Cost efficiency remains the primary explanation for outsourcing. Firms evaluate outsourcing to determine whether current operating costs can be reduced and if saved resources can be reinvested in more competitive processes (Jiang, Frazier & Prater, 2006). For example GE Mexico was GE’s largest operation outside of the United States. GE worked closely with the Mexican government to make sure that their target of 6% productivity growth was met. Some of GE’s businesses in Mexico were clear winners. For instance, GE’s Real Estate sector was a clear winner, with over $1 billion in financing in Mexico. GE had thus become Mexico’s top real estate lender. Mexico’s languages Spanish and English facilitated business relationships with GE USA. Technicians from America could visit Mexico to work on system and technological improvements. Doing so in China, entailed greater expense and significant language difficulties. Even for a phone call, China was 12 hours away (Vietor and Veytsman, 2007).
By carefully choosing what to outsource, the buyer is able to focus its core strength, that is, the specific talent, skills and knowledge sets that differentiate the company from its competitors and give it an advantage in the eye of customers (Simchi-Levi, Kaminsky & Simchi-Levi, 2003). For instance China exhibited a synergy between customers and markets in the areas of electronics, telecommunications, transportation, and healthcare, among others. Metalwork, small appliances, and tooling were other examples of successful sectors in GE China. The manufacturing sector alone claimed only 4,000 employees. The research and development, sourcing, and distribution presence in China was substantial. The firm also successfully led in innovation. In March 2004, for example, GE became the first foreign company to announce a subsidiary in China to engage in leasing (Vietor and Veytsman, 2007). On the other hand, Nike focuses on innovation, marketing, distribution and sales, not on manufacturing (Simchi-Levi, Kaminsky & Simchi-Levi, 2003).
Several studies seek to explain the relationship between productivity growth and outsourcing. Abraham and Taylor (1996) find that firms “contract out” services with the objectives of smoothing production cycles and benefiting from specialization. Ten Raa and Wolff (2001) find a positive association between the rate of outsourcing and productivity growth. Efficient firms allocate their resources to activities for which they enjoy comparative advantage. Other activities are increasingly outsourced. Contracting out production of goods and services to a firm with competitive advantages in terms of reliability, quality and cost is emphasized by Perry (1997). The outsourcing contract-granting firms assess the productivity of their in-house service functions and only undertake outsource actions if outside producers can provide comparable services better. The cost reductions due to differences in labor costs lead to outsourcing and positive changes in labor input, and output produced is altered by profits and productivity growth. Outsourcing not only results in a shift of labor but also exacerbates the productivity differential between outsourcing contract granting firms and outsourcing contract receiving firms (Siegel and Griliches, 1992). Contracting out allows the firm to rely on management teams in other organizations to oversee tasks at which it is at a relative disadvantage, and to increase managerial attention and resource allocation to those tasks that it does best (Jiang, Frazier & Prater, 2006). For example, GE India hired a vast pool of inexpensive, educated labor. The GE Indian program for training managers was instrumental in bringing up local talent. This strategy also allowed greater remote monitoring and maintenance in India. The vast majority of employees who filled the white-collar jobs had a university-level education. The Offshore Development Centers, which pioneered the idea of software sourcing in India, was largely responsible for promoting the educational zeal. The John F. Welch Technology Center was the most famous example, being the first and the largest multidisciplinary research facility in India. In addition to avoiding educational orientation, the Center provided critical technology, research, and development, and financing techniques. According to the Wall Street Journal 2005, that year’s conglomerate plan was to spend about $600 million on computer-software development from Indian companies where the firm estimated that similar products would cost it as much as $1.2 billion in the U.S. Also General Electric was successful in sourcing products, services, and intellectual talent from India for its global businesses. (Vietor and Veytsman, 2007).
