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A Literature Review
The study investigates the evolution, pros and cons of outsourcing as business function. Many researchers have identified various reasons to outsource an activity following a set process. The review proposed a well defined integrated outsourcing process model for effective outsourcing. Using an example of a global company this study detailed the benefits of externalization process and concluded that outsourcing is successful if activity selected is correct.

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Global Procurement (BMO 5307) Assignment 1

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A Literature Review

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Contents
Introduction ............................................................................................................................ 4 United Technology Corp. (UTC) ................................................................................................... 5 Rise of an Era - History & Evolution ......................................................................................... 5 Why Outsourcing? ................................................................................................................... 5 Procurement Outsourcing & UTC................................................................................................ 6 Where To Begin? ..................................................................................................................... 7 What UTC Was Willing To Achieve? ............................................................................................ 9 Pro et Contra ......................................................................................................................... 10 UTC – Outsourcing Results ........................................................................................................ 11 Conclusion ............................................................................................................................. 12

Appendix A ............................................................................................................................ 13 Appendix B ............................................................................................................................ 14 Appendix C ............................................................................................................................ 15 Appendix D ............................................................................................................................ 17 References............................................................................................................................. 18

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Introduction
Ever since the industrial revolution and the evolution of capitalism, businesses have sought new ways to exploit their competitive advantages to increase their markets and growth. The world has become flat after we started using internet and cell-phones for outsourcing work to each other (Burkholder 2005). The global pharmaceutical outsourcing market augmented from $ 11.4 billion in 2001 to $ 24.9 billion in 2007 (Boulaksil 2009). The US Outsourcing market was valued between $ 200-300 billion in 2006 (Barrar & Gervais 2006). In almost few decades several providers of outsourcing services for categories like maintenance and facilities emerged. In an era of “global market” and “e-economy” using offshore based legal research, financial management and more became main pillars of the new ways to conceive the major international partnerships (Balls 2006; Galetto et al 2003). Outsourcing is one of the oldest hot business ideas and in today’s global economy it is almost impossible not to outsource. Burkholder (2006) suggests that the debate about outsourcing is hampered by the fact that people are often unclear about the subject. So what exactly is outsourcing? WNS (2013) broadly defines outsourcing as “a strategic initiative that organizations take to employ external resources to conduct functions and run business processes that are both core and non-core activities and critical for business success”. This means outsourcing is a strategy by which an organization contracts out major functions to specialized and efficient service providers, who in-return become valued business partners. A management process that is also known as “external sourcing”; it allows delegation of responsibility to an external agent (Galetto et al 2003). It is a “strategic use” of outside resources to perform activities traditionally handled internally (Handfield 2006). Summarizing, an organization gets an advantage to use the technology and competencies of an expert, thus saving one’s own capital investment and eliminating staffing requirements. As business is about bringing the right product to the market at the right price, if outsourcing allows organizations to produce their products more cheaply then they will have a competitive advantage (Parry et al 2006). It allows an organization to realize exactly what each product or result will cost before it decide to obtain it. Extensive outsourcing allows businesses to concentrate on core competencies (Leavy 2001). This report deals with the evolution, purpose, pros and cons, and process of Outsourcing. The concept has been explained with a real-life example of an organization and its experience with outsourcing strategy and will conclude whether outsourcing is a boon or hindrance. This report is a product of study conducted on extensive literature available in form of journal articles, books, research thesis and, web content.

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United Technology Corp. (UTC) (UTC 2013)
160 years old revolutionary United Technology Corp. became an industrial power, when its six core business units generated revenue of $31 billion in 2003 (IBM 2013). The company was born on 20th September, 1853 when inventor of “Safety Elevator” Mr. Elisha Otis sold it to Benjamin House, New York. After enormous success of its elevators, company diversified into aircraft engines and space propulsion systems as ‘Pratt & Whitney’; into helicopters as ‘Sikorsky’. UTC Aerospace Systems was formed to provide integrated solutions for aviation. UTC is a pioneer in Climate Controls & Security. In year 2012, UTC sold products worth $57.7 billion.

