Outsourcing and Transaction Cost Theory
Last modified: October 26, 2015
The make or buy decision of any organization revolves around the cost effectiveness of the goods and services offered (Walker & Weber, 1986). Outsourcing and resource-based expansion are the alternatives available to the multinational organizations that are planning to expand their activities into other regions or
areas or business. The costs of these new ventures have to be calculated before decided on the mode of operation to help achieve the maximum economic benefits. It is here that transaction cost theories aid the organizations in making managerial recommendations for approaching the make-or-buy decision (Culliton, 1942; Gambino, 1980; Williamson, 1981). The cost of the transaction is expressed as the basic unit of the analysis and by reducing the costs as much as possible, it is possible to decide to make the goods or services themselves or buy them from an outsourcing agent.
When there is a sustained continuity in the relationship between the buyer and the seller, there is an actual fluctuation in the facility of contracting, when considered along with the attributes of the transaction which adds to the value of the relationship (Williamson, 2008). Transaction costs consist of not only the cost of production but also that of delivering the products or services and the internal governing exchanges that are supplementary to the management costs (Reijers, Vogelaar, & Vanderfeesten, 2010).
When firms opt for outsourcing, they create a potential opportunity to convert their fixed costs into variable expenses and also increase their options for cost-cutting by reducing the price and aggregating the flexibility of transactions (Ellram, Tate, & Billington, 2007). There are choices in the types of outsourcing available to organizations by using domestic or overland agents and also by captive or outsourced delivery agents. Seeing that the current directions of outsourcing are affecting the vertical latitude of multinational organizations considerably, the recent research also primarily builds on transaction cost economics that are influenced by the capabilities assessment of the firm to study global sourcing decisions. (Peeters, Lewin, Manning, & Massini, 2010).
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