{"id":225,"date":"2021-01-26T22:26:59","date_gmt":"2021-01-26T22:26:59","guid":{"rendered":"https:\/\/courses.lumenlearning.com\/wm-managerialaccounting\/?post_type=chapter&#038;p=225"},"modified":"2021-08-12T17:13:23","modified_gmt":"2021-08-12T17:13:23","slug":"outsourcing-defined","status":"publish","type":"chapter","link":"https:\/\/courses.lumenlearning.com\/wm-managerialaccounting\/chapter\/outsourcing-defined\/","title":{"raw":"Outsourcing","rendered":"Outsourcing"},"content":{"raw":"<div class=\"textbox learning-objectives\">\r\n<h3>Learning Outcomes<\/h3>\r\n<ul>\r\n \t<li>Describe the costs and benefits of outsourcing<\/li>\r\n<\/ul>\r\n<\/div>\r\n<img class=\"size-medium wp-image-1774 alignright\" src=\"https:\/\/s3-us-west-2.amazonaws.com\/courses-images\/wp-content\/uploads\/sites\/5469\/2021\/01\/17223638\/jose-pinto-_tXpT0WORrQ-unsplash-200x300.jpg\" alt=\"Car hub caps\" width=\"200\" height=\"300\" \/>In some manufacturing situations, firms avoid a portion of fixed costs by buying goods or services from an outside source. In business, we refer to this as <strong>outsourcing<\/strong>, or sometimes offshoring, as when an auto manufacturing outsources parts to a company in Japan or Mexico. Often, the decision to outsource is a financial one. Some companies can manufacture components more quickly and\/or cheaper than the main producer. In economics, we call this competitive advantage. For instance, Mexico produces auto parts and even completed autos for many companies because it has a skilled labor force, low labor costs, and open trade agreements that allow products to be shipped across borders without high tariffs.\r\n\r\nThe financial decision to outsource (or offshore) a product or service is fairly straightforward: which is better for the bottom line\u2014keeping it in-house, or outsourcing?\r\n\r\nLet\u2019s look at an example:\r\n\r\nYORE Co. has a human resources department for 100 employees and recently invested $25,000 to add payroll functionality to the accounting system because the current payroll accountant could no longer keep up with the demands of the job. However, that accountant was unhappy about the change to the computerized system and has tendered her resignation, effective in two weeks. She currently earns a salary of $65,000 plus medical\u200b insurance, employer payroll\u200b taxes, and contributions to the pension plan that run about 25% of gross wages. Required annual updates to remain in compliance with all state and federal laws run about $100 per month. The company also spends $2,500\u00a0 per year in professional development for this position to ensure the employee stays\u200b up-to-date with payroll changes. A company called PDA has sent a solid proposal offering to process the\u200b company's payroll for $1,000 per week. This fee also includes preparing all necessary payroll tax\u200b returns, reports, and\u200b W-2s.\r\n\r\nUsing differential analysis, and ignoring the sunk cost of $25,000 for the computer upgrade, we find that outsourcing is more cost-effective:\r\n<div align=\"left\">\r\n<table class=\"fin-table acctstatement fw\">\r\n<tbody>\r\n<tr>\r\n<th style=\"font-weight: bold;\" scope=\"col\">Annual Costs<\/th>\r\n<th class=\"r\" scope=\"col\"><span class=\"u-sr-only\">Amount<\/span><\/th>\r\n<\/tr>\r\n<\/tbody>\r\n<tbody>\r\n<tr>\r\n<td>Salary<\/td>\r\n<td class=\"r\">$ \u00a0 \u00a0 65,000<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Taxes and benefits<\/td>\r\n<td class=\"r\">\u00a0 \u00a0 \u00a0 \u00a0 16,250<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Software compliance