Thursday, October 21, 2010

Choosing the “Correct” Outsourcing Relationship

Now that the make or buy decision has come down on the buy side, its time to choose the type of outsourcing to best suits your needs. There are basically four different types of outsourcing relationships:

1. Wholly Owned Foreign Entity (WOFE)
2. Joint Venture (JV)
3. Strategic Partnership
4. Sourcing Company.

Wholly Owned Foreign Entity (WOFE). As you might guess from the title it is the largest of the four as far as commitment of resources (money and time) and poses the greatest risk for the owner. This is not to say that the WOFE doesn’t have its place. If you are planning to move a major portion of manufacturing this option allows for the greatest control. If you choose to go this route be prepared to spend a great deal of time and money on lawyers and consultants as this is the most complex means of outsourcing.

Joint Venture (JV). This method allows for expanded control through ownership and is a common practice. The upside with this option is that because you have part ownership you have control over product and process. The downside is that you have responsibility that comes with ownership in a foreign country but you don’t always have the authority to maintain control. Most JV’s fail because the partners can’t agree on the primary goals and the means to achieve them. The vast majority of JV’s end in failure because of the incompatibility of the partners because one or more of the partners was not honest regarding their expectations.

Strategic Partnership. This is much like a JV except that you are merely the customer with no rights or responsibilities of ownership. This method is used mostly to achieve preferred customer status in an industry with limited capacity or raw materials.

Sourcing Company. For every WOFE and JV there are scores of sourcing companies. The reason is simple - this option offers the lowest up front investment of resources and the greatest flexibility. If the right sourcing company is chosen, risk is drastically reduced. This is because an experienced sourcing company has all of the mechanisms in place to manage process, material, quality, security and logistics. This type of outsourcing relationship can also be used as a spring board into more committed relationships after the customer gains knowledge in their dealings with the sourcing country. A sourcing company is also the easiest relationship to extricate yourself from if you decide that the fit is not right.

In summary, it is best to start your outsourcing initiative with a Sourcing Company, and work your way up to the higher commitment relationships as the needs and value would dictate.

Monday, May 17, 2010

The "Make or Buy" decision

The first thing that needs to be done is to define, “What is Outsourcing”? Outsourcing is the procurement of products or services outside of ones own company. With that out of the way the discussion as to “why outsource” can be engaged with clear understanding. Whether or not to outsource is simply the make or buy decision, and that decision is based upon several factors. The first and I think the most important question that must be asked is does this particular activity fall within the company’s core competency? If it does not then it is a candidate for outsourcing. There are those people who feel that they are betraying their employees by outsourcing any part of manufacturing, but companies outsource many functions every day and think little of it. Most companies outsource their payroll tasks, security, janitorial and cleaning along with other functions too numerous to mention here, and they do it for the one simple reason that it’s more cost effective to let pay someone else to do it. This is most commonly referred to as “Economy of Scale”, simply put its easier and cheaper to let a payroll company manage payroll than to hire a person specifically for that job.

So now we get to the heart of the question “Why Outsource”? These are a few of our most compelling reasons. “Focus on Core Business”, if your core competency is designing and building cars, it’s probably more cost effective to let the tire maker worry about growing the rubber for the tires. “Restructure Entrenched Departments that are Resistant to Change”, how many times has a company’s improvement efforts been thwarted by a department that refuses to go along with the plan. “Reduce Production Costs to Breathe New Life into a Marginal Product Line”, over the normal course of a products life there is price erosion due to market pressure. “Customer Demand is Out Pacing Production Capacity”, a company can expand production capacity without new capital expenditure. “Second and Third Shift Inefficiencies are Driving Up Costs”, typically shifts other than the primary manufacturing shift have lower production efficiencies.

