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FAQs (Frequently Asked Questions) On Outsourcing in Supply Chain

FAQs (Frequently Asked Questions)On Outsourcing in Supply Chain

Following are some of the frequently asked questions (FAQs) on Outsourcing In Supply Chain that we have encountered in our speeches, workshops, seminars, and other forums.  Feel free to ask more questions if your particular question is not answered below.

Why we are qualified to write this list of FAQs on Outsourcing In Supply Chain?

VERY FEW PEOPLE KNOW SUPPLY CHAINS LIKE WE DO - retail, beverages, food, milk, dairy, meat, livestock, explosives, chemicals, cotton, rice, graphite, solar power, natural gas, crude oil, fertilizers, electronics, packaging, glass manufacturing, machine parts, automobiles, industrial goods, mining, etc are just some of the industries where boards and executives have benefited from our proprietary knowledge of the supply chains. 

Click on our project methodology above to see how Outsourcing In Supply Chain is an integral step in each and every project that we have undertaken in the last three decades.

Since when no one had heard of supply chain, our co-founder Vivek Sood has been considered one of the most authoritative professionals in the field when it comes to the subject of supply chain analytics in Australia, Asia, North America, South America and Europe.

 He has written four seminal books about restructuring supply chains to gain massive advantage in business. He also regularly delivers keynote speeches at business schools and conferences such as University of Technology Sydney, Supply Chain Asia, Asian Bankers Forum, APEC Business Advisory Council.

His book OUTSOURCING 3.0 is used as a reference and knowledge source in over 5,000 organisations in the world today. 

He has been quoted in the authoritative business press and over 100 academic papers written by supply chain researchers around the world. Vivek and his team have examined thousands of supply chains during their projects over the last three decades and helped hundreds of executives build safe, cost effective and sustainable supply chains and careers. 

FAQs (Frequently Asked Questions)On Outsourcing In Supply Chain

What is Outsourcing and What is Its History?

Outsourcing can be defined as "the strategic utilisation of outside resources to perform activities that could be handled by internal staff and resources". Outsourcing is an activity strategy by virtue of which a business hires  specialised and efficient service providers to carry out tasks and functions that it would carried out itself in the absence of outsourcing. 

Organisations have always hired contractors for particular types of work, or to level-off peaks and troughs in their workload. They have formed long-term relationships with firms whose capabilities complement or supplement their own.

The distinction between merely augmenting staff by "subcontracting" and actual Outsourcing is subtle - because outsourcing is much more strategic, involves substantial process en-engineering, and may entail transfer of staff from your company to your service provider.

Outsourcing has a long history

The advent of outsourcing is best described in his doctoral thesis at Southern Cross University by Paul Anthony Mcmahon [5]:

Outsourcing, or as it was then labeled „contracting out, has been in use on an industrial or commercial scale since the advent of the industrial revolution in England during the 1700s (Brown & Wilson 2005; Kakabadse & Kakabadse 2003), with firms facing the "make or buy conundrum that resulted from the greater production efficiencies that characterized eighteenth century England (Domberger & Hall 1995). In support of this contention, Greaver (1999, p.10) wrote that "outsourcing is similar to subcontracting, joint venturing, and strategic partnering concepts, which date back hundreds of years, citing the following examples: farmers hiring migrant workers; construction companies subcontracting electrical and plumbing activities; and governments subcontracting defence materiél production to private companies.

The first systematic use of outsourcing can be traced back to the 1940's, during World War II, when organizations provided systems facilities management services to the U.S. government (Greaver 1999). However, it was the growing dissatisfaction with the underperforming post World War II ideal of economy-of-scale driven conglomeration (Hunter & Cooksey 2004) and the introduction of timesharing mainframe computer services in the 1950's and 1960's (Factor 2002) that set the scene for the wider adoption of outsourcing methodologies.

Today you don’t have to go very far before you find an example of a successful (or unsuccessful, yet enduring) outsourcing arrangement around you.

