Sie sind auf Seite 1von 78

1766.

001 Thomas Phelps Mitchell Fleischer

Strategic Outsourcing Decision Guidebook


Produced under Technology Investment Agreement 20000962 Between NSRP (Advanced Technology Institute as agent for) and the Altarum Institute
March 29, 2002

2002 Altarum Institute. Distribution Unlimited

Altarum 3520 Green Court, Suite 300 Ann Arbor, Michigan 48105-1579 (734) 302-4600

Acknowledgements
The Altarum Project Team gratefully thanks the following individuals for their help in developing this Guidebook. The Northrop Grumman Newport News Outsourcing Pilot Team: Kevin DeGraw Doug Livermon Mike Walsh Peder Wennberg Dexter Lilly Terry Volz Veasey Wilson Project Advisor: Bill Brill, Atlantic Marine, NSRP Major Initiative Team Leader for Business Process Technologies Program Manager: Leo Plonsky, Office of Naval Research Funding for the pilot project and this Guidebook was provided by the Navy Manufacturing Technology Program within the Office of Naval Research, and through the National Shipbuilding Research Program (NSRP).

Cover photographs courtesy of Northrop Grumman and General Dynamics.

Strategic Outsourcing Decision Guidebook

This page intentionally left blank.

ii

Strategic Outsourcing Decision Guidebook

Preface
Background to the Guidebook
The Strategic Outsourcing Decision Guidebook focuses on a key area for U.S. shipbuilders the need to reduce costs while maintaining responsiveness to the difficult process of assembling some of the largest and most complex products in the world. One approach to this is to determine a companys required core competencies and to outsource remaining tasks to more efficient suppliers. The NSRP Advanced Shipbuilding Enterprise Strategic Investment Plan1 (ASE SIP) defined the three most important challenges to be addressed in the Business Process (BP) Technologies Major Initiative Area as Sourcing and Supplier Integration, Planning and Production Design Processes, and Pre-Contract Processes. The outsourcing decision process fits squarely in the midst of those three areas. According to the SIP, these three areas combined represent 84% of the relative benefit to be gained from the BP Technologies area. As a whole, the BP Technologies area represents 21.4% of the total benefit anticipated from the ASE program and was specifically identified as a high return on investment (ROI) area. Whether to outsource is one of the most difficult areas in which to make a decision. The people who work in the affected area are concerned for their livelihoods; the people who work with them have emotional ties with their colleagues; everyone is concerned that they are currently part of a process that at least works, while outsourcing raises many levels of uncertainty; and there may be a sense that, because the work has always been done inside, it is part of what defines the company. The very emotional nature of the outsourcing decision means that we must have good information on which to base it. Too often such decisions are made on the basis of good intentions and limited information. The Strategic Outsourcing Decision Guidebook is designed to provide a basis on which good decisions can be made. It does this by providing a template for an analytically oriented outsourcing decision process and a detailed description of the elements of that process. Moreover, the Guidebook goes beyond the outsourcing decision process per se, to address problems of implementation. In particular, an outsourcing decision may result in the need to form new relationships with new kinds of suppliers. The Guidebook provides support for these situations by providing advice on the types of new relationships that may be needed and how to form them.

Sources for the Guidebook


In addition to the existing literature on making outsourcing decisions, this Guidebook is directly based on the results of two projects performed by Altarum. These were the Outsourcing Decision Analysis Pilot and the Shipbuilding Supply Chain Integration Project.
1

National Shipbuilding Research Program (2001). Advanced Shipbuilding Enterprise Strategic Investment Plan. Rev 2.

Strategic Outsourcing Decision Guidebook

iii

The Outsourcing Decision Analysis Pilot


This project defined a new model for the outsourcing decision process and piloted it at Northrop Grumman Newport News. The Newport News pilot was conducted on two types of internally produced products: motor repair and overhaul services and low-voltage switchboards and panels. The motor repair analysis showed that the most cost-effective path was to close the internal motor shop and outsource motor repair and overhaul work. The analysis of the switchboard and panel work led to an ambiguous result. That is, the analysis suggested a cost saving that was, while significant as a dollar value, within the uncertainty of the estimated costs. That uncertainty was enough to preclude a reliable conclusion. The potential savings, however, are enough that Newport News is planning to conduct a pilot purchase of a limited set of switchboards to help refine the estimates. The pilot project experiences served as the basis for many of the recommendations in the Guidebook. We recognize that Newport News is unique among U.S. shipbuilders. Not only are they the largest shipyard in the U.S., they are currently the most vertically integrated shipbuilder in the country (perhaps in the world) and therefore their potential outsourcing concerns are substantially greater than those of other shipyards. In addition, except for some commercial overhaul and repair work, they work exclusively for the U.S. Navy as a customer, while most other shipyards in the U.S. have commercial customers as well as Navy customers2. To ensure the Guidebooks applicability to other shipyards, it has been reviewed by an Advisory Panel from two other shipyards: NASSCO and Atlantic Marine. NASSCO performs a combination of military and commercial work, while Atlantic Marine primarily does commercial work. An additional member of our project team was Tom Lamb from the University of Michigan Transportation Research Institute (UMTRI), who has more than 40 years experience working in the shipbuilding industry at both shipyards and suppliers.

Shipbuilding Supply Chain Integration Project


This project studied supply chain management practices in the U.S., Europe and Japan based on visits to shipyards and suppliers as well as previous work by the authors with the automotive, aerospace, and defense electronics industries. The project (Shipbuilding Supply Chain Integration Project3) defined 22 best practices that could be applied by the U.S. shipbuilding industry. Those best practices form the core for the new types of relationships recommended in this Guidebook. In addition to a variety of shipbuilding experiences brought to bear in preparing the Guidebook, members of the project team have extensive experience in the automotive industry. That experience has been used to suggest new approaches that could be tried in shipbuilding.

2 3

Bath Iron Works and Electric Boat are the other major exceptions, of course. M. Fleischer, R. Kohler, T. Lamb, B. Bongiorni, and N. Tupper (1999). Shipbuilding Supply Chain Management Project: Final Report, MANTECH Contract # F33615-96-C-5511. Ann Arbor, MI: Environmental Research Institute of Michigan.

iv

Strategic Outsourcing Decision Guidebook

Table of Contents
Executive Summary ........................................................................................................ ES-1 1 Introduction ...............................................................................................................1-1 1.1 1.2 Benefits of the Process ......................................................................................1-1 Types of Outsourcing Decision Processes.........................................................1-1
1.2.1 1.2.2 Strategic Outsourcing ......................................................................................... 1-1 Tactical Outsourcing ........................................................................................... 1-2

1.3 1.4 1.5

How Is This Approach Different?........................................................................1-2 How Does It Compare to Other Books or Articles? ............................................1-2 Tips for using this Guidebook .............................................................................1-3
1.5.1 1.5.2 1.5.3 1.5.4 1.5.5 Complete the Foundation Tasks First................................................................. 1-4 Modify the Process as Needed ........................................................................... 1-4 Include Major Stakeholders ................................................................................ 1-4 Train Participants ................................................................................................ 1-4 Improve the Process ........................................................................................... 1-4

Foundation Tasks .....................................................................................................2-1 2.1 2.2 2.3 2.4 Set Strategic Direction and Funding...................................................................2-1 Determine Core Competencies and Strategic Objectives ..................................2-2 Develop List of Candidates for Consideration ....................................................2-2 Appoint Process Implementation Team..............................................................2-3

Outsourcing Decision Process................................................................................3-1 3.1 Activity A Define Candidate Product Families .................................................3-1
3.1.1 3.1.2 3.1.3 3.1.4 Activity A.1: Initiate Outsourcing Decision Process ........................................... 3-2 Activity A.2: Identify Product/Process Categories.............................................. 3-3 Activity A.3: Identify Sub-Components of Items/Parts/Products........................ 3-3 Activity A.4: By Part Family, Determine Origin and Volume of Work................. 3-5 Activity B.1: Develop Process Map for Each Part Family .................................. 3-7 Activity B.2: Perform Internal Manufacturing Cost Analysis ............................3-10 Activity B.3: Document Requirements for Suppliers ........................................3-11

3.2

Activity B Analysis of Process and Associated Processes ..............................3-6


3.2.1 3.2.2 3.2.3

3.3 3.4

Activity C Evaluate Potential Substitutes.......................................................3-12 Activity D Determine Supplier Capabilities and Develop Ranking Criteria ....3-13
3.4.1 3.4.2 3.4.3 3.4.4 Activity D.1: Identify Appropriate Suppliers to Support Requirements ............3-13 Activity D.2: Investigate Suppliers Capabilities ...............................................3-14 Activity D.3: Develop Criteria and Data for Ranking Potential Suppliers.........3-15 Activity D.4: Perform Inquiry RFQ Process......................................................3-15

Strategic Outsourcing Decision Guidebook

3.4.5 3.4.6

Activity D.5: Rank Potential Suppliers .............................................................3-17 Activity D.6: Determine Likely Supplier Relationship .......................................3-17 Activity E.1: Predict Likely Program Impact .....................................................3-19 Activity E.2: Perform Final Cost Analysis..........................................................3-20 Activity E.3: Make Sourcing Recommendation to Steering Committee...........3-21 Activity E.4: Outsourcing Steering Committee Review ....................................3-22

3.5

Activity E Outsourcing Analysis and Recommendation.................................3-18


3.5.1 3.5.2 3.5.3 3.5.4

3.6 3.7

Activity F Outsourcing Decision.....................................................................3-22 Activity G Implement Outsource Decision .....................................................3-23


3.7.1 3.7.2 3.7.3 Activity G.1: Create Transition Plan .................................................................3-23 Activity G.2: Implement Transition Plan...........................................................3-24 Activity G.3: Outsourcing Process ...................................................................3-24 Activity H.1: Reserve Capital and Overhead ...................................................3-26 Activity H.2: Continue Internal Process ...........................................................3-26

3.8

Activity H Implement Keep Internal Decision.................................................3-25


3.8.1 3.8.2

Lessons Learned Summary .....................................................................................4-1

