Friday, April 28, 2017

The Unintended Consequences of Outsourcing By Panos Mourdoukoutas


Dec 9, 2011

Hewlett-Packard 250 system

Image via Wikipedia

Economists are almost unanimous: Outsourcing is a good business strategy. It improves efficiency, cuts costs, speeds up product development, and allows companies to focus on their “core competencies.” And for the most part, they are right. Outsourcing has helped American companies deal with the destructive forces of globalization; that is, the intensification of competition and the price and profit erosion associated with it. For some companies, outsourcing has made the difference between staying in business and going out of business. But, as with every other business strategy, outsourcing has its own limitations and "unintended consequences" that if not addressed, can turn it into a bad business strategy.

Outsourcing is easy to be replicated by the competition; it leads to fragmentation and disintegration of the supply chain, inviting new competitors into the industry. It also nurtures corporate complacency; and it undermines a company's relations with its labor, customers, and the domestic and local communities.

Outsourcing is easy to be replicated, and therefore, it is not a source of sustainable competitive advantage. Outsourcing provides certain competitive advantages to early-movers --that is, to companies that adapt it first -- but it isn’t proprietary. It cannot be patented, preventing others from adapting it. For example, if outsourcing hardware manufacturing provides IBM (NYSE:IBM) a cost advantage, it also does for its competitors, such as the Hewlett-Packard (NYSE: HPQ), Dell Computers (NYSE:DELL), and EMC (NYSE:EMC) that will follow suit. If outsourcing call centers cut costs for American Express (NYSE:AXP), it also does for its credit card competitors Visa (NYSE:V) and Master Card (NYSE:MA). This means that outsourcing works only as long as some industry members have yet to adapt it. Once this happens, outsourcing is no longer a source of competitive advantage.

Outsourcing leads to the fragmentation and disintegration of the supply chain, inviting new competitors into the industry, and undermining pricing power and profitability. Outsourcing of manufacturing, for instance, is feasible only if it can be separated from other supply chain activities: product development, branding, marketing, distribution, and after sales services. The same is true when it comes to outsourcing marketing or distribution and so on. This means that as more and more activities are outsourced, the supply chain turns from a single integrated process performed within the boundaries of traditional corporations to a fragmented and disintegrated process, a collection of separate and disjointed activities, performed across several independent subcontractors. And although such a fragmentation and disintegration of the value chain offers corporations a number of well publicized advantages, it has an unintended consequence:  It makes entry of new competitors to the industry easier, intensifying competition, shortening product cycles, and squeezing return on invested capital.

To understand how this works, let us imagine that Apple (NASDAQ:AAPL) develops a perfectly fragmented and disintegrated Web TV-supply chain: Every activity from the new TV-concept development, to design, manufacturing, marketing, and so on can be performed by independent subcontractors. This means that any company that has no capabilities in making and selling TVs can enter the TV industry, as long as it comes up with the sufficient capital to pay the subcontractors handling the different value chain activities. The problem, though, is that once the product hits the market, nothing prevents another company from doing exactly the same thing, and then another, and another, until the TV industry becomes crowded with companies pitting against each other in a cut throat competition that eliminates industry profitability. What seemed to be a good strategy for each investor in the beginning turned into a bad strategy for everyone at the end. By carrying outsourcing to the extreme, industry members opened the door widely to competition, reversing whatever outsourcing’s early positive effects, and then some.

But what if outsourcing isn’t carried that far? What if companies outsource only their “non-core activities,” and retain their “core activities”— the things they can do best? Certainly this strategy cuts costs and improves product quality, but it has another unintended consequence: it nurtures corporate complacency. By focusing on things that they can do best, company managers become complacent with their achievements, they think that what is a best product for their customers today will be the best product tomorrow. Corporate complacency, in turn, leads into corporate blindness, the failure of management to see that their markets reach saturation or are undermined by alternative products.

Outsourcing’s unintended consequences for companies and industries that adapt it are not confined to the intensification of competition and corporate complacency. They extend to the relations of these companies with one of their partners—labor. If each and every activity of the value chain is gradually farmed out, what binds labor with management and stockholders? If company engineers and marketers who develop new product ideas can sense that their jobs will eventually be farmed out, why should they be loyal to the company? Wouldn’t it be better to part from the company and pursue their own value chain by farming out the development, the manufacturing and so on, to outsourcing companies?

Outsourcing’s unintended consequences extend to company relations with another partner—the customer. If each and every activity is outsourced, customers may feel betrayed. If I hire Sears (NYSE:SHLD) or Home Depot (NYSE:HD) to make certain improvements in my house because they have a reputation for reliable services, I would feel betrayed if I get services from strangers hired by the said companies, especially if they perform a sloppy job. And I will feel even more betrayed if I end up discussing my medical or financial records with overseas strangers.