Rise of an Era - History & Evolution1
Externalization of low value added value chain activities in firms (Varadarajan 2009) is an historic concept. Burkholder (2006) wrote that it was used first time when a carpenter paid someone else to cut down a tree for wood, and a lot other fascinating stories have been discussed around the world to trace the origin of Outsourcing. Interestingly, very few management practices have attracted as much attention as “it” is enjoying at present. Outsourcing history dates back to as far as the Industrial Revolution although not fully recognized as business strategy until late 80’s. The birth of large-integrated business model in 20th century redefined theory of a successful business and corporeity’s facilitated development of multi-layered management structures. This highly manifested the demand of diversification during 1950-1960 to protect profit and exploit economies of scale. However, globalization in 1970-1980 gave rise to the never-ending war of global competition and organizations handicapped by their departmental silos were not flexible enough to compete globally. To change these undesirable situation businesses shifted their focus on their core activities and externalized their low value added value chain activities. Moreover, it wasn’t until 1989 when world formally identified outsourcing as a business practice and since 1990 it has been a continuous rise of an era of outsourcing.

Why Outsourcing?
Today, where competent vendors can provide services for virtually everything, it is worth asking how, when, and ‘Why’ outsourcing should take place (Balls 2006). In such an attempt Duke University Offshoring Research Network Survey 2007-2008, revealed “labor cost savings” as a prime reason and “cost saving from outsourcing” as another for conglomerates to outsource their activities (Esperne 2009). However, primarily it is about introducing and gaining capabilities that generally may not exist in an organization (Teems 2003).

1

Detailed in Appendix A

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Reilly & Tamkin (1996) suggests that the decision to outsource rather than adopting any alternative approach may be driven by history or the circumstances of the moment. There could have been a problem of long standing that an activity has delivered a poor service or at a high cost; although internal solution were tried without success, externalization was thus seen as a last resort (Reilly & Tamkin 1996). However today, outsourcing is more of a strategic decision revolving around core competencies rather than based on management philosophy or as a response to specific problem (Narayanan 2010; Reilly & Tamkin 1996).

Reasons For Outsourcing2
Acceleration of Reengineering Benefits Access to World-Class Capabilities Freeing Up Resources for Other Purposes Function Difficult to Manage Improved Company Focus Making Capital funds Available Reducing Operating Cost Sharing Risk Resources Not Available Internally
(Burkholder 2006; Kirker 2006; Balls 2006; Teems 2003; Galetto et al 2003; Reilly & Tamkin 1996) Handfield 2006; Narayanan 2010;

Lastly, reason behind outsourcing may vary with the type of activity being outsourced but still it seems reasonable to hypothesize that “cost reduction” would be the prime incentive where ancillary services are to be contracted out.

Procurement Outsourcing & UTC
In 2003, Procurement – or what many call “spend management” at UTC was more than $14.5 billion perhaps making it the richest vein of opportunity. Companies first Senior VP – Supply Chain Management Kent Brittan, envisioned of common sourcing processes across all business units. Organization negotiated contracts for indirect supplies and services, but unfortunately in absence of a centralized control system these contracts weakened their impact by making it impossible to restrain individualist purchasing. For consolidating its sourcing process UTC was required to rebuild them from scratch and reshape the entrenched culture that was evolved within each unit. Seeking more pleasant options, the company began benchmarking the procurement practices and came across IBM Procurement Strategy and decided to externalize procurement. Procurement Outsourcing is a process of transferring the operation of sourcing and spends management to a third-party service provider and aims at enhancement of shareholder value. (Huber & Minahan 2012; IBM 2013; Poisson & Devoe 2003)

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Detailed in Appendix B

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Where to Begin? The last two decades have shown an evolution in outsourcing processes making it strategic from traditional; it is considered traditional if a process not considered “critical” and do not require specific competencies by supplier for an organization are outsourced (Galetto et al 2003). Galetto et al (2003) suggest strategic outsourcing is “when companies outsource everything except those special activities in which they could achieve a unique competitive edge”. Secondly, outsourcing refers to a transitional phase, so when an organization beginning its outsourcing process should start a benchmarking procedure to evaluate the best practice for it specific case (Varadarajan 2009; Galetto et al 2003). The main aim of an organization is to conduct an externalization process that could have an impact on its strategic decisions, economic factors, organization and human resources. As it is a widespread process, it is essential for managers to fully become conscientious about the process implications and steps. This report proposes an outsourcing process model that is developed by integrating three different models to manage the implementation of an outsourcing process. The understanding of this integrated model can help outsourcing managers to be more secure in their daily decisions.