Traditionally, when business is booming, the temptation is to hire more staff, expand facilities, and bring more of the business “in-house,” where firms hope to better control costs. However, today’s knowledge- and service-based economies offer innumerable opportunities for well-run companies to increase profits through outsourcing (Quinn, 1999). For instance, more than half of GE’s revenue was from outside United States. Global revenue growth for 2007 was 22% (General Electric Company, 2008). For the calendar year 2003, GE Insurance, GE Commercial Finance, and GE Energy were the businesses with the greatest revenue: $26.2 billion, $20.8 billion, and $19.0 billion, respectively. In the year 2003, GE revenues reached $134.2 billion. International revenues contributed 45% of the total (Vietor and Veytsman, 2007). When used properly, outsourcing can boost profitability in many ways, including, the use of independent contractors provides employers with the flexibility to hire help only when they need it, for only as long as they need it. Outsourcing of staffing also allows firms to avoid having to provide costly benefits. And also, payroll as salaries are a large part of a business’s costs, particularly in service industries (Jiang, Frazier & Prater, 2006). For example, General Electric was successful in sourcing products, services, and intellectual talent from India for its global businesses. In the sphere of intellectual sourcing, GE India presented very low costs, offering substantial savings in comparison with English speaking countries, while retaining high quality. GE India sales and sourcing had blossomed to $0.7 billion and $2.0 billion, respectively, in 2003. The current estimates predicted at least a 20% growth for both sales and sourcing by 2005 (Vietor and Veytsman, 2007).
Another impact that outsourcing has that US-based multinationals are worried more about their bottom line than their social responsibilities and consider outsourcing to be unavoidable. GE, for instance, continues to stress the importance of low-cost centers in its global strategy and growth.
GE also feels that globalization could lead to a loss of jobs in low-tech industries but that it will create jobs in high-tech ones too. According to the company, by centralizing its operations and leveraging low-cost operating centers in the US states of Virginia and North Carolina as well as in India and Ireland, GE has also developed sophisticated technological tools that enhance performance by automating key processes and reducing response times and process variations (Basu,2004).
2.3 Multiple outsourcing partnerships
Outsourcing refers to the concept of looking for expertise to handle certain business functions outside the existing firm. The decision-making process that management must undergo when considering outsourcing, hinges on a “make or buy” philosophy. More variables are brought into play when management considers outsourcing a product or service that is currently being produced internally. Many more options exist currently than there were even a decade ago. In today’s business environment it is now possible to outsource virtually any aspect of the business (Embleton & Wright, 1998).
One of the major challenges of outsourcing is moral hazard, as evidenced where businesses do not guard themselves prior to contract against their dependency on that supplier, and where, separately, they fail to appreciate the power which transfers to the outsource supplier in respect of their own business activities. One of the accepted ways to mitigate this is multiple outsourcing. This manifests itself normally in breaking down the outsourcing activities by separate function. By choosing to work with multiple outsource suppliers, enterprises can cut costs and foster competition between vendors, while taking advantage of vendor specialization and technical expertise (McDowall, 2005).
The keys to successful outsourcing fall into three categories:
- Strategic analysis;
- Selecting the providers; and
- Managing the relationship (Embleton & Wright, 1998).
Strategic analysis
Cost of providing the service: It is imperative to have a clear understanding of the type and the amount of all costs associated with the function to be outsourced. Labor, resultant level of service, impact of corporate culture and real estate costs such as space, utilities taxes and insurance all need to be considered (Embleton & Wright, 1998). For instance, GE Mexico was GE’s largest operation outside United States. As Mexico languages are Spanish and English, it facilitated the business relationship with GE USA. Technicians from United States could visit Mexico to work on system and technological improvements. It could have been more expensive and had language difficulties if the operation was done in China (Vietor and Veytsman, 2007).
Quality level of service: It is also important to Develop a clear understanding and quantification of the type and the level of service being given with the current provider, then come to a clear understanding of the type and the level of service that will be acceptable in the future (Embleton & Wright, 1998). For example GE India extended their business to aircraft engines, capital services, medical systems, industrial, systems, plastics, power systems, broadcasting, and others. In 2002, revenues and orders exceeded US $1 billion for GE India. The company employed over 22,000 people in the country. It was an intelligent move for GE to outsource their business in India as India offered them a vast pool of manpower with good language skill and education. Another reason to outsource their business in India GE India offered very low cost with substantial savings in comparison with English speaking countries while retaining high quality (Vietor and Veytsman, 2007).
