make or buy decision Essay

Custom Student Mr. Teacher ENG 1001-04 12 March 2016

make or buy decision

The debate to buy or make has taken many dimensions, with wit economists, citizens, politicians, and businesses pulling the debate to suit their intentions. When the public is dependent on the rational consumption process amid constraints, the politician is obligated to safeguard the interests of their representatives. In the same breath, the concerns of economists and academicians are overinforming on the implications of each action and businesses have a moral responsibility to remain afloat. The decision to buy or make to some extent is obvious as no company would survive by making all what it uses in its operations and complete buying of the company’s products may make the company lose identity. To some extent, this is true but on the flipside, the decision to buy or make can be a tough managerial dilemma. The buy or make decision is centered on issues that may be situational or strategic. Issues that influence this decision are competitive advantage, flexibility in the face of technological changes, and potential coordination inefficiencies. Small firms may not have choices when called upon to produce through a manufacturing plant whose laying down would require a substantial capital. It is common knowledge that firms remain afloat by engaging continuously in decisions that ensure profitability and outsourcing has over the years given small firms competitive advantages in the manufacturing sector. Established firms have internalized and perfected their production schedules and regimes and efficiency of their production schedules gives them the competitive advantage.

How to Make Choices
Making this choice as Fine and Whitney (2002. p.25) posit is based on the restrictions unique to every firm. The product itself determines how the firm goes round it to make it happen; it is an undertaking that relates to the skill set required to make the product, manufacturing issues, and designing issues. To make it happen, each firm relies on its unique characteristics that determine its competitiveness. The engineering process and management commitment toward a product ought to be harmonized for the prosperity of the company. Because of this, a company must understand its
core competencies, the product development process, the engineering process and systems, its architecture, supply chain modalities and other relevant characteristics (Fine and Whitney 2002 p.1).

Taking the example of an automobile industry, varying degrees of outsourcing is apparent. The two big players in US markets GM and Chrysler are the ideal examples of this diversity. GM buys over 70% of its products whereas Chrysler buys only 30% (Fine and Whitney 2002, p.3). This disparity, to some extent, could be attributable to strategic, but also due to GM’s contractual obligations to UAW and the fast-growing corporate changes (Fine and Whitney 1996, p.5).

While cost may look like it is the underlying factor, but as Harvard research group posits if this decision to buy or to make is given a one dimension of cost it may be a bad idea as strategic business concerns for example supply chain and keeping up with customer demands could overshadow the gains in cost cutting if they are not favorable (HRG, 2005: 3).

To-buy decision, according to Chan et al. (2006, p.98) can prove costly due to the high turnover of experts in the field and costs related to training and retraining of these experts to remain relevant to the rapidly changing IT sector. Cost-cutting alone would not be reflective of strategic decision as Leiblein et al. (2002)posit that companies that have some capital intensive production phases may adopt buying option on grounds that changes to the production needs may require further capital outlay and this would threaten the firm’s profitability (817). On this basis, firms are seen to have more flexible production capacities that customer reviews can incorporate in phases and not necessarily continuing to sell the product as it was originally produced. The decision to buy also comes with the disincentive of developing further the company’s capabilities as it limits the scope of imagination and self-sustenance due to the contracted firm dependence. Some buy-options have in some ways weakened competitive edge of firms, as its buying option could be a competitor and quality can only be close to what the product was intended to be (Leiblein et al. 2002, p.818). Advantages of buying

It this backdrop, this study looks into the merits of buying at the expense of making. Flexibility tops the list, as cost cutting cannot be particularly observed by the buying company. Flexibility in terms of production changes and technological alterations to incorporate features that were previously not present increases customer needs responsiveness. For manufacturing designs and products that require reengineering, buying makes more sense for firms that have small capital outlay. Some firms require adopting services different from what they currently pursue, which may demand the employment of specialized skills. Through buying, firms do not have to hire such services as the services can be offered from outside the firm. Firms can supplement their skill set without overstretching their social security obligations and other employment limitations (Ordoobadi 2005, p.1).

Production and manufacturing plants come with risks as regards safety of machines and chemicals that characterize production plants. Through outsourcing manufactured goods, a company can escape the possibility of such an occurrence. A key reason why many companies go into buying option is to reduce their factor inputs in terms of labor and capital, which in return reduces the potential of increased capital risks and the possibility for increased ability to use innovative and up-to-date developments without paying large amounts of outlay. Firms that opt to buy have the incentive of focusing on their strengths and core business (Ordoobadi 2005. p.1). Disadvantages of Buying at the Expense of Making

When firms make their products, there is the application and use of quality control within the production process. Firms can change the production design halfway and can alter the perceived flaws to fit their intended prototype. In the case of outsourcing, firms contract out their production process and have no control over the other firm’s production plant and hence cannot change the process midway or change design. In case of a changing design, the contracting-out- firm is likely to pay more, which was the reason for opting to buy. When making product, firms can keep up with supply fluctuations without having to put up with contractual rigidity of outsourcing. In this regard, a firm whose demand suddenly surges is bound to
experience problems, as the making firm capacity may not handle its production. Such issues arise and can threaten not only the profitability of the firm but its customer base satisfaction, which may affect long-term projects of the firm. When competitors outsource from the same firm, problems are bound to arise as regards supply capabilities and any sleight hand may lead to reduced competitive edge that was sought initially.