Planning Initiatives

Exploring Strategic Implication

Analyzing Cost and Performance

Transitioning Resources

Negotiating Terms

Selecting Providers

Managing the Relationship

Figure 1: Greaver’s Strategic Outsourcing Model (ASAE n.d.)

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Analysis and Planning

Transfer of the Activity

Outsourcing and Supplier Management

Supplier Selection

Contract Negotiation

Performance Sysyem Construction

End of Contact

Figure 2: Step by Step Outsourcing Model (Duarte et al 2004)

Internal Benchmarking
•Core Comepetence Evaluation •Identification of Processes to be Outsourced •Types of Relationship •Activities Stratification

External Benchmarking
•Outsourcer Slection •Service Level Agreement Efficiency Curves

Outsourcing Management Contract Negotiation
•Temporal Evolution •Management of the Outsourcing Process

Figure 3: The Outsourcing Model (Galetto et al 2003)

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Analysis & Internal Benchmarking

Planning Initiatives

•Core Competence Evaluation •Analyzing Cost & Performance •Activities Stratification •Exploring Strategic Implications

Type of Relationship

External Benchmarking
•Outsourcer Selection

Transitioning Resources

Contract Negotiation

Outsourcing & Supplier Management
•Performance System Construction & Time Evolution

End of Contract

Figure 4: Integrated Model3

What UTC Was Willing To Achieve?
With high degree of decentralization that made replacing UTCs procurement process costly, cost reduction was a clear goal of this initiative. UTC was willing to achieve, primarily a procurement process with greater control and visibility without having to embark on a complex, disruptive and costly investment in its own systems. Subsequently, transformation of it long and manual approval cycle into anything but “hands-free” order processing and automated system. Third aim was for general procurement a system to make corporate deals with strategic suppliers and to drive compliance with corporate contracts. Lastly, increasing its ability to effectively harvest the potential efficiencies and economies of scale that lays within its global operations. (IBM 2013)

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Detailed in Appendix C

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Pro et Contra There are many benefits that can occur from outsourcing. The primary benefits of outsourcing are lower operating costs and better capital reallocation of internal resources towards betterment of core activities (Poisson & Devoe 2003). Outsourcing makes it possible for an organization to limit its focus and efforts towards core business moreover also in pursuit of its medium-/long targets and diversification opportunities (Galetto et al 2003). Typically, businesses can expect to realize the following benefits from an effective outsourcing initiative.

Advantages
Access to World-class Capabilities Better Capital Allocation Cost Infusion4 Diversification Opportunities Elimination of Recruitment Cost Elimination of Training Cost Hedge Future Increase of Raw-material or Inventory Improved Focus on Long-term Targets Improved Focus on Non-core Activities by Supplier Improved Quality & Service Time Increased customer satisfaction Reallocation of Internal Resources to Core Activities Reduced Operating Cost Reduced Risk Staffing Flexibility
(Poisson & Devoe 2003; Balls 2006; Narayanan 2010; Landgraf 2011; Galetto et al 2003; Kirker 2006; Hanson & Olson 2005; Burkholder 2006

A Deloitte Survey (cited in Esperne 2009) revealed that a three-fourth of respondents felt that their contracts suffered from “poor vendor selection and lack of service levels”. Another twothird had at least once terminated its contract and moved it to another outsource, and almost another two-thirds mentioned that problems were escalated to senior management within the first year of contract (Esperne 2009). It is alluring to presume that externalization will lower costs, and reduce work load of an organization. Ironically, that is not the case to be because very often the reverse can be true. According to Balls (2006) “why should it cost less to buy in a service from an independent vendor who is in business to make a profit?” In support an International Association of Outsourcing Professional Survey 2006 reported that only eleven percent participants agreed that their outsourcing deals generated value (Esperne 2009).
4

Detailed in Appendix D

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The issues after outsourcing have stemmed from a lot of causes, partly determined by why outsourcing was chosen, and partly determined by how it was put into effect; because if organizations have failed to solve a problem themselves and as a solution transferred it to outsourcer, they5 have tended it to find that it has remained difficult (Reilly & Tamkin 1996). The following table lists however doesn’t limit to most of the consequences of inadequate or faulty decision making or poor contract preparation.