Why do companies outsource, and what is the difference between strategic outsourcing, and tactical outsourcing?

There are six primary reasons for outsourcing - some of these are powerful and strategic, while other are tactical and opportunistic. Though there is nothing wrong with tactical outsourcing - be aware that the opportunistic nature these advantages make them temporary and transitory. 

Look at the following infographic - derived from one of our reports to discern the key reasons for outsourcing and the key differences between strategic and tactical outsourcing.  Click on the infographic below to see a full screen version of the same. 

The seven key reasons for outsourcing as shown in the above infographic are:

Cost arbitrage

In the outsourcing context, the practice of outsourcing to low-wage nations is considered as an example of cost arbitrage, particularly labour costs. For instance, India has emerged to be a venue for labour cost arbitrage following China’s decreasing appeal as an outsourcing destination due to increasing incomes.

However, without proper planning and preparation, this value driver can be lost during the outsourcing implementation, as what happened to Dell in their call centre outsourcing to India back in 2001. This example is discussed in chapter 4 of our book Outsourcing 3.0

Here, I would like to point out the importance of preparation to take full advantage of cost arbitrage. Apparently, Dell did not extend its plan to a long-term perspective, which resulted in overcapacity and declining customer service quality.

Utilisation of vendors’ spare capacity and marginal pricing

A factory was producing profitable output for its owners and yet had idle production capacity. Due to this underutilisation, they approached us to find suitable buyers for their spare capacity.

As it turned out, one of our clients could indeed use this capacity to reduce the stress on their own manufacturing system. An advantageous deal was struck where both companies benefited – one by using their spare capacity to earn extra revenue, and the other by not having to invest money on capacity expansion or running their plants so hard that maintenance would suffer.

Depending on the circumstances, prices for such deals can be very attractive because of the possibility of marginal cost pricing. After all each extra dollar is pure profit to the seller in these instances, given that fixed costs have already been paid by the core output of the plant. 

Technology access

It is evident that if you do not have access to a certain technology that is crucial for your service offering, then you will need to persuade another entity with such access to carry out tasks for you.

A number of outsourcing projects we have worked on were mainly aimed at getting access to specialised high tech capability of the vendors.

Joint process improvement potential

Many companies know their internal processes are sub-optimal – say in logistics, or supply chain management.

They initiate an outsourcing project in the belief that due to superior process knowledge of vendors, outsourcing will result in a process re-engineering. 

However, there are countless cases where such outsourcing has failed to deliver the results because the vendors were least interested in process improvement even if they were capable of doing so. Somewhat obviously, any dollars that would be saved as a result of such process improvement will come straight off their revenue base.


Does this mean that joint process improvement will not work in every case? We believe this will only work when the customer brings an equal process knowledge and diligence to the table.

The customer will have to drive the joint process improvement initiative to gain real value from the vendor’s superior process knowledge. They will have to instill this drive in the KPIs that form the basis of on-going relationship management protocol.

Vendors’ specialised capability

Besides technology and process expertise, vendors can possess other specialised knowledge or capability – either in supply chain management, or manufacturing, logistics or any other part of the overall value network that is required for your business.

Market access

In some cases vendor has access to the markets that will be valuable to the customers. In a similar vein, other channel or business relationships can be utilised as well.

Capex avoidance

Instead of carving out a sizeable chunk for capital expenditure, companies can turn it into operational expenditure by leveraging outsourcing. For those concerned with accounting figures, outsourcing can help you get the numbers that would please the eyes of shareholders.

What are various services that can be outsourced?

Quick question - which service is the most outsourced service on earth today? Cast your mind wide and far within your company – how many services do you think of that can be outsourced? Which one is the most outsourced out of these?

Think about all the various departments in your company – the Information Technology department, Human Resources, Marketing, Sales, Production and Manufacturing, Logistics, Purchasing, Finance, Administration, Legal – and try and imagine all the various possibilities for outsourcing that exist in each of these departments.