Appendix A Selected Definitions .................................................................................. A-1 Appendix B Process Responsibilities .......................................................................... B-1 Appendix C Data Gathering........................................................................................... C-1 C.1 Data Gathering Interview................................................................................... C-1 C.2 Reference Checking Interview .......................................................................... C-5 Appendix D Cost Factor Analysis................................................................................. D-1 D.1 Labor Cost Factors ............................................................................................ D-1 D.2 Purchased Goods and Services Cost Factors................................................... D-2 D.3 Facilities Cost Factors ....................................................................................... D-3 D.4 Other Cost Factors ............................................................................................ D-3 Appendix E Appendix F Example Cost Factor Analysis ................................................................. E-1 Example Supplier Interview.......................................................................F-1

Appendix G Example Supplier Comparison Sheet...................................................... G-1 Appendix H Example Supplier Rating Sheets ............................................................. H-1 H.1 Requirements .................................................................................................... H-1 H.2 Discriminators.................................................................................................... H-2 H.3 Motor Repair/Overhaul Supplier Rating ............................................................ H-3

vi

Strategic Outsourcing Decision Guidebook

List of Figures and Tables


Figure ES-1: Overall Outsourcing Decision Process ......................................................................................ES-2 Figure 2-1: Foundation Tasks That Precede Applications of the Outsourcing Decision Process .......................2-1 Figure 3-1: Overall Outsourcing Decision Process .............................................................................................3-1 Figure 3-2: Steps Required to Define Candidate Product Families.....................................................................3-2 Figure 3-3: Low-Voltage Switchboard Example ..................................................................................................3-2 Figure 3-4: Electric Motor Winding......................................................................................................................3-4 Figure 3-5: Manufacturing Process Elements Analysis.......................................................................................3-6 Figure 3-6: Motor Shop Overhaul Process..........................................................................................................3-8 Figure 3-7: Evaluate Potential Substitute Parts ................................................................................................3-12 Figure 3-8: Investigating the Outside Supplier Alternative ................................................................................3-13 Figure 3-9: Outsourcing Analysis......................................................................................................................3-19 Figure 3-10: Outsourcing Decision ...................................................................................................................3-23 Figure 3-11: Outsource Steps...........................................................................................................................3-23 Figure 3-12: Keep Internal Steps ......................................................................................................................3-26 Table B-1: Outsourcing Decision Process Responsibilities ............................................................................... B-2 Table E-1: Labor Distribution and Cost for Make Option ................................................................................... E-2 Table E-2: Other Direct Costs Involved in Making Bells .................................................................................... E-3 Table E-3: Labor Distribution and Cost for Outsource Option............................................................................ E-3 Table E-4: Other Direct Costs Involved in Outsourcing Bells............................................................................. E-3 Table E-5: Overall Comparison of Make Versus Outsource Options ................................................................. E-4 Table G-1: Supplier Comparison Sheet .............................................................................................................G-2

Strategic Outsourcing Decision Guidebook

vii

This page intentionally left blank.

viii

Strategic Outsourcing Decision Guidebook

Executive Summary
This Guidebook identifies three factors that should be used as the basis for outsourcing decisions, namely: Strategic concerns for core competence and employee and community relations Lowest total cost (or best value) Impact on operations

It provides a structured, deliberate process that attempts to involve all stakeholders, balance a variety of factors, collect data about those factors, and then make a reasoned decision. This is necessary because good decisions about outsourcing are generally not the result of seat-of-the-pants approaches. It is too easy to overlook a key issue that will adversely surface later. The systematic, structured outsourcing decision process will lead to reduced costs and fewer delays. There will be fewer delays because the closer relationship that results from the process will bring with it delivery closer to just-in-time than is possible from current relationships. An outsourcing decision analysis assesses the costs and benefits of having work performed by internal shops versus outside suppliers. There are two forms these outsourcing decisions can take: Strategic Outsourcing where the shipyard decides whether it wants to make or outsource a type of commodity, and Tactical Outsourcing where the shipyard decides whether it wants to make or outsource a specific part or assembly for an individual ship or series of ships.

The supplier-customer relationships formed will be different for tactical outsourcing decisions as opposed to strategic ones. Much closer relations are required for the strategic decision to be effective. This Guidebook is primarily focused on strategic outsourcing decisions. However, most of the methods discussed here could be used for tactical decision-making. In contrast to the typical outsourcing decision processes in many shipyards, the approach recommended in this Guidebook is: More complete More accurate More structured

The concept of outsourcing is hardly new. There are many articles and several books on outsourcing. The primary contribution of this Guidebook is that it provides a step-bystep (structured) process that focuses on the unique needs of the U.S. shipbuilding industry, particularly that portion of the industry that serves the U.S. Government customer. Being a government contractor places unusual requirements on a shipyard, particularly in regard to procurement requirements. However, the Guidebook should also be applicable to commercial shipyards.

Strategic Outsourcing Decision Guidebook

ES-1

A second contribution this Guidebook makes is that it uses a comprehensive approach to building cost models. This approach provides a substantially more accurate view of costs than the typical direct labor plus overhead. The heart of this Guidebook is a process to follow in order to reach outsourcing decisions. This process has been tested (and improved) as a result of pilots at Northrop Grumman Newport News. Nonetheless, it may not be perfect fit for other shipyards. Therefore, tips or suggestions on how to use the Guidebook are given as follows: Complete the Predecessor Tasks First Modify the Process as Needed Include Major Stakeholders Train Participants Improve the Process

The overall outsourcing decision process is divided into a series of steps as shown in the high-level diagram in Figure ES-1 below. The details of the high-level boxes are provided in the body of the Guidebook. Undertaking an outsourcing decision process requires considerable effort. Several tasks that build a proper foundation for outsourcing decisions should be completed before undertaking any outsourcing decision process.
Figure ES-1: Overall Outsourcing Decision Process

Foundation Tasks Set Strategic Direction & Funding Determine Core Competencies & Strategic Directions Develop List of Candidates Appoint Process Implementation Team

Analyze Process + Associated Processes Define Candidate Product Families Evaluate Potential Substitutes

Outsource Determine Supplier Capabilities & Develop Ranking Criteria Outsourcing Analysis and Recommendations

Implement Outsource Decision

Outsourcing Decision Internal Implement Keep Internal Decision

ES-2

Strategic Outsourcing Decision Guidebook

Introduction
An outsourcing decision process is not just finding an excuse to outsource more work. The purpose of the outsourcing decision process is to make the most rational decisions about where something should be produced or assembled. In this Guidebook we recommend that you base those decisions on three factors: 1. Strategic concerns for core competence, as well as employee and community relations 2. Lowest total cost (or best value) 3. Impact on operations In effect, we recommend a structured, deliberate process that attempts to involve all stakeholders, balance a variety of factors, collect data about those factors, and then make a reasoned decision. This is in contrast to blindly choosing whether to outsource without a full analysis. It is also in contrast to many outsourcing decision processes that we have seen which fail to consider total cost on both sides of the equation. Good decisions about outsourcing are generally not the result of seat-of-the-pants approaches. It is too easy to overlook a key issue that will later come back to haunt you. You need to take the time to do it right if you really want to improve your business.

1.1 Benefits of the Process


A systematic, structured outsourcing decision process will lead to reduced costs and fewer delays. The process will lead to greater outsourcing in situations where total cost can in fact be reduced, while retaining work inside the shipyard when their total costs are lower. There will be fewer delays because the closer relationship that results from the process will bring with it delivery closer to just-in-time than is possible from current relationships.

1.2 Types of Outsourcing Decision Processes


An outsourcing decision analysis assesses the costs and benefits of having work performed by internal shops vs. outside suppliers. These analyses should consider the long-term benefit to the company, rather than just short-term low bid pricing. There are two forms these outsourcing decisions can take.

1.2.1

Strategic Outsourcing
In the Strategic Outsourcing decision, the shipyard decides whether it wants to make or buy a type of commodity at all. If it decides to buy that type of commodity then most likely it will close the facility currently used to make it. Since the consequences of this type of decision are so significant, the process used to make it should be as accurate as possible. The political considerations are significant as well, suggesting that careful attention be paid to bringing all major stakeholders into the process. Perhaps the most successful outsourcing is when the internal customer never notices that the outsourcing has occurred, but sees that service and costs have improved. This Guidebook is primarily focused on strategic outsourcing decisions.

Strategic Outsourcing Decision Guidebook

1-1

1.2.2

Tactical Outsourcing
In the Tactical Outsourcing decision, the shipyard decides whether it wants to make or buy a specific part or assembly for an individual ship or series of ships. While a series of tactical decisions may well lead to a strategic outsourcing decision in the future, the immediate consequences are not so large. A shipyard may want to make these forms of outsourcing decisions as a type of experiment to learn which types of commodities it is good at (in part by benchmarking against external sources), and to learn more about the supplier community before it attempts to make a strategic decision. The specific types of supplier-customer relationships formed will be different for tactical outsourcing decisions as opposed to strategic ones. Much closer relations are required for the strategic decision to be effective. Although this Guidebook is primarily focused on strategic decisions, most of the methods discussed here could be applied tactical outsourcing decisions.

1.3 How Is This Approach Different?


In contrast to the typical outsourcing decision processes in many shipyards, the approach recommended in this Guidebook is: More Complete The process we recommend includes issues that are rarely addressed in the typical outsourcing decision process. Most important we include consideration of the impact of outsourcing on associated process in the shipyard and the need (and costs) to build specific types of relationships with suppliers. More Accurate because it uses an comprehensive approach to costing, this process provides a more accurate view of both the make and buy sides of the equation. It provides greater accuracy on the make side because it does not attempt to allocate a gross part of the entire overhead of the shipyard to a particular process, but rather looks only at those portions of overhead specifically attributable to that process. It provides greater accuracy on the buy side because it considers changes in the shipyards process that may be required if a process is outsourced. More Structured the Guidebook recommends (and provides a template for) creating a formal process for the outsourcing decision. Simply by following a formal rather than an ad hoc process, the approach becomes more structured and the results more reliable and defensible.

1.4 How Does It Compare to Other Books or Articles?


Thinking about outsourcing is hardly new. Indeed there is literature on the topic, complete with recommendations about how to proceed. There are many articles on outsourcing, including excellent work by James Brian Quinn4, and on core competence, most prominently by C.K. Prahalad5. But most of that work is highly conceptual and
4 5

Quinn, James B. and F. G. Hilmer. Strategic Outsourcing, Sloan Management Review, Vol. 35, No. 4, p. 19, 1994. Prahalad, C. and G. Hamel. The core competence of the corporation, Harvard Business Review, May-June 1990, pp. 79-91.