Disadvantages
Supplier Product Quality Failure Regulatory Compliance Outsourcing a Wrong Function Contractual Difficulties Time Spent in Monitoring Contract Performance Service Difficulties Loss of Expertise to Manage Contractors Problems with User Group Employee Difficulties Unexpected Costs Inability of Managers to Adjust Poor Communication Between the Parties Putting Part of your Company in Someone Else’s Hand (Landgraf 2011; Burkholder 2006 ; Reilly & Tamkin 1996

UTC – Outsourcing Results
Procurement Externalization resulted in complete automation of UTC’s 80% procurement transaction that improved its workflow efficiency and transaction quality. Since its productive buyers were now more focused on strategic sourcing issues rather than on solving problems UTC was able to save in excess of $250 million from its total indirect procurement transformation program. With decrease in share of off-contract purchases and increased ability of efficiently capturing volume-based discounts and rebate, IBM facilitated lowered overall procurement costs. Another great advantage was achieved from real-time control over purchasing that raised accountability and discouraged unnecessary spending and lowered supply inventory stocks across the company. Last but not least, procuring Procurement as a service from IBM enabled UTC to avoid the cost and effort of implementing its own new systems and processes. With a solid track behind record of savings behind it, Kent Brittan said – “the biggest savings inherent in this system were the things that never get bought and forced people to consider and justify their expenditures much more closely”. (IBM 2013)
5

both outsourcer & outsourced

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Conclusion
As organizations question whether to perform an activity within the boundaries of its firm or outside, the review illustrates that there are reasons to believe that outsourcing is a magical-wand to certain problems. Since, outsourcing from a small activity has turned into aggressive business phenomena reviews have been made in favor of outsourcing. Although researchers have always expressed their concern about how organizations are using practices and then why they should outsource. Outsourcing as a growing business model is all about strategically transferring an activity to an expert and in doing so organizations must calculate risk involved. Lonsdale & Cox (2000) suggests no business decision is risk free; indeed outsourcing on some occasions is the riskier course of action. This study reveals that outsourcing an activity is only fruitful when done efficiently, which not only involves choosing right partner and building strong vendor-client relationship. However, deciding a correct activity and differentiating between core non-core functions is quintessential and forms the base of an effective outsourcing project.

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Appendix A
History & Evolution
Period/Year
Eighteenth Century

Description

Outsourcing history dates back to as far as the Industrial Revolution when companies browbeaten their competencies to boost their markets and their profits, although it was not fully recognized as business strategy until late 80’s. Nineteenth In the Nineteenth century railway companies relied on steel manufacturers, Century component manufacturers and tool makers to construct locomotives. Twentieth The twentieth century saw the emergence of the model of large-integrated and Century global corporations that “own, manage, and directly control” its assets with complex and multi-layered management structures and reintroduced the definition of a successful firm based on its ability to perform these functions. 1950 - 1960 To broaden corporate bases and take advantage of economies of scale, the World economy witnessed the emergence of diversification as a popular strategy. However, the rallying cry was to protect profit; businesses took expansion irrespective of the fact that it required multiple layers of management. 1970 - 1980 Globalization gave rise to the never-ending war of global competition. At the same time businesses discovered themselves incapable as they lacked agility to compete because diversification had overstuffed their management structures leaving them handicapped to adapt flexibility. To win over this detrimental development, many organizations developed a new strategy of shifting their focus on their core business processes and externalized their low value added value chain activities. 1990 – Till Date It was in 1989 when Outsourcing was formally identified as a business strategy and the following decade global economy saw the rise of Outsourcing. Managers realized the value of handing-off noncore activities as they focused on cost-saving measures to increase revenue. The trend toward using outsourcing as part of an effective business strategy continues to the present. (The Outsourcing 2013; Handfield 2006; Narayanan 2010; Varadarajan 2009; Lonsdale & Cox 2000)

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Appendix B
Reasons For Outsourcing
Reasons Description
Acceleration of Reengineering aims at improvement of performance measures like cost, quality, service, and speed for increasing efficiency however which usually conflicts with the need to invest Reengineering in the core business. Ironically, then noncore functions are neglected making system less Benefits efficient. By outsourcing noncore activities to competent vendors, companies can exploit the benefits of reengineering.