Quantify outsourcing goals: It is important to define goals explicitly. Without measurable goals, it will be impossible to quantify current results, or to define the level of service required in the future (Embleton & Wright, 1998). For instance, in Mexico GE’s target of 6% productivity growth was met as they closely worked with the Mexican government. By doing so, GE’s Real Estate sector became a clear winner, with over $1 billion in financing in Mexico. GE had thus become Mexico’s top real estate lender (Vietor and Veytsman, 2007).
Selecting the provider
After the decision to outsource has been reached, it is essential that the right vendor is chosen. Typically, outsourcing is a long-term relationship, which requires the supplier and the purchaser to work closely together. Often, additional services are required and should the agreement be terminated, the organization will require the supplier’s co-operation until the outsourced service is settled elsewhere. Also there are many costs associated with changing an outsourcing vendor (Embleton & Wright, 1998). For example in China GE entailed $1.5 billion in investments, employment of more than 12,000, and formation of more than a dozen joint ventures. These ventures thrived in high-technology industries which included medical systems, plastics, and lighting products, and in aircraft engine maintenance facilities, training, and component manufacturing. GE China also had formed a “One GE” strategic and practical approach. It involved four components. There was a sourcing component, in which GE would source parts and goods from domestic producers where cost savings exceeded 10%. The other three components were focused on China’s own swelling markets. GE planned to manufacture products for China, develop distributional channels for selling, and build up its services for both product related services such as locomotive repairs and jet engine services, and eventually GE Capital’s more sophisticated financial services (Vietor and Veytsman, 2007).
Managing the relationship
It is suggested that managing multiple outsourcing vendors can be a strain, but industry research indicates that multi-sourcing will be the prevailing outsourcing model. This is despite a very significant minority of enterprises being dissatisfied with their outsourcing relationships which formed inadequate governance models due to being poorly developed, under budgeted and having insufficient resources. Unfortunately, managing outsourcing relationships requires a whole new set of skills, requiring staff training and setting up a new management structure. None of this can be done with an immediacy which enterprises demand (McDowall, 2005). GE for instance, operated 30 plants including joint ventures, many of which were maquiladoras. In China, GE had invested in a dozen operations, mostly in Special Economic Areas. GE sold products in China and purchased products to supply its U.S. operations. In India, GE established its position in the software sector, taking advantage of the availability of human capital. All these operations could not have done without proper managerial relationship with the foreign buyers and suppliers and also the governments (Vietor and Veytsman, 2007).
From the discussion above it can be said that GE has maintained proper step to do multiple outsourcing. Their decision to have multiple outsourcing partnerships was a major breakthrough in their businesses. Not on only in Mexico, China and India, GE spread their businesses successfully in all over the world including Canada where they have 10,000 employees, 15 major manufacturing locations and over 150 sales and service locations. They also have businesses in Southeast Asia, Australia, Europe and Middle East (General Electric Company, 2008). The next section of the report will focus on the impact outsourcing has on US economy in general.
2.4 Impact of outsourcing on US economy
The mere mention of outsourcing and its impact on the U.S. is enough to elicit strong emotions on either side of the issue. Proponents argue that relocating low skill service jobs, like those in customer service or data entry, to foreign shores is necessary to ensure the productivity and competitiveness of the U.S. economy. Detractors say American companies are betraying their own workers and destroying the middle class, all in the name of the almighty dollar. But amid the debate over whether outsourcing is good or bad for the U.S., an important point has been largely ignored: Outsourcing is as much a regional issue as it is a national concern. Certain cities and areas are hit hard, while others remain largely unscathed (Elstrom, 2007).