Notably, outsourcing can be a disincentive to the morale of employees as they may feel that they are used within their capabilities. For instance, a trained structural engineer contracted by the company outsourcing designs may make them feel underutilized. The process of continual contracting out may make such skills underutilized and underdeveloped. Some firms may never experience their optimal capacities when buying skills that can be developed locally (Ordoobadi, 2005. p.1). It is at this backdrop that the decision to buy or make can neither be straightforward nor structured, but must be critically evaluated, consultative, and well scrutinized so that the best can be achieved in a company. The Decision-Making Process

The pioneer of this debate proposed one of the oldest methods of making this decision. The Transaction Method proposed by Coase in 1937. As it was observed in IBM stance on outsourcing IT products, IBM is motivated by the desire to increase revenues against the wave of the quest for flexibility, modularity and the needs of the customer (IBM 2005 p.2). All these factors may or may not fit in the transaction method (Nikolakakos and Georgopoulos 2001, p.161). An attempt to consider cost incurred by the company to buy that would otherwise have not been spent had the firm made its products requires an even greater evaluation and a time factor that may not be at the firm’s disposal. Consequently, the firm must consider its identity and core properties and mission. A company whose mission is to become a market leader in its line of specialization may consider having its production schedules within its business model as buying may expose its unique competitive and product advantage (Merl and Husa 2006 p.17). The Problem of Misalignment

Bidwell (2009) took alignment concerns among contracting-out-firms and observed that firms require a balanced approach to multiple goals to achieve
alignment to its core business and the nature of this decision is multilevel and unsubstantiated in most firms. Consequently, contracting out can cause a lapse of any of this decisions and as a result problems of uncoordinated functions may arise to hurt the firms independence (5). In purpose, Bidwell (2009) posits that structural components inherent to the firm and decision to outsource or not go hand in hand (12). Things to Consider In Decision-Making

If a firm chooses to contract out, three aspects come into the play: whether there are possibilities of easy exit, or entry if consumer preferences change; the probability that customer responsiveness can be enhanced as feedback is acquired from consumers; and the chances that the relationship is bound to lead to improve relations and not foiled and endurance rather than mutual and loyal working progress (Preker et al. 2000. p.779). Consequently, buying is considered a continuum that ought to have benefits and rarely sacrifices (Sena and Sena, 2010. p.41). Minh (2011.p.647) looks into the Analytic hierarchy Process AHP while modeling relations of buy or make for Japanese automobile that is dominated by buy options and identifies that this continuum requires that firms to focus on specialized core business areas and not aim to control production model. For example, Toyota buys about two thirds of its products and its unique profitability and growth plan is unmatched.

Taylor looks at the economists’ view of contracting out especially overseas as seen in evident in IBM. The economy looses the potential to employ its populace when business operations are moved to low-cost production areas, for example, India and China. This premise is countered by the fact that these businesses are morally obligated to ensure sustenance and their collapse would spell doom to the same economy. Furthermore, as this firms move abroad, notably IBM stance to move abroad, they are able to use the advantage attained to offer lower costs for consumers (IBM 2005. p.371).

Mohamed et al. (2009 p.144) presents a similar outlook to that of Walker and Weber (1984. p.373) regarding choices. Although they differ on reasons for decisions, they pose that firms require understanding choices available to
them and tradeoffs regarding decisions influence on long-term and short term company objectives. Walker and Weber opine that decisions about transactions today are governed by the uncertainty associated with decision and uniqueness or specifity; hence, high-specialized goods may better be bought than made. Concerning manufacturing firms they have “technologically constrained systems, with inherent limitations in equipment, space, process technology, and other resources such as labor and capital. All of these limitations make trade-offs in the decision-making process inevitable.” The key difference between firms buying and those making is in their individual and unique capabilities. Some firms after trade off are forced to use the focused factory with objectives ranked on priority basis and dealt with in the same order (Dabhilkar 2011. p.60). IBM uses the focused system with priority being to enhance flexibility of their product designs. Based on the nature of technology products and consistency of its competitive priorities, its decisions are warranted. However, just like Dell their persistent use of buy-option makes their products lack the appeal that brands like Apple command. The Consequences of Decisions

Even with modularity playing a pivotal role in IBM’s decision to consistently buy Arya et al. (2013. p.24), have reservations over such decisions. They argue that the transaction costs lack the accuracy, and the decision to buy or make may be based on a false premise. The difficulty is when computing in-house production estimates with those of external buyers are offering ( IBM 2013 p.24). Consequently, McIvor and Humphreys (2000. p.306) devised a five-stage decision process. In manufacturing decisions, the first stage incorporates the identification of options and categories related to the firm’s performance. In this stage, IBM poses that setting a plant would enhance the appeal of their core business, yet at a cost higher than its projected growths. Step two involves a detailed analysis of the firm’s abilities. The limitation of keeping up with technology boom becomes a headache that ought to be eliminated in their books. What follows is the comparison stage between available options, and in this case, IBM figures that only rigorous training is avoided, as its producers require that its IT department remain updated with current technology. It also figures that it saves on flexibility and customer responsiveness better by simple design
alterations, and not plant overhaul, as would be the case had they decided to make. Just like Japanese companies that focus on their strengths, IBM does study suppliers to level that it strategically aligns itself with firms that complements its weaknesses. In short, step one is about defining company motive and objectives, step two evaluates options against the fulfillment of goals, step three analyzes the evaluated options on merit and strategic purpose with costs and suitability concerns, and lastly selection (Bajec and Jakomin 2010 p.288).

