Penny Cheslock Case

Penny Cheslock

Prof: Brandy Havens

BUS 630 Managerial Accounting

Outsourcing

November 19, 2012

The global market is a competitive place for businesses of today's world. In order for a business to be successful it must advantage of any business aspects through which they can gain and maintain a competitive edge over other companies in the same line of business. One such business aspect that has become popular is outsourcing. Outsourcing gives companies the opportunity to hire an outside company to complete some of its production and/or service at either a reduced cost or increased productivity rate or both. Outsourcing however does not always indicate an increase in profits. A business needs to decide if outsourcing is the right answer for their company by considering many positive and negative factors.

Outsourcing

Companies need to have a complete working knowledge of outsourcing to determine whether or not it would benefit the business. According to BusinessDictionary.com outsourcing can be defined as ³contracting, sub-contracting or externalizing non-core activities to free up cash, personnel, time and facilities for activities where the firm holds competitive advantage. To expand the definition further on the popular topic of outsourcing.

BusinessDictionary.com states that firms having strengths in other areas may contract-out data processing, legal, manufacturing, marketing, payroll accounting or other aspects of their businesses to concentrate on what they do best and thus reduce average unit cost. Outsourcing is often an integral part of downsizing or reengineering/reorganizing and may also be known as contracting out.

Dean Meyer has an article titled "4 Advantages to Outsourcing" that is posted on the SOURCINGmag.com website. His article includes four points that must be taken into consideration when determining whether or not a company would benefit from outsourcing. The four advantages to outsourcing that Meyer discusses are:

Advantage 1: Outsourcing can save you money

Advantage 2: Outsourcing can help you share risk

Advantage 3: Outsourcing can help accommodate peak loads

Advantage 4: Outsourcing can help develop your internal staff

Dean Meyer's article explains each advantage separately in detail. The first advantage of outsourcing he explains which is the saving money advantage happens because economies of scale save money when unit costs go down as volumes increase. External service providers can achieve economies of scale unavailable to individual firms when they combine the volumes of multiple companies. In other words if a company can produce its units (whether product or service) at a cheaper cost, then each unit is producing more profit. Outsourcing some or all of a company's production is how the cost is lowered per unit. Before any money can be saved through the use of outsourcing, Meyer says that certain stipulations need to be met and those stipulations are the following.

1. Economies of scale must exist: outsourcing must prove that unit cost will, therefore increasing profit per unit.

2. The economies must be accessible across corporate boundaries: outsourcing companies will only agree to become involved as long as they know that they will have multiple clients for their business.

3. The savings must be sufficient to outweigh the additional cost of paying other shareholders a profit: many companies feel that outsourcing is only good as long as profits show a minimum increase of at least 20% after all costs and fees

The sharing of risk is the second advantage of outsourcing that Meyer discusses. The portfolio effect, as described in Meyer's article is a term used in financial circles by which companies share risk. In investing it's best to diversify your portfolio rather than put all your money in one stock. By spreading your risk you reduce your total risk. This same principle can be used in regards to outsourcing. Diversifying by the way of outsourcing will allow a company the elasticity to remain successful even in the wake of possible mistakes.

Outsourcing can help accommodate peak loads is the third advantage discussed in the article. According to Meyer, outsourcing can be used to minimize fluctuations in headcount that could result from peaks and valleys in demand. A company needs to determine the point at which outsourcing will be better decision financially over trying to keep all production in-house if this outsourcing scenario is to prove successful.

The fourth and final advantage that Meyer discusses is outsourcing can have the advantage of allowing a company to develop its internal staff. There are two strategies that are helpful in achieving this advantage of outsourcing they are:

1. Contractors may be used at different times to handle either peak loads, off-load less interesting commodity or end-of-life work. With the contractors handling these issues the internal staff is then free to pursue new, developmental opportunities.

2. Consultants and vendors can be used to bring in new ideas and to train internal staff.

The first point mentioned above allows the company's employees to be able to complete more complex operational tasks by using contractors for the simple day-to-day and the boring/mundane tasks. The second point mentioned helps company employees increase their skill set and/or productiveness by having the company bring in consultants.

However, since each company is different they need to analyze the four above-mentioned stipulations to see if outsourcing will be good fit and provide the desired outcome for the company. The four stipulations as long as they are met, can combine to prove successful at indicating that the company may actually benefit from some level or outsourcing.

According to R. McIvor, implementing a successful outsourcing strategy requires framework. The logic of this framework can be applied to a range of business processes including manufacturing, logistics and design. Effective outsourcing involves analyzing number of key dimensions which include relative capability in the process, contribution of the process to competitive advantage and the potential for opportunism from outsourcing the process. It is important to consider these dimensions when discussing outsourcing

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