The important thing is to make a way of determining whether the gain is worth the pain. Suppose the net benefit to America is the degree to which the average employee's purchasing power increases. The benefit really depends on four factors: the proportion of consumer expenses spent on potentially outsourced goods, the decrease in prices due to outsourcing, the proportion of American jobs that can be outsourced economically, and the wages of jobs that can be outsourced relative to the jobs that cannot. In the long term, American workers will be competing with labor elsewhere, pressuring American wages. Though prices should fall, it's unclear whether these benefits will compensate Americans for lower wages. On the other hand, India and China will benefit from both higher wages and falling prices. Consequently, outsourcing will likely narrow America's standard of living lead over other countries (Gibbons, 2004).
An interesting corollary benefit sometimes mentioned is the benefit to the American economy. India's National Association of Software and Services Companies commissioned a report by Evaluserve that stated that for every $100 worth of work sent abroad by U.S. companies, $130 to $145 will be reinvested in the U.S. economy. Cost savings are said to create value in the U.S. economy, and it is sometimes claimed that offshore outsourcing makes U.S. companies more globally competitive (Braun Consulting Group, 2004). Outsourcing results in higher production and lower costs, and consumers realize the benefit in lower prices and rates for goods and services. Manufacturing jobs, which commonly receive the most focus as candidates for outsourcing, are being lost not only in America but also in other countries due to emerging technologies that eliminate the need for manual labor. Furthermore, at the same time that manufacturing jobs are moving overseas, people in the United States are taking on manufacturing jobs from other countries. Efforts by the government to prevent outsourcing and to extend jobless benefits would negatively impact the free market economy and result in the loss of billions of dollars, say proponents of such initiatives (The Gale Group Inc, 2007).
A recent survey by the McKinsey Global Institute has shown that for every dollar spent on outsourcing to India, the US economy gains at least $1.12. For example when medical reports are sent from the US to India for analysis it directly reduces the cost of health care. The cost saving thus achieved helps fuel new business opportunities, which in turn create more employment avenues. Health care is the primary concern for Americans today. Even if white-collar jobs were outsourced it would still make the US more productive, raising wages and increasing productivity. Just like the American free trade agreement created jobs in 1990’s the upcoming outsourcing expansion will have a positive effect. If the US economy goes for job protection, it is heading towards job destruction. For instance had the US protected farm jobs a century ago, 70% of the Americans today would be tilling soil instead of 3%. The more the USA does to limit the import of services the more difficult it will become to export. The benefit of importing services is the same as importing goods. It increases productivity. Increased trade also forces domestic producers to become more productive. Improved productivity raises the standard of living, puts downward pressure on price and gives boost to profitability and wages (Chillibreeze Solutions Ltd, 2008).
Outsourcing can also affects every part of business from manufacturing through to design, software development, financial control, logistics management, customer support and sales. Outsourcing has been praised as cost-effective, efficient, productive and strategic but also condemned as evil, money-grabbing, destructive, ruthless, exploiting the poor. A good example of this has been tensions over relocating call-centres and software support from countries like the UK and the US to India. More than 230,000 jobs are bringing lost each year in America as a result of outsourcing but many economists believe that a similar number of new jobs are being created at the same time. Research shows that some of the new economic activity generated in developing countries by outsourcing will generate new demand for goods and services in the country where the jobs have moved from (e.g. America). McKinsey Global Institute estimates that for every dollar US corporations spend on outsourcing to India, 33c gets 33c and the US economy benefits by $1.14. This is based on several assumptions: that 69% of displaced service workers will find new jobs within a year, and will end up earning 96% of their previous wages backed up by 1979-1999 data. However older workers may be out of work far longe, especially if their education is poor. Outsourcing saves money for corporations which mean lower costs for consumers and higher dividends for pensioners who own 75% of US and UK wealth which means more money to spend on other things such as local services and that produces new jobs (Global Change Ltd, 2008).
