Outsourcing Versus In-house Production in Generators Industry

Abstract

Many manufacturing firms entrust partners to provide manufacturing services on their behalf. However, it is not clear whether and when firms can capture the potential value advantages of outsourcing business services. The purpose of this project is to investigate the suitable manufacturing approach for Generators that is not in the main core business of the firm.

The question regarding whether to produce in-house or to purchase from an external supplier is nowadays very common, it is highlighted as a central and strategic decision for manufacturing firms. Furthermore, the importance of creating a competitive and consistent make-or-buy strategy that is adapted to the context of the firm as well as to today’s dynamic business environment cannot be underestimated. Today the company where I’m employed lacks a standardized and holistic process to support this decision-making. Consequently, this study aims to, in line with the company's business strategy, develop a decision model to facilitate the company's make-or-buy decision.

Save your time!
We can take care of your essay

• Proper editing and formatting
• Free revision, title page, and bibliography
• Flexible prices and money-back guarantee

Place an order

To be able to fulfill the purpose, a thorough cost study examination for a selected generator will be conducted Furthermore, a survey questionnaire filled by production managers from different factories will be developed. As a result of this, an initial list of parameters potentially affecting the make-or-buy decision will be generated. Consequently, the decision model will be developed and presented.

Introduction

Over the past decades, especially in the second industrial revolution after world war 2, firms and companies started disintegrating their production, becoming more and more specialized along with the trend of globalization. Nowadays, outsourcing is increasing in more companies due to open borders between countries, open markets and high competitiveness, in addition to fast and easy communication. Due to these challenges, firms are looking on decreasing their costs while maintaining the quality level of their products or services.

In the literature review, we will describe from previous articles the pros and cons of outsourcing and in-house productions for different products and how they weigh the suitable model for each firm and product.

This will be analyzed in the methodology through quotations received from different suppliers and from surveys filled by factory managers in the same domain. The analysis will be made for full outsourcing, partial outsourcing and complete in-house production. A comparative analysis will be then conducted to compare the received quotations, followed by statistical analysis for the filled surveys. The latter will allow us to determine the suitable production model for the generators.

The problem statement, research questions, and research objectives

Nowadays, most of manufacturing companies are facing challenges in selling their products in markets due to the high competition and worldwide open markets.

Industrial companies tend to create innovative ideas in production to reduce their production costs while maintaining the quality of the product. Therefore, companies are looking to transform production methods and techniques by outsourcing it to sub-contractors or by producing it in-house. In the project study, we will look at the pros and cons of both models and find which one is more profitable for the companies to use depending on the industry sector.

The importance of changing the production model in the industry is lowering the costs of production to increase the selling and reach more consumers. In our case study, we will be discussing the electrical generator industry and studying the best model of production. We consider an outsourcing model in which the supplier makes the effort decision, and an in-house production model in which the manufacturer decides the effort level, then we compare these two models with each other. The following research questions need to be addressed:

• Which production model is better for the generator industry?
• Which model has a better-quality control and testing?
• Which model is the cheapest?

The objective of this study is to provide the best way for generator production taking into consideration the following factors; cost, quality, delivery time, and expertise.

A preliminary literature review shows that most of the past studies are primarily focused on the production model in general; only a few of them were tackling specific types. In our research, we will focus on the generator's production and assembly and what to outsource precisely.

The research will be based on quotations for raw materials, availability and delivery time from suppliers, taking into consideration the assembly charges and the internal costs for in-house production. Whereas for outsourcing, we will ask different manufacturers to quote finished products.

Literature review

Every way of production has its pros and cons, the success is in evaluating the best approach for each industry and its circumstances. Globalization imposed outsourcing as the main factor for production activities, it is a type of “make-buy” decision.

(Hamada, 2010) discusses product differentiation with cost uncertainty between Outsourcing and In-house production, he stresses on choosing to outsource if the degree of cost efficiency exceeds certain thresholds. In addition to production activities, outsourcing can include human resource management and research development. Moreover, technological efficiency is the main reason for choosing to outsource over in-house production. When the outsourcer possesses advanced technology, the manufacturer will share more profit with the outsourcer even if it cannot monopolize profit. The author says that outsourcing is a key aspect of modern industrial production. Therefore, he presented a model that allows each manufacturer to choose its organizational form of production when faced with cost uncertainty and competition with a rival manufacturer in a differentiated goods market. The calculations show that if the degree of cost uncertainty of outsourcing is identical to that of in-house production, then outsourcing is never chosen. In addition, partial outsourcing has been analyzed as well and can be used in organizations. The authors demonstrated that the product selection should be purely scientific and based on calculations for the management to decide on whether to outsource or not, it should distinguish between technological and competitive advantages. The decision to outsource is affected only by a technological factors such as cost efficiency.

