Demand
Bow Bow currently makes its own bow ties for grown ups and young children. It does not use anybody outside the company to sew its bow ties. Everything is handmade. Up until this point, Bow Bow has been able to keep up with the demand. It has an online store where people go and choose their bow ties. The company also sells its bow ties at several local brick-and-mortar shops. Today though, the company has just received the news that a very large national retailer wants to stock Bow Bow bow ties. After meeting to discuss the order, the company realizes that it cannot keep up with the demand of this national retailer. Bow Bow really wants to accept this contract though. In order for Bow Bow to accept the contract, the company will need to enlist the help of an outside company or persons to help it sew the bow ties. The company decides to outsource the making of its bow ties to meet the increased demand.
Demand is one criteria that a company uses to decide whether to outsource or not. Increased demand may mean the need to outsource so that more products or services can be produced or given to meet this increased demand.
Company Weaknesses
Another deciding factor is what weaknesses the company has. If the company lacks a certain skill, then perhaps it can outsource this skill to someone who excels in this area.
Going back to Bow Bow, it is also brought out at the meeting that the company does not have anyone with a really good understanding of accounting. If the company is to grow and accept this contract from the national retailer, then it will need someone with a very good knowledge of accounting. The last thing the company needs is to be in trouble with the government for not reporting their earnings correctly. Because Bow Bow lacks this skill, the company also decides to outsource accounting needs. The company finds a local accounting firm to keep track of all its finances.
Profits
Another factor that companies look at when deciding to outsource is the amount of profit it can make by outsourcing. Many times, outsourcing makes it cheaper for the company to make a certain product or provide a certain service.
When Bow Bow was looking at various companies to help it sew the bow ties, it took into consideration how much it would cost to produce each bow tie. When Bow Bow makes its own bow tie, it costs $22.00 per bow tie. This includes the cost of labor and materials. The company that Bow Bow ended up choosing to help it sew the bow ties quoted Bow Bow a cost of $10.00 per bow tie. By choosing this company, Bow Bow increases its profit per bow tie by $12 ($22 - $10 = $12). How come this company is able to sew the bow ties for less? This is because this company is located in a different country with a much lower cost of living. Things cost much less over there, so the cost of labor is much cheaper.
Lesson Summary
Let's review what we've learned. When a business decides to outsource, it is deciding to get products or services from an outside source. When deciding to outsource, a company considers the demand for the product or service, what weaknesses the company has, and how much more profitable the company can be.