1-2

Strategic Outsourcing Decision Guidebook

does not provide how-to guidance. Simon Domberger6 has written a book that provides substantial background information on outsourcing, but also does not provide a process to guide the user. It would be a useful source of supporting alongside the process presented here. A new book with background information for outsourcing by Michael Milgate7 has recently become available. Like the book and articles described above, it does not describe an outsourcing process. It instead focuses on the relationships between companies involved in alliances and outsourcing relationships in the context of lean organizations. The best how-to book we have seen is by David Probert8, but it is not very easy to get in the U.S., having been published by the Institute for Electrical Engineers in Great Britain. It provides an excellent conceptual overview and a step-by-step process, although it is not customized for shipbuilding nor does it have a lot of supporting information. Another recent book, by Maurice Greaver9, defines an outsourcing process. The process it describes is similar to the one described in this Guidebook, but again not focused on the shipbuilding industry. Either Proberts or Greavers book would be a good alternate source to have as a supporting reference to the outsourcing process provided here. The primary contribution this Guidebook makes is that it provides a step-by-step process that focuses on the unique needs of the U.S. shipbuilding industry, particularly that portion of the industry that serves the U.S. Government customer. Being a government contractor places unusual requirements on a shipyard, particularly in regard to procurement requirements. That does not mean, however, that this Guidebook only applies to government procurement. In fact, organizations such as American Bureau of Shipping (ABS) play a very important role in setting standards for the commercial shipbuilding industry. This Guidebook should also fit the commercial shipyards needs reasonably well. A second contribution this Guidebook makes is that it uses a comprehensive approach to building cost models. This approach provides a substantially more accurate view of costs than the typical direct labor plus overhead.

1.5 Tips for using this Guidebook


See Appendix A The heart of this Guidebook is a process (Section 3, beginning on page 3-1) that we recommend you follow in order to conduct your outsourcing decision process. This process has been tested (and improved) as a result of pilots at Northrop Grumman Newport News. Our experience shows it is a solid, reliable approach. As with any generic process, it will need to be customized to fit your specific situation. So, we have provided the following tips or suggestions for how to use the Guidebook. See Appendix A for definitions of the concepts in this Guidebook.

6 7 8 9

Domberger, Simon (1998). The Contracting Organization A Strategic Guide to Outsourcing, New York: Oxford University Press. Milgate, Michael (2001). Alliances, Outsourcing, and the Lean Organization, Westport, CT: Quorum. Probert, David (1997). Developing a Make or Buy Strategy for Manufacturing Business, London: IEE. Greaver II, Maurice F. (1999). Strategic Outsourcing A Structured Approach to Outsourcing Decisions and Initiatives, New York: AMACOM.

Strategic Outsourcing Decision Guidebook

1-3

1.5.1

Complete the Foundation Tasks First


Section 2 (page 2-1) describes a set of tasks that should be done before undertaking the main outsourcing decision process for any particular part or part family. These tasks set the context, the foundation, for a well thought out application of the outsourcing decision process and give guidance on which parts or part families should be considered by the process.

1.5.2

Modify the Process as Needed


If your current outsourcing decision process is clearly unsound or undefined, the best way to use this Guidebook is to take the process contained in it as your starting point. Take a group of stakeholders and walk through the process with them. As you go, consider where you would find needed data, what the reaction of different stakeholders would be, what the interfaces with any current processes would be, and whether additional steps might be needed. Then go ahead and make the process your own modify it as needed. Do any modifications carefully, however, making sure not to drop some critical part of the process without replacing it in some way. If you have a reasonably satisfactory outsourcing decision process now, you may find some nuggets in this one that may lead you to add to or modify you current process.

1.5.3

Include Major Stakeholders


This Guidebook primarily takes a Sourcing or Purchasing perspective on the outsourcing decision. There are typically many other stakeholders in that decision, including most prominently engineering, planning, and manufacturing. We take the Sourcing perspective because in most companies Sourcing sits at the center of the decision. This is not to say that they are always the final decision maker, but it usually falls to them to bring all the information together that form the basis of the decision. The front end of our process includes the formation of what we call a Process Implementation Team to oversee the process. That team should include representatives of all major stakeholder groups. This representation should be sufficient to insure input from all needed groups.

1.5.4

Train Participants
Everyone who is going to use the process needs to be trained in it. In other words, it does not help to have a Process Implementation Team made up of people who do not really understand the process they are supposed to be using. Take the time to train the team in the process. It seems obvious, but because it takes time and effort, we have observed many examples of failure to do adequate training.

1.5.5

Improve the Process


Any process like this can be improved. Every time you run into a problem that seems to be caused by the structure of the process, make a change and write it down. When you have completed a outsourcing decision, take a few extra minutes (with your team) and decide if and how the process should be changed to make things go better. Then formally change the process by writing the changes down. It is not hard and should be a way of life.

1-4

Strategic Outsourcing Decision Guidebook

Foundation Tasks
Undertaking an outsourcing decision process requires considerable effort. Therefore, going through the process when the outcome is preordained is unwise. Not only is the effort itself wasted, but conducting a pointless outsourcing decision process only leads to suspicion and lack of faith in the process for future applications. Figure 2-1 shows a set of tasks that build a proper foundation for outsourcing decisions and that should be completed before undertaking any outsourcing decision process. Note that these foundation tasks are not numbered. They are not part of the outsourcing decision process itself. The numbered tasks of Section 3 are the steps that are applied in each individual outsourcing decision process. These foundation tasks should be undertaken by a highlevel management committee with the responsibility to oversee the overall process of outsourcing. We refer to this committee as the Outsourcing Steering Committee.

See Appendix B

The foundation tasks are: Set strategic direction and funding Determine core competencies and strategic objectives Develop list of candidates for consideration Appoint process implementation team

Appendix B provides guidance on the distribution of responsibility for outsourcing analysis and decisions.
Figure 2-1: Foundation Tasks That Precede Applications of the Outsourcing Decision Process

Set Strategic Direction and Funding Develop List of Candidates Appoint Process Implementation Team

(A)

Determine Core Competencies and Strategic Objectives

2.1 Set Strategic Direction and Funding


Deciding whether to make or buy some part or family of parts can have significant, longrange effects on a company. Hence, outsourcing decisions have strategic implications and need to be conducted within the organizations strategic framework. Before making any but the most immediate, tactical outsourcing decisions (e.g., due to short term capacity problems), the organizations management should set the overall direction for making outsourcing decisions within the context of the organizations strategic goals. Top management must set the strategic direction and provide the funding required to

Strategic Outsourcing Decision Guidebook

2-1

properly undertaking the outsourcing decision process. Part of ensuring outsourcing decisions fit within the strategic direction is designating a management representative to champion the overall process. Top management will need to allocate human resources and funding to the outsourcing decision process. The Outsourcing Steering Committee will need to develop the candidate list and oversee the overall outsourcing decision making process.

2.2 Determine Core Competencies and Strategic Objectives


Making outsourcing decisions without consciously considering the organizations core competencies and strategic objectives leads to substantial risk of a bad decision. A core competence is a capability that provides you with a significant competitive advantage in the marketplace. In very real sense a core competence is what defines you as a company. Therefore, before conducting an outsourcing decision process, the organizations core competencies and strategic direction need to be carefully determined. The importance of strategic thinking around outsourcing is presented in Doig, et al10. Many of the references described in Section 1.4 (page 1-2) also provide guidance on thinking about outsourcing in a strategic manner.

Fincantieri Example:
One of the best examples of knowing core competencies that we have seen in shipbuilding was at Fincantieri, the Italian shipbuilder. When we visited them in 1997 they had just completed an explicit analysis of their core competencies. At that time they believed their core competencies were design, naval architecture, building the hull, and integration with the customer.

2.3 Develop List of Candidates for Consideration


The Outsourcing Steering Committee should generate a prioritized list of candidate parts or systems for outsourcing consideration. These items will then be addressed in detail through the outsourcing decision process. A recommended process for generating the list follows. 1. The initial list should be generated using some idea generation process such as brainstorming. As a starting point, it should be as inclusive as possible. 2. The list should be refined by removing items that meet one or more of the following criteria. In all cases, the reasoning by which an item was kept or removed from the list should be captured for future reference. The organization possesses unique technical abilities that cannot be replicated by outside sources, and there is no available substitute for the product that requires those unique abilities. The organization possesses proprietary or unique process capabilities and/or equipment, and there is no readily available substitute (design alternative,

10

Doig, Stephen J., R.C. Ritter, K. Speckhals, and D. Woolsen. Has Outsourcing Gone too Far?, McKinsey Quarterly, No. 4, 2001 (www.mckinseyquarterly.com).

2-2

Strategic Outsourcing Decision Guidebook

product alternative, or partnership) for the product that requires those capabilities. The organization is required to sustain the capability specifically by contract. The organization needs to develop this new technology to achieve a competitive advantage in the markets in which it competes. There does not exist potential for partnerships or outsourcing of this technology. Labor relations issues arising from outsourcing the work would lead to excessive extra costs or work interruption.

3. The remaining outsourcing candidates should be prioritized for consideration, based on the judgment of the management committee on a combination of the likelihood of success and long-term benefit. Although any part or system not considered a product of the companys core competencies is a potential candidate for buying, other criteria will serve to rank those candidates for the deeper consideration of the outsourcing decision process. There are scenarios where the cost comparison is likely to favor outsourcing. Labor. In the case of a product for which the majority of the actual cost comes from labor, the comparative costs will likely be in favor of outsourcing if the actual internal labor costs are higher than the typical suppliers labor costs. This is a common situation when the potential suppliers processes and business model are focused to producing a particular product or family of products whereas shipyard processes are set to produce a very wide variety of items. Additionally, the overall relatively small workload for the shipyard processes may be highly cyclical, swinging from capacity overload situations to no work situations. By performing work for a number of customers, the potential supplier is often able to better level load their facility and leverage economies of scale that the shipyard facility cannot. This variability and lack of scale experienced by the shipyard process incurs higher labor cost for the shipyard processes than is experienced by the potential supplier. Materials. For products where the material cost dominates, the relative purchasing power of the supplier versus the shipyard becomes a critical factor. If the supplier can find a cost advantage through quantity purchasing, then its overall costs are likely to be lower as well. Equipment. A third relevant cost area is capital equipment costs. Expensive equipment that is only lightly used will lead to increased overall per-item costs. A supplier that can more efficiently use expensive manufacturing equipment will generally have lower costs than a small facility that cannot afford the most effective equipment.