updates<\/td>\r\n<td class=\"r\">\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 1,200<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Professional development<\/td>\r\n<td class=\"r\">\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 2,500<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Outsourcing<\/td>\r\n<td class=\"r\">\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 -<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Total<\/td>\r\n<td class=\"r line-single\"><span class=\"u-sr-only\">Single Line<\/span>$ \u00a0 \u00a0 84,950<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Outsourcing to PDA<\/td>\r\n<td class=\"r\">\u00a0 \u00a0 \u00a0 \u00a0 52,000<\/td>\r\n<\/tr>\r\n<tr>\r\n<td>Cost savings\/(additional)<\/td>\r\n<td class=\"r line-single line-double\"><span class=\"u-sr-only\">Single Line<\/span>\u00a0 \u00a0 \u00a0 \u00a0 32,950<span class=\"u-sr-only\">Double line<\/span><\/td>\r\n<\/tr>\r\n<\/tbody>\r\n<\/table>\r\n&nbsp;\r\n\r\n<\/div>\r\nIn manufacturing, management must often decide whether to make or purchase a part or material used in manufacturing another product. Management must compare the price paid for a part with the additional costs incurred to manufacture the part. When most of the manufacturing costs are fixed and would exist in any case, it is likely to be more economical to make the part rather than buy it.\r\n\r\nSometimes the cost to manufacture may be only slightly less than the cost of purchasing the part or material. Then management should place considerable weight on other factors such as the competency of existing personnel to undertake manufacturing the part or material, the availability of working capital, and the cost of any loans that may be necessary.\r\n\r\nIn outsourcing decisions, management also should consider opportunity costs and other non-quantitative aspects of the decision. For instance, in the payroll outsourcing scenario, outsourcing may result in more compliance work for the HR department and more difficulty for the employees to get answers to questions.\r\n\r\nSome pros of outsourcing include:\r\n<ul>\r\n \t<li style=\"font-weight: 400;\" aria-level=\"1\">Better revenue realization and enhanced returns on investment due to lower costs<\/li>\r\n \t<li style=\"font-weight: 400;\" aria-level=\"1\">Increased specialization<\/li>\r\n \t<li style=\"font-weight: 400;\" aria-level=\"1\">Tapping into a different knowledge base for better innovation<\/li>\r\n \t<li style=\"font-weight: 400;\" aria-level=\"1\">Freed-up management time, enabling companies to focus on core competencies while not being concerned about outsourced activities and parts<\/li>\r\n \t<li style=\"font-weight: 400;\" aria-level=\"1\">Increased speed and quality of finished products<\/li>\r\n<\/ul>\r\nSome cons of outsourcing include:\r\n<ul>\r\n \t<li style=\"font-weight: 400;\" aria-level=\"1\">Possible loss of control over a company's business processes<\/li>\r\n \t<li style=\"font-weight: 400;\" aria-level=\"1\">Supply chain issues, such as\r\n<ul>\r\n \t<li style=\"font-weight: 400;\" aria-level=\"2\">Problems related to quality and turnaround time<\/li>\r\n \t<li style=\"font-weight: 400;\" aria-level=\"2\">Sluggish response times coupled with slow issue resolutions<\/li>\r\n \t<li style=\"font-weight: 400;\" aria-level=\"2\">Complete inability to get the product<\/li>\r\n \t<li style=\"font-weight: 400;\" aria-level=\"2\">Price hikes<\/li>\r\n<\/ul>\r\n<\/li>\r\n \t<li style=\"font-weight: 400;\" aria-level=\"1\">Union, customer, and other stakeholder issues<\/li>\r\n<\/ul>\r\nNow that you have learned about the costs and benefits of outsourcing, check your understanding.