Develop Within or Outsource?

One of the biggest challenges faced by business managers today is in deciding which processes or components are to be outsourced and which areas should they build competence within the company.

The general rule recommended by experts is to build competence in your core areas of expertise and to outsource the rest.

But is it really possible to identify your core competence area?

It could also happen that what is core competence for your business today might no longer be the same in the future and something which doesn’t look so important today could become the core competence of the industry going forward…

So, let me explain this with a widely quoted example of IBM... When the computer industry was developing IBM was the market leader. As the industry was just evolving IBM designed all the key components in house including the processor and the operating systems which went into the computers.. But this process of making everything inhouse was taking a lot of time and money and IBM decided that it should focus on its key skills of designing, assembling and marketing computer systems and outsource the balance functions to other vendors and suppliers..

While doing so it also outsourced the microprocessor part of the business to Intel and the operating system part of the business to Microsoft.. Both Intel and Microsoft were very small companies then. What also prompted IBM to make this decision was the?situation then were profitability of these two components in the overall picture and was very small and miniscule..

Today when we buy a computer the two key factors that influence the decision making are the processor being used and the operating system being used... Also almost all advertisements talk about which version of intel processor is being used in any brand of computers..

As Intel and Microsoft have grown to become huge companies their profit shares in the overall product structure has also grown drastically. IBM on the other hand has exited most of the computer segments by selling a lot of their computer divisions..

I quoted this example to show how two components which IBM had outsourced because they were not part of their core competencies and not really contributing much to their profits later went on to become the key drivers of the industry..

Let’s understand the usual sequence of events which plays out which leads to industry shifting from an integration model to an outsourced and back again over the period of time.

I.????????????Introduction stage

Whenever a new product or service is launched depending on the type of product or service most of the components involved would have to be made in house or totally outsourced depending on the type of stage is product is in ..Let’s understand this with two different examples

When the mobile service was launched in India for the first time it was a totally new concept and almost all the functions involved were done in house by each of the selected companies... So while there were technology companies to supply the products required to build the network, companies had inhouse teams which took care of everything from identifying and finalising tower locations, obtaining the necessary agreements with the land owners, the approvals for putting up the towers ,the customer facility to manage the new customers who would be acquired, the field service team to maintain the towers and networks, exclusive networks to sell the mobile network connections etc ..if you remember all the companies adopted the concept of exclusive showrooms and teams of direct employees to sell the connections ..

In the case of colour televisions since the demand for the product was high there were many companies which came up to meet the same... Almost all of them imported kits and assembled the same in India. The same was the case with the earlier example quoted for IBM and for Apple when they got into the PC segment.

II. ???????Integration Stage

During this stage as the initial introduction was successful companies look to scaleup operations. In order to speed up the growth phase companies look at:

1.Introducing more features which will make their products more popular with their consumers and beneficial to the companies. Examples would be mobile handsets with a better camera or better computing capability and so on.

2.Look at integrating most of the components in house so that they have a better control on the quality of the product ..example would be that of apple phones where they have tried to keep all products in their istore or a colour television company integrating backward to build in all the components that went into the making of the earlier CRT colour televisions in house.

3.Look at opening newer channels to make the product available to a wider audience ..So a mobile service company which started out only with an exclusive retail chain and only post paid connections would start prepaid connections and build new channels to help popularise the same during this period.

The key factor in this phase is that since the product or service is new, consumers are willing to pay for the new features and new services that the companies are introducing and hence the companies find all the new integration stages to be extremely popular and well received.

II.???????????Growth Stage

During this phase of growth, the product or service reaches the masses, and the following changes start happening in the industry

1. Companies continue to offer more and more features and services and many of them are not ones that consumers want and hence the usage and appreciation of consumers for these newly introduced features and services becomes lesser and lesser.

2.Seeing the industry growth more and more players start entering the industry.The best example that comes to mind is the huge rush that happened into the Indian mobile service industry around 2009..Since the industry was growing and expanding there was space for all of the 14 players that had come into the industry.

This is also the phase when consumers stop paying for the newer features and services that are introduced by the various companies as they start competing among themselves for the consumers attention.

IV.?????????Modularity Stage

As mentioned earlier as consumers become less and less willing to reward further improvement in functionality and reliability with premium prices some companies get better and better at providing the consumers with exactly what they want when they want it and start earning better margins..

This leads to companies looking at all means to reduce cost ..outsource all non-core functions to save on cost ..modify the product architecture to modular so that the different components and services involved can be sourced from the best and cheapest supplier.

To explain with examples, if you take the PC?industry which till a certain point of time was driven by vertically integrated through companies like Apple or Silicon Graphics it started evolving into the modular stage with companies like Dell, Compaq, HP and IBM focussing on product design and sales and distribution while companies Intel, Motorola and Samsung focussing on the various components that were required for making the PC.

These components were then assembled at contract manufacturing units. Companies like Microsoft focusing on the operating system and companies like Word perfect, Lotus etc focussing on the application software part.?Depending on the consumer requirement all these various components were put together by the major sales and distribution companies or even smaller contract suppliers…

This is also the period when most companies start outsourcing all the non-core requirements. To quote a few examples this is the period when Indian mobile companies started outsourcing network and network maintenance and upkeep to network manufacturers, consumer support functions like call centres to call centre companies and shifting of sales and service channels to outside agencies.

V.??????????Integration Stage

Its not that after modularity the industry continues in that manner indefinitely. In these modularity stages there would arise gaps were consumer requirements are still not being met and if companies can meet these requirements the product or service shifts back to integration stage. In the initial stages of application software there were players like Lotus and Word perfect which took care of application software requirements of the PC industry.

As more and more people started using these application software’s there arose newer and newer consumer requirements like shifting of graphics and spread sheets into word processing documents etc which couldn’t be addressed by the different modular vendors which were addressing to only a specific segments. This led to the creation of the Microsoft suite which integrated all these requirements and led to Microsoft wiping out the entire competition and this segment continues to be in the integrated stage.

Another example that comes to mind is of Android and Google Store. When smartphones came into prominence, they were mainly run on Symbian software. As more and more consumers migrated to smartphones and to internet from phones the features provided by Symbian software wasn’t able to meet the consumer needs and this led to a wider adoption on the android software for smart phones by all major handset manufacturers and android today controls close to 75% market share in this segment. Similarly, as Symbian was not able to provide a store like Google Store where independent developers who have worked on developing products on Symbian software these developers shifted to Android once the Google store became functional.

The various steps that I explained do not always happen in the same sequence or at the same period of time for the entire product category. These usually happen as small incremental changes which build up over time.

There are also several companies which lost out by not shifting to a modular form from a integrated mode. .The two best examples that come to mind are the Blackberry messaging service and Apple facetime?..If these two products had shifted to a modular mode and started offering their products to all providers we might not have seen the creation of WhatsApp as we know today…

All companies and business managers try to decide on whether to integrate or outsource based on the information available with them on how the industry will evolve and grow…

But like great goal scorers in football or hockey the success is in not being where the ball is present at this point in time but to be present where the ball is going to come in the future…