(Teng & Hsu, 2017) supports Hamada by discussing the trade-off between in-house production and outsourcing in a two-echelon supply chain to optimize the total profit per unit time of the system. The authors start by describing the benefits of outsourcing and created a development model to choose the optimal solution. It was illustrated by numerical examples and sensitivity analysis. The figures and results show that outsourcing plays a critical role in improving a firm’s overall competitiveness due to limited resources. Therefore, the firm must distribute its resources on its core tasks and reduce its total operating cost to generate a greater value. The results obtained from sensitivity analysis will provide managerial insights to administrative personnel in decision-making.

(Lu, et al., 2011), discusses outsourcing in correlation with product quality and contract enforcement. The article emphasizes the importance of product quality and how to maintain it during the outsourcing process, supporting it with theoretical and empirical analysis. The study was based on surveys from 2400 firms across China, the survey consisted of two parts; the first part was a questionnaire directed to the senior management seeking information, whereas the second questionnaire was directed to the accountant and personnel managers. The choice to outsource was the trend of globalization and the increase in competition to reduce the costs; which led to quality issues. The results showed that outsourcing compromises product quality, but the negative impact of outsourcing on product quality is mitigated by the effectiveness of contract enforcement. (Jingxian Chen, 2015) emphasize as well on the importance of the quality investment strategy in outsourcing, they derive the rather simple analytical equilibrium results and analyze the effects of sharing the coefficient on the quality improvement and the member's profits as well as the whole supply chain profit.

(Haidar, et al., 2016); presents a comparative analysis of in-house and outsourced development in the Software Industry, the paper discusses the variety of positive and negative aspects of outsourcing from a political, economic, and organizational view. It also demonstrates when and where outsourcing is useful for an organization and where it is not. According to the authors, the main reasons to outsource are quality improvements, core focusing, increase speed to usage, fostering innovation, conserving capital, cost reduction, and saving of valuable time. The disadvantages of outsourcing are mainly cultural and lingual differences. Outsourcing plays a vital role in completing the task in time and transferring the risks. However, the authors acknowledge the risks associated with data privacy and goodwill, loss of potential employees, and loss of potential customers.

(Griffis, et al., 2013); discusses the best projects to undertake in the public sector, illustrating the overhead of direct and indirect expenses for in-house employees to reflect them within the costs of the outsourced services. A number of factors other than cost become key drivers for outsourcing design, the decision should be based on policy, staffing capacity, schedule constraints, lack of special expertise, need for innovation, better management of risks, improving quality, and on cost-effectiveness. A comparative methodology used in the study by the authors on real data collected from the NYS showed the total costs occurred for projects when done in-house or outsourced. It was noticed that the employees in the public sector usually get generous benefits packages compared to the private state due to a large amount of paid time off, and the inefficiency of public employees.

(Dogerlioglu, 2012); state that not only the quality and cost considerations drive the organizations to outsource their production. Organizations review their business model, size and industry characteristics, culture, and external environment for a successful outsourcing project. The author lists the following main factors that influence the success of outsourcing; flexibility, delivery, employees' career support, employees job satisfaction, and communication problems.

Figure 1: Research model

The studied model was based on these five factors (fig.1):

• flexibility is the ability to respond and adapt to changing conditions. Firms running in harsh competitive environments focus on their strong aspects and try to find support from other firms to strengthen their weaknesses to keep their competitive edge. The increase in the flexibility level allows the firms to respond quickly to market demands. The important components of flexibility are robustness, modifiability, the potential for new capability, and ease of exit.
• During the delivery process, firms have to pay attention to the quality and timing of delivery since the main challenges of many outsourcing projects are the project deadline and the quality, noting the monetary penalties that apply when exceeding the promised delivery time. This term will mainly be added in the project contract.
• Employee satisfaction development is his career path and its expected from every company. Usually, outsourcing firms invest in their workers to meet the expectations of their customers. Moreover, the employees improve their skills and capabilities willingly since it is also an investment for their own careers. To conclude that companies outsource their tasks, they expect professional service from high-skilled workers.
• Job satisfaction is an important factor in firms and can be caused by outsourcing contracts. The loyalty of the employees decreases when project involvement is low. It causes a loss of confidence in management, decreased morale, lack of direction, risk avoidance, and loss of control.
• Communication plays a major role in organizations since every firm has a unique corporate culture consisting of shared values, attitudes, and behavioral patterns.

When two different cultures start to cooperate, there may be some difficulties until they agree on shared meanings, especially in multinational projects, different languages may strengthen barriers of communication.