Of course, when two or three of these elements come into play at the same time is when the case for outsourcing is likely to be substantial.

2.4 Appoint Process Implementation Team


The Outsourcing Steering Committee selects the people who will execute the outsourcing decision process, the Process Implementation Team (PIT). The PIT should be a team of

Strategic Outsourcing Decision Guidebook

2-3

qualified personnel, including core representatives from purchasing, engineering, manufacturing, planning, and finance. In addition, there may be part time members from other departments as needed, especially including representatives of internal customers of the parts being considered. This team will perform the item-specific outsourcing analysis (steps A-E) and report results to the Outsourcing Steering Committee that will complete the process of actually making and implementing the decision. The PIT will also train new team members when necessary and make recommendations for improvement to the outsourcing decision process. One key issue to watch out for is over-familiarity with the candidate products being considered. PIT members gathering data and building models who are too familiar with the process and products being considered will likely have difficulty in conducting a proper study. When you know the process and product well, it is too easy to cut corners and make assumptions, thereby missing important issues, cost factors, or other information. The Steering Committee should consider bringing in outside support to the process if there is a possibility the PIT cannot maintain the necessary emotional and intellectual distance.

Newport News Example:


Newport News established the following PIT membership: Supply Chain Efficiency (two people, one the team leader) Material Operations Component Fabrication Assembly Non-nuclear Parts Master Office (two people) Nuclear Overhaul Engineering Central Planning Production Engineering

2-4

Strategic Outsourcing Decision Guidebook

Outsourcing Decision Process


The overall outsourcing decision process is divided into a series of steps as shown in the high-level diagram of Figure 3-1. A more detailed explanation of each of the steps is presented in the following sections. A responsibility matrix showing suggested leadership and other roles can be found in Appendix B. Throughout this section, the steps are illustrated with examples from two pilots done at Northrop Grumman Newport News. One pilot focused on electric motor repair, the majority of which arises as a part of Newport Newss ship overhaul work. At the time of the pilot, Newport News did the majority of the motor overhaul work internally but was considering closing its motor shop and sending all motor work outside. The other pilot focused on the manufacture of low-voltage electrical switchboards and panels, another shop being considered for closure.

Figure 3-1: Overall Outsourcing Decision Process


Foundation Tasks Set Strategic Direction & Funding Determine Core Competencies & Strategic Directions Develop List of Candidates Appoint Process Implementation Team

Analyze Process + Associated Processes B Define Candidate Product Families A Evaluate Potential Substitutes C

Outsource Determine Supplier Capabilities & Develop Ranking Criteria D Outsourcing Analysis and Recommendations E G Outsourcing Decision F Internal

Implement Outsource Decision

Implement Keep Internal Decision H

3.1 Activity A Define Candidate Product Families


The actual outsourcing decision process begins when the PIT is directed to evaluate the outsourcing decision for a class of parts that the Outsourcing Steering Committee has determined is outside the companys core competencies. Figure 3-2 shows the initial steps in the outsourcing analysis process. These steps refine the part or system to be considered from the original Steering Committee concept into a form that can be effectively analyzed.

Strategic Outsourcing Decision Guidebook

3-1

Figure 3-2: Steps Required to Define Candidate Product Families


(Foundation tasks) Identify Subcomponents of items/parts/ products within each Category A.3

Initiate Outsourcing Process A.1

Identify Product/ Process Categories A.2

By Part Family, Determine Origin and Volume of Work A.4

(B)

(C)

3.1.1

Activity A.1: Initiate Outsourcing Decision Process


Based on the work done in the foundation tasks, the Outsourcing Steering Committee selects a candidate type of part11 to evaluate with the outsourcing decision process from the prioritized candidate list developed in the predecessor tasks. The Steering Committee then directs the PIT to undertake an outsourcing analysis for the candidate. The core PIT members identify additional members needed for the particular candidate because of their expertise or direct involvement in making or using the candidate product.

Newport News Example:


Newport News identified electric motor repair and overhaul and low-voltage shipboard switchboards (Figure 3-3) as likely candidates for outsourcing. These two pilots complement each other well. Electric motor work is a regular part of the steady work Newport News gets overhauling Navy ships, especially aircraft carriers. In contrast, there is very little motor work on new ships. Switchboard construction is an integral part of constructing new ships, much less so for repairs and overhauls.

Figure 3-3: Low-Voltage Switchboard Example12

11

12

Note that throughout this Guidebook, part is used as the generic term for piece parts, assemblies, subsystems, or systems. The process applies regardless of the level of complexity of the individual items that make up the part category or family under consideration. Switchboard picture courtesy of Point 8 Power, Inc.

3-2

Strategic Outsourcing Decision Guidebook

3.1.2

Activity A.2: Identify Product/Process Categories


The outsourcing candidate will be some item or set of items. To ensure the most useful analysis is undertaken, the PIT should generate a complete list of all the products that the initial item list represents. Then the PIT should carefully sort the full list of items into categories by the manufacturing processes required to create or repair the items. This may not seem particularly important, but in fact can prevent significant errors or delays in the overall process (see lessons learned below).

Newport News Examples:


Motor Shop: Upon further investigation at Newport News, the team found that the effective product categories were electric motors, electric generators, and electromagnets, all three of which require the same kinds of equipment and skills to overhaul or repair. The electric motors and generators were further divided into two groups, Navy shipboard and internal yard. We also noted the close link between motors and pumps, since a large number of shipboard motors drive pumps. Switchboard Shop: Switchboards themselves are quite well defined, divided into two types, high voltage and low voltage. High-voltage switchboards are already outsourced by Newport News and there are no plans to change that. Thus our pilot focused on the low-voltage type of switchboards. Along with the low-voltage switchboards, Newport News builds electrical panels. While the construction is of the same basic type as the switchboards, a panel is considerably smaller and simpler than a switchboard. On the other hand, there are many more panels on a ship than low-voltage switchboards, so the outsourcing analysis was to focus on low-voltage switchboards and panels.

3.1.3

Activity A.3: Identify Sub-Components of Items/Parts/Products


Assemblies or complex parts identified in A.2 are broken down into their components and sources of these component parts are identified. If the decision is to make the overall assembly, then these sub-components become possible outsourcing candidates based on their impact on other shops and processes.

Newport News Examples:


Motor Shop: For motors and generators, the subcomponents of interest included items such as bearings, windings (see Figure 3-4) and housing end bells. None of these were identified as potential outsourcing components at this stage (i.e., within Newport News). However, when talking to potential motor rebuild suppliers later in the process, the team discovered the availability of a good source (capable of very fast delivery) for complex windings. The mere existence of such a source can change whether an item should be considered for outsourcing. Switchboard Shop: The switchboard shop primarily makes electrical switchboards and panels. The major subcomponents of switchboards are Aluminum Distribution Units (a historical name commonly shortened within Newport News to AD units). A given switchboard can have from one to five (rarely six) AD units. Each AD unit has a sheet metal structure, and common electrical components such as a bus. The cost and level of effort for a switchboard can be estimated fairly accurately based on the number of AD

Strategic Outsourcing Decision Guidebook

3-3

units that make it up. AD units can be broken down further, but much of the rest is purchased (switches, breakers, meters, etc.) and the remaining parts are routine but design specific (e.g., the size of the bus). Some of these components currently manufactured at Newport News or some of the manufacturing processes (such as plating) could be outsourced individually, while the overall switchboard manufacture is kept internal. However, considering whether to do that is only worthwhile doing after determining whether overall switchboard manufacture should be kept in house or outsourced. Panels are smaller and simpler units that provide local control capabilities on a ship. The basic manufacturing process is the same for as for switchboards, but on a considerably smaller scale. They have the same types of purchased parts included in them as well.

Figure 3-4: Electric Motor Winding

3-4

Strategic Outsourcing Decision Guidebook

Lesson Learned:
Be sure to capture the full range of activities up front. Because of the way the switchboard shop part family was described to the PIT, the focus for much of the cost generating process was strictly on switchboards. As we looked into Newport Newss labor costs associated with switchboards (section 3.2.2 Activity B.2), we realized that the shop in question also was responsible for a whole collection of components known as panels. These use the same basic construction as switchboards and, though individually much smaller, there are many more of them. For an aircraft carrier, there are 54 low voltage switchboards (about 150 AD units), but many times more panels. If the switchboard shop were to be closed, then panels would have to be outsourced as well. Because panels are so different in scale from switchboards, we had to go through a separate costing process for panels. While this was not a problem intellectually, the late realization that panels were a significant issue introduced a substantial delay in the outsourcing analysis process while we waited for that information. The reason the problem came about was that the common name used for the shop was switchboard shop, so the focus of the initial data gathering was on switchboards. The panel aspect was missed at first simply because of the shop name.

3.1.4

Activity A.4: By Part Family, Determine Origin and Volume of Work


Just characterizing the parts is not enough for an informed decision. Also needed is a full characterization of the work actually required to produce the candidate part family: Determine the overall volume of work related to the candidate part family per year (looking back far enough to make a proper estimate, including trends, likely three to five years). Determine the variation of work over time. This is also necessary information as a widely varying flow of work over time imposes quite different requirements on a supplier than a steady flow. Determine the portions of the work that are planned, unplanned, and urgent/emergent to assist in determining lead-time demands on a supplier. Work that is planned and identified well in advance will likely place fewer requirements on a supplier than work that is unplanned or otherwise suddenly needed on an urgent basis.

