If it is a surprise to Gap Inc. that some of its clothing manufactured in India was made by young children, then the company didn’t do a thorough job investigating the pros and cons of international outsourcing, according to Panos Kouvelis, the Emerson Distinguished Professor of Operations and Manufacturing Management at the Olin Business School at Washington University in St. Louis.
Many companies fail to consider the risks and benefits of outsourcing, he said. Through proper risk management, however, a firm can avoid damaging its reputation or losing money.
“There are hidden costs to outsourcing that every company needs to consider before looking overseas to manufacture its products,” Kouvelis says. “Not only could you discover that a sub-contractor is using child labor, but you could also find that the quality is not what you expected. These factors affect the cost of outsourcing.”
Another risk is in the supply chain – it’s not uncommon for shipments to be late. That may not be a problem in some industries, but to a toy manufacturer dependent on a lucrative holiday season, a three-week late shipment can ruin any hope of turning a profit.
“You can’t assume that manufacturers in emerging economies will deliver the same quality of service as domestic suppliers,” Kouvelis says “Too many firms don’t take the time to figure out in advance how they will handle ruptures in the supply chain; they don’t manage that risk well.”
In many ways, it is almost foolish for a company the size of Gap to attempt to manage outsourcing on its own – not when there are “supply-chain integrators” to help.
Kouvelis points to companies, like the Li & Fung Group, which serve as connectors between major retailers and manufacturing suppliers overseas. These companies know what is happening on the back end, and they work with the retailers on the front end. Because they visit the suppliers to observe the manufacturing process, the integrators take on all the risk.
“Nothing is foolproof. From the time you start outsourcing, firms have different risks. It’s very hard to have full visibility and know what the supplier is going to do with your order,” Kouvelis says. “By going through a supply-chain integrator, it is no longer the retailer’s problem if something goes wrong. How the order is executed wouldn’t be the Gap’s problem; their contract is with the facilitator, and the facilitator is the one who assumes full liability.”