Motives of Manufacturing Outsourcing in Discrete Manufacturing Industries
From the Perspective of Indian Industries
Research Paper (postgraduate) 2015 20 Pages
Table of Content
Stages & motives of manufacturing outsourcing
Part-I (Motives during engineering stage)
Part-II (Motives during project execution stage)
Part-III (Motives during manufacturing stage)
Summary & Conclusion
Competitive organizations forced to design their supply chain strategies in line with endless customer demand like service speed, faster delivery and low cost products without compromising quality. This only can be possible with a reliable, responsive and quality supplier base. The motives of outsourcing product, sub product or service may be different from organization to organization and may be department to department within an organization. Through this study we have tried to understand the motives of manufacturing outsourcing in selected discrete manufacturing industries of India. This study explores the various motives / considerations of manufacturing outsourcing during the product cycle i.e. engineering, project execution and manufacturing stage.
Keywords: Manufacturing outsourcing, Outsourcing decision, Discrete manufacturing industry, Supplier relationship management, Supply chain management, Indian manufacturing industries
Manufacturing organizations are forced to formulate and implement manufacturing outsourcing strategies due to immense competition, changing industrial and economic policies around the globe. Survival depends on new product development, differentiation, innovation, technology leadership and constant improvement in core competencies. The manufacturing strategy usually based on specialization or differentiation, which leads to managing the total value chain and therefore puts emphasis on outsourcing (Dekkers, 2010). This helps in release of internal resources, cost reduction, cycle time compression and exploitation of available resources falling in line with the organizational requirements. This statement leads to think and implement right selection of outsourcing strategy, supplier selection, performance measurement, and supplier development and supplier satisfaction areas. Nishiguchi (1994) classifies three networks for the value-added chain, mostly aimed at manufacturing processes. `Vertical integration’ points to the position in which a company owns mostly its own network of suppliers. In the case of `strategic dualism’, the firm retains key areas of production but outsources components, through `clustered control’, an assembler deals with a first tier of suppliers who, in turn, manage the second tier.
Indian manufacturing sector is currently contributing 15-16% of the country’s GDP. Indian economy is aiming to achieve 25% of its GDP in next 10 years from manufacturing sector and also expects 100 million job opportunity by 2022(economictimes.com). Special focus of the Indian government into this sector and call for “Made in India” slogan slowly helping investors and world manufacturing leaders to look and act in India in the manufacturing sector and India expecting to be the global hub of manufacturing. An increase of 50% growth witnessed in 2014-15 (till December) in comparison to 2013-14 in the Indian economy surely exhibits the growth momentum (reuters.com). To maintain and to write a higher growth story, manufacturing industries must look in to their operational strategies carefully. No doubt outsourcing decision will play a key role in building the manufacturing sector as well as country’s ambitious growth plan. Manufacturing outsourcing decisions may vary from organization to organization and typically depends on available capacity, capability, and nature of job, delivery commitment to end client, price and sensitiveness of business. Apart from this the typical characteristics of discrete manufacturing makes the outsourcing decision more complicated. This study is making an attempt to understand the attributes considered by Indian discrete manufacturing industries while taking manufacturing outsourcing decision.
Manufacturing outsourcing is one of the game changer attributes in operation strategy of the organization. This helps the organization to compete in the market with valuable ingredient like time to market, technology leadership and cost effectiveness. The most important aspect is, the decision makers must clearly define the area and scope of outsourcing. Manufacturing outsourcing is not a new topic. For last few decades developed counties like America and Europe used to take manufacturing and service related supports from India, Chaina, Singapore and Malaysia due to lower operating cost (Islam & Shovani, 2008) and growing at the rate of 20 to 25% per annum (Davison, 2006). The prime objective of outsourcing is to get the services of the suppliers or service providers, so that parent organizations can handle specific business processes in a better way, faster and at a lower operating cost (Polineni, 2001).
The outsourcing phenomenon in advanced regions dates back to the mid-1970s and accelerated during the 1990s (Gereffi and sturgeon, 2004). Since the 1980s there has been a trend of outsourcing among organizations across various industries starting with basic information systems to advanced strategic and transformational outsourcing, which involves outsourcing of core and strategic business functions (Schniederjans et. al, 2007). Outsourcing is a specifically defined contractual relationship based on the supplier meeting the buyer’s defined performance goals (Mohammed & Chang, 2008). Outsourcing enables firms to devote more time on strategic planning and management and focus on their core business competency rather than on routine logistics functions (Lynch et al., 1994). The outsourcing decision is basically derived from make or buy concept. Usually organizations preliminary calculate the cost or production and the cost of acquire. The other important factors affect outsourcing decision is quality, labor, capacity, scheduling, and skill (Heinritz et al., 1991). After deciding to buy, the buying organizations look for measurable objectives and the complete scope of outsourcing. Apart from that organization looks the way to integrate the outsourcing objectives to business objectives (Trunick, 1989).