Strategic Outsourcing Decision Guidebook

3-5

Newport News Examples:


Motor Shop: Although Newport News establishes an overhaul schedule before a ship arrives, the vagaries of the ship overhaul process lead to a constantly changing schedule of when motors are available to the motor shop and when they are needed back on the ship. In addition, emergent work (typically identified when the motor is opened and inspected) often adds delays into the process as approvals for the additional work take time. Thus, waiting for the approval to proceed can lead to delays beyond when the motor is needed at the ship, necessitating expedited work. In addition, when shipyard motors fail and have to be repaired, the result is virtually always an emergency, because a crane out of service generally stops work on part of the ship. While the need for emergency work could perhaps be reduced somewhat, it will never go away completely and has to be taken into account when considering outsourcing. Switchboard Shop: Switchboard work is mostly associated with new construction. Hence the work is not as subject to schedule variation as motor overhaul. On the other hand, the build schedule for the switchboards is spread out due to resource limitations in the switchboard shop, requiring many switchboards to be produced early then stored until the hull construction catches up. This leads to additional costs because switchboards are completed early, then modifications come from the customer and already completed switchboards must be changed. If they could be completed on a nearer to just in time basis, the modifications could be incorporated before or, at worst, during switchboard construction. At the same time, if hull construction schedule changes take place, switchboards scheduled later may not be ready in time without expediting.

3.2 Activity B Analysis of Process and Associated Processes


Once the part family and its basic manufacturing requirements are characterized, the next step is to clearly define the processes involved in working on that part family, whether it is being manufactured, repaired, or overhauled. Figure 3-5 shows the steps required to analyze the manufacturing process for the part family or families under outsourcing consideration.
Figure 3-5: Manufacturing Process Elements Analysis

(A)

Develop Process Map for each Part Family B.1

Perform Internal Manufacturing Cost Analysis B.2

Document Requirements for Suppliers B.3

(D)

3-6

Strategic Outsourcing Decision Guidebook

3.2.1

Activity B.1: Develop Process Map for Each Part Family


For each identified part family, develop a process map that includes all processes and activities from the start of product design to the completed installation (including in-place testing) of those parts. In the case of overhaul work, the activities begin with the planning process and extend through the reinstallation of the part on the ship. The process map can be diagrammed using formal or informal documentation methods. The activities involved in developing the process map will help identify key issues related to the part family. When building the process map, gathering in-depth information is critical. In fact, some of the most important information is contained in the issues that are raised in the course of building the map. The best approach is to identify at least two, preferably three, people from the PIT to gather the data for the process map. You may also want to engage outside assistance in the data gathering and process map generation. The data is gathered through a series of interviews with representatives from every department or group that works on some aspect of the chosen part family. Those interviewed should include at least the shop floor supervisors and one to two levels of management above that. As much as possible (within labor relations restrictions), the people who actually do the work should be interviewed as well, including design engineers and their supporting designers, planning specialists, and shop floor personnel. Appendix C provides example questionnaires to help with developing appropriate interview questions. Throughout the interview process, look for common threads, tie them together from interview to interview, go back and re-interview to resolve open questions and balance against other information found. In conducting the interviews for the process map information you will very likely identify areas of the company that contribute to the product but were not on your original interview list because they were overlooked. Be sure to add people who can speak for those activities to the interview list. You may also want to interview customers of the candidate parts at this time, although it might be better to wait until later depending on the specific situation (see Lesson Learned below). Once the interviews are complete, a process map (diagram) and accompanying documentation can be generated that show the entire process. The map does not need to be developed in great detail. The purpose is to provide a framework for further discussions, not to spend days building a complex process model. The specific format of the process diagram is not important. Whatever diagramming approach the participants are comfortable with will work. Once completed, the interviewees should review the diagram and documentation for how well they capture the process and issues raised. Ideally, at least some interviewers should be relatively unfamiliar with the processes associated with the specific part family. If all the interviewers are too intimately involved with the process, they may tend to take shortcuts that allow them to miss critical pieces of information. For this reason, it may well be best to bring in outside support for this and related aspects of the outsourcing decision process.13 The use of neutral interviewers may be very beneficial as the perception of neutrality of an outside entity involved in the process encourages more candid answers and discussions about the process. Neutrality may not be an advantage when it comes to other kinds of data collection, such as getting cost estimates for purchased materials. For accurate and useful

See Appendix C

13

Greaver has a whole chapter that discusses when to bring in outside help. See footnote 9, page 1-3.

Strategic Outsourcing Decision Guidebook

3-7

data of this sort, the process needs internal staff who can collect data (or have data collected) and do a check on the data for accuracy and completeness. A neutral party will probably not have the necessary clout to get responses. The members of the PIT and, especially, the Outsourcing Steering Committee should be able to come up with the other kinds of data. Because the goal of this process is to determine whether work should be sent outside, the implication is a potential loss of jobs (though reassignments may prevent layoffs). The interviewers therefore need to recognize the effect of self-interest and loyalty to friends and co-workers on the interviewees responses. If the interviewees know outsourcing is the likely goal, then they may conceal information. Careful interviewing is important, both in the set of questions asked and in the way responses are interpreted. If the discussion is about topics outside of outsourcing, such as cost, quality, or schedule, then all sorts of information are likely to come out. There is a serious ethical problem in misrepresenting a request for information, but information legitimately gathered for another purpose can often be useful for the outsourcing analysis.

Newport News Examples:


Motor Shop: Interviewees included personnel from the motor shop and its supporting management, engineering, planning, and production control groups. For labor relations reasons, the interviews did not include shop floor personnel in the motor or machine shop. In areas such as engineering and planning, however, people who worked directly on some aspect of the motor rebuild process were interviewed. Also interviewed were similar personnel from the Newport News machine shop that has a significant role in motor repair as well as a cross-section of the motor shops customers. The interviews were conducted by a mixed team of outside and inside personnel. The motor overhaul process captured from the interviews is shown in Figure 3-6. Switchboard Shop: The interviews involved the same types of people as in the motor shop, with the sheet metal shop in the support role instead of the machine shop.
Figure 3-6: Motor Shop Overhaul Process
Remove motor/pump from ship Transport motor/pump to machine shop Disassemble motor/pump Transport motor to motor shop
= Activities needed only when pump involved = Activities involving Motor Shop Note: Process also works for generators

Inspect motor

Generate inspection report

Obtain rebuild approval

Rewind motor

Machine motor parts

Pot motor

Bake motor

Reassemble motor

Transport motor to machine shop

Reassemble motor/pump

Transport motor/pump to motor shop

Test motor/ pump

Transport motor/pump to ship

Install motor/pump on ship

3-8

Strategic Outsourcing Decision Guidebook

Lessons Learned:
1. Talk to the right people. No one can have a complete picture of something as complex as a shipbuilding operation. Not surprisingly, therefore, the general understanding of what people do does not always capture their actual functions. Accordingly, to develop the process map requires talking to people who do the work in each part of the organization. 2. Consider carefully when to talk to internal stakeholders for the part family. It is important to talk to stakeholders of the part family being considered for outsourcing. However, you need to be careful choosing when in the outsourcing analysis process you talk to them. You can include the internal stakeholder too early or too late depending on the situation. In the Newport News case, one stakeholder was not initially supportive of the idea of outsourcing. We attempted to include this stakeholder early in the process. We did not yet have the data which indicated that outsourcing appears to be advantageous and we did not yet have examples of suppliers who could meet our needs. This caused the stakeholder to resist the outsourcing analysis. Once the analysis was nearing completion, the data showed outsourcing to be promising, and we had very capable potential suppliers identified, the stakeholder was brought back in. This proved to be much more successful. Having seen that there are potential benefits from outsourcing, he provided excellent insight and asked very good questions about the potential supplier relationship. Other stakeholders of the motor shop, on the other hand, considered outsourcing a likely option from the start and provided substantial, useful information early in the process. The lesson, therefore, is: consider the point of view of each stakeholder carefully and include that stakeholder only at the appropriate time. Consider the complexity of the product to be outsourced (more complex, include stakeholder earlier), and understand the stakeholders needs. If this stage of the process is too early for a particular stakeholder, possible alternate times would be as a part of section 3.2.3 Activity B.3 (supplier requirements), section 3.4.3 Activity D.3 (develop supplier criteria), section 3.4.4 Activity D.4 (inquiry RFQ), section 3.5.1 Activity E.1 (program impact), or section 3.5.2 Activity E.2 (final cost analysis). If it is possible to do so without resulting in substantial problems, it is best to get input before sending out the inquiry RFQ. You want as rich a set of requirements as possible as part of the inquiry RFQ. In general, the less satisfied the stakeholder is with the current situation, the earlier you should bring them into the process. 3. Be ready for opposition to outsourcing. Personal sensitivities and loyalties reinforce one another to dynamically oppose outsourcing. They are very easy to trigger, and their connections are not always obvious. People can be very sensitive about job security, sometimes to the level of paranoia. Anyone you talk to may immediately assume that his job is in jeopardy or that the scope of his job will change dramatically. Incorrect understandings and rumors can result. An individual, who just knows its not the right thing may disrupt the analysis by deliberately spreading rumors that the decision has already been made. This is difficult to prevent, but the best way may well be to be completely open about what you are doing, telling everyone clearly what the issues are and how they will be addressed.