The research model was based on collected data through surveys to compare outsourcing firms and internal departments. The enclosed departments in this study were logistics, finance and accounting, human resources, and information technology. The results show that the advantages of outsourcing are true only for some areas of activity. The competitive advantage is valid only for logistics outsourcing between the listed departments.

(Taheri, 2013) states that in the last two decades, outsourcing dramatically increased due to globalization. He emphasizes the importance of outsourcing abroad to less developed countries where the labor cost is cheaper, this act needs a strategic decision from the firm to move its production completely to another country. (Dolgui & Proth, 2013) evaluated to what extent production should be performed internally and what could be entrusted as an external supplier, always arise when a firm face an implementation of the new product. In addition, they explain that outsourcing is defined as an act of obtaining semi-finished products, finished products or services from an outside company if these activities were traditionally performed internally. In other words, transferring the existing activities to an external third party. Add to this terminology, the transfer of any activity includes the transference of the control of this activity as well. Moreover, (Kumar, et al., 2010) stress on the importance of regular re-evaluation of the present make-or-buy strategy in order to make it fit the current situation of the firm.

(Ashe-Edmunds, 2017); advises that usually small businesses start to weigh the benefits of transforming their manufacturing from outsourcing to in-house when their sales level becomes high enough. The owners will start thinking of increasing their profit by cutting the middleman. However, other factors need to be considered before jumping to this step.

He emphasizes on the quality control enhancement when in-house production is applicable, considering that in outsourcing there will be no quality control on every production step unless a site engineer from the client side is reserved for this task. Moreover, ceasing the profit gained by the outsourcer can save considerable money, Hence, when making the product, not only the profit charges are eliminated, there are as well the delivery expenses and credit fees that the outsourcer charges. The disadvantage of transferring the production in-house is that the factory needs to produce enough units to generate enough profit to cover the manufacturing facility, equipment, workers, insurance, property taxes, utilities, and other production costs. In all businesses, suppliers often make products for more than one company, allowing them to spread the overhead costs among multiple customers and to increase the volume of raw materials purchased from the source to get better prices based on larger quantities. The location of in-house production needs to be carefully studied since government rules and regulations in some areas can exempt the manufacturer from inventory taxes, even more, they can offer tax credits for manufacturers that create new jobs. Another disadvantage point for outsourcing is sometimes, the customer thinks that the goods are produced in-house, therefore the supplier cannot ship them directly to the customer from the outsourcer factory, this may cause conflicts and trust impacts between the supplier and the customer. Therefore, an indirect cost will be added to deliver the goods from the outsourcer factory to the supplier or to a warehouse before shipping them to the customer. Nevertheless, outsourcing production can shrink the labor cost when manufacturing is outside the country in a less developed area, but this might irritate patriotic consumers and give the competitors a marketing tool.

As Premji once said: “The important thing about outsourcing or global sourcing is that it becomes a very powerful tool to leverage talent, improve productivity and reduce work cycles” (Premji, 2010), on the other side Selznick said: “The success of a production depends on the attention paid to details” (Selznick, 2010). Consequently, some studies support Premji in his overview of outsourcing and its benefits. Whereas, others illustrate a comparative study between in-house and outsourced manufacturing based on mathematical equations. The outsourcing could be related to materials production or services provided, in addition to human resources. The authors agree that in-house production provides better quality control, but this can be managed in some outsourcing cases. It’s very important to overtake a regular re-evaluation of the present make-or-buy strategy in order to make fit the current situation of the firm.

According to the studied articles, a comparative study demonstrates the advantages of manufacturing, be it in-house or outsourced.

Advantages of in-house production:

• Higher quality control
• Product knowledge conducting an enhanced after-sales support
• Design privacy and confidentiality

Advantages of outsourcing production:

• Inexpensive labor when outsourcing is in less developed countries
• Advanced technology
• Production capacity
• Production Reliability
• Skilled labor when needed
• Less investment cost, reduce assets.
• Foster Innovation
• Lower costs when the economy of scale is considered
• Allow the manufacturer to focus on other tasks

A lot of discussions have been focused on the steep rise in offshoring. The more general notion of outsourcing manufacturing resources is not new. Contract manufacturers have long been performing manufacturing for companies that have chosen to no longer perform some or all of their manufacturing in-house. An example is Samsung cell phones, it is very known that some of its main components such as the screen is outsourced. The growth in the use of contract manufacturers has occurred for some rational reasons.

• Technology has made the management of remote operations easier.
• Strong and competitive supplier bases have been created in many industries.
• Increased product variety and technological volatility have made it more difficult for a single entity to master all of the technology required to produce its product.