\r\n<div class=\"textbox tryit\">\r\n<h3>Practice Question<\/h3>\r\n[ohm_question hide_question_numbers=1]220637[\/ohm_question]\r\n\r\n<\/div>","rendered":"<div class=\"textbox learning-objectives\">\n<h3>Learning Outcomes<\/h3>\n<ul>\n<li>Describe the costs and benefits of outsourcing<\/li>\n<\/ul>\n<\/div>\n<p><img loading=\"lazy\" decoding=\"async\" class=\"size-medium wp-image-1774 alignright\" src=\"https:\/\/s3-us-west-2.amazonaws.com\/courses-images\/wp-content\/uploads\/sites\/5469\/2021\/01\/17223638\/jose-pinto-_tXpT0WORrQ-unsplash-200x300.jpg\" alt=\"Car hub caps\" width=\"200\" height=\"300\" \/>In some manufacturing situations, firms avoid a portion of fixed costs by buying goods or services from an outside source. In business, we refer to this as <strong>outsourcing<\/strong>, or sometimes offshoring, as when an auto manufacturing outsources parts to a company in Japan or Mexico. Often, the decision to outsource is a financial one. Some companies can manufacture components more quickly and\/or cheaper than the main producer. In economics, we call this competitive advantage. For instance, Mexico produces auto parts and even completed autos for many companies because it has a skilled labor force, low labor costs, and open trade agreements that allow products to be shipped across borders without high tariffs.<\/p>\n<p>The financial decision to outsource (or offshore) a product or service is fairly straightforward: which is better for the bottom line\u2014keeping it in-house, or outsourcing?<\/p>\n<p>Let\u2019s look at an example:<\/p>\n<p>YORE Co. has a human resources department for 100 employees and recently invested $25,000 to add payroll functionality to the accounting system because the current payroll accountant could no longer keep up with the demands of the job. However, that accountant was unhappy about the change to the computerized system and has tendered her resignation, effective in two weeks. She currently earns a salary of $65,000 plus medical\u200b insurance, employer payroll\u200b taxes, and contributions to the pension plan that run about 25% of gross wages. Required annual updates to remain in compliance with all state and federal laws run about $100 per month. The company also spends $2,500\u00a0 per year in professional development for this position to ensure the employee stays\u200b up-to-date with payroll changes. A company called PDA has sent a solid proposal offering to process the\u200b company&#8217;s payroll for $1,000 per week. This fee also includes preparing all necessary payroll tax\u200b returns, reports, and\u200b W-2s.<\/p>\n<p>Using differential analysis, and ignoring the sunk cost of $25,000 for the computer upgrade, we find that outsourcing is more cost-effective:<\/p>\n<div style=\"text-align: left;\">\n<table class=\"fin-table acctstatement fw\">\n<tbody>\n<tr>\n<th style=\"font-weight: bold;\" scope=\"col\">Annual Costs<\/th>\n<th class=\"r\" scope=\"col\"><span class=\"u-sr-only\">Amount<\/span><\/th>\n<\/tr>\n<\/tbody>\n<tbody>\n<tr>\n<td>Salary<\/td>\n<td class=\"r\">$ \u00a0 \u00a0 65,000<\/td>\n<\/tr>\n<tr>\n<td>Taxes and benefits<\/td>\n<td class=\"r\">\u00a0 \u00a0 \u00a0 \u00a0 16,250<\/td>\n<\/tr>\n<tr>\n<td>Software compliance updates<\/td>\n<td class=\"r\">\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 1,200<\/td>\n<\/tr>\n<tr>\n<td>Professional development<\/td>\n<td class=\"r\">\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 2,500<\/td>\n<\/tr>\n<tr>\n<td>Outsourcing<\/td>\n<td