Buyers mull turning outsourcing into a strategy

By Jim Morgan -- Purchasing, 10/19/2000

Outsourcing is neither new nor unfamiliar to most purchasing professionals. The act of taking an operation or service traditionally performed in-house and jobbing it out to a contract manufacturer or third-party service provider has been in use for decades.

Its popularity has traditionally ebbed and flowed depending on capital requirements, business conditions and in-house policy considerations.

What has changed in recent years is that outsourcing has jumped the fence between being a tactic and a strategy. In the past companies traditionally thought of outsourcing as a short-term solution to problems such as sharp or unexpected rises in demand, breakdowns in plant and equipment, test runs of unproven and/or new products. Today's companies, on the other hand, are looking at outsourcing agreements as long-term business commitments.

No paradigm shift

But as two recent studies of outsourcing by PurchasingMagazine indicate, outsourcing as a strategy is undergoing a checkered level of acceptance and implementation by business. Dramatic as some of the statistics may look at first blush (81% of all those companies surveyed do some outsourcing), there really doesn't seem to be a great urgency on the part of most companies to adopt outsourcing strategies for direct goods and services. Nor is there that much pressure to outsource inventories to distributors and other vendors. For the most part, what purchasing professionals around the nation are suggesting is that they are looking very closely at outsourcing as a long-range strategy involved in moving more manufacturing, service and inventory functions into the hands of suppliers as part of a long-term strategy. Relatively few, however, seem to be actively jumping to develop or implement long-term outsourcing strategies.

Looking through the recently collected numbers, outsourcing as a supply/purchasing/sourcing strategy is being practiced by several scores of large multinational companies and fewer than 100 small and midsize companies, mainly concentrated in what are collectively termed high-tech companies. And even though insourcing/outsourcing strategies have the interest of top management (PUR: Aug. 14,'00; p. 85), most procurement/supply operations are still testing the water rather than swimming. Looking across all companies, 74% of the firms doing any outsourcing at all are involving it in less than 5% of their dollar outlays.

A prudent position

Relatively few of the purchasing executives taking part in Purchasing's studies tend to deal with outsourcing questions within the context of fully developed strategic plans. Rather, they admit that they are increasing the use of outsourcing because their companies aren't the best, don't have enough in-house technical expertise, are short of capital equipment, or are simply overwhelmed with orders.

In other words, a large number of purchasing executives are expressing their feelings about outsourcing in terms of conserving corporate resources for use where they are most effective. "We talk a lot about conserving our core resources," notes the senior purchasing manager for a large components manufacturer in Kentucky. "What that really amounts to is we don't have the resources to be the best at everything we do, so we currently are looking for suppliers who are the best in areas where we are weak. It's really common sense. If we can find a supplier who can do some part of our operation better, faster, cheaper, we use him and conserve our limited resources."

This mixture of strategic outsourcing and practical application of outsourcing tactics shows up over and over in the reasoning of purchasing executives. Following this thought trend, Rick Sharma, corporate purchasing manager at Eagle Picher Automotive in Hillsdale, Mich., looks on outsourcing as an opportunity to "focus on our core competencies and acquire new business without worrying about capacity constraints. With outsourcing, there's no need for long-term capital equipment commitment or the purchase of tooling."

Ed Gerdow, corporate procurement director of the American Licorice Co., in Alsip, Ill., sees outsourcing as being most useful where the company wants to introduce new items to the marketplace with "limited capital expenditure and reserves." Rick Biestel, purchasing manager at Able Cable in Barrington, Ill., looks on outsourcing as a way to more effectively deploy both the workforce and capital investment.

But for many of those who appear to be setting up outsourcing strategies, the thinking is still relatively short term. "I really think of this as enterprise," says the purchasing director of a sporting-goods maker.

Meanwhile, as purchasing executives debate outsourcing's future, the tactic/strategy is finding great popularity among custom manufacturers, especially in electronics, specialty chemicals and high-tech instrumentation. Typical of this outsourcing fan club is the president of a custom electronics manufacturing company in Mundelein, Ill. She sells her company's services this way: "Companies that outsource work to us are able to free up manufacturing space, use staff of a higher technical status, and use their experts to do what they do best."

She also reinforces her message of manufacturing excellence by noting that the company also "modifies, reworks and reinspects product that has been rejected under Six Sigma guidelines."

What gets outsourced

In the reasoning of most of those taking part in Purchasing's outsourcing studies, outsourcing tends to be thought of in terms of manufacturing. Companies that formerly made products, components or parts are now having some of them made by outside contract suppliers. Among the types of goods and services most often cited are design and manufacture of surface-mounted circuit boards and cable/harness assemblies; contract assembly; metal stamping and fabrication; design and manufacture of power transmission components and assemblies; injection molding and plastic parts fabrication; machining, tool and die making, stamping and plating; specialty chemical formulation.

