Outsourcing Theory

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Brief overview of Outsourcing Theory.

Text of Outsourcing Theory

  • 1. Outsourcing: Whats the Theory? 1 Gordon M. Groat PhD (abd), MSc, BGS, ASc

2. Predominant Theory2 Resource Based View (RBV) Transaction Cost Economics (TCE) Total Cost of Outsourcing (TCO) Agency Theory Negative Curvilinear Model(Adjusting Outsourcing on the X and Y axis) Theory Lit + Lit - 3. Lit Review: Outsourcing Advantages 3 Strategic Focus / Reduction of Assets Complimentary Capabilities / Lower Production Costs Strategic Flexibility Avoiding Bureaucratic Costs Relational Rent TheoryLit + Lit - 4. Lit Review: Outsourcing Disadvantages4 Interfaces / Economies of Scope Hollowing Out Opportunistic Behaviour Rising Transaction & Coordination Costs Limited Learning & Innovation Theory Lit + Lit - 5. Strategic Focus & Reduction of Assets5 Shifting cost of production leveraging an outsourcingmodel frees up assets that the outsourcer nowprovides i.e. the infrastructure costs, etc. Why is this a good thing? It allows the organization to redeploy freed up assets to otherstrategic areas or the organization can redistribute savings toshareholders in either event, a win with the investingcommunity (share price) Theory Lit + Lit - 6. Complimentary Capabilities & Lower Production Costs6 Outsourcing can remove a fixed cost from production thus raising profitability Outsourcers often have more efficient production processes allowing them to produce at a cost savings compared to internal production enhanced profitability PLUS core competency i.e. its what the Outsourcer does best. Theory Lit + Lit - 7. Strategic Flexibility7 By using outsourcers its easier to switch from oneoutsourcer to another Organization can increase or decrease supplies from variousoutsourcers (supply channels) in response to external shock Reduces the need to retool or restructure due to economicchanges and market changes European flexibility reservoir Japanese Inimitable supply chain where there is an obligation to the well being of the supplier Theory Lit + Lit - 8. Avoiding Bureaucratic Costs8 There is no competitive incentive associated withinternal production and thus rising price base isassociated with internal production Lack of Price Mechanism Lack of Economic Incentives Theory Lit +Lit - 9. Relational Rent 9 Building Idiosyncratic and valuable relationshipswith suppliers enables Innovation and Learning,which in turn, produces efficiencies that reducetransaction costs SEE TOYOTA PRODUCTION Theory Lit + Lit - 10. Toyota Supplier Relations10 Toyota Supplier Relations are widely studied as amodel with a sustainable advantage where therelationship is deep and extensive often includingthe following ties: Historical Social Interpersonal Theory Lit + Lit - 11. Interfaces / Economies of Scope11 Sometimes there is a point in the value chain thatmanifests at key strategic intersections, for exampleR&D, Manufacturing, and Marketing If there are important interfaces adding to the Value Chain then splitting up these processes to Outsourcing may not bethe best course of action Theory Lit + Lit - 12. Hollowing Out12 Firms that outsource many activities can sometimesgive up their competitive edge. Firms can loose bargaining power vis--vis suppliersbecause the capabilities of suppliers increase relativeto those of the firm Theory Lit + Lit - 13. Opportunistic Behaviour 13 Opportunistic behaviour allows suppliers to extractgreater rents from a relationship than they wouldnormally do i.e. Gaming the Contract Theory Lit + Lit - 14. Rising Transaction & Coordination Costs 14 External Span of Control issues Managers have a limited amount of time to dedicate to managing relationships with outsourcers Too much outsourcing throws this issue into a TCE/TCO discussion as the value of outsourcing is chipped away by managerial costs to run the business Theory Lit + Lit - 15. Limited Learning & Innovation15 If the firm itself is not able to do the businessprocess, how is it able to derive learning from theprocess? Theory Lit + Lit - 16. Transaction Cost Economics (TCE)16 Production costs are lower in markets than inorganizations because of allocative efficiencies thisleads to inter-firm division of labour Transaction Costs are the costs of running theeconomy in the case of BPO, the cost of monitoringmechanisms to prevent opportunistic behaviourTheory Lit + Lit - 17. Total Cost of Outsourcing17 Extrapolates TCE to include the perspective ofWilliamson and then captures the costs of managingthe economy this elevates the Make or Buydecision to a different level apart from the basiccontractual cost of service items. Theory Lit + Lit - 18. Resource Based View 18 Competitive Advantage is present when controllingresources that have certain characteristics: Valuable Rare Inimitable Hard to SubstituteTheory Lit + Lit - 19. Agency Theory19 Outsourcer commissions work from the supplier(agent) Works well when there is strong alignment between bothparties Where alignment is not possible, Vertical Integration ispreferred Theory Lit + Lit - 20. Negative Curvilinear Model 20 Activity ABCDEF GH I Performance Gain-4 -3 -2-101 23 4 from OutsourcingNegative Curvilinear xy Performance Graph6 Number of Outsourced5 4Activities3 2 1 002 468 10 Perform ance Theory Lit + Lit - 21. Projections21 BPO market posting continued growth Shifting regional patterns Increased competition proliferates alternatives Value add shift from simple BPO to more complexrelationships (i.e. BPO to BTO) Theory Lit + Lit - 22. World Class Partners 22 Asia Pacific Contact CenterIndias Most Respected Vendor of the Year 2007BPO CompanyBest in Show Awards for Best Offshore SolutionsProvider - 14th Annual International Call CenterManagement Conference & Exposition Best Outsourcer 14th AnnualInternational Call Center ManagementConference & Exposition Theory Lit + Lit - 23. Outsoucing Costs // TCE 23 Call Center Employee Cost2006 Data Set (collected 2005) USA US$ 19,000 annually Australia US$ 17,000 annually Philippines US$ 9,050 annually India US$ 7,500 annuallyTheoryLit + Lit - 24. What does it mean for ME?24 By enabling internal Core Competencies to shine we set ourselves up to deliver a better product to market more efficiently By managing our Outsourcing arrangements well, we are able to enhance our profitability The more money the enterprise earns- the more money there is to grow the businessTheory Lit + Lit - 25. Core Activities in an Outsourcing Decision Model 25 (1) the company core (all activitieswhich are necessarily connectedwith a company's existence) (2) core-close activities (directlylinked with core activities) (3) core-distinct activities (supportingactivities) (4) non core activities (activities withgeneral availability) Theory Lit + Lit - 26. Questions26 Theory Lit + Lit - 27. 27 Theory Lit + Lit -