It’s one of the oldest questions in business. Do you make your products or buy them? Which decision would save you time and money and lead to greater success? In the last two decades, there has been a notable rise in outsourcing. And some researchers have begun to wonder why exactly this is.
One way to account for this change might be the increasing speed of technological innovation. According to a March 2008 working paper by Ann P. Bartel and Nachum Sicherman of Columbia University and Saul Lach of The Hebrew University, when the innovation’s pace picks up, “a firm has less time to amortize the sunk costs that come with purchasing the new technologies. This makes producing in-house with the latest technologies relatively more expensive than outsourcing.”
The paper’s authors, studying Spanish manufacturers from 1990 to 2002, concluded that outsourcing does increase with technological change. Using an annual survey of Spanish manufacturing companies for the years 1990, 1994, 1998 and 2002, the researchers looked at whether companies outsourced manufacturing of custom-made finished products or parts and, if they did purchase these products, the outsourced items’ value. The number of respondents ranged from 1,708 in 2002 to 2,189 in 1990.
The researchers also looked at the companies’ spending on research and development as a percentage of revenues. They used this data as a proxy for technological change, assuming that companies investing in R&D expect innovation to be part of the business environment.
The data confirmed the link between R&D spending and outsourcing. Overall, the percentage of companies that reported outsourcing rose from 35% in 1990 to 43% in 2002. Companies with R&D spending were between 6% and 10% more likely to outsource than those that did not invest in R&D. This relationship remained robust even when controlling for factors such as capacity utilization, work force size and costs, company age and product market volatility.
There may be, of course, other ways to account for this link between technological change and outsourcing. It’s possible, for instance, that rapid advances in Internet and communication technologies could have lowered the costs that accompany seeking out suppliers and establishing relationships with them. But when considering this relationship, it would be best to think about outsourcing as a way of dealing with technological change. If your business operates in a market in which technology continues to evolve, it may be too costly to keep pace. Outsourcing, in fact, may be your best solution.
For more information on this topic is available at http://sloanreview.mit.edu/smr/issue/2008/summer/09/