Following to the previous articles about the definition of strategic outsourcing here, the outsourcing decision process itself and its influencing factors here and finally, the difficulties and barriers for the outsourcing process here, this article will critically evaluate the related benefits and risks in the strategic outsourcing process through reviewing three case studies for real outsourcing examples from IKEA, IBM and NIKE companies.
IKEA is a leading Swedish designer and manufacturer for a wide range of furniture across the world. The company’s vision is to: ‘‘create a better everyday life for the many people. Our business idea supports this vision by offering a wide range of well-designed, functional home furnishing products at prices so low that as many people as possible will be able to afford them” (IKEA 2014, p.3).
IKEA outsources most of its manufacturing process to 26 manufacturers in Poland (Ocicka 2009). The process started in 1988 (Harapiak 2013), expanded later to cover different places in Eastern Europe and eventually to the world (Hultman et al. 2008) and currently Poland is the second place to be sourced from (Ocicka 2009).
The benefits of this outsourcing were fulfilling the three core dimension of IKEA’s strategies which are (Ocicka 2009):
- Economic in which the Polish companies provided the products at a lower cost, less lead time and eventually at a higher revenue (Hultman et al. 2008).
- Social in which the skills of the Polish operators were improved especially in logistics.
- Environmental where the optimized transportation helped in reducing fuel consumption, CO2 emission and ensuring the environmental compliance with European regulations.
The process that was followed included a thorough evaluation for the suppliers’ in terms of their manufacturing capabilities, the environmental impact, the availability of the transporting network and the reliability of deliveries (Ocicka 2009; Hultman et al. 2008).
The challenges in Poland were (Ocicka 2009):
- Managing the collaboration between the Polish manufacturers.
- The lack of technical expertise in terms of logistics in Polish manufacturers.
- The need for an Information System platform to support the communication
IBM (International Business Machines) is an American IT and consulting company that provides business solutions, Internet of Things solutions, could data services and much more (IBM 2005). Different companies are outsourcing their services to IBM to achieve three basic benefits: profitability, revenue growth and risk mitigating (IBM 2005).
In 2013, IBM won a 5- year contract to manage the financial service in PepsiCo International Company/ India subsidiary. The scope of that contract includes financial service such as the payment system and the financial reporting system (McDougall 2011).
The motivation behind this outsourcing is to provide a deeper focus on the core competencies of Pepsi; manufacturing and marketing, and outsourcing the non-core activities to third parties for better management and cost control (McDougall 2011).
NIKE is an American designer, manufacturer, and distributor of a wide range of sports products, footwear, clothing and athletic equipment (NIKE 2015, p.6).
The outsourcing process includes major manufacturers in Vietnam (43%), China (32%) and Indonesia (20%) (NIKE 2015, p.6). NIKE outsourced their operations to these countries due to the availability of low-cost operators and raw materials which are fabricated specifically to NIKE (Cockburn 2005; NIKE 2015, p.6).
The decision criteria that NIKE uses in any outsourcing decision are price, speed and product quality. Later, in 2003, a fourth criterion was added which was the compliance with the code of conduct (Rafter 2005).
The outsourcing process enabled NIKE to focus on its core competencies which are (Quinn & Hilmer 1995):
- Pre production: research and development
- Post production: marketing, distribution and sales
The outscoring process includes a three-tier partner strategy which is (Quinn & Hilmer 1995):
- Developed partners who manufacture the highly expensive products.
- Volume producers who produce specific types of products. NIKE does not develop these manufacturers because they serve other competitors.
- Developing sources that produced exclusive items for NIKE. Accordingly, NIKE works continuously to develop them.
Benefits of Strategic Outsourcing
The main benefits of the strategic outsourcing are:
- Cost reduction: the classic benefit of outsourcing is to save costs by outsourcing the business aspects to a party that can do it at a lower cost. This target is usually achieved because the outsourced party can benefit from the economy of scale (Yang & Huang 2000; Kakabadse and Kakabadse (2005) in Vagadia 2012, p.81; van de Water & van Peet 2006; Dawei 2011, p.28). It is important to consider that ‘Total Cost of Ownership’ and the ‘Total Cost of the Supply Chain’ in figuring out the total saving in any outsourcing process (Ellram 1993; Dawei 2011, p.34).
- Increase focus: by outsourcing the non-core activities, companies can have more focus on the core ones and hence achieve business excellence (Venkatesan 1992; Dawei 2011, p.34; Kakabadse and Kakabadse (2005) in Vagadia 2012, p.81) and eventually can increase their effectiveness (Yang & Huang 2000).
