The concept of hiring another company to handle “non-core” functions has been around since companies began. But it’s only been in the last several decades that the term “outsourcing” has been coined. Selecting which functions to be outsourced is as individual as each company and the goods and services it provides. Panos Kouvelis, a professor of operations and manufacturing management at the Olin School of Business at Washington University, says that it is often argued that outsourcing helps share risks with suppliers, but new risks enter the picture.
Kouvelis is the Emerson Distinguished Professor of Operations and Manufacturing Management and Director of the Boeing Center for Technology, Information and Manufacturing at the Washington University business school. He is an expert on supply chain management, manufacturing strategy and system design, and marketing-manufacturing interfaces.
“Often difficult tasks, if not appropriately managed, can get out of control,” Kouvelis says. “However, these are the tasks in which a firm can build competency and appropriate market value. The easy tasks are copied and performed by a lot of firms, which often leverage cheap and less-qualified labor. The challenging tasks require higher skill levels and careful work design and organization in order to be successfully managed. Some of these competencies remain sustainable advantages in the long run.”
On the issue of risk, Kouvelis says that it is often argued that outsourcing helps share risk with suppliers, however, new risks enter the picture. “You face quality risks when dealing with a new supplier who may not be used to the tight specifications required in your business. And, if you sign a long-term contract with this firm, technology changes so fast, you can get stuck with a loser rather than a winner.”
Kouvelis also notes that if a company deals with small, undercapitalized suppliers, they may not be able to withstand certain economic shocks and may fail, leaving the company with no supply for a period of time. In addition, companies that outsource run the risk of losing proprietary product and process knowledge and possibly creating new competitors by outsourcing the production of critical components.
Many firms utilize outsourcing to control costs. Kouvelis says that when a company looks at all of the costs involved, outsourcing could be cheaper. “It’s always a tradeoff between fixed costs and variable costs,” he says. “If you own all the company’s assets and do everything yourself, you have very high fixed costs on your investment. But you get control, at least you hope with competent management, of your variable costs. Outsourcing is in most cases a variable cost activity. You might end up paying slightly more to get a service or product, but you avoid the risk of getting stuck with high fixed costs when your product fails to meet your sales expectations. Outsourcing might allow you to operate with lower breakeven volumes.”
As globalization changes the face of work worldwide, firms aren’t just outsourcing blue collar work, either. Professional jobs are being outsourced, too. “It’s a natural evolution,” Kouvelis says. “Engineers have access to the same information and databases whether they’re in the United States or India. Many companies have shifted some of their product and software development activities in India, Israel, Taiwan, and other parts of Asia with strong engineering education and ample supply of engineering and programming talent. Call centers can be supported by a lot of professionals that have English language abilities whether they reside in the U.S. or any other part of the world.”
Kouvelis says that outsourcing is a trend that will continue.
Professor Kouvelis’ comments are excerpted from a recent episode of “Stl Biz,” produced in partnership with the Olin School of Business, which airs at 8 p.m. Fridays and is rebroadcast at 11 a.m. Sundays on KETC-TV Channel 9 in St. Louis.