A follow-up of these procedures as posed by Klein (2005:441) ensures that misalignment and mal-adaptation of methods are avoided at an earlier stage. This method of evolution assumes that firms are aware of their business environment, which is not usually the case as some firms thrive on the basis that their competitors are ineffective. IBM may be buying over two thirds of its product components to enhance its chances of profitability, but firms its age have larger asset bases owing to their ability to have and maintain production plants unlike it, which focuses on the rapidly changing designs to respond to a market, which compromises customer loyalty eventually. Evidently, firms with production plants take time to develop and research a product well before production since they realize that the cost associated with mid production changes to the plants design unlike firms that buy and can rely on changing products midway to respond to customer reviews. Conclusion

In this regard, firms are compelled to make, and in doing so, they must ensure that they consider all the drivers of their markets and products. A blind look at technology change may overshadow the less urgent concern of long-term ambitions, the core business concerns, and capabilities, and participatory decision with stakeholders to ensure that decision achieves flexibility, modularity and gives the firm a competitive edge or strategic gain over an otherwise decision. The decision to buy or make rests on the management of each firm upon careful consideration of all the factors including costs, flexibility, technology, long-term ambitions, core business and competencies and relative advantage of the decision over the foregone.

Reference List
Arya, A., Mittendorf, B., & Yoon D.H., 2013. Revisiting the make-or-buy decision: Conveying information by outsourcing to rivals. The Accounting Review, pp.1-37. Bajec, P., & Jakomin, I., 2010. A Make-or-buy Decision Process for Outsourcing” PROMET-Traffic&Transportation, 22(4), pp.285-291. Bidwell, M., 2010. Problems deciding: How the structure of make-or-buy decisions leads to transaction misalignment. Organization Science, 21(2), pp.362-379. Chan, PS., Pollard, D., & Park, S., 2011. IT Outsourcing: Strategic implications. Review of Business Information Systems (RBIS), 10(1), pp.97-104. Dabhilkar, M., 2011. Trade-offs in make-buy decisions. Journal of Purchasing and Supply Management, 17(3), pp.158-166. Fine, CH., & Whitney, D.E., 2002. Is the make-buy decision process a core competence?” MIT Center for Technology, Policy, and Industrial Development, pp.1-31. HRG. 2005. HRG Insight: Making Successful Sourcing Decisions. [Online] Available at: [Accessed 26 Oct. 2013]. IBM. 2005. Aligning relationships: Optimizing the value of strategic outsourcing. [Online] Available at: [Accessed 26 Oct. 2013]. Leiblein, MJ., Reuer, JJ., & Dalsace, F., 2002. Do make or buy decisions matter? The influence of organizational governance on technological performance. Strategic management journal, 23(9), pp.817-833. McIvor, R.T., & Humphreys, P.K., 2000. A case-based reasoning approach to the make or buy decision. Integrated Manufacturing Systems, 11(5), pp. 295-310. Merl, A., & Husa, M., 2006. Make or Buy decision: Outsourcing-A successful method to reduce costs in business processes of international companies? Munich: GRIN Verlag. Minh, N.D., 2011. Empirical make-or-buy decision making model in the Japanese Automobile industry, S. Jain, R.R. Creasey, J. Himmelspach, K.P. White, and M. Fu, eds, 2011 Winter Simulation Conference. pp. 647-658. Mohamed, Z.A., Abdullah, H.H., Othman, R., & Uli, J., 2009. Make or Buy Strategy and Origin of Sourcing Materials and Their Relationship with Firm Performance” International Review of Business Research Papers, 5(3), pp. 142-155. Nikolarakos, C & Georgopoulos, N 2001. Sourcing: Issues to be considered for the make-or-buy decisionsl. Operational Research, 1(2), pp. 161-179. Ordoobadi, S., 2005. Development of
a decision model for strategic outsourcing. Journal of Applied Business and Economics, 5(2), pp.7-24. Preker, AS, Harding, A., & Travis, P., 2000. Make or buy decisions in the production of health care goods and services: new insights from institutional economics and organizational theory. Bulletin of the World Health Organization, 78(6), pp.779-790. Sena, M., & Sena, J., 2011. Make or Buy: A comparative assessment of organizations that develop software internally versus those that purchase software. Journal of Information Systems Applied Research, 4(2), pp.38-52. Taylor, T., 2005. In defense of outsourcing. Cato journal, 25(5), pp.367-377. Walker, G & Weber, D 1998. A transaction cost approach to make-or-buy decisions” Administrative science quarterly, pp.373-391.

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