Strategic Outsourcing and Business Model Definition

Andrea Tracogna

The next business model?

Different reasons for not “making”: the economics of outsourcing (1)

1. The search for flexibility. Manufacturers of “original equipment” (OEM) outsource production when demand is high and cancel it when orders are cancelled or demand falls. Thanks to the substitution effect between fixed and variable costs they obtain higher cost elasticity.

2. Lower costs, especially when the firm can benefit from suppliers’ economies of scale (a supplier can integrate demand from a large number of clients, as against the purchasing firm) and economies of specialisation (a supplier can specialise in single activities and reach world-class levels of excellence).

Different reasons for not “making”: the economics of outsourcing (2)

3. Less investments in fixed (machinery, equipment, production lines, transport systems) and working capital (input and output stocks), which are undertaken by suppliers. Less investments in R&D as firms can take advantage of the numerous innovations available on the outside supply market.

4. A greater focus on client needs and services and product development activities, i.e. on key activities for value creation;

The Nike model

Nike employs approximately 30,000 people worldwide.

Nike brand has some 1,000 contract factories in the Americas, EMEA, North Asia and South Asia, providing more than 800,000 jobs to local communities.

From its headquarters in Beaverton, Oregon, Nike manages a worldwide virtual company combining internal R&D functions with a low cost manufacturing strategy.

Its “Air Max” model is designed in sites in Oregon and Tennessee and developed jointly by American and Asian technicians in the USA, Taiwan and South Korea. Shoes are then assembled in South Korea (man’s size) and Indonesia (boys’ size) from dozens of components supplied by firms in Japan, South Korea, Taiwan, Indonesia and the United States.

Nike’s value chain?

INFRASTRUCTURAL ACTIVITIES

HRM

NPD AND TECHNOLOGY

PROCUREMENT

INBOUND LOGISTICS

OPERATIONS OUTBOUND LOGISTICS

MARKETING AND SALES

SERVICES

MA

RG

INS

MARG

INS

PRIMARY ACTIVITIES

SUPPORT ACTIVITIES

Nike as a supply chain orchestrators

• Focus on a portion of the value chain• Emphasize partnering• Invest in brands• Minimize tangible investments• Arbitrage international factor price

differencies

Managing the supply chainManaging the supply chain

ManufacturersSuppliers Distributors End users

Other Services Logistics ConsultantsDesign

Research Communities Market researchTechnology

Suppliers’ suppliers

Outsourcing trends in car manufacturing

The car industry is undergoing dramatic changes as manufacturing is today increasingly moving to supply markets, while OEMs or vehicle brand holders are focusing on design, engineering and marketing.

For instance, Porsche Boxter and the Porsche Cayman are completely assembled by Valmet, a Finnish engineering company.

Canadian company Magna assembles cars for all major carmakers and has bought from them various plants including the site in Styria (Austria) where Mercedes-Benz E-Class, Jeep Grand Cherokee, Chrysler Voyager, Saab 93 Convertible, BMW X3 are assembled.

What is Business Process Outsourcing (BPO)?

Manufacturing and accessory activities

• Logistics management of supplies

• Assembly• Packaging• Quality controls

Post-manufacturing activities

• Distribution logistics• Technical assistance

services• Management of spare

parts

Pre-manufacturing activities

• Design and engineering• Consulting in packaging• Concurrent engineering• Production tests• Prototyping

Contract electronics manufacturing

Foxconn is the world leader for joint-design, joint-development, manufacturing, assembly and after-sales services to global Computer, Communication and Consumer-electronics ("3C") leaders. 

IT-enabled outsourcing

Thanks to digitalisation and information technologies, outsourced activities can now be carried out remotely at locations that are very far from the company that outsourced them. These activities include:

•Data centre management,

•Web hosting and website management,

•Data entry services,

•Accounting services,

•Customer services, such as direct marketing, call centres and help desk services,

•Text and graphic editing services,

•Management of distance learning platforms

Key principles of strategic outsourcing

1. Carry out in-house only activities that are critical to the value chain and in which the firm has a competitive edge.

2. Outsource activities in which suppliers have a competitive edge in terms of volumes, efficiency and quality.

3. Use outsourcing as a means of generating the incentives necessary to improve internal performance.

4. Limit your vulnerability in the event of a break-up of relationships with suppliers or overall “market failure”.

ZARA: the exception to the rule?

The Zara paradox

• Localization of operations• Commitment to fixed assets• Downwards vertical integration• Premium image and stores without

advertising• (Fast) followership

Zara’s value chain?

INFRASTRUCTURAL ACTIVITIES

HRM

NPD AND TECHNOLOGY

PROCUREMENT

INBOUND LOGISTICS

OPERATIONS OUTBOUND LOGISTICS

MARKETING AND SALES

SERVICES

MA

RG

INS

MARG

INS

PRIMARY ACTIVITIES

SUPPORT ACTIVITIES