3.0 Conclusion
Outsourcing otherwise known as subcontracting is the strategic use of resources outside the company to perform tasks that are usually handled internally by the company itself. In today’s competitive world, successful outsourcing is a powerful tool for companies to generate value and gain competitive edge over rivals. The paper contrasted the impact of outsourcing has had on General Electric Company. The report critically evaluated the outsourcing steps made by GE which led their business to be cost efficient, productive and profitable. The paper also analyzes GE’s decision to have multiple outsourcing partnerships. It demonstrated GE’s successful multiple outsourcing strategy through strategic analysis, selection of providers and managing relationships. The report concluded by analyzing the impact outsourcing will have on US economy in general. It explained how outsourcing can affect the American job market also how it can input benefit in US economy. It revealed facts such as, every $100 worth of work sent abroad by U.S. companies, $130 to $145 will be reinvested in the U.S. economy.
References:
Books & Journals
Abraham, K. and Taylor, T. (1996), “Firms’ use of outside contractors: theory and evidence,” Journal of Labor Economics, Vol. 14, pp. 394-424.
Beaumont, N. and Sohal, A. (2004), “Outsourcing in Australia”, International Journal of Operations & Production Management, Vol. 24 No. 7, pp. 688–700.
Behara, R.S., Gundersen, D.E. and Capozzoli, E.A. (1995), “Trends in information systems outsourcing,” International Journal of Purchasing, Vol. 31 No. 2, pp. 46-51.
Embleton, P.R. and Wright P.C. (1998), “A practical guide to successful outsourcing,” Empowerment in Organizations, Vol. 6 No. 3, pp. 94-106
Jiang, B., Frazier, G.V. and Prater, E.L. (2006), “Outsourcing effects on firms’ operational performance,” International Journal of Operations & Production Management, Vol. 26 No. 12, pp. 1280-1300.
Lankford, W.M., and Parsa, F. (1999), “Outsourcing: a primer”, Management Decision 37/4, pp. 310-316.
Perry, C.R. (1997), “Outsourcing and union power,” Journal of Labor Research, Vol. 18 No. 4, pp. 521-34.
Quinn, J.B. (1999), “Strategic outsourcing: leveraging knowledge capabilities,” Sloan Management Review, Vol. 40 No. 4.
Siegel, D. and Griliches, Z. (1992), “Purchased services, outsourcing, computers, and productivity in manufacturing,” in Griliches, Z. (Ed.), Output Measurement in Service Sector, University of Chicago Press, Chicago, IL, pp. 429-58.
Simchi-Levi, D., Kaminsky, P. and Simchi-Levi, E. (2003), “Designing & Managing The Supply Chain,” 2nd edn, McGraw-Hill Higher Education, p. 180
Struebing, L. (1996), “Outsourcing is the answer or is it?,” Quality Progress, Vol. 29 No. 3, p. 20.
Ten Raa, T. and Wolff, E.N. (2001), “Outsourcing of services and the productivity recovery in US manufacturing in the 1980s,” Journal of Productivity Analysis, Vol. 16, pp. 149-65.
Vietor R.H.K. and Veytsman, A. (2007), “American Outsourcing,” Harvard Business School, 9-705-037
Web Sites
Basu, I. (2004), “Anti-outsourcing cry unnerves corporate giants,” Asia Times Online Ltd, viewed 9 October 2008, available at
Braun Consulting Group, (2004), “Offshore outsourcing: Impact on the American Workplace” viewed 8 October 2008, available at
Chillibreeze Solutions Ltd, (2008), “The Impact of Outsourcing on The American Economy,” viewed 7 October 2008, available at
Elstrom, P. (2007), “The uneven impact of outsourcing,” viewed 7 October 2008, available at
General Electric Company, (2008), “Our Company,” viewed 5 October 2008, available at
Gibbons, R. (2004), “Weighing Outsourcing’s Impact,” viewed 6 October 2008, available at
Global Change Ltd. (2008), “The Future of Outsourcing,” viewed 8 October 2008, available at
McDowall, B. (2005), “Multiple Outsourcing (Multisourcing),” IE4C, viewed 8 October 2008, available at
The Gale Group, Inc, (2007), “Outsourcing Does Not Negatively Impact the American Economy,” viewed 8 October 2008, available at
Bibliography:
- http://www.ebstrategy.com/outsourcing/basics/definition.htm
