By Greg Bacon. In collaboration with Ian Machan (Machan Consulting) and Dr Denyse Julien (Cranfield University).
Whilst offshoring can be an excellent strategy to reduce costs, particularly through lower labour costs, there are many other hidden costs which companies often fail to include in their business case. Research has found that offshoring is often carried out with little or no understanding of the true costs. Furthermore, companies tend to overestimate the benefits case, in particular their ability to get a well-performing plant operating offshore to the standards we would have in Western Europe. To accurately understand the impact of offshoring, companies need to analyse total costs and identify the challenges that will have to be overcome.
This article introduces some of the key challenges which offshoring companies have faced so that companies can make more accurate and informed decisions when constructing their business case for offshoring.
Offshoring is very closely related to outsourcing; both represent a decision to move manufacturing away from the internal, domestic factory. However, where outsourcing involves externalising a process to a third party vendor, offshoring is the movement of the process to another country (usually a lower cost country), but not necessarily to a third party. Figure 1 illustrates the relationship between offshoring and outsourcing:
Figure 1: What is Offshoring?
This research is based on interviews and questionnaires with 13 companies; 9 blue chip manufacturers and 4 consultancy companies. This approach allowed the researcher to appreciate the industry and company specific issues, while also developing a wider understanding of the offshoring market.
All the organisations interviewed suggested that cost reduction was one of the primary drivers for offshoring. However, there were often multiple drivers behind a company’s decision to offshore. In many cases, increasing globalisation has meant that UK companies now face increasing cost pressure from competitors in low-cost countries. Where this is the case, an offshoring strategy is adopted because it is simply not possible to compete on price while still manufacturing in the UK. Figure 2 is based on the results of the researcher’s questionnaire and it illustrates the relative importance of various offshoring drivers.
Figure 2: Top Offshoring Drivers
Growth and access to new markets were one of the top drivers for offshoring in the research. One of the company’s interviewed proposed that local engineers are better positioned to develop or tailor products for these markets because they have a much greater understanding of the local customer requirements. Access to skilled labour is important because in the UK, science is losing popularity in schools and universities, whereas in China for example, hundreds of thousands of chemists graduate each year. Offshoring companies are also able to take advantage of less restrictive labour legislation in countries like India, which allows the company to better adjust employment levels in response to changes in workloads
Tax incentives and government support are particularly common in the high technology sectors because foreign governments are eager to attract high value manufacturing so as to improve the skill levels of their populations. The impact of this differs from case to case; the huge revenue steams in the pharmaceutical industry mean that even a saving of several percent on the corporation tax can generate huge additional profits.
Offshoring is rarely straightforward and there are many challenges which companies need to overcome if they are to successfully integrate offshoring into their strategy.
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