Outsourcing undermines relations with a third company partner—the domestic and local communities. By shifting production and jobs overseas, outsourcing has a devastated impact on both levels that often unleash tidal ideological and political waves that may reverse all the gains from outsourcing, and then some. Let’s not forget that people who live in these communities are not just workers, they are customers and citizens, too. As customers, they may end up boycotting the products of the corporations moving from one location to another, just to cut costs and raise profits. As citizens, people may end up supporting legislation that increases the cost of doing business in their community.

What seems to be trendy in business strategy isn’t always a good strategy, especially if it is carried to the extreme. If carried to the extreme, outsourcing turns corporations into opportunistic institutions without a vision, heading into a collision course with its most valuable partners—labor, customers, and the community. True, in a competitive world, it is hard to swim like a salmon against the current. Yet the salmons that swim hard always make it to their destination.

'Very depressing': CIBC staff losing jobs to workers in India, expected to help with training

Up to 130 CIBC finance jobs will be lost due to outsourcing this year


By Sophia Harris, CBC News

Affected CIBC staff must train other local CIBC employees, who will in turn train workers in India to take over the jobs.

Affected CIBC staff must train other local CIBC employees, who will in turn train workers in India to take over the jobs. (Nathan Denette/Canadian Press)

CIBC is eliminating up to 130 jobs in its Toronto finance department and outsourcing the work to India.

As part of the transition, staff losing their positions must train other local CIBC employees. Those employees then train the workers in India who will be taking over the jobs.

Although they aren't directly training their replacements, the situation isn't sitting well with some affected staff who spoke with CBC News. They asked that their identity be protected because they fear repercussion from CIBC — one of Canada's largest banks.

"It's very, well, depressing," said one employee about having to pass on his work knowledge so that someone in another country can replace him.

"A lot of people would have rather just been let go immediately than to sort of, if you will, suffer [through this]."

"It feels like no one cares for us," said another employee. "The environment is really bad. People are bitter."

The jobs being outsourced are mainly accounting-related positions. CIBC has already let go 16 employees and the layoffs will continue to roll out over the course of the year.

The replacement workers in India are with the global consulting and outsourcing firm, Accenture, which is partnering with CIBC.

$1.4B profit for CIBC

The bank says it has found jobs for 36 displaced staff and is making every effort to find work for others.

But the employees that CBC News spoke with say they feel the bank is more interested in raking in profits than helping them out.

"They want to get rid of us no matter what, because we are old or something," said one worker who claims many of the employees facing layoffs are middle-aged or older.

She said CIBC pulled in a $1.4 billion profit in the last quarter and is still outsourcing jobs to save money. "They said it's cheaper labour and it's 24 hours, because when we are sleeping, they are working."

Another employee said he could accept his layoff if his job had been outsourced to another Canadian company. But he believes sending the work offshore is going too far.

"You have to draw the line somewhere, especially when you're talking about the types of profits that these companies are making," he said. "You're taking these good-paying jobs out of the Canadian economy."

When asked why it's outsourcing the work, CIBC suggested it's a common practice.

"Like most large companies, we selectively outsource," spokesperson Caroline Van Hasselt said in an email.

CIBC currently has 43,000 employees and has created almost 2,500 jobs in Canada over the past five years, she added.

Everybody does it

Many Canadian corporations outsource work to other countries, said Ron Babin, with the Ted Rogers School of Management at Ryerson University.

"It's the way of the world. It's how companies remain efficient, it's how they remain competitive, it's how they keep their costs down."


Many Canadian organizations from banks to government outsource labour, says a business expert. (Vivek Prakash/Reuters)

Although outsourcing is a routine business practice, Babin said it still generates negative attention when people lose their jobs.

"It's a sad story," he said. "You hate to see something bad happen to good people."

In 2013, Royal Bank of Canada faced a tidal wave of criticism following a CBC News report that 45 of its IT employees were being replaced by cheaper workers from India employed by global outsourcing firm, iGATE.

RBC brought several of the replacement workers to Canada, prompting an employee to complain that they had to directly train them to take their jobs.

CIBC says none of its offshore workers are setting foot on Canadian soil.

RBC crossed a line by bringing foreign workers to Canada to be trained by staff facing layoffs, Babin said.

"That was callous, I would say, and I think RBC has learned from that."

RBC won't offshore jobs for money

RBC reacted to the backlash at the time by pledging to never outsource a Canadian job to another country solely to save money.

"RBC will not offshore work where salary savings is the primary reason and will make every effort to source in Canada," the bank said in a statement.


A CBC News story about RBC replacing Canadian staff with foreign workers sparked a tidal wave of criticism. (Reuters)

The bank's then-CEO Gord Nixon also published an open letter in national newspapers, apologizing to affected employees.

"We should have been more sensitive and helpful to them," he said, adding that the workers would all be offered comparable job opportunities at RBC.

The CIBC employees that CBC News spoke with also hope that the bank will have a change of heart and do something to guarantee their jobs.

"How are we supposed to make a living?" says one employee who worries about not being able to land a comparable job. "We have family, we have expenses to take care of."

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