Access to World- Competent vendors make extensive investment in technologies, methodologies, Class Capabilities and people. They gain expertise by working with many clients facing similar challenges. This blend of specialization and expertise gives clients a competitive advantage and help them avoid the cost of chasing technology and training. Every organization has limits on the resources available to it. Outsourcing permits an Freeing Up organization to redirect its resources, most often people resources, from noncore Resources for activities towards activities that serve the company. The organization can redirect these Other Purposes people or at least the staff slots they represent onto greater value-adding activities. People whose energies are currently focused internally can now be focused externally-on the customer. When a function is viewed as difficult to manage or out of control, outsourcing is certainly one option for addressing this problem. However, It is critical to remember that the organization must examine the underlying causes. If the requirements, expectations, or needed resources are not clearly understood, then outsourcing won’t improve the situation; it may in fact exacerbate it. If the organization doesn’t understand its own requirements, it won’t be able to communicate them to an outside provider.

Function Difficult to Manage

Improved Company Focus

Outsourcing lets a company focus on its core business by having operational functions assumed by an outside expert. Freed from devoting energy to areas that are not in its expertise, the company can focus its resources on meeting its customer needs. Making Capital By outsourcing the need to invest capital funds in noncore functions is eliminated. funds Available Because, the acquisition of noncore resources are not made through capital expenditures. The need to show return on equity from capital investments made in noncore activities is eliminated. Reducing Business activities incur vast expenses, all of which are passed on to the customer. Operating Cost A vendor’s lower cost structure, which may be the result of a greater economy of scale or other advantage based on specialization, reduces a company’s operating costs and increases its competitive advantage. Sharing Risk Risks are associated with the investments. Investments like market, competition, technology, and especially people all may change extremely quickly. Vendors make investment on behalf of many clients not just one. So shared investment spreads and reduces risk. Resources Not The quick and easy solution to it is Outsourcing. It builds the desired capabilities Available required by an organization. Internally (Burkholder 2006; Kirker 2006; Balls 2006; Teems 2003; Handfield 2006; Narayanan 2010; Galetto et al 2003; Reilly & Tamkin 1996) Victoria University | Saurabh Babbar

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Appendix C
Integrated Model
Steps
Planning Initiatives/Program Initiation

Description
The most difficult and most important step of any outsourcing process is to identify the purpose behind externalization. Organizations must begin with establishing “cross-functional teams” to plan and discuss variety of ideas and opinions about the purpose and scope of outsourcing. This team will control the outsourcing process during the initial phase. Also it is at in this phase that organization must share the outsourcing information with employees to boost their moral.

Analysis & Internal Benchmarking

1. Core Competence Evaluation

2. Exploring Strategic Implications 3. Analyzing Cost & Performance

4. Activities Stratification

Type of Relationship

External Benchmarking

1. Outsourcer Selection

An organizational change implies setting up of distinguishing activities in comparison with competitors. In doing so outsourcing may bring opportunities as well as risks to an outsourcer; so a detailed and cautious analysis is crucial. By internal benchmarking team must identify core and non-core activities. Also known as individualization of activities to be outsourced, it is facilitated by considering and comparing the efficiency of different activities. At this step organization analyze its “vision of the future; current and future structure; current and future competencies”, using outsourcing as a strategic tool. Once current and future analysis of an organizations core and noncore activities is done, next step is to take into account every individual cost required to support each activity. Reason, for every activity a “make or buy” decision is made and these decisions are based on both monetary and performance factors. Where monetary is related cost, performance factors are related to the improvement of activity’s performance and its consequences. Based on the “strength” of an activity to be “strategic” than the other, an ordering of activities is very critical for the activation of outsourcing process. Organization can create a concentric stratification of the activities to be outsourced thus progress accordingly within these layers. Different type of relationship can be considered between “outsourced” and “outsourcer” based on the criteria of “Specificity” and “complexity” of process. Usually relationships are described as “traditional vendor; temporary relationship; strategic union; and network organization”. It is a tool monitor the service level offered and to define competitors relative positioning in the market. Its main aim is supplier selection therefore a criterion for supplier selection must be developed and should cover the reason why the activity is being outsourced, the expected benefits and potential dangers. Finding potential vendors can be achieved through references, advertisements, and RFIs. Organization can choose to cooperate Victoria University | Saurabh Babbar