- Improve flexibility: companies can increase their flexibility in responding to changes in the business environment (Dawei 2011, p.34; Vagadia 2012, p.45). Flexibility is defined as “the increase and decrease scale of production [or a service] rapidly” (Vagadia 2012, p.90).
- Improve responsiveness: outscoring helps companies to be better responsive to changes in customers’ demand (Dawei 2011, p.34; Vagadia 2012, p.54). Responsiveness is defined as “the ability and willingness to understand and react to new circumstances and to harness skills and resources to meet those needs” (Vagadia 2012, p.90). Usually, outsourcing will transfer the risk associated with the uncertainties of the demand to the third party (Rolstadas et al. 2012, p.97).
- Financial benefits: outscoring helps to improve the company’s financial ratios such as ROI (Return on Investment) and ROE (Return on Equity) due to spending less money on fixed assets (Dawei 2011, p.34; Arias-Aranda et al. 2011).
- Social benefits: outscoring creates more jobs in the recipients’ countries and companies which will not only provide them with the financial rewards, but also will increase their skills and competencies (Vagadia 2012, p.23).
- Extend the current resource base: outsourcing helps the companies to get access to new skills and technology (Barney 1995; Kakabadse and Kakabadse (2005) in Vagadia 2012, p.81; Helfat et al. 2007, p.100; Teece 2014). As a result, companies can achieve more innovation (Rolstadas et al. 2012, p.97).
- Reduce the new product development time because of the better access to new resources, As a result, time to market will be improved (Arias-Aranda et al. 2011; Nunes 2016).
Risks Associated with Strategic Outsourcing
Despite of the above benefits of the outsourcing, the journey incorporates different risks such as:
- Hidden costs: company may not be able to recognize the hidden costs associated with managing the outsourcing relationship or the related transactions (Venkatesan 1992; Fawcett et al. 2007, p.285; Nunes 2016) such as communication costs and dynamic costs when the outsourced company changes its prices (Rolstadas et al. 2012, p.98). Dawei (2011, p.28) addressed the concept ‘Total Cost of the Supply Chain’ to emphasize the importance of calculating all the costs incurred in the supply chain as a result of that outscoring process.
- Losing of control and competitiveness: the company may lose control over certain activities, knowledge or skills when outsourcing the wrong business aspect (Venkatesan 1992; Fawcett et al. 2007, p.285). As a result, the company may lose its competitive advantage (Dawei 2011, p.39; Rolstadas et al. 2012, p.98).
- Risk of creating competitors especially when the end customers can recognize the added value by the outsourced parties (Fawcett et al. 2007, p.285; Dawei 2011, p.39).
- Risk of supplier’s dependability: the outsourced companies may develop a unique competency that is very hard to replace. As a result, the risk of depending on a sole supplier will increase (Fawcett et al. 2007, p.285) or even suffer from business disruption if that supplier failed to fulfill his contractual requirements (Dawei 2011, p.39).
- The ethical risk in terms of losing employees’ loyalty as a result of laying off some employees because their jobs are being outsourced (Vagadia 2012, p.24) combined with a negative impact on the company’s personnel who stayed in their jobs (Dawei 2011, p.39).
- Risk of losing an IPR (Intellectual Property Right) when outsourcing a unique activity (Dawei 2011, p.39; Rolstadas et al. 2012, p.98).
- Financial risks associated with currency exchange when the outsourced company is in another country (Dawei 2011, p.39).
- Risk of reducing innovation level: the company may lose the benefits of employees’ real interactions and information knowledge sharing that is needed to bring innovation and solving highly complex problems, especially when the employees do not belong to the same company or sitting in the same place (Vagadia 2012, p.22).
- Risk of setting long term contracts with companies who may fail to respond to the changes in the business environment such as technological changes (Vagadia 2012, p.103).
- Losing agility and flexibility due to increasing the number of intermediaries, the cost and the distance within the supply chain (Nunes 2016).
As a conclusion, the strategic outsourcing knowledge area still needs further studies to provide quantification for the expected benefits and risks, with detailed steps on how to exploit the benefits and reduce the risks. Some scholars such as Fawcett et al. (2007) tried to introduce potential mitigation plans for these risks, however, these plans should be further studied. In addition, a formal risk management process is needed through the whole outscoring process to make sure that those risks are carefully addressed and managed.
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