"Make or Buy?"

June 18, 2007

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Product manufacturers across sectors have been facing a classic decision point for generations: "MAKE or BUY?" This decision is almost always based on the cost-benefit considerations of whether making it in-house would be a faster & cheaper way of manufacturing with better quality than what is available for direct purchase in the market. The decision also hinges on whether the item under consideration is core and critical to the business and a part of the company’s key competitive differentiator. This would mean that getting it made from the outside could dilute the company’s competitive advantage.

Answering this question right is crucial to the very core competitiveness of the company.

The question, though largely initiated in the product manufacturing space, is equally relevant to most in-house business processes and services provided by organizations to external customers. It is all about cost, quality, customer satisfaction, competitive differentiation and strategic gains for the company. In ITO & BPO parlance this leads to terms such as local sourcing, near-shoring, offshore sourcing, in-sourcing, captive facilities, outsourcing, offshore outsourcing, global sourcing and so on.

Listed below are the pros & cons of captive versus outsourcing of IT & BPO services in any organization:

Captive Sourcing

Benefits:

Total control over the cost and quality of services and all elements of the process.

All information handled in-house with direct responsibility and control over security and privacy of information.

Talent and process knowledge remains within the company.

Challenges:

Dependence on skills and expertise of in-house resources that may not be aware of global best practices in running the process or implementing the technology.

Increasing “fixed cost” spending on non-core resources.

Hidden costs may creep into cost centers unless internal processes are properly mapped against global best practices.

Retention of talent in a non-core function is a challenge and at times expensive.

Requirement of dedicated and hence often sub-optimal investments in technology and concepts since in-house consumption scale doesn’t offer economies of scale.

Cost of technology obsolescence has to be borne by the organization.

Need to invest in over-capacities to plan for rapid scale-up scenarios.

Outsourcing

Benefits:

Better visibility of all cost elements that may otherwise be hidden in a captive set-up (may even result in substantial cost savings through cost arbitrage, economies of scale by leveraging resources across multiple clients and improved process).

Outsourcing to experts enables easier access to global best practices resulting in better quality of processes, possibly with accompanying cost savings.

Conversion of fixed cost/capital expenditure to variable cost/operational expenditure for the process being outsourced.

Ability to add new service lines enabled by new technologies without having to make large up-front investments in technology.

Ability to address new market segments.

Reduced demands on management time from the process and hence ability to focus on the core business.

Challenges:

Possibility of overt or covert resistance from staff who are likely to be affected by the outsourcing decision.

Risk involved in sharing confidential information with external service provider.

Possible loss of control over quality and cost of the process being outsourced if the relationship is not managed well.

Managing the complex interchange of information on need-to-know basis versus free-flowing information within the captive department as a part of the organization.

Integration of technology and business culture between the client and service provider.

Setting, communicating and managing realistic expectations between the client and the service provider.

Intellectual property and knowledge gained in the process of optimizing and running the process remains with the service provider.

Some talented resources are also lost in the process of transitioning the process to the external service provider.

For the outsourcing company, it is important to ascertain that the service provider has staff with process expertise relevant to the unique domain requirements.