All the same in many sectors, there are some restrictions that oblige the manufacturers to produce in-house such as military items, even software, and web applications. In addition, there are also plenty of benefits with keeping the manufacturing process in-house. The flexibility is an added value for in-house, if the customer would like to change in the design, the communication between the different departments can be very smooth and easy to do. In-house manufacturing allows a business to react to the market quickly and change its products suitably. Even more, the company can test prototype products in-house, discuss issues with engineering and design departments in-house and then change what need to be changed. Instead of having to ship prototypes across the world, it can all be done quickly and easily within the business. This speeds up the whole process and cuts out what can often be weeks in between prototype creation and testing. Another point can be added which is customization. If a customer wants a customized product, this can be easily done in-house, in a fast and easy way. Whereas if it is to be outsourced, it has to go through a range of channels and processes and there is a higher likelihood of an error. (Doradus, 2012)

What these authors, among others, agree upon is the importance of creating a competitive and consistent make-or-buy strategy that is possible to adapt to today’s dynamic business environment.

We can conclude that in-house and outsourced practices have been in use for the last few decades with all their advantages, disadvantages, and risks associated with them. Every industry and situation plays a vital role, i.e. when projects are highly complex, the production cost is too high, in-house technology is not sufficient, and a lack of expertise exists; outsourcing is the perfect choice to acquire. However, for a successful decision concerning outsourcing, the firm needs to accomplish some foundational tasks:

• The choice of outsourcing should be consistent with the overall strategic goals of the firm.
• The firm’s core competencies need to be identified.
• Determining the appropriate suppliers by identifying the market.
• Assign a specific team for outsourcing implementation.

Moreover, according to the discussed literature, we can say that outsourcing has disadvantages that need to be taken into consideration such as:

• Product qualities that cannot be guaranteed unless contract enforcement is used with close follow-up.
• Privacy and confidentiality risk can lead to stealing product design and selling it directly to the vendors.
• Maintenance issue when any trouble appeared in the product after delivery
• All these points must be taken in consideration before proceeding in an outsourcing choice.

Methodology

In the research methodology, we will be working on qualitative data more than quantitative. The nature of data will be descriptive and classified into categories.

For the qualitative data, the One Generator rating will be selected with standard specifications to determine its cost when manufactured in-house or outsourced. Therefore, the secondary data will be reckoned.

• When manufactured in-house, a lot of elements will be taken into consideration starting by the raw materials costs Ex-works factory, shipping charges including customs and clearance fees, employees’ overheads with their health insurance, and pension fees.
• When outsourced to a contractor, two models will be studied, the first model will be complete outsourcing, the outsourcer will source the raw materials and assemble them together to deliver us a complete generator. Whereas in the second model, it consists of partial outsourcing, in which the client supplies the raw materials and the outsourcer will only be responsible for the assembly, in addition to the testing and quality control.

This will be followed by comparative analysis to determine which approach is less expensive. However, this result will not be final and cannot be adopted since it doesn’t include the impacts of each manufacturing. Therefore, quantitative data is essential to analyze the advantages and disadvantages of in-house and outsourced manufacturing. This will be calculated using surveys to collect the required data from the manufacturers and the outsourcers. The survey questionnaire will be constructed based on the literature and will be built on primary data. This will express the point of view of factory managers, the questionnaire will be self-administered and will be shared by email with the concerned people for filling.

The questionnaire will be composed of the following topics:

• Margin status
• Delivery time
• New product introduction
• Inventory liability
• Product Quality
• Product life cycle
• Design Privacy
• Potential customers

The secondary data for the study will be sourced from official quotations received from several contractors for the outsourced manufacturing, and from factories and suppliers in addition to internal documents for the in-house production.

The primary data for the study will be the opinions of production managers of firms. These will be obtained through questionnaires and surveys covering the above.

Conclusion

In reference to the competition in markets is due to globalization and open markets, manufacturers are facing a lot of challenges in selling their products, therefore partial or complete outsourcing may be the best option.

The focus in the literature was on the benefits and drawbacks of in-house and outsourcing choices. The selection between them depends on the product or service acquired. This project will help us to determine the best approach for generator production when this product is not a core business to the company.

A framework will be developed, which provides strategic guidance in choosing between outsourcing and in-house approaches. This ensures taking into consideration a wider range of key variables underpinning value-adding selection, not only concentrating on financial factors but as well on other equally important variables that add value.

The main factors that can affect the product and will be analyzed in the project are the product cost, quality which will be monitored during the manufacturing, testing after manufacturing, packing, the lead time needed to deliver the product in addition to the inventory for the on-shelf products and forecasting, life cycle of the product, design privacy and the possibility of losing potential customers.

This study will help us in the company to understand and select the suitable option for generator production.