heizer supp 11

© 2008 Prentice Hall, Inc. S11 – 1

Operations ManagementOperations ManagementSupplement 11 – Supplement 11 – Outsourcing as a Outsourcing as a Supply Chain StrategySupply Chain Strategy

PowerPoint presentation to accompany PowerPoint presentation to accompany Heizer/Render Heizer/Render Principles of Operations Management, 7ePrinciples of Operations Management, 7eOperations Management, 9e Operations Management, 9e


OutlineOutline

What is Outsourcing?What is Outsourcing? Types of OutsourcingTypes of Outsourcing

Strategic Planning and Core Strategic Planning and Core CompetenciesCompetencies The Theory of Comparative The Theory of Comparative

AdvantageAdvantage

Outsourcing Trends and Political Outsourcing Trends and Political RepercussionsRepercussions


Outline – ContinuedOutline – Continued

Risks in OutsourcingRisks in Outsourcing

Methodologies for OutsourcingMethodologies for Outsourcing Evaluating Multiple Criteria with Evaluating Multiple Criteria with

Factor RatingFactor Rating

Break-even AnalysisBreak-even Analysis


Outline – ContinuedOutline – Continued

Advantages and Disadvantages Advantages and Disadvantages of Outsourcingof Outsourcing Advantages of OutsourcingAdvantages of Outsourcing

Disadvantages of OutsourcingDisadvantages of Outsourcing

Audits and Metrics to Evaluate Audits and Metrics to Evaluate Outsourcing PerformanceOutsourcing Performance

Ethical Issues in OutsourcingEthical Issues in Outsourcing


Learning ObjectivesLearning Objectives

When you complete this supplement When you complete this supplement you should be able to:you should be able to:

1.1. Explain how core competencies Explain how core competencies relate to outsourcingrelate to outsourcing

2.2. Describe the risks of outsourcingDescribe the risks of outsourcing

3.3. Use factor rating to evaluate both Use factor rating to evaluate both country and provider outsourcerscountry and provider outsourcers


Learning ObjectivesLearning Objectives

When you complete this supplement When you complete this supplement you should be able to:you should be able to:

4.4. Use break-even analysis to Use break-even analysis to determine if outsourcing is cost-determine if outsourcing is cost-effectiveeffective

5.5. List the advantages and List the advantages and disadvantages of outsourcingdisadvantages of outsourcing


OutsourcingOutsourcing

Outsourcing can replace entire Outsourcing can replace entire purchasing, information systems, purchasing, information systems, marketing, finance, and operations marketing, finance, and operations departmentdepartment

Applicable to firms throughout the Applicable to firms throughout the worldworld

Making the right decision may be Making the right decision may be the difference between success the difference between success and failureand failure


What is Outsourcing?What is Outsourcing?

Procuring from external suppliers Procuring from external suppliers service or products the firms used to service or products the firms used to provide for itselfprovide for itself

Offshoring is moving processes to a Offshoring is moving processes to a foreign country but retaining controlforeign country but retaining control

Firms that outsource are called clients, Firms that outsource are called clients, the actual work is done by the the actual work is done by the outsourcing provideroutsourcing provider

Extension of the long-standing practice Extension of the long-standing practice of subcontractingof subcontracting


What is Outsourcing?What is Outsourcing?

Outsourcing has become a major Outsourcing has become a major strategy as firms move toward strategy as firms move toward specializationspecialization Increasing expertiseIncreasing expertise

Reduced cost of reliable transportationReduced cost of reliable transportation

Rapid deployment of Rapid deployment of telecommunications telecommunications and computers and computers – the Internet– the Internet


Examples of OutsourcingExamples of Outsourcing

Call centers in French AngolaCall centers in French Angola

Legal and finance service in the Legal and finance service in the PhilippinesPhilippines

EDS handling information EDS handling information technology for Nexteltechnology for Nextel

IBM providing travel and IBM providing travel and payroll for P&Gpayroll for P&G

Solectron producing Solectron producing IBM computersIBM computers


Types of OutsourcingTypes of Outsourcing

Common processes outsourced areCommon processes outsourced are

PurchasingPurchasing

LogisticsLogistics

R&DR&D

OperationsOperations

Service managementService management

Human resourcesHuman resources

Finance/accountingFinance/accounting

Customer relationsCustomer relations

Sales/marketingSales/marketing

TrainingTraining

Legal processesLegal processes

Outsourcing implies a legally binding Outsourcing implies a legally binding contractcontract