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Contract Negotiation

with a single vendor, multiple vendors, or integrated suppliers. Once RFP process is completed, potential suppliers are identified and an initial assessment of their ability is made. Successful vendors are invited to present a proposal for the outsourcing. Proposal evaluation results in discussions and further leads to supplier’s final formal proposal presentation. Finally, the vendor is selected by the outsourced. This phase is the formalization of the relationship between both the parties. It is very clear and important phase of the process; it is in this phase that the rules of the outsourcing are set. The creation of an excellent, well-documented understanding at this point can substantially contribute to the success of the relationship.
This phase is the reassignment of control of the outsourced activity from the outsourcer to the contactor. Externalization is a transitional activity and therefore introduces new situations with in a traditional company operation. Now “outsourced” has an external organization performing significant task and therefore it has to establish a basis to properly integrate the supplier into its own processes. Both parties should define their expectations and work together; however general issues during this phase may include cultural differences, relationship between employees at all level, and other human resource issues especially as job losses.

Transitioning Resources

Outsourcing & Supplier Management

Once the outsourced process is already running, during this mature phase vendor is responsible for the activity and its performance. As an “outsourced” has to change its normal management to more strategic management. It also defines the strategy and objectives of the outsourcing that a vendor is expected to achieve. In doing so the client’s new management role is to monitor and manage the supplier and its performance.
For managing the time evaluation of an outsourcing process it is compulsory to fix performance levels. Tools used by client should be defined in the contract. The reports presented by suppliers are measured against the performance and results are evaluated by managers periodically. If tolerated gaps are exceeded, the client analyzes the reaons and provides corrective actions. Possible reasons could be wrong definitions of standards, or incorrect activities arrangement in progressive layers. If none of the causes is the reason for the exceeded gaps, client must reconsider his strategy and think about re-inshoring/backsourcing the process within the organization.

1. Performance System Construction & Time Evolution

End of Contract

At the completion of a contract client has three options: to renegotiate with same vendor, switch to another supplier or to backsource the function. An organization may adapt to a combination of all three. Last one leads to termination of the contract in cases if irrevocable decisions have been made. In such cases staff and companies accept the new situation and move with it. However, a lot of information will be generated during the life of the program, and retained by staff for future.

(ASAE n.d.; Galetto et al 2003; Duarte et al 2004)

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Appendix D
Advantage
Reason
Cash Infusion

Description
Outsourcing often involves the transfer of assets from the company to the provider. Equipment, facilities, vehicles, and licenses used in the current operations have value and are sold to the vendor. The vendor then uses these assets to provide services back to the client. Depending on the value of the assets involved, this sale may result in a significant cash payment to the company.

(Burkholder 2006)

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References
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(whitepaper), Above the Standard Procurement Group, viewed on 09 August, 2013, .
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18. Parry, G, Moore, MJ & Graves, A 2006, ‘Outsourcing engineering commodity procurement’, Supply Chain Management: An International Journal, vol. 11, no. 5, pp. 436-443. 19. Poisson, J & Devoe, S 2003, ‘Procurement outsourcing delivers value’, Pulp & Paper, vol. 77, no. 4, pp. 64. 20. Reilly, P & Tamkin, P 1996, Outsourcing: a flexible option for the future?, The Institute for Employment Studies, Brighton, The UK. 21. Teems, Y 2003, ‘Outsourcing offers some pros, along with a few cons’, Business Insurance, vol. 37, no. 30, pp. T13. 22. The Outsourcing 2013, In the beginning- a quick history of outsourcing, The Outsourcing-Guide, viewed on 09 August 2013, . 23. UTC 2013, United Technology, viewed on 15 August, 2013, . 24. Varadarajan, R 2009, ‘Outsourcing: think more expansively’, Journal of Business Research, vol. 62, no. 11, pp. 1165-1172. 25. WNS 2013, Tenets of outsourcing, Dictionary, WNS (Holdings) Ltd., viewed on 09 August 2013, .

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