Wednesday, September 16, 2009

2 Ways to Minimize the Core Organization. SUBCONTRACTING and OUTSOURCING Strategy for Leaner Organization.

Minimizing the Core Organization
Given the difficulty of managing people cost, a central strategic principle is to keep the core organization of full-time staff down to an absolute minimum.

For example, you could contract out most of the components of a product or service and only keep in-house the higher value-added activities, like design, final assembly, brand management.
The top global automakers have been moving along this path for decades, pushing out much of the risk and pain of ups and downs in demand. They subcontract either to specialized component makers who end up being huge global players themselves, like Bosch or Valio; or to fragmented but highly efficient local small businesses, like the network of plastics moldings suppliers in Japan, delivering at 50% of the cost of Toyota or Nissan.
Or take media companies. Back in the 1970s these businesses were very vertically integrated and had strong labor unions. Over the last four decades they have been hollowed out. Production companies, editing houses, cameramen, distribution arms — these have been separated out from the core commissioning and brand-owning business, either to smaller outside companies or to individual contractors. In the process the industry has been deunionized. Rates for most jobs have fallen as labor markets have become more open and competitive.
The hollowing out or unbundling of an enterprise is not just about managing people cost. A narrow focus on a few core businesses and a few core competencies is likely to maximize corporate value. Vertical integration and conglomerate strategies are old hat, looking back to the early days of US Steel and Ford Motor Co., not relevant in today's specialized and efficient markets.

You can also minimize the core organization by outsourcing whole administrative functions, like IT, personnel records, payroll, financial processing. Huge businesses have been built around this trend, including hundreds of thousands of people employed by Accenture, IBM Global Services, EDS and PwC, in the West and in offshore locations like India and the Philippines.
As with component suppliers, there can be reasons other than people cost for outsourcing. In IT, for example, a large specialist can get scale advantage in the cost of data centers or networks or hardware purchasing, and can stay up to speed more easily on technology developments. Nevertheless, a prime motivation for most outsourcing moves is to shift the burden of people cost management outside, onto the outsourcer.
An outsourcer of insurance claims processing has no material cost other than people, so is going to be obsessed with keeping that cost as low and flexible as possible. Its client, the outsourcing insurer, wants to focus on the high value added of product development, actuarial skills, branding and distribution. If claims processing stayed in the core organization the claims-processing staff would probably end up overpaid and underproductive. And if there is a business downturn the trauma of downsizing is transferred to the outsourcer.
Pushing activities out to subcontractors and outsourcers does not mean the costs no longer need to get managed, however. In-house people cost goes away, but the cost becomes a supplier cost and managing suppliers brings a different set of challenges.



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