Fundamentally, each of the department carries out its tasks at four different levels – the highest level being strategic, the next lower level being tactical, the next lower level being operational and the finally the lowest level is the executional level. At the lowest level the execution of the task is carried out, while at the highest level the plans are long term all-encompassing plans.

Let’s take the example of a typical finance department. If you make a list of all the activities carried out in the finance department they will roughly fall in the pattern of a pyramid shown in Figure 1.1.

Figure 1.1: Activities carried out in a typical Finance Department

Supply Chain Process Mastery

The exact details and the nature of the tasks at each level will differ based on the type of company we are talking about and the industry it is part of. However, the pyramid of tasks will look somewhat similar in most companies. In fact we have drawn similar pyramid of activities for most other departments as well – Information Technology, Operations, Sales and Marketing, Human Resources and Administration.

In case you are interested, you can do the same thing for your company too. In our workshops where cross functional teams from the same company can come together for strategy formulation – we frequently like to encourage executives to jointly draw up a similar activity pyramid for each department.

The results are quite enlightening for most participants – even for those executives who have been directing these departments for many years. The full complexity of a modern day corporation are clearly on display in an easy to understand format. In additional, it lays bare all the various activities that can either be insourced, or outsourced or insourced-outsourced.

From the perspective of this book that is the key consideration, after all. How to configure a right combination of internal and external teams in order to support your 5-STAR Business Network for maximum profitability and business sustainability?

In fact, you can combine a number of these activity pyramids for the various departments of a company to form an activity map of the entire organization. One such activity map is shown in Figure 1.2.

Figure 1.2: Activities map of a typical organization

GLOBAL SUPPLY CHAIN GROUP

As you can see in the figure 1.2, the central core of the organization, called business strategy and shown in dark red shading, is the key policy setting arena where executives make key decisions. As you walk away from the core, the possibilities of outsourcing multiply. We will not comment on the gaps between the different pyramids, or the key supply chain and consulting mechanisms to fill the gaps because that is not the main topic of discussion in this book.

The key take-away from the figure 1.2 is that except for the central core (and in some cases, at least temporarily even for the central core) more other activities carried on within an organization are being outsourced in some part of the world or other. Let us take a look at the different activities we are talking about. Figure 1.3 shows such a list.

Figure 1.3: Organizational Activities and Outsourcing

Of course, the list in figure 1.3 is not an exhaustive list of all the activities within an organization that can possibly be outsourced. Also, not all activities are outsourced to the same extent. To answer the question asked at the beginning of this answer – Janitorial services are the most outsourced services today.

If you like, you can make a list of all the activities that you outsource in your company, and either email me any omissions from the list above, or consider additional activities to outsource within your company.

are there any practical set of guidelines that can help me decide when to outsource and when not to?

This is a very tricky question and the answer depends on the circumstances of the case.

If you are in a situation like this the key questions to ask yourself are:

  1. Can we configure, create and manage an outsourcing relationship that gets us the desired results better than if we manage the operation ourselves?
  2. What gives the real advantage of outsourcing:
    1. Speed of ramp-up and execution?
    2. Capability of the outsourced service provider that are difficult to replicate internally?
    3. Economies of scale available to the outsourced service provider that is difficult to outsource internally? Why?
    4. Economies of scope? What is the source of such economies?
    5. Cost arbitrage opportunity because of lower cost base of the service provider?
    6. Patent, copyright or other proprietary knowledge base?
  3. How can we replicate this advantage without outsourcing?
  4. What is our bias – in favour or against?

Obviously there are no clear cut right or wrong answer in these cases. Outsourcing can be made to work in a great majority of such cases. However, equally it can fail because of a pre-disposition against outsourcing.

There is no point blaming the service providers, or the practice of outsourcing itself, if the pre-disposition is against outsourcing, and it is not managed properly in the process.

What role does Your "core Competence" play in Your decision to outsource?