According to Lacity et al (1994) the motives of outsourcing fall into four categories: financial, business, technical and political. Study conducted by Juha & Suvi divided the motive of outsourcing in to three rough categories: financial, strategic and others. Financial motives are such motives in which outsourcing is driven mainly or merely by cost-savings. If outsourcing is based on strategic motive, there are more profound reasons for outsourcing than mere cost-cutting. The last group contains reasons to outsource that are not reasonably justified by the success of the company (Juha & Suvi, 2009). Outsourcing is primarily driven not only by the need to reduce costs but also overall by the need to improve a firm’s competitiveness (Sharpe, 1997). It helps to increase efficiency, improve service quality, accountability, value, decrease lead counts and cash infusion and gain access to world class capability and sharing. By outsourcing logistics activities, firms can save on capital investments, and thus reduce financial risks (Mogire & Gakure, 2014).
Supply chain practitioners believe that concentrating on core competencies and outsourcing the rest is a better and profitable way of doing business. Outsourcing is the process of transferring an existing business activity, including the relevant assets, to a third party (Lonsdale & Cox, 1998). The concept of core competence was originally developed by Prahalad & Hamel (1990). The basic features of the core competences are potential access to a wide variety of markets, significant contribution to the perceived customer benefits and should be difficult to imitate (Juha & Suvi, 2009). Most western companies outsource primarily for short-term cost savings (Kakabadse & Kakabadse, 2002; Deloitte, 2005). The reasons why companies outsource depend on many factors. Motives for outsourcing peripheral activities are in most cases different than they are for activities closer to the core of business. In addition, different organizations in different circumstances will expect different benefits (Kremic et al, 2006).
Five main reasons of outsource is focus resources on core activities, cost reduction, convert fixed costs to variable, benefit from supplier’s investment and innovation and improve time to market (Lonsdale & Cox ,1998). Quelin & Duhamel (2003) argued the most important criteria of outsourcing decision is to lower operational costs, the second important is to focus on core activities and the third is to gain flexibility. The top ten reasons why companies outsource are (1) Reduce and control operating cost, (2) Improve company focus, (3) Gain access to world class capability, (4) Free resources for other purposes, (5) Resources are not available internally, (6) Accelerate re-engineering benefits, (7) Non-core function that is too complex to manage, (8) Make capital funds available, (9) Share risks, and (10) Cash Infusion (The outsourcing Institute executive survey, 2006).
Literature review indicates manufacturing outsourcing can be done for various motives namely to achieve operational Excellency, reduce cost, better cost control, taking advantage of technology, reducing risk, focus on core competency and releasing resources for other activities. This study is trying to understand the motives of the outsourcing in discrete manufacturing industries of India. This study is also trying to explore the stages of the manufacturing outsourcing and the specific objectives attached at that stage. So it is necessary to understand the type of industry and the stages of manufacturing.
Manufacturing industry normally divided into three segments i.e. process, repetitive and discrete type. Discrete manufacturing is the industry where product is manufactured based on specific criteria, material along with specific technical requirements from the end client. There are low volume and most of the time its unit type production. The bill of material (BOM) got changed from order to order and may be from sub-product to sub-assembly level. The process requirement also gets varied at component level. To cater this type of need specific skill set of the operators, diversified manufacturing capacity and capability is required, so as strong and capable supplier base. The supplier base should be aligned with the nature of work and demand of the parent company. This study considered four discrete manufacturing industries of India, whose client base belongs to coal, power, steel, wind and cement industry.
Stages & motives of manufacturing outsourcing
During the study it was explored that manufacturing outsourcing takes place in three different stages of execution i.e. in engineering stage, project execution stage and at manufacturing level. The concept and logic behind the outsourcing decision is different in the three stages.
Fig 1. Stages of manufacturing outsourcing
illustration not visible in this excerpt
Manufacturing outsourcing decision takes place partly at engineering stage as per the standard practice of the organization or based on standard product selected by the management for outsourcing as a part of strategic decision. These are usually small machining, small fabrication, fabricated housings of the main equipment and small processed castings. Also outsourcing of components decided here based on the non-availability of technical knowhow in-house. These components are comes back to shops for further value addition. Sometimes some special equipment also outsourced from engineering stage, which the organization do not manufacturer and a part of total system / order booked by the organization. Sometimes the preference of the end client also plays a role in decision making. Decisions in this stage are mostly strategic in nature.