class=\"r\">\u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 \u00a0 &#8211;<\/td>\n<\/tr>\n<tr>\n<td>Total<\/td>\n<td class=\"r line-single\"><span class=\"u-sr-only\">Single Line<\/span>$ \u00a0 \u00a0 84,950<\/td>\n<\/tr>\n<tr>\n<td>Outsourcing to PDA<\/td>\n<td class=\"r\">\u00a0 \u00a0 \u00a0 \u00a0 52,000<\/td>\n<\/tr>\n<tr>\n<td>Cost savings\/(additional)<\/td>\n<td class=\"r line-single line-double\"><span class=\"u-sr-only\">Single Line<\/span>\u00a0 \u00a0 \u00a0 \u00a0 32,950<span class=\"u-sr-only\">Double line<\/span><\/td>\n<\/tr>\n<\/tbody>\n<\/table>\n<p>&nbsp;<\/p>\n<\/div>\n<p>In manufacturing, management must often decide whether to make or purchase a part or material used in manufacturing another product. Management must compare the price paid for a part with the additional costs incurred to manufacture the part. When most of the manufacturing costs are fixed and would exist in any case, it is likely to be more economical to make the part rather than buy it.<\/p>\n<p>Sometimes the cost to manufacture may be only slightly less than the cost of purchasing the part or material. Then management should place considerable weight on other factors such as the competency of existing personnel to undertake manufacturing the part or material, the availability of working capital, and the cost of any loans that may be necessary.<\/p>\n<p>In outsourcing decisions, management also should consider opportunity costs and other non-quantitative aspects of the decision. For instance, in the payroll outsourcing scenario, outsourcing may result in more compliance work for the HR department and more difficulty for the employees to get answers to questions.<\/p>\n<p>Some pros of outsourcing include:<\/p>\n<ul>\n<li style=\"font-weight: 400;\" aria-level=\"1\">Better revenue realization and enhanced returns on investment due to lower costs<\/li>\n<li style=\"font-weight: 400;\" aria-level=\"1\">Increased specialization<\/li>\n<li style=\"font-weight: 400;\" aria-level=\"1\">Tapping into a different knowledge base for better innovation<\/li>\n<li style=\"font-weight: 400;\" aria-level=\"1\">Freed-up management time, enabling companies to focus on core competencies while not being concerned about outsourced activities and parts<\/li>\n<li style=\"font-weight: 400;\" aria-level=\"1\">Increased speed and quality of finished products<\/li>\n<\/ul>\n<p>Some cons of outsourcing include:<\/p>\n<ul>\n<li style=\"font-weight: 400;\" aria-level=\"1\">Possible loss of control over a company&#8217;s business processes<\/li>\n<li style=\"font-weight: 400;\" aria-level=\"1\">Supply chain issues, such as\n<ul>\n<li style=\"font-weight: 400;\" aria-level=\"2\">Problems related to quality and turnaround time<\/li>\n<li style=\"font-weight: 400;\" aria-level=\"2\">Sluggish response times coupled with slow issue resolutions<\/li>\n<li style=\"font-weight: 400;\" aria-level=\"2\">Complete inability to get the product<\/li>\n<li style=\"font-weight: 400;\" aria-level=\"2\">Price hikes<\/li>\n<\/ul>\n<\/li>\n<li style=\"font-weight: 400;\" aria-level=\"1\">Union, customer, and other stakeholder issues<\/li>\n<\/ul>\n<p>Now that you have learned about the costs and benefits of outsourcing, check your understanding.