Ask any executive, when to outsource, and when not to outsource – you will get a pat quick answer taught by business school professors. If it is a core competence, do not outsource. If it is not a core competence then consider outsourcing.

The two extreme cases described below in the next two questions are relatively easier to deal with. A great majority of the cases are however, in the grey area where the answers are not as clear-cut. The dilemma the companies face in those cases is how to figure out whether to outsource or not.

Just saying “it depends on your core competence” does not help because no competence comes with a label CORE, or NON-CORE attached to it. Additionally, what is core today, may well become non-core in future and vice-versa.

are there situations when you must NOT outsource? 

We were faced with a situation like this in one of our projects. One of the directors was dogmatically against outsourcing of any kind. In his executive career, prior to becoming a non-executive director, he had faced several outsourcing situations where the outsourcing service providers did not deliver the promise.

In addition, he had seen an erosion of capability within his own company to an extent where it lead to dependence on the outsourced service provider, even for minor tasks related to the service.

At times, he felt that the service providers charged inordinately high prices for these minor services, especially if they were not covered by the initial contract. All these memories had created a bias which is not uncommon.

Looking at the problem in a fact based logical manner, we asked three key questions:

  1. What exactly does the organization lose by outsourcing this particular service in this manner?
    • What specific capabilities will be lost, and in what time-frame?
    • What specific relationships will be lost, and to what extent?
    • What infrastructure – property, plant and equipment – will be lost or disposed off?
    • What specific knowledge base, technology or know-how will be lost – to what extent, and in what time-frame?
  2. How long will it take to recoup these losses if the company had to do so, and at what additional costs?
  3. How long can the company survive after the losses analyzed in Question 1?

It does not take very long to answer these key questions; all it takes is a systematic, objective approach.

Obviously, the answers will be highly specific to the situation. However a systematic approach similar to the one described above will help a lot in breaking the impasse in the board room as it did in our case.

In fact a lot of companies miss out on opportunities to outsource because of the fear of unknown, lack of knowledge, lack of trust or overconfidence in your own ability to do things themselves.

Are there other situations where a company MUST outsource? 

Admittedly, most situations fall in the grey area somewhere in between. However, we have also faced projects where the company must outsource. Let us look at a situation like that.

Our client – a pioneer in the sustainable energy field – was looking to rapidly build production capability in a region where demand was projected to be especially strong. To capture the first mover advantage the company was marketing aggressively with the expectation that the production capacity could be rapidly ramped up, when needed. When we looked at the end-to-end supply chain plan, matching projected supply to demand, it was very clear that the only way to meet projected demand was by outsourcing some of the activity.

The key questions to ask in similar cases are only slightly different (yet this difference is critical): 

  1. What exactly does the organization gain by outsourcing this particular service in this manner?
    • What specific capabilities will be gained, and in what time-frame?
    • What specific relationships will be built, and to what extent?
    • What infrastructure – property, plant and equipment – will be put at our disposal as a result?
    • What specific knowledge base, technology or know-how will be gained – to what extent, and in what time-frame?
  2. How long will it take to make these gains on our own if the company had to do so, and at what additional costs?
  3. Are there potential gains from outsourcing analyzed in Question 1, that the company cannot do without?

How can a company navigate the grey area where it is neither clear that it must outsource, not crystal clear that it must not outsource?

The two cases described above are relatively easier to deal with since they fall into two opposite extremes of to do and not to do.

A great majority of cases are however, in the grey area where the answers are not as clear-cut. Just saying “it depends on your core competence” does not help because no competence comes with a label CORE, or NON-CORE attached to it. Additionally, what is core today, may well become non-core in future and vice-versa.

I have frequently been asked “Are there any practical set of guidelines that can help me decide when to outsource and when not to?”