Strategic Planning and Strategic Planning and Core CompetenciesCore Competencies

Strategic planning defines the mission Strategic planning defines the mission and goals for the organizationand goals for the organization

From this the organization determines From this the organization determines the role of each business activitythe role of each business activity

Core competencies are things the Core competencies are things the organization does better than its organization does better than its competitioncompetition

Non-core activities are good candidates Non-core activities are good candidates for outsourcingfor outsourcing


Core Competency

Best in the world at electromechanical

miniaturization design

Strategic Planning and Strategic Planning and Core CompetenciesCore Competencies

Figure S11.1Figure S11.1

Sony, Sony, An Outsourcing An Outsourcing CompanyCompany

Outsourcers Outsourcers could could provideprovide

Post-sales service

Logistics

Distribution

Accounting

Maintenance

Real estate management

Marketing

Parts manufacture

Financial functions

Employee benefit management


Theory of Comparative Theory of Comparative AdvantageAdvantage

If an external outsourcing provider can If an external outsourcing provider can perform activities more productively perform activities more productively than the client firm, the outsourcing than the client firm, the outsourcing

provider should do the workprovider should do the work

This applies regardless of

the geographical location


Outsourcing Trends and Outsourcing Trends and Political RepercussionsPolitical Repercussions

According to a survey of 53 major According to a survey of 53 major corporations, the most important corporations, the most important reasons for outsourcing are:reasons for outsourcing are:

Cost savingsCost savings 77%77%Gaining outside expertiseGaining outside expertise 70%70%Improving servicesImproving services 61%61%Focusing on core competenciesFocusing on core competencies 59%59%Gaining access to technologyGaining access to technology 56%56%



Outsourcing includes specific business Outsourcing includes specific business functions (computer help desks) and functions (computer help desks) and entire departments (accounting, entire departments (accounting, marketing, finance, etc.)marketing, finance, etc.)

35% of businesses said they would 35% of businesses said they would continue or expand outsourcingcontinue or expand outsourcing

40% said they would continue 40% said they would continue outsourcing but revise their arrangementsoutsourcing but revise their arrangements

Some said they would reduce outsourcingSome said they would reduce outsourcing


Outsourcing includes specific business Outsourcing includes specific business functions (computer help desks) and functions (computer help desks) and entire departments (accounting, entire departments (accounting, marketing, finance, etc.)marketing, finance, etc.)

35% of businesses said they would 35% of businesses said they would continue or expand outsourcingcontinue or expand outsourcing

40% said they would continue 40% said they would continue outsourcing but revise their arrangementsoutsourcing but revise their arrangements

Some said they would reduce outsourcingSome said they would reduce outsourcing


Not all outsourcing experiences are

satisfactory

There is still a lot to learn about

outsourcing as a method to improve

productivity



Political backlash can occur when jobs Political backlash can occur when jobs are outsourced to foreign countriesare outsourced to foreign countries In the U.S. state and federal laws have been In the U.S. state and federal laws have been

enacted to limit or prevent outsourcing enacted to limit or prevent outsourcing activitiesactivities

Recent data suggests more foreigners Recent data suggests more foreigners outsource jobs to the U.S. than American outsource jobs to the U.S. than American companies outsource offshorecompanies outsource offshore

Backsourcing describes the process of Backsourcing describes the process of returning work to the original firm when returning work to the original firm when outsourcing failsoutsourcing fails



Outsourcing can be riskyOutsourcing can be risky

As many as half of all outsourcing As many as half of all outsourcing agreements fail because of inappropriate agreements fail because of inappropriate planning and analysisplanning and analysis

Erratic power grids, government Erratic power grids, government difficulties, inexperienced managers, and difficulties, inexperienced managers, and unmotivated labor can create problemsunmotivated labor can create problems

Failure to achieve unrealistic goals Failure to achieve unrealistic goals sometimes create the impression of sometimes create the impression of failurefailure



Table S11.1Table S11.1

OutsourcingOutsourcing Examples ofExamples ofProcessProcess Possible RisksPossible Risks

Identify non-core Identify non-core competenciescompetencies

Can be incorrectly identified as a Can be incorrectly identified as a non-core competencynon-core competency

Identify non-core Identify non-core activities that should be activities that should be outsourcedoutsourced

Just because the activity is not a Just because the activity is not a core competence for your firm core competence for your firm does not mean an outsource does not mean an outsource provider is more competent and provider is more competent and efficientefficient

