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Make or Buy


Once a company is ready to producing its new product it has to make a strategic decision: Produce in its owned operation (Make) or contract the manufacturing to subcontractors (Buy).

There are pros and cons to each one of these two alternatives. The following list highlights the major advantages of these two alternatives:

Make Advantages
  • Thorough knowledge and understanding of the product

  • Lower direct cost

  • Flexibility to rapid demand fluctuations

  • Fast adjustment to design changes

  • Protection of intellectual property (IP)

  • End-to-end process control

  • Full commitment to your company interests

  • Lower transportation cost

  • “Manufactured by” carries your brand name

  • You may save on duty taxes

Buy Advantages
  • There is no need to invest in manufacturing facilities

  • You have multiple source (subcontractor) options

  • Less operations human resources

  • Subcontractors often have wider know-how about manufacturing processes and supply sources.

  • You only utilize as much operation sources as you need.

Analyzing the Options

The decision must be made based on quantitative economic calculations, as well as on qualitative parameters. Economic analysis is based on incremental analysis and opportunity cost (but ignoring sunk cost). Qualitative parameters are more subjective, but not less important, such as the lack of process control, risk of IP leakage, cultural and language differences, to name just a few.

Market trends

In the past thirty years, we have witnessed a massive transfer of manufacturing from the West to the East. The main consideration was cost savings. This strategy forced companies to allocate their own employees to guide and supervise the production at the subcontractors’ factories. Companies who were reluctant to relocate supervising personnel often paid a high price for low quality, delays and poor service. While this situation is changing for the better, cost at the source is increasing, too.

The mixed model.

The mixed model refers to production process as a sequence of adding value to the materials. Schematically it looks like that:

In the mixed model, the company owning the product subcontracts the early stages of the value chain and performs the later ones in its own facility.

Where exactly to draw the line between these two sections is up to the company to decide based on the earlier considerations. Furthermore, since there are multiple parallel manufacturing and sub-assembly paths, each might require a make or buy decision

This model combines the advantages of both using subcontractors and maintaining good control along the product value chain. That, mainly at the later stages, before distribution to the market.

Conclusion:

The decision of a company having tangible products, whether to make or buy its own products is a serious strategic choice. For many companies the mixed model is a third option, which can benefit from both alternatives.

Tip: Analyze thoroughly the best alternatives for you. Do not automatically follow common market trends.

Look forward: In the next and last article in this series, we will discuss Distribution.

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