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The Drucker Difference

Insourcing and Outsourcing: the Right Mix

Admittedly, it's not Cooperstown. But about a year ago, Peter Drucker received a major posthumous honor when he was inducted into the Outsourcing Hall of Fame—recognition of his having helped ignite the field with his 1989 article Sell the Mailroom.

Yet ever since, it has been hard not to notice that the flip side of the equation—the insourcing of activities—seems to be getting renewed attention. And Drucker, his election to the Hall of Fame notwithstanding, would have been the first to praise the shift.

"In some areas we have outsourced too much," General Electric (GE) CEO Jeffrey Immelt acknowledged in a speech last summer as he announced plans to open a new manufacturing research center outside Detroit that will create more than 1,000 jobs. Shortly after Immelt made his remarks, Boeing (BA) acquired a South Carolina factory from one of its key suppliers, Vought Aircraft Industries. Bringing the facility in-house, Boeing said, would help "accelerate productivity and efficiency improvements" on its much-troubled 787 Dreamliner jet program.

An In-House Chip

Meanwhile, the latest high-profile example of doing things under one's own roof came last week when Apple (AAPL) unveiled its iPad touch-screen tablet computer. What many analysts quickly seized on was that Apple had designed the guts of the device, a semiconductor called the A4, instead of turning to a chip supplier such as Intel (INTC). During the product's introduction, Apple CEO Steve Jobs even crowed about the company's "custom silicon."

Notoriously tight-lipped, Apple hasn't said a whole lot else about the A4, and reviews of the technology have been mixed. But the company clearly believes that having its own chip provides an edge—an optimal balance between battery life and speed, perhaps—that will allow it, in Drucker's words, "to create a customer."

"Leadership" in any industry, Drucker wrote, "rests on being able to do something others cannot do at all or find difficult to do even poorly. It rests on core competencies that meld market or consumer value with a special ability" that the business possesses.

Avenues for Advancement

As Drucker saw it, the only areas a company should farm out are those in which it demonstrates no "special ability." And in these cases, it shouldn't hesitate to outsource at all. Drucker thought this made good economic sense and also considered contracting out an important social innovation—especially for service workers who are hungering to find pathways for advancement.

If "clerical, maintenance, and support work" are undertaken by an outside vendor, "it can offer opportunities, respect, and visibility," Drucker explained in his 1989 piece, which appeared in The Wall Street Journal (NWS). "As employees of a college, managers of student dining will never be anything but subordinates. In an independent catering company they can rise to be vice president in charge of feeding the students in a dozen schools; they might even become CEOs of their firms. If they have a problem, there is a knowledgeable person in their own firm to get help from. If they discover how to do the job better or how to improve the equipment, they are welcomed and listened to."

Notably, Drucker didn't call for outsourcing only the drudgery. He suggested that knowledge work—such as that performed by a quality-control specialist—was ripe for the same kind of treatment. In short, "you should outsource everything for which there is no career track that could lead into senior management," Drucker advised.

Not Just For Cutting Costs

But as keen as he was on the concept, Drucker also recognized that outsourcing was not without its pitfalls. Most serious of all, he warned, were the "substantial social repercussions" that would result "if large numbers of people cease to be employees of the organization for which they actually work."

Beyond that, Drucker anticipated dangers for the company itself. Many corporations, of course, have become quite sophisticated at managing their supply chains. But plenty of others still see outsourcing primarily as a blunt instrument to cut costs—a limited perspective that Drucker labeled "a delusion."

A company's real aim, Drucker said, should be to enhance effectiveness, not to try to lower expenses. (Drucker maintained that outsourcing, properly executed, might even increase costs.)

To that end, he added, the overriding question for executives is, "Where do activities belong?" Inside the company's walls? Or outside its doors? Or should they be reorganized as part of a joint venture or some other type of alliance? The answer isn't always so obvious.

To illustrate the point, Drucker cited a top manufacturer of consumer goods. For a time, the company assumed that the more it manufactured itself, the better. But on closer analysis, it decided to outsource its final assembly to a host of suppliers. At the same time, Drucker related, the company asserted greater control over other aspects of its operations, insourcing basic compounds to achieve higher quality.

The lesson in all this: Structure should follow strategy. Or, as Apple has shown, the last thing you want to do is outsource simply because it may save you a little money in the short run—and then just let the chips fall where they may.

Rick Wartzman is the executive director of the Drucker Institute at Claremont Graduate University.

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