<\/p>\n<div class=\"textbox tryit\">\n<h3>Practice Question<\/h3>\n<p><iframe loading=\"lazy\" id=\"ohm220637\" class=\"resizable\" src=\"https:\/\/ohm.lumenlearning.com\/multiembedq.php?id=220637&theme=oea&iframe_resize_id=ohm220637\" width=\"100%\" height=\"150\"><\/iframe><\/p>\n<\/div>\n\n\t\t\t <section class=\"citations-section\" role=\"contentinfo\">\n\t\t\t <h3>Candela Citations<\/h3>\n\t\t\t\t\t <div>\n\t\t\t\t\t\t <div id=\"citation-list-225\">\n\t\t\t\t\t\t\t <div class=\"licensing\"><div class=\"license-attribution-dropdown-subheading\">CC licensed content, Original<\/div><ul class=\"citation-list\"><li>Outsourcing. <strong>Authored by<\/strong>: Joseph Cooke. <strong>Provided by<\/strong>: Lumen Learning. <strong>License<\/strong>: <em><a target=\"_blank\" rel=\"license\" href=\"https:\/\/creativecommons.org\/licenses\/by\/4.0\/\">CC BY: Attribution<\/a><\/em><\/li><\/ul><div class=\"license-attribution-dropdown-subheading\">CC licensed content, Shared previously<\/div><ul class=\"citation-list\"><li>Hub caps. <strong>Provided by<\/strong>: Unsplash. <strong>Located at<\/strong>: <a target=\"_blank\" href=\"https:\/\/unsplash.com\/photos\/_tXpT0WORrQ\">https:\/\/unsplash.com\/photos\/_tXpT0WORrQ<\/a>. <strong>License<\/strong>: <em><a target=\"_blank\" rel=\"license\" href=\"https:\/\/creativecommons.org\/about\/cc0\">CC0: No Rights Reserved<\/a><\/em><\/li><\/ul><\/div>\n\t\t\t\t\t\t <\/div>\n\t\t\t\t\t <\/div>\n\t\t\t <\/section>","protected":false},"author":364389,"menu_order":18,"template":"","meta":{"_candela_citation":"[{\"type\":\"original\",\"description\":\"Outsourcing\",\"author\":\"Joseph Cooke\",\"organization\":\"Lumen Learning\",\"url\":\"\",\"project\":\"\",\"license\":\"cc-by\",\"license_terms\":\"\"},{\"type\":\"cc\",\"description\":\"Hub caps\",\"author\":\"\",\"organization\":\"Unsplash\",\"url\":\"https:\/\/unsplash.com\/photos\/_tXpT0WORrQ\",\"project\":\"\",\"license\":\"cc0\",\"license_terms\":\"\"}]","CANDELA_OUTCOMES_GUID":"","pb_show_title":"on","pb_short_title":"","pb_subtitle":"","pb_authors":[],"pb_section_license":""},"chapter-type":[],"contributor":[],"license":[],"class_list":["post-225","chapter","type-chapter","status-publish","hentry"],"part":35,"_links":{"self":[{"href":"https:\/\/courses.lumenlearning.com\/wm-managerialaccounting\/wp-json\/pressbooks\/v2\/chapters\/225","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/courses.lumenlearning.com\/wm-managerialaccounting\/wp-json\/pressbooks\/v2\/chapters"}],"about":[{"href":"https:\/\/courses.lumenlearning.com\/wm-managerialaccounting\/wp-json\/wp\/v2\/types\/chapter"}],"author":[{"embeddable":true,"href":"https:\/\/courses.lumenlearning.com\/wm-managerialaccounting\/wp-json\/wp\/v2\/users\/364389"}],"version-history":[{"count":11,"href":"https:\/\/courses.lumenlearning.com\/wm-managerialaccounting\/wp-json\/pressbooks\/v2\/chapters\/225\/revisions"}],"predecessor-version":[{"id":2560,"href":"https:\/\/courses.lumenlearning.com\/wm-managerialaccounting\/wp-json\/pressbooks\/v2\/chapters\/225\/revisions\/2560"}],"part":[{"href":"https:\/\/courses.lumenlearning.com\/wm-managerialaccounting\/wp-json\/pressbooks\/v2\/parts\/35"}],"metadata":[{"href":"https:\/\/courses.lumenlearning.com\/wm-managerialaccounting\/wp-json\/pressbooks\/v2\/chapters\/225\/metadata\/"}],"wp:attachment":[{"href":"https:\/\/courses.lumenlearning.com\/wm-managerialaccounting\/wp-json\/wp\/v2\/media?parent=225"}],"wp:term":[{"taxonomy":"chapter-type","embeddable":true,"href":"https:\/\/courses.lumenlearning.com\/wm-managerialaccounting\/wp-json\/pressbooks\/v2\/chapter-type?post=225"},{"taxonomy":"contributor","embeddable":true,"href":"https:\/\/courses.lumenlearning.com\/wm-managerialaccounting\/wp-json\/wp\/v2\/contributor?post=225"},{"taxonomy":"license","embeddable":true,"href":"https:\/\/courses.lumenlearning.com\/wm-managerialaccounting\/wp-json\/wp\/v2\/license?post=225"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}