And just as many firms are looking for ways to improve their operations by outsourcing the manufacture of components or systems, many firms also are experimenting with ways to outsource indirect goods and services. Major areas of indirect goods and services outsourcing fall into these categories: general services (including cleaning, hvac maintenance, machine maintenance, printing and personnel services); shipping and logistics services; safety products and services and stocking of general maintenance items (machine parts, bearings, electrical supplies, cutting tools, hand tools and coatings).

Move toward strategy

How has outsourcing affected purchasing professionals and their companies up to here? Perhaps the biggest change is that outsourcing has become more of a planned process rather than a chance happening. Purchasing professionals are beginning to play more active roles in making outsourcing decisions and are playing a leading part in the outsourcing decisions of their companies.

As part of this larger role in outsourcing, buying/sourcing professionals are starting to think more like strategic managers and less like functional managers. Typically, David Landry, manager of materials and sourcing at Markem in Keene, N.H., and Dennis Mitzner, purchasing agent at La-Co Industries Inc., Elk Grove Village, Ill., both equate outsourcing with increased competitiveness. Meanwhile, Rick Austin, purchasing manager for Vehicle Systems Inc., Ft. Lupton, Colo., notes that greater use of outsourcing has allowed the company "to focus more on what we do best in-house." At Electromate in Fremont, Ind., Purchasing Manager Marilyn Reinert notes that "increasingly we do only what we do best."

Gerald Sales, purchasing manager for Flavorite Laboratories in Memphis, makes roughly the same claim for outsourcing-though he does note a trade-off: Outsourcing often does not give a company doing it much room to improve its capabilities.

In commenting on the effectiveness of outsourcing in their companies, many buyers find that their experiences don't necessarily match expectations. Purchasing professionals who have had a chance to examine results of outsourcing tend to sort out its advantages into four broad categories: inventories, materials and service costs, quality and competitiveness.

Inventories

According to survey respondents, in roughly two out of three cases outsourcing results in lowered inventories. Best results seem to be realized at firms that have strong just-in-time or MRP manufacturing systems. But inventory reduction is not a given. Nearly 20% of the respondents who outsource say that it has resulted in higher inventories. Flavorite's Gerald Sales reports that outsourcing has yielded lower inventories on raw materials and components, but seems to be increasing inventories on finished goods inventories.

Companies at a distance of 500 or more miles from key outsourcing partners appear to be the most vulnerable to inventory problems. A growing number, however, are solving such inventory problems with use of variations on consignment purchasing techniques.

Many of those with the most success in reducing inventories have done so by outsourcing big chunks of their shipping, logistics and warehousing operations. In a few companies the entire distribution function appears to have been outsourced.

Materials and services costs

For more than 40% of those surveyed outsourcing has resulted in cost savings on goods and services. In many cases the cost reductions were the result of taking costs out of operations. Many participants in the study report major materials cost improvements in the areas of transaction processing, receiving and inspecting. In many cases, however, the lower costs are the direct result of lower production costs of suppliers. Often these lower costs are the direct result of lower wage rates and overhead costs of the contract supplier. In many cases, though, there is documented evidence that savings are mostly due to superior manufacturing performance on the part of the supplier.

For around 25% of the firms that are actively outsourcing, it has produced no change in either material or service costs. And in 21% of the companies taking part in the survey, material and service costs have actually risen. For Jim Brannock, purchasing agent at Oasis Car Wash Systems, Galena, Kan., outsourcing has resulted in increased service costs. Meanwhile, material costs were not really affected because "we supply raw materials for outsourced parts."

Quality

For Roger Schulz, director of purchases at Fulton Corp., Fulton Ill., outsourcing has been accompanied by significant improvements in quality. He was among the many purchasing managers who saw an improvement in quality as the result of outsourcing. Most of those reporting higher quality as the result of shifting work to outside providers chalk up the reason for quality improvement to higher technical capabilities of the supplier.

A few study participants say they see no change at all in quality and even charge that quality has actually been made more difficult to control as a result of outsourcing goods and services.

In balance, 52% of all those doing outsourcing report that it has improved their competitiveness. The purchasing manager for a housewares producer in New Jersey probably expresses their feelings best: "We're still only dipping our feet into [outsourcing]. The figures we have for judging success are sketchy-at best. But from what is visible, I'd say we'll be doing a whole lot more over the next few years."

On the bland to negative side, 16% of the respondents see no change in competitiveness, 11% see a decrease, and 19% say they have not tried to measure competitiveness.