Strategic Outsourcing Decision Guidebook

3-9

3.2.2

Activity B.2: Perform Internal Manufacturing Cost Analysis


A key element of the outsourcing decision is whether outsourcing will cost less than making the part internally. You should undertake a detailed cost factor analysis, looking at costs of the entire life-cycle of activities involved in making the part family, from design through manufacturing, purchasing, waste disposal, etc. Cost factors include all the different types of actual costs for the specific people, machines, buildings, and other resources. The cost factor analysis is a means of calculating all the costs that go into making a type of part. The cost analysis should not be based on some broad-brush standard labor plus overhead rate. Traditional overhead rates hide actual costs. Overhead rates are appropriate for billing purposes, especially when agreed upon by a customer, but for actively managing a company, they are much less useful unless they are specific to the shop or manufacturing group associated with the candidate parts. Many cost factors need to be considered for determining the actual cost of manufacturing the candidate parts. Cost factors to consider include: All labor costs (actual pay plus complete fringe benefits but without overhead burden) Materials Material handling Subcontract costs for outside services related to product creation and preparation Utilities for production area Maintenance Rent for building space which would be freed up by outsourcing (actual rent on leased space or foregone rent on owned space) Depreciation or replacement cost Environmental protection and remediation

See Appendices D and E

See Appendices D and E for more detailed information on cost factors and how to determine them. For actual labor costs, information on the resources required to support the part family should be collected while gathering the data for the process map. That is, those interviewed need to be asked not only to describe the process, but also to describe how much labor time they spend on each step in the process for the members of the candidate part family. If appropriate, they should estimate how many other people of the same or subordinate types are required to do the work for that part family. The information gathered in this fashion can be compared to company-standard estimates for the work being done. The benefit of directly asking for time spent is that it captures time spent working that is not associated with a specific ship or job. If equipment is involved in the manufacturing process, the cost of operating that equipment is a part of the relevant activities. Equipment costs include tooling, energy use, depreciation, and maintenance. If equipment is old and fully depreciated, then the

3-10

Strategic Outsourcing Decision Guidebook

likely cost of replacement or upgraded equipment also should be included. Also counted is the cost of building space, which includes depreciation, maintenance, and energy for heating, cooling and lighting. Only with an honest estimate of actual cost can a legitimate comparison to outside costs be made. Templates to help with the cost analysis are provided on the Altarum website14. An example cost factor analysis is given in Appendix E. Extra costs can result from the need to expand capabilities if current capacity is not adequate to do the expected work. Expansion costs include recruiting and training additional workers as well as from adding equipment and even expanding space. Expansion hiring costs can be substantial if you need a number of people. Even just maintaining a constant workforce can involve hiring costs if there is any amount of employee turnover.

Newport News Examples:


Motor Shop: For the Newport News motor shop, costs related to motor shop operations were realized in a number of areas, including engineering, planning, production control, purchasing, machine shop, and, of course, the motor shop itself. Evaluating the changes that would take place if the motor work were outsourced, the engineering role would change, but very likely not lessen significantly. The planning role would likely be reduced, but still exist. The production control role would disappear, as would much of the machine shop work. All of these changes were considered when calculating the real difference in cost between making or outsourcing the part family. Switchboard Shop: The switchboard shop had a similar set of cost generators to the motor shop, although with the sheet metal and plating shops serving as the primary supporting shops for switchboards instead of the machine shop. The largest difference between the switchboard and motor shops was the cost of materials. Materials for the motor shop were not large relative to the other factors. For the switchboards and panels, however, materials are a major part of the cost. Furthermore, determining the cost of materials was quite difficult as historical data was not available so the bills of materials for the example switchboards needed to be priced.

Lesson Learned:
Be thorough in identifying costs. There are many possible sources of cost associated with a part under consideration for outsourcing, including and beyond the list presented above. The more identifiable cost sources you can bring into consideration, the more accurate your internal cost picture will be. Every real cost source you neglect to include in the calculations reduces the likelihood that you will outsource a part.

3.2.3

Activity B.3: Document Requirements for Suppliers


Supplier responsibility can range from black box solutions based on functional specifications (with the supplier doing all the engineering work, e.g., rolling bearings,

14

Templates are located at www.altarum.org/dpd/downloads/downloads.asp.

Strategic Outsourcing Decision Guidebook

3-11

valves, engines) to just manufacturing the desired part according to the customers design (e.g., custom forgings, castings, and machined parts). The characteristics of the part family will lead to the best level of supplier responsibility. The previous outsourcing decision process activities will have generated a substantial understanding of the internal activities and costs that are undertaken to manufacture the candidate part family. Most of the requirements on a supplier should be captured from that work. If you have not yet spoken to the customer(s) of the internal manufacturing activity, this may be the time to do so. This requires interviewing internal customers (and external, if any), those that receive the candidate part family from the manufacturing activity being considered for outsourcing. The purpose is to learn what the customers critical issues are and what effect outsourcing the work might have on them.

Newport News Example:


Shop Examples: Identifying most of the key requirements for motor repair/rebuild and switchboard suppliers was straightforward. The key issues raised by the interviewees all directly applied to a supplier. Accordingly, the project team was able to construct lists of the requirements on the suppliers that ranged from the need to accommodate schedule flexibility to the need to meet Navy requirements to the need to provide on-ship work. Appendix F provides an example comparison form based on the Newport News Motor Shop example.

3.3 Activity C Evaluate Potential Substitutes


For a ship with an existing part set (generally, all but the first one of a class or type), one way to outsource is to find existing parts that could substitute for existing members of the part family begin considered. This is useful whether the substitute part is external or internal to the company for the members of the internally made part family. For a new ship design this decision should be made relatively early in the concept design process. Figure 3-7 shows the step in the process that looks at potential alternatives.
Figure 3-7: Evaluate Potential Substitute Parts

(A)

Evaluate Potential Substitutes C

(D)

The purpose of this step is to determine whether a candidate part family (or individual part) has a likely set of suitable commercial/internal substitutes available. If so, then accurately describe the alternatives and obtain customer approval for substitute part, whether Navy or commercial. This activity assumes an Assembly level evaluation for potential substitutes. The biggest costs savings come from replacing a custom part with an off-the-shelf alternative, but generally any reuse helps because of reduced tooling and fixturing costs and the reduced number of part numbers being tracked and managed.

3-12

Strategic Outsourcing Decision Guidebook

Additional savings come from the need to keep fewer spares on hand, if the part is one for which spares are kept in stock.

Newport News Examples:


Motor Shop: The only realistic alternative to rebuilding electric motors and generators is to buy new replacement units. For larger motors and generators, rebuilding is generally much cheaper than replacing. Note there are cases where the color of money affects the decision. In the DoD, the money for repair often comes from a different budget than for new parts, especially when upgrades are involved. Hence, the balance between repair money and replacement money can often determine which is chosen, regardless of which is the most economically efficient. That is, if the overhaul money for a given project is gone but there remains some money set aside for upgrades, a decision to buy a new motor may be made, even thought it is more expensive. The shipyard may not see this issue directly, as it may be hidden within the Navys repair approval process. It is, nonetheless, an issue that can cause decisions surprising to those unaware of it. Switchboard Shop: There is really no alternative to switchboards and panels. There may be some alternatives at the individual purchased part level, but that was not of interest for this work.

3.4 Activity D Determine Supplier Capabilities and Develop Ranking Criteria


Figure 3-8 shows the steps to use in determining the appropriate supplier relationship strategy and process to use whether the part is a custom design or purchased from a catalog.
Figure 3-8: Investigating the Outside Supplier Alternative
Identify Appropriate Suppliers to Support Requirements D.1

(B)

(C)

Investigate Suppliers' Capabilities D.2

Develop Criteria and data for Ranking Potential Suppliers D.3

Perform Inquiry RFQ Process D.4

Rank Potential Suppliers D.5

Detemine Likely Supplier Relationship D.6

(E)

3.4.1

Activity D.1: Identify Appropriate Suppliers to Support Requirements


The preceding steps will have identified the key characteristics of the part family and the set of requirements that a supplier would (or could) be expected to fill. This step is where the likely suppliers for the chosen part family are identified. At least some appropriate suppliers may already be known to the shipyard. Others may be identified through searches through the usual purchasing mechanisms. The output of this step is a set of likely suppliers.

Strategic Outsourcing Decision Guidebook

3-13

Newport News Examples:


Motor Shop: Four likely candidate companies that rebuild electric motors were identified in the general vicinity of Newport News (within an hour or so drive). Switchboard Shop: Four likely candidate companies were identified. All are located outside Virginia, so substantial travel was required to visit.

3.4.2

Activity D.2: Investigate Suppliers Capabilities


The capabilities of potential suppliers need to be investigated since a key question is whether suppliers exist that can meet the shipyards requirements for the subject part. The best way to undertake this is to send an appropriate team to each of the suppliers. The team should interview the suppliers key personnel, exploring their responses to the key characteristics they need to have and gain an understanding of the nature of the company. The visit should include a tour of the facilities, with the team looking for characteristics such as shop neatness, adequacy of facilities, and similarity of parts made to the part family being considered. A set of appropriate references should also be requested from each supplier. The references should then be questioned about whether their requirements are similar to those of the shipyard and how well the supplier meets the references needs. Appendix F provides an example interview for suppliers. Appendix G is a table we used to compare suppliers side-by-side.

See Appendices F and G

Newport News Examples:


Motor Shop: The supplier interview questions used for the potential motor repair/rebuild suppliers were based on the generic set provided in Appendix F. From the four supplier visits, all four appeared to have the basic competency needed, but two companies appeared to be substantially better opportunities. References for the two most promising suppliers were checked, using the reference questionnaire also found in Appendix F. The references confirmed the impression that the two companies would both be capable of meeting Newport Newss requirements. Switchboard Shop: The supplier interview questions used for the potential switchboard suppliers were also based on the generic set in Appendix F. From the four supplier visits, all four appeared to have the basic competency needed. Detailed reference gathering was left to be undertaken as part of the purchasing process if outsourcing was chosen.

Lesson Learned:
Watch for additional requirements It is highly likely that, in the course of visiting the potential suppliers and talking to their references, further requirements and ways to compare the various firms will arise. Those elements should be captured. For example, in the motor repair supplier visits, one of them touted their equipment calibration program. We realized that was something we should be asking all of them.

3-14

Strategic Outsourcing Decision Guidebook

3.4.3

Activity D.3: Develop Criteria and Data for Ranking Potential Suppliers
The PIT should create criteria for ranking suppliers using a combination of metrics taken from their ability to meet the requirements identified in Activity B.3, the following categories and others as needed: Financial stability Onsite audit of processes Competency/reliability Long term partnership potential Supplier categorization model Total cost Design/engineering capability Manufacturing capacity/capability Quality controls Customer service Warehousing capacity/capability Installation capability/capacity Information Technology Testing capability Geographic location(s) Ability to meet special requirements

The specifics of each of these categories will depend on the particular part family being considered. The details will come from the previous steps.

Newport News Examples:


Motor Shop: All of the above items and more were explored with the motor suppliers. Additional items included the ability of the supplier to handle short notice work, whether due to an emergency or schedule change, the ability to provide services outside of motor rebuild itself, such as use of a baking oven, and the ability to absorb the changing work load that Newport News sees over time. Switchboard Shop: In addition to the items in the list above we also asked about the suppliers ability to be involved in the overhaul of switchboards, how they deal with engineering changes, and their ability to provide field support to their products after delivery to the shipyard and installation onboard ship.

