in their own fields so as to create more effectiveness than if the buyer carries out the operation himself (Domberger, 1998). But why is this? Shouldn’t it be more expensive to let others do the job? Every company is targeting profit and therefore, the total price should go up using economic reasons (price of operation + profit supplier). But no, in most cases, outsourcing is profitable for all parties, even the customers. The incentive is to save money and innovate increase, as the partner or supplier has this as their core business. The supplier and partner will often increase their market share and increase their economics of scale and in addition, when you outsource, the task tends to get clearer lines and therefore, it`s easier to handle the costs related to it (Domberger, 1998). Many businesses don´t know how much the task really costs them.
But what is the cost of outsourcing? Lack of coordination can be a high cost, therefore it is important to make sure of a good collaboration between buyer and supplier. And even though the supplier is doing the whole job for you, you must monitor what they do. The main reason for failure in outsourcing is the lack of monitoring. The task or operation must be monitored in order to ensure that the supplier deliver according to contract. According to transaction cost theory, the supplier is opportunistic of nature and will try to increase profit on your account (Williamson, 2008). Management and monitoring are key aspect to consider preventing maladaptation and non-performance. In addition there is some direct cost to outsourcing like tendering, searching, negotiating and writing a contract (Domberger, 1998).
Most businesses need paper for their printer and most people will understand that it is cheaper to go to the electronics store to buy the needed paper rather than making the paper itself. If you decide to start manufacturing your paper, then you need to consider raw materials, location, machines and trained staff. If you use a normal amount of paper, buying the paper at the electronics store is probably much more convenient. But of course, this should be a no-brainer. But what about tasks at the office, like handling salaries for the employees? To do this task, you need trained employees, software, office equipment, etc. and all these have several costs attached to them. In this particular example, these are some of the questions you can ask:
- How many hours are spent on this operation? Perhaps 40 hours, but only in the last week of the month (payout first every month). What should the employee do for the rest of the month?
- What is the cost of the software program and how much time is needed to be updated on laws and legislatives? In a specialist firm, there will be routines for this.
- Can a supplier deliver the service for a better price with the same or better quality?
According to resource-based view theory will resources add value to the company, but only if they create or contribute to a competitive advantage (Barney, 1991). Therefore you must consider if the task or operation strengthens your competitive advantage. If not, you should consider outsourcing.
Figure – Capability Sourcing Model (Gottfredson et al, 2005)
This model helps you evaluate if your process or function is a candidate for outsourcing or not. If your process or function is both unique and proprietary, this should be done in-house. On the other side, if the process or function is common and not proprietary, it will probably be best to outsource it. All areas between will depend on the dynamics in the industry. Of course, dealing with the firm boundaries is a difficult task and there are many ways to see it. The theory can guide you, but you have to carry out your evaluation based on dynamics of the company and it`s industry.
Gottfredson et al, (2005). Strategic Sourcing: From Periphery to the Core. Harvard Business Review.
Barney, J (1991). Firm Resources and Sustained Competitive Advantage. Journal of Management (17)
Domberger, S (1998). The Contracting Organization. New York: Oxford University Press Inc.
Williamson, O.E (2008). Outsourcing: Transaction Cost Economics and Supply Chain Management. Journal of Supply Chain Management, Volume 44, Issue 2, pages 5-16