Identify impact on Identify impact on existing facilities, existing facilities, capacity, and logisticscapacity, and logistics

May fail to understand the May fail to understand the change in resources and talents change in resources and talents needed internallyneeded internally





Establish goals and Establish goals and draft outsourcing draft outsourcing agreement agreement specificationsspecifications

Goals can be set so high that Goals can be set so high that failure is certainfailure is certain

Identify and select Identify and select outsource provideroutsource provider

Can select the wrong outsource Can select the wrong outsource providerprovider

Negotiate goals and Negotiate goals and measures of measures of outsourcing outsourcing performanceperformance

Can misinterpret measures and Can misinterpret measures and goals, how they are measured, goals, how they are measured, and what they meanand what they mean





Monitor and control Monitor and control current outsourcing current outsourcing programprogram

May be unable to control May be unable to control product development, product development, schedules, and qualityschedules, and quality

Evaluate and give Evaluate and give feedback to outsource feedback to outsource providerprovider

May have non-responsive May have non-responsive provider (i.e., one that ignores provider (i.e., one that ignores feedback)feedback)

Evaluate international Evaluate international political and currency political and currency risksrisks

County’s currency may be County’s currency may be unstable, a country may be unstable, a country may be politically unstable, or cultural politically unstable, or cultural and language differences may and language differences may inhibit successful operationsinhibit successful operations





Evaluate coordination Evaluate coordination needed for shipping and needed for shipping and distributiondistribution

May not understand the timing May not understand the timing necessary to manage flows to necessary to manage flows to different facilities and marketsdifferent facilities and markets



EmploymentEmployment

Changes in facilities and processes Changes in facilities and processes needed to receive components in a needed to receive components in a different state of assemblydifferent state of assembly

Vastly expanded logistics issuesVastly expanded logistics issues

Outsourcing brings other issues:Outsourcing brings other issues:


Methodologies for OutsourcingMethodologies for Outsourcing

Evaluating Multiple Criteria with Evaluating Multiple Criteria with Factor RatingFactor Rating

Break-even AnalysisBreak-even Analysis


Rating International Rating International Risk FactorsRisk Factors

Nine factors rated Nine factors rated 0-3, 00-3, 0 is no risk, is no risk, 33 is high risk is high risk

Risk FactorRisk Factor EnglandEngland MexicoMexico SpainSpain CanadaCanada

Economic: Labor cost/ lawsEconomic: Labor cost/ laws 11 00 22 11

Economic: Capital availabilityEconomic: Capital availability 00 22 11 00

Economic: InfrastructureEconomic: Infrastructure 00 22 22 00

Culture: LanguageCulture: Language 00 00 00 00

Culture: Social normsCulture: Social norms 22 00 11 22

Migration: UncontrolledMigration: Uncontrolled 00 22 00 00

Politics: IdeologyPolitics: Ideology 22 00 11 22

Politics: InstabilityPolitics: Instability 00 11 22 22

Politics: LegalitiesPolitics: Legalities 33 00 22 33

Total risk rating scoresTotal risk rating scores 88 77 1111 1010



Rating Outsourcing ProvidersRating Outsourcing Providers


Seven factors rated Seven factors rated 1-5 1-5 and an importance weightand an importance weight

Outsourcing ProvidersOutsourcing Providers

FactorFactor(criterion)(criterion)

Importance Importance WeightWeight

BIM BIM (U.S.)(U.S.)

S.P.C. S.P.C. (India)(India)

Telco Telco (Israel)(Israel)

1.1. Can reduce operating costsCan reduce operating costs .2.2 33 33 55

2.2. Can reduce capital investmentCan reduce capital investment .2.2 44 33 33

3.3. Skilled personnelSkilled personnel .2.2 55 44 33

4.4. Can improve qualityCan improve quality .1.1 44 55 22

5.5. Can gain access to Can gain access to technology not in companytechnology not in company

.1.1 55 33 55

6.6. Can create additional capacityCan create additional capacity .1.1 44 22 44

7.7. Aligns with policy/ Aligns with policy/ philosophy/culturephilosophy/culture

.1.1 22 33 55

Total and AveragesTotal and Averages 1.01.0 3.93.9 3.33.3 3.83.8


Break-Even AnalysisBreak-Even Analysis

First define total cost in-houseFirst define total cost in-house

TCTCinin = F= Finin + (+ (VVinin x x X Xinin))

wherewhere

TCTCinin is the total cost of an item produced in-houseis the total cost of an item produced in-house