3.4.4

Activity D.4: Perform Inquiry RFQ Process


Most shipyards have a process for getting estimates from suppliers (often called the Inquiry Request for Quote). While the prices received will not necessarily be final, they should be close enough for the outsourcing decision. Information from the preceding activities should be used here to build the Inquiry RFQ, which then should be sent to the most likely potential suppliers. The primary goal is to compare likely supplier costs with internal costs. For the outsourcing decision process, the purpose of the Inquiry RFQ is not to compare suppliers with each other, although that information may be of interest. If a decision is made to outsource the work, a more comprehensive RFQ process will need to be undertaken. There are a couple of key issues to watch for when undertaking the inquiry RFQ process. The first is that to get the best informational estimates from suppliers, it may be necessary to pay for the estimates. The second is that to get useful quotes in return, you have to give a good description of the work to be done. For example, if a portion of the work often needs to be done in an expedited fashion, then that needs to be stated. Such work may require overtime effort at the supplier, which will increase the costs. One of the

Strategic Outsourcing Decision Guidebook

3-15

benefits of this is that the increased costs from inefficiencies are made visible, where they might be hidden internally. Note that when calculating the total cost of outsourcing, you need to add in the costs of labor and purchased services that will be needed in that scenario. Typical costs will include the time of purchasing people, engineering time (how much depending on whether your engineering staff retain full design responsibility or step back into a design approval role). You may also have transportation costs and other non-labor costs to assess. The key idea is not to miss real costs that will be incurred if you outsource the part family. The cost factor analysis template found on the Altarum website has spreadsheets to capture the internal costs that go with an outsourced product.

Newport News Examples:


Motor Shop: The motor suppliers were provided with a fairly comprehensive list of motors for an upcoming ship overhaul and responded with approximate cost estimates for standard overhaul work, including typical and optional. As expected, the estimates varied from one supplier to the next, but for comparison with Newport News costs, the most expensive became the worst case cost for outsourcing the motor work. Switchboard Shop: Providing a full set of switchboards for cost estimates was not realistic. The data content was far too great to ask suppliers to wade through it all. The effort to make that many estimates would have very costly and would not have encouraged the development of a good relationship. Instead, three representative switchboards were selected and the design information for those switchboards was sent to several suppliers. The result was an average price we could use as a multiplier for the number of switchboards to be completed. An alternative, of course, would have been to pay the potential suppliers for their quotes, but that would have been too costly to Newport News. The same process and considerations were used to investigate the cost of the panels.

Lessons Learned:
1. Watch for expediting costs. One cost element that was overlooked in the inquiry RFQ process was the effect of expediting on costs from the supplier. The inquiry RFQ was sent to the motor shops without asking for the effect of expedited orders on the requested costs. This meant that the cost quotes returned from the vendors in response to the inquiry RFQ did not include that aspect, which lowered the apparent cost of their quotes. 2. Supplier quotes may vary significantly. The four suppliers who submitted switchboard inquiry quotes varied widely in their prices. The least expensive cost was less than half the most expensive. The other two were very close together and roughly in the middle between the other two. The quotes all included non-recurring engineering costs as well. The obvious question was the validity of the outliers at both ends and what to do about them. For completeness, we decided to include all levels in the analysis, but base the outsourcing recommendations on the middle numbers. We had similar variations in the motor shop quotes, although not quite as dramatic.

3-16

Strategic Outsourcing Decision Guidebook

3.4.5

Activity D.5: Rank Potential Suppliers


At this point in the process, the PIT has a substantial amount of information on potential suppliers gained from the interviews, references, and inquiry RFQ process. Further work with suppliers unlikely to be selected as partners would be wasteful to both sides. Therefore, if not already done, the PIT should use the data gathered in the previous steps and the criteria identified in Activity D.3 to select the probable supplier or suppliers. Note that, especially if a formal long-term relationship is to be arranged between the customer and supplier, then costs, delivery, and other normal contracting issues will typically be negotiated on a long-term basis. An example supplier rating sheet is provided in Appendix H.

See Appendix H

Newport News Examples:


Motor Shop: Two of the four motor suppliers were identified as being the best qualified candidates for taking on the Newport News work. Of those two, one was identified as the first choice for moving forward if the decision was to outsource the work. While cost was a major factor, other factors such as location, capacity, technical capability, and adherence to modern quality concepts also played a significant role in this particular decision. Switchboard Shop: While all four suppliers appeared technically capable based on the visits to their sites, they did differ. One stood out as being excessively expensive. Another stood out as being suspiciously inexpensive, to the point of raising questions about their true understanding of the work involved. The two middle-priced companies inspired the greatest confidence.

3.4.6

Activity D.6: Determine Likely Supplier Relationship


At this point, you should understand the requirements and nature of the work you are considering for outsourcing plus the capabilities of the likely suppliers. Based on this knowledge, you should determine the appropriate supplier relationship strategy and process. There are a number of issues to consider. Decide who and how much oversight is required to manage supplier. The level of oversight will depend on various factors such as the nature of the specific part family, the capabilities of the suppliers, and any past history related to outsourcing the part family or with the supplier. The oversight requirements may be planned as a multi-stage process, with heavy oversight at the beginning and reduced oversight as the confidence in the supplier and the relationship between the supplier and your company is established. Determine the terms and type of contract. In effect, this is establishing the preferred financial relationship between your company and the supplier. Factors in the decision include: The overall quantity of items or services to be purchased The number of items for purchase or service in a single order or release The frequency of orders or releases The minimum elapsed time between order and delivery for standard pricing

Strategic Outsourcing Decision Guidebook

3-17

The portion of orders or releases that will likely be unplanned or urgent and the extra cost of dealing with them The suppliers responsibilities (delivery options, special instructions, testing, warehousing, engineering, design, etc.) Other factors that will influence the cost or delivery and how often those factors are likely to be encountered.

In general, the higher the frequency and volume of interaction and work, the less contracting content you want to be part of the individual transactions. Whatever contracting mechanism is chosen, the cycle time for processing each part or product through the purchasing process needs to be fast enough to meet everyday ordering needs. Determine the technical support required. Depending on the nature of the product or service being considered, the level of technical support can vary widely. Elements of technical support include: Frequency of Engineering Change Notices15 Frequency of technical questions Complexity of drawings or other product and technical data Change management Ability to diagnose problems and recommend fixes or alternatives

Newport News Examples:


Motor Shop: If the motor shop were to be closed and that work outsourced, the likely contracting vehicle was determined to be a blanket purchase order with releases against the order for each motor sent to the supplier. It was determined that a single point of contact with deep motor repair knowledge would be the best route for passing information back and forth. In this case, the engineering input was limited, though a Newport News engineer would probably have to oversee unplanned repair requests that came through inspection reports generated as each motor was opened and inspected. Switchboard Shop: Most of the decision on contracting issues for the switchboards and panels were deferred. The plan was to use an audition contract to do a trial run on several switchboards with at least one of the suppliers. The result would be used to confirm other content and lead to a final decision.

3.5 Activity E Outsourcing Analysis and Recommendation


Figure 3-9 shows the steps involved in completing the outsourcing analysis and bringing the recommendation to the decision makers. All data from previous activities is put together to compare the real internal cost to make the product with the suppliers prices.

15

Called by many names (e.g., engineering change orders, engineering change notices), engineering changes are the formal design changes that are processed after a design has been released as complete.

3-18

Strategic Outsourcing Decision Guidebook

Figure 3-9: Outsourcing Analysis


Predict Likely Program Impact Make Sourcing Recommendation to Steering Committee
E.3

(D)

Perform Final Cost Analysis


E.2

E.1

Outsourcing Steering Committee Review


E.4

(F)

3.5.1

Activity E.1: Predict Likely Program Impact


Because the decision may be to outsource, you need to consider in advance the likely impact of the change on a number of elements of your company as the work is transferred to the supplier. Think ahead about the following issues: Allocation of manufacturing resources. Two sides of this issue will need to be addressed: new roles within your manufacturing organization and roles no longer needed. You will need to identify, and perhaps train, the people who will work with and oversee the supplier. Usually, the best solution is to use some of the key personnel from the closing part of your organization to work with the supplier. This takes advantage of their knowledge to effectively oversee the suppliers work, especially in the critical early stages of the transition. It also gives them a strong investment in making the transition successful. On the other hand, you will need to determine what to do with the people who are freed up as a result of the outsourcing activity. The ideal situation, of course, is to find other places within your organization for them. If that is not possible, then generous early retirement packages and other strong severance and outplacement packages are advised, not just to help those leaving but also as a comfort factor for those on your payroll who may feel threatened by future outsourcing actions. Allocation of purchasing resources. When a product changes from internally manufactured to outsourced, your companys sourcing group will have to change. Instead of purchasing the materials necessary to make the item, you will need to purchase the item or service itself. In some cases, the change could involve a reduction in purchasing effort as a limited number of large assemblies are purchased instead of complex lists of individual parts and subcomponents. In other cases, the overall amount of purchasing effort may change very little other than being redirected from raw materials to completed assemblies. The best way to handle these changes may be through organizational changes within your sourcing group, such as reassigning people to different purchasing responsibilities. A decision to outsource a particular part family will likely not have enough impact on its own to cause a downsizing of the purchasing department. However, a series of such decisions might free up personnel for other activities. Asset disposal. If you are completely closing a facility, you will have excess equipment. One possible purchaser of the equipment may be the supplier taking over responsibility for the work. In that case, the options for financing the sale can be quite flexible, given the long-term arrangement you will likely be making with the supplier. Other buyers also may exist. Some of the equipment may be so customized or old that it has no market value other than as scrap. An aspect of asset disposal is that it can often be surprisingly difficult to keep emotion out of

Strategic Outsourcing Decision Guidebook

3-19

the process, which often causes people to overestimate the market value of their equipment. Disposal of facilities. You need to determine whether you need the space formerly used by your facility for another purpose. If the space was leased, then you can potentially end the lease or renegotiate the amount of space you need. If you own the space, then you can move other activities into it, lease the space out to another company (perhaps the supplier taking over the newly outsourced work), demolish the building outright and use the grounds for some other purpose, or, especially if the facility is separate from or on the periphery of your facility, you can sell the property.

