Maintaining Flexibility In Economics Of Outsourcing

August 2, 2011

Some of the economists highlighted in Kate Vitasek’s article , Oliver Williamson: not examining all costs can really cost you, include Coase, Nash and Solow. All three of them have played an important role in laying the basics of economics behind outsourcing practices. Yet another figure who stands out as an innovator in modern outsourcing is Oliver Williamson.

Williamson is responsible for developing ‘transaction cost economics’ (TCE). This concept examines the cost of business operations as a whole. This includes the contracting, the way in which companies behave during contract deals and how employees behaving  while negotiations are going on.

Williamson wrote  in the April 2008 Journal of Supply Chain Management  that “all complex contracts will be incomplete– there will be gaps, errors, omissions and the like.” He noted that it would be better to make a shift for companies to shift to contract agreements that are more flexible.

In essence, a contract that is tightly structured eventually results in higher transaction costs. For this reason, businesses need to come up with mechanisms at create continuity and deal with disturbances that arise unexpectedly. Vitasek describes this process as  “as business happens”.  She says that outsourcing contracts need to fit change into their system instead of conflicting with it.  Agreeing with Williamson, she says that one of the most influential lessons is your mode of working/collaboration with vendors and service providers. This makes or breaks the outsourcing deal.

According to Williamson, “muscular buyers not only use their suppliers, but they often ‘use up’ their suppliers and discard them.” Even in outsourcing, companies that use their power to benefit from vendors may experience a short term victory, but it will not last long. In the long term, suppliers are a big part of the win-win formula. This is primarily because a working style of deal-making eventually leads to building trust between the buyer and the seller – there’s a price tag on this as well.


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