By Tucker J. Marion

Today, companies producing physical assembled products such as Black & Decker (B&D) have outsourced production of nearly their entire product line-up to offshore facilities [1].  It has been argued that outsourcing, or the use of outside suppliers to provide services or products, frequently offers a cost competitive alternative to performing the required activities in-house [2].  Predominantly, the overwhelming driver for offshoring and outsourcing were improved cost structures driven by much lower labor rates [3]. For example, in manufacturing U.S. workers making $20 per hour could be replaced by Chinese workers making less than a doller per hour (note references). According to Wu, et al. [4], outsourcing can be viewed as a strategically important activity that enables an enterprise to achieve both short- and long-term benefits.  These strategic benefits include focusing on core company strengths such as innovation and design in order to maintain competitive advantages.  Assigning tasks to an outside firm or to another group within the company may prove effective in accelerating the overall project [5].  This allows companies like Apple to continue to focus on developing the next iPod while not being burdened with direct manufacturing management [6].

The alternate argument is that in actuality, offshoring and outsourcing can increase total costs. A recent study by the Ventoro Institute notes that 36% of executives noted that offshoring strategies have failed [7]. Irrespective of what side of the argument one falls, one fact remains, offshoring and outsourcing has been pervasive and is accelerating. This trend has now shifted towards the sourcing of higher value-added jobs such as software development, pharmaceutical and drug research, and product design. As with manual labor, the ‘low hanging fruit’ are costs. An average software developer in India earns approximately $6,000 annually versus $63,000 in the U.S [8]. Now, research and development (R&D) is increasingly being performed in these countries on high-value projects. Historically innovation and design ownership were a key component in justifying the movement of jobs overseas: “with lower costs we can innovate more.” Now that these functions are moving as well, what will be left for U.S. employees? Will standards of living be further reduced as once high paying jobs are replaced those that are lower rage? Low-skilled works earn 20-40% less in their replacement jobs [3] – it is reasonable to expect similar figures for skilled employees.

In the U.S., we pin our future on innovation and entrepreneurship. These are critical to enhancing quality of life and standard of living not only in the U.S., but worldwide. The cornerstone of innovation and entrepreneurship are the development and commercialization of novel technologies and services through new firm genesis and sustained growth. If trends continue and more R&D is performed offshore, these countries will be given access to innovations that could foster development of new firms locally, rather than the U.S. What does this mean for the start-up? Well, outsourcing and offshoring can be invaluable to the new firm with scant resources. It allows you to focus on core strengths, while accessing expert partners. But, offshoring and outsourcing is no free lunch. There are communication and cultural barriers, potential quality issues, and intellectual property risks. As an entrepreneur, one needs to be diligent in sourcing decisions and look at the total picture of costs and sustainability. A recent example of a sourcing decision is at Tesla Motors, the electric vehicle manufacturer. After looking at total costs, they have decided to assemble battery packs for their vehicles here in the U.S., versus having them shipped from China. Another case is a Flashpoint Development client, where a partnership has been formed with an Ohio injection molder and the state to develop U.S. sourced injection molds at a fraction of the cost using a new nano material. At FlashPoint, we use outsources and offshore resources daily to great effect for our clients. However, blindly going right to an offshore supplier source is often the easy way out, and may not take the whole equation into account.

References

[1] T.J. Marion, H. Thevenot, and T.W. Simpson, “A Cost-based Methodology for Evaluating Product Platform Commonality Sourcing Decisions with Two Examples,” International Journal of Production Research, vol. 45, no. 22, pp 5285-5308, 2007.

[2] S.D. Eppinger and A.R. Chitkara, “The New Practice of Global Product Development,” MIT Sloan Management Review, 47(4) pp. 22-30, 2006.

[3] R.H.K. Vietnor, J.W. Rivkin, and J. Seminerio, “The Offshoring of America,” Harvard Business School Case Study, 9-708-030, 2008.

[4] F. Wu, H.Z. Li, L.K. Chu, D. Sculli, “An Outsourcing Decision Model  for Sustaining Long-term Performance,” International Journal of Production Research, 43(12), pp. 2513-2535,  2005.

[5] K.T. Ulrich and S.D. Eppinger, Product Design and Development, 3rd Edition. Irwin McGraw-Hill, New York, 2004.

[6] S. Levy “The Perfect Thing,” Wired Magazine, November, pp. 136, 2006.

[7] P.J. Hatch, “Offshore 2005 Research: Preliminary Findings and Conclusions,” Ventoro Institure, October 11, 2004, pp. 16-17.

[8] T. Hoffman and P. Thibodeau, “Exporting IT Jobs,” Computerworld, April 28, 2003, p. 42.