The next part of the equation is what type of outsourcing to use, there are four basic types. The first and by far the most capital and time investment intensive is the Wholly Owned Foreign Entity (WOFE). In the case of the WOFE the foreign entity would be required to capitalize and staff the factory, in most cases this requires a great deal of money and a constant presence in host country. You can see where this type of outsourcing would be a daunting task. The Joint Venture (JV) is the second type of outsourcing and a very common one. In a JV you would find a company that already fulfills the requirements of facility, skilled labor and so on, and you would either invest in the existing company or form a new company with the existing company. The JV is clearly less capital and time intensive but is not without its drawback’s. The primary detractor of the JV is the matter of control over just about everything, the facility, the personnel, the product and the money. The primary reason that JV’s fail is that the foreign investor losses control over the venture and pulls out so they don’t lose everything. The Strategic Partnership is the third method of outsourcing and is generally fairly successful. The strategic Partnership is simply an agreement between two entities that give roughly equal benefit to both parties. As long as each party performs their part both parties are happy. The last but most common type of outsourcing is using a sourcing company. Sourcing companies are used at a rate of 10 to 1 over the three previous methods combined. The reason for this is simple; if you choose the right sourcing company you get all the benefits of outsourcing while greatly reducing your exposure to the risks. With the proper partner you get to operate as if you are dealing with a local company, but you get the benefit of reduced product cost. A good sourcing company will give you payment terms, manage all aspects of process including quality and material control as well as logistics and work closely with your supply chain management to ensure that there is an uninterrupted flow of quality product.

Companies choose to outsource to China for a variety of reasons such as a broader range of suppliers, components and technology in the lower cost labor market. China also has the advantage of superior investment from government into infrastructure yielding far better transportation systems than their competing countries. Finally, China is very open to western business practices and has a very large English speaking business population.

Sunday, April 11, 2010

Damn the Torpedoes

Well, as I sit poised at the edge, ready to take the plunge, I contemplate this inaugural blog post and I imagine it feels about the same as the first foray into the world of outsourcing in China, without the devastating financial possibilities, of course. But as calm washes over me I realize that, like outsourcing, blogging is a process. I have my research and many years of outsourcing experience. Besides, what’s the worst that can happen? They can kill me but they can’t eat me -- that’s against the law. So, in the immortal words of Admiral Farragut “Damn the torpedoes -- full speed ahead!”

First a little about us, my partner and I started Pan Pacific Sourcing, Inc. in 1996 and prior to that both of us were in outsourcing for a large multi-national/multi-cultural company with annual sales exceeding $800 million using their wholly owned factories and sub-contractors around the globe. Pan Pacific is an American company that uses its joint ventures and strategic partnerships with Asian manufacturing facilities to assist domestic companies in product development with the emphasis on mass production in Asia. We have a broad range of capabilities including but not limited to mechanical assembly, plastic injection and blow molding, investment and die-casting, stamping, machining, aluminum extrusion, electronics, printed circuit boards and electronic assembly. Pan Pacific possesses the engineering, project management and product development skills required for most outsourcing endeavors.

Over the next several months I will outline and discuss the process of outsourcing, specifically outsourcing to China. I use the term “process” because all outsourcing activities are process driven. There are steps that must be taken and procedures that must be followed to ensure a satisfactory outcome. Failure to follow through with any of the steps will, in most cases, lead to some level of pain, sorrow and monetary loss. This series is by no means meant to be the be all and end all of outsourcing knowledge but if you follow the steps laid out here over the next several posts, you will, at the very least, enter the arena properly armed with an awareness of what can be done to avoid common mistakes.

The process of outsourcing will be broken down into six chapters:

What is outsourcing?

The right product can make or break the project

Finding the right factory is a critical component of the process

The cost of money and time

How do you protect your company’s interests (i.e. time, energy, money and reputation)?

Personal capital

Some of this information may appear pretty basic to those of you with previous experience, but this discussion is geared toward the buyer who has yet to journey down this road.

I look forward to the opportunity to interact with you regarding this topic and as the Chinese say, “The journey of a thousand miles begins with a single step.”

Pan Pacific Sourcing, Inc.