The answer is always the same – it depends on the circumstances of the case. However, the key questions to ask are:

  • Can we configure, create and manage an outsourcing relationship that gets us the desired results better than if we manage the operation ourselves?
  • What gives the real advantage of outsourcing:
    • Speed of ramp-up and execution?
    • Capability of the outsourced service provider that are difficult to replicate internally?
    • Economies of scale available to the outsourced service provider that is difficult to outsource internally? Why?
    • Economies of scope? What is the source of such economies?
    • Cost arbitrage opportunity because of lower cost base of the service provider?
    • Patent, copyright or other proprietary knowledge base?
  • How can we replicate this advantage without outsourcing?
  • What is our bias – in favour or against?

Based on the above discussion, a relatively simple framework can be developed as shown below:

Figure 1: When to Outsource, and When Not to Outsource


The two critical criteria on which the decision hinges are whether the purported loss of capabilities, relationships or infrastructure are business critical, and whether these are irrecoverable.

Business critical capabilities are those capabilities absence of which can easily kill a business in medium term. Likewise we can define the business critical relationships and infrastructure.

In region A, where any of these – capabilities, relationships or infrastructure – are business critical, you will have to manage the outsourcing relationship very carefully to make sure that that a slight misstep from your service provider does not cause massive repercussions in your business. Logistics outsourcing, IT outsourcing and many other outsourcing arrangements fall under this category. A good example of a business critical capability leading to massive business losses is the case of oil rig Deepwater Horizon where business critical functions were outsourced to third parties, yet British Petroleum faced heavy penalties.

On the other hand, irrecoverability refers to the cost of developing these capabilities, relationships or infrastructure from scratch, once they are lost. In region C, where these costs are prohibitive, in general you would not like to lose these capabilities, relationships or infrastructure, and hence create an arrangement where you retain some stake in these.

Of course if the situation is such that the loss is both business critical and irrecoverable, you will find it easier to retain ownership of such capabilities, relationships and infrastructure. Hence it will not be advisable to outsource in such circumstances – as shown in region B.

Finally, there will be situations where the loss of capabilities, relationships or infrastructure is neither business critical, nor irrecoverable as shown in region D. Then, it is easy to make a decision to outsource and reap benefits from what outsourcing provides.

While there are often no clear cut answers, the above matrix serves to provide useful decision making guidelines. Outsourcing can be made to work in a great majority of cases. However, equally it can fail because of a predisposition against outsourcing. There is no point blaming the service providers, or the practice of outsourcing itself. If the predisposition is against outsourcing, it may well be due to poor management of the process in the past.

Is there a way to distinguish between good outsourcing and bad outsourcing? What are the tell-tale signs?

It is very difficult to tell the difference in the heat of the moment when an outsourcing arrangement starts going downhill. It is also equally easy to blame some marginally involved third parties or your service providers after the fact. 

However, the fact remains that more than two-thirds of outsourcing arrangements are judged as 'unsuccessful' after the fact. And only two parties are responsible for each debacle - one on each side of the table. 

With over 40 years of accumulated knowledge base we have discerned some tell-tale signs as a rule of thumb. 

The “ugly” outsourcing category is missing from the trio “good, bad and ugly”. Obviously, I hope you will not walk down that path. This list can become too long if we list the ugliest, silliest or craziest reasons for outsourcing failure.

At the same time, it is not a categorical list in the sense that these criteria will hold good in every case. You will see exceptions to many of these tell-tale signs and need to exercise your own judgment.

What is the best source for more information on best way to win the outsourcing game?

There is a lot of useful information in the website and book OUTSOURCING 3.0 - as well as the rest of this website and blog. Feel free to explore and use the search function in the top of this page. 




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Notes on FAQs

Clearly, any such list of frequently asked questions (FAQs) about supply chain can never be fully exhaustive. Neither is anyone, including us, the final authority and arbitrator on this or any other topic. 

You will have your own opinions on many of these topics, and will have many other questions. 

We throw open the comments section to you for your opinions and questions. We will try to address all of these, and the best ones will attract a reward in the form of one of our books, or publications. 

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