FFinin is the total in-house fixed costis the total in-house fixed cost

VVinin is the variable cost/unit produced in-houseis the variable cost/unit produced in-house

XXinin is the total number of units produced in-houseis the total number of units produced in-house


Break-Even AnalysisBreak-Even Analysis

The total cost under outsourcing isThe total cost under outsourcing is

TCTCoutout = = F Foutout + (+ (VVoutout x x X Xoutout))

At break-even XAt break-even Xinin = = X Xoutout and TC and TCiinn = = TCTCoutout

FFinin + ( + (VVinin x x XX) = ) = FFoutout + ( + (VVoutout x x XX))

Solving for XSolving for X

X X ==FFinin – – FFoutout

VVoutout – – VVinin


Outsourcing Break-Even Outsourcing Break-Even ExampleExample

Fixed cost at Toledo plant Fixed cost at Toledo plant = $2= $2 million millionVariable cost/toy Variable cost/toy = $3= $3

Fixed cost at Astro plant Fixed cost at Astro plant = $1= $1 million millionVariable cost/toy Variable cost/toy = $4= $4

Annual demand Annual demand = 1.1 = 1.1 million toysmillion toys

2,000,000 – 1,000,0002,000,000 – 1,000,000

4 – 34 – 3X X = == =

FFinin – – FFoutout

VVoutout – – VVinin

= 1,000,000= 1,000,000 units units Sincedemand > break-even point,

produce in Toledo


Advantages of OutsourcingAdvantages of Outsourcing

Cost savingsCost savings

Gaining outside experienceGaining outside experience

Improving operations and serviceImproving operations and service

Focusing on core competenciesFocusing on core competencies

Gaining outside technologiesGaining outside technologies

Other advantagesOther advantages


Disadvantages of OutsourcingDisadvantages of Outsourcing

Increased transportation costsIncreased transportation costs

Loss of controlLoss of control

Creating future competitionCreating future competition

Negative impact on employeesNegative impact on employees

Longer-term Longer-term impactimpact


Audits and MetricsAudits and Metrics

Outsourcing agreements must specify Outsourcing agreements must specify results and outcomesresults and outcomes

Evaluation necessary to ensure Evaluation necessary to ensure satisfactory performancesatisfactory performance

If the outsourced product or service is If the outsourced product or service is strategically important, the relationship strategically important, the relationship needs continuing communication, needs continuing communication, understanding, trust and performanceunderstanding, trust and performance

Services may require imaginative Services may require imaginative metricsmetrics


Ethical Issues in Ethical Issues in OutsourcingOutsourcing

Seek to do no harm to Seek to do no harm to indigenous culturesindigenous cultures

Don’t use outsourcing in a Don’t use outsourcing in a way that violates religious way that violates religious holidaysholidays

Seek to do no harm to the Seek to do no harm to the ecological systems of the ecological systems of the worldworld

Don’t use outsourcing to Don’t use outsourcing to move pollution from one move pollution from one country to anothercountry to another

Seek to uphold universal Seek to uphold universal labor standardslabor standards

Don’t use outsourcing to take Don’t use outsourcing to take advantage of cheap child advantage of cheap child labor that leads to child abuselabor that leads to child abuse

Ethics PrincipleEthics Principle Outsourcing LinkageOutsourcing Linkage



Ethical Issues in Ethical Issues in OutsourcingOutsourcing

Seek to uphold basic human Seek to uphold basic human rightsrights

Don’t accept outsourcing that Don’t accept outsourcing that violates basic human rightsviolates basic human rights

Seek to pursue long-term Seek to pursue long-term involvement in foreign involvement in foreign countriescountries

Don’t use outsourcing as a Don’t use outsourcing as a short-term arrangement to short-term arrangement to reduce costs; view it as a reduce costs; view it as a long-term partnershiplong-term partnership

Seek to share knowledge Seek to share knowledge and technology with foreign and technology with foreign countriescountries

Don’t think an outsourcing Don’t think an outsourcing agreement will prevent loss of agreement will prevent loss of technology, but use the technology, but use the inevitable sharing to build a inevitable sharing to build a good relationship good relationship

Ethics PrincipleEthics Principle Outsourcing LinkageOutsourcing Linkage


heizer supp 11

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outsourcing outsourcing

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outsourcing methodologies

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