Once you have determined an overview of your firm’s value chain at a high level, you are ready to make decisions about what activities to perform in-house and which to outsource.
Outsourcing is a critical part of business operations in the twenty-first century, particularly for startups.
Outsourcing is cheaper and easier than ever, and using outsourcing:
- dramatically lowers your startup costs,
- gives you financial and operational flexibility,
- and allows you to perform critical functions more cheaply and efficiently
Effective outsourcing helps startups focus on core capabilities and cultivate competitive advantage.
By narrowing the focus and putting the new venture’s limited resources to their best effect, the process of outsourcing allows firms to focus on doing what they do best.
This concept extends beyond costs and finances and includes intangible capital such as
- and creative energy
Effective outsourcing helps startups survive surprises and negative environments.
When processes are handled in-house, the direct costs of those processes stay in-house as well.
New ventures are often forced to pivot quickly, and pivoting is much harder when carrying the extra weight of in-house processes; in an effective outsourcing scenario, these costs are held at arm’s length and can be shed when necessary to respond to changing circumstances.
Effective outsourcing can reduce lead times and lower costs.
New ventures are rarely in a position to effectively capitalize on economies of scale (the efficiencies that come with size and volume).
By working with other firms that can access these efficiencies, startups can deliver faster while saving money.
Effective outsourcing can provide access to expertise and lower the frequency of critical errors.
In the same way that managing and allocating time, effort, and creative energy is just as important as allocating money, expertise is another intangible resource essential to the success of new ventures.
Ideally, gaps in expertise will be filled by members of the founding team, but as businesses and companies change and grow, new expertise gaps may emerge.
Leveraging the experience of outsourcing partners is a good first step toward creating your own internal best practices.
Not all activities or processes are good candidates for outsourcing.
As with other operational decisions, the decision to outsource is a strategic one.
At this point, it may seem as if the concept of your venture’s value proposition and the value that you provide to your customers dominates most of your decision-making activities.
After analyzing your firm’s value chain, examine each activity critically, and be prepared to dive into the tasks and process steps that compose them.
Outsourcing Decision Matrix
The outsourcing decision matrix is a handy tool designed to help decision makers carry out more informed outsourcing decisions, by comparing the impact of an activity on an organization’s operations with its critical role in the organization’s value chain (criticality).
The outsourcing decision matrix organizes activities into four categories:
- Form a Strategic Alliance
Criticality is a measure of how important an activity is to creating value.
The impact is best described as what would happen to operations if the activity in question were removed.
If an activity is a key part of the value chain or is a part of the way your venture delivers value, then it has high criticality.
If day-to-day operations would grind to a halt were the activity to be eliminated, then it has a high impact.
If an activity falls into the top right quadrant of the outsourcing decision matrix (high criticality, high impact) then it is an area where your organization excels.
Activities that have a high criticality and a high impact contribute significantly to the way you deliver value to your customers and therefore are not candidates for outsourcing.
These activities represent core capabilities; if you were to outsource them, you would be giving away the source of your competitive advantage.
Continuing around the matrix clockwise, the bottom right quadrant contains activities that are low criticality, high impact.
These activities are prime candidates for outsourcing.
A perfect example of a low criticality, high impact activity is payroll and other HR processing. These activities don’t directly provide value for your customer. However, if you tried to run your business without them, operations would grind to a halt.
Specialized HR service firms can usually conduct these activities much more cheaply and easily than you can.
Moving to the bottom left of the matrix, these activities are categorized as “eliminate.”
They are low criticality, meaning they do not directly contribute to the ways in which the firm delivers value to its customers, and they’re low impact, meaning if they were to be eliminated it would not affect operations in a meaningful way.
If you come across activities that neither contribute to producing value for your customers nor have an impact on the success of your operations… why are these activities being carried out?
They are consuming resources and providing nothing for your organization or your customers in return. Value chain analysis is a perfect tool for uncovering non-value-adding activities.
The top left quadrant of the outsourcing decision matrix is home to activities that have a low impact on operations but are highly critical to delivering value and generating a competitive edge.
These activities blur the line between candidates to be outsourced and those that should be retained in-house.
For larger firms, activities such as advertising, warehousing, and distribution can fall into the strategic alliance category.
By working closely with a trusted partner, these organizations can free up resources to focus on their core capabilities while keeping a close eye on important activities. For smaller firms, activities that would normally fall into this quadrant are often best outsourced.
On the topic of outsourcing and competitive advantage, that competitive advantage stems from resources, competencies, or capabilities possessed by your company that have the following characteristics:
- Valuable to the customer
- Not easily imitated
- Not easily substituted
At this point, you need to decide what your distinctive competencies are, design your business to use these competencies to create a competitive advantage, and outsource everything else.
The value chain analysis tool and the outsourcing decision matrix are both valuable for helping you qualify the different aspects of your business, but ultimately your new venture will be best served by your
- staying flexible,
- seeking out positive change,
- and focusing on developing the things you do best
At some point when your venture is further along in its life cycle, it may make sense to bring those processes and activities back in-house.
During the initial stages, however, your new venture’s priority is to
- develop your position,
- deliver value to your customers,
- and dial in your sources of competitive advantage.