Newport News Examples:


Motor Shop: During the analysis of the Motor Shop, it was clear that Newport News would be expanding its work force for upcoming new work. Accordingly, finding qualified people for the expanded work load was seen as the problem, rather than finding other work for the motor shop people to do. The likely primary contact to work with the motor repair supplier was identified (the current motor shop foreman) as well. In this case, the load on purchasing was expected to change form, but not significantly in level of effort. If outsourced, the shop equipment would be sold off. Switchboard Shop: This shop also was facing a significant need to increase personnel to build the capacity needed for producing switchboards and panels. As with the motor shop, finding qualified people would be a likely problem. Because of the changes from significant material purchases to entire switchboards being purchased, the load on the purchasing department should drop.

3.5.2

Activity E.2: Perform Final Cost Analysis


The last step by the PIT before making its recommendation on outsourcing the candidate part family is to do a last review and updating of the cost model developed in section 3.2.2 Activity B.2. The cost factors captured should be carefully reviewed to make sure they capture all the costs associated with manufacturing the candidate part family. The values for the various costs should be reviewed as well to make sure they are as accurate and realistic as possible. If appropriate, best case and worst case sets of costs should be assembled. The best case would be a combination of the cheapest supplier with the highest likely forecast of internal costs if not outsourced. The worst case would be a combination of the most expensive supplier with the least costly estimate of internal costs to keep the work inside. The reality will most likely lie between those two options. At this point, if the cost analysis does not lead to an obvious decision, revisit the internal cost factor analysis to make sure you have not left something out. Ignoring real cost items will not lead to intelligent decisions unless they simply affirm an already clear result.

3-20

Strategic Outsourcing Decision Guidebook

Newport News Examples:


Motor Shop: During the final review of the cost model for the motor shop, the best and worst cases were developed. Even the worst case showed substantial savings for Newport News. The review of the cost structure showed that material costs for the motor shop had been overlooked in the analysis. We obtained those costs and added them into the cost model. Switchboard Shop: During the final review of the cost model for the switchboard shop, the average of the four quotes was used. This was very close to two of the four quotes, with the other two being high and low outliers. The resulting value showed a cost savings over the forecast for Newport News to do the work itself. The forecast savings, though substantial in dollar value, was not large compared to the overall forecast cost. In fact, the forecast savings were less than the teams confidence in the accuracy of the results. Newport News therefore concluded that a limited outsourcing trial would be sensible to better document the costs, after which an outsourcing decision could be made based on data with a higher level of confidence.

3.5.3

Activity E.3: Make Sourcing Recommendation to Steering Committee


In this step, the PIT determines its formal recommendation regarding outsourcing of the candidate part family. The two major factors are the cost comparison and the supplier capabilities. They lead to five possible situations: 1. The cost comparison is clearly in favor of outsourcing and the suppliers have the demonstrated the capability to meet the shipyards needs. In this case, outsourcing should be the recommendation. 2. The cost comparison clearly is against outsourcing and the suppliers do not have adequate capability. In this case, the recommendation should be to keep the work inside and invest adequate resources in it to maintain it at a high capability. 3. The cost comparison does not clearly favor outsourcing or keeping the work inside, but existing suppliers have high capability. In this case, the supplier capabilities may still be enough to push the decision to outsourcing, as such elements as warranties, capacity, freeing up resources, availability of personnel, and so on may still provide adequate benefit. 4. The cost comparison supports outsourcing but the current supplier capability is inadequate. In this case, outsourcing may still be appropriate, especially if one or more suppliers are ready to upgrade to meet the needs. This case may require the shipyard to work with one or more suppliers to bring their capabilities up to the level required, but that may well be a good investment in times of problems such as labor shortages. In this case outsourcing might be undertaken on an incremental, trial basis. 5. The cost comparison is equivocal and the supplier capabilities are marginally adequate. As implied by the description, this is the most difficult case to decide. In this case, it might be best for the PIT to clearly make the cases for both sides and present it to the Steering Committee without a specific recommendation.

Strategic Outsourcing Decision Guidebook

3-21

In situations 1 and 2, the decision is obvious and should be implemented, preferably without delay to both minimize disruption and positively confirm the decision. In any of the other three situations, however, the best long-term course of action is not necessarily clear. In those situations, you may want to consider an incremental trial, providing limited work to the most promising supplier(s) to see if they are (or can become) capable of delivering acceptable and cost-effective work. Remember that at this point, strategic issues should not be part of the discussion. Those should have been sorted out in the foundation tasks (Section 2) before the candidate part family was put forward for the outsourcing process. Strategic issues should be outside the scope of the PIT anyway.

Newport News Example:


Motor Shop: The recommendation in the motor shop situation was straightforward. The suppliers were clearly capable and even the worst case showed substantial savings for Newport News. Coupled with the cost advantage of outsourcing, recommending to outsource motor repair was obvious.

3.5.4

Activity E.4: Outsourcing Steering Committee Review


This is the step where the oversight of the Steering Committee comes into active play. The goal here is to review the information gathered by the PIT and consider the PITs recommendation on whether the candidate part family should be made internally or outsourced. Essentially, the Steering Committee needs to look at the results in the same fashion as the PIT did in section 3.5.3 Activity E.3. The primary difference is that the Steering Committee, by its very nature, will take a broader view of the PITs results. For example, if the decision is close financially, then the internal process could be investigated to determine whether it could be improved to the point of making it the less costly approach. If the concept of continuous improvement is being effectively applied within the shipyard, then finding such improvements is unlikely. Nonetheless, a close financial argument may lead to reconsidering the potential of the internal capability and the investment required to bring it (or keep it) fully up to date and capable. It is at the Steering Committee level that such issues should be raised.

Newport News Example:


Motor Shop: Newport News management was satisfied with the results from the PIT and agreed that motor repair work should be considered for outsourcing based on the results of an extended trial period working with the best supplier.

3.6 Activity F Outsourcing Decision


This is the formal decision by management for the particular case based on the data and recommendation provided by the PIT (Figure 3-10).

3-22

Strategic Outsourcing Decision Guidebook

Figure 3-10: Outsourcing Decision


O u tso u rce (G )

(E )

O u tso u rcin g D ecisio n F

M ake (H )

Newport News Example:


Motor Shop: At the time this was written, the final decision was awaiting the results of the trial motor repair work.

3.7 Activity G Implement Outsource Decision


If the decision is to buy the part family from an outside source (or sources), then the three steps shown in Figure 3-11 should be undertaken.
Figure 3-11: Outsource Steps

(F)

Create Transition Plan G.1

Implement Transition Plan G.2

Outsourcing Process G.3

3.7.1

Activity G.1: Create Transition Plan


Depending on the situation, you may choose to complete the transition from internal to outsourced over different time frames. In most situations, a rapid changeover is probably the best. Spreading the process out allows more time for it to be sabotaged. Hiccups will inevitably occur as new relationships are established. With a rapid transition, the incentive is to deal with problems that arise quickly and efficiently. On the other hand, a drawn-out transition process provides an opportunity to test and develop the relationship with the new supplier, while limiting risk to ongoing work. This risk is the same as when transitioning any part from an existing supplier to a new supplier and should probably be handled the same way, consistent with the shipyards existing practice. The transition plan should at the least include such items as: Determine shop or facility closure date

Strategic Outsourcing Decision Guidebook

3-23

Determine when to stop routing material through the shop Determine raw materials that feed the shop and reduce requirements accordingly

The transition plan is probably the most variable of the steps described in this document. For example, supplier relationships will be very dependent on the product under consideration.

Newport News Examples:


Motor Shop: Assuming the initial trials lead to a final decision in favor of outsourcing, Newport News has a plan to ensure a smooth transition. Newport News expects to implement the outsourcing in a manner that would be transparent to the internal customers. That is, to the internal customers, the process for submitting a motor for overhaul or repair and the people with whom they interact will be the same, even though the actual repair work is conducted off site. This is to reassure the customers that they will not have to learn a new way of working and that the people they know and trust will still be working with them. Another aspect of the transition is to run an audition contract with the most promising motor repair supplier. The goal of this contract is to determine how well the supplier can respond to real motor repair needs. Switchboard Shop: Although the decision process was not complete, the expectation was that an audition contract would be bid out for some switchboards and panels to determine the reality of the responses to the inquiry RFQs.

3.7.2

Activity G.2: Implement Transition Plan


No further detail is provided here because the work of implementing the outsourcing is really a part of the normal purchasing process, which is outside the scope of the outsourcing decision process.

3.7.3

Activity G.3: Outsourcing Process


This is also outside the scope of the outsourcing decision process, but the Newport News pilots have provided some examples and lessons to consider.

Newport News Example:


Motor Shop: As part of its trial period, Newport News set up a manufacturing liaison as an on-going position with a particular motor repair supplier to make sure they understand Newport News needs. As described before, this liaison was the then-current motor shop foreman, who then had a vested interest in outsourcing success rather than failure. Should the final decision be to fully outsource the motor work, this approach will be maintained. The decision was to implement outsourcing through a phased approach, using both the supplier and the internal shop for a while, then gradually shutting down the internal shop and shifting the rest of the work to the supplier. For contracting purposes, they set up a blanket purchase order with the motor supplier, with each motor to be treated as a release against the blanket order. To expedite the process, they trained several people in how to send a release against the blanket order from within their ERP system. Now, just as much of the stock material was purchased by the motor shop

3-24

Strategic Outsourcing Decision Guidebook

foreman, the release needed to bring the supplier to pick up a motor is handled by him or one of the electrical shops planners. As Newport News was putting the transition plan in place, an emergency motor repair job came up and was used as a first opportunity. This was where the cost issue of expedited repairs became obvious. Outside of that issue, the repair itself went very well. Because of its greater resources, the supplier was able to complete the job faster than Newport News could have, even with the emergent work that was discovered on opening and inspecting the motor. The work was carefully overseen by Newport News staff, who were quite satisfied with the suppliers work.

Lessons Learned:
1. There will be a learning curve. During the early stages of outsourcing, some of the details of the relationship and how requirements are actually to be implemented will need to be worked out. For example, Newport News has different load testing requirements than the supplier had seen from other customers. Even though the contract language correctly described the requirement, the supplier did not recognize the significance of it. Another example is that the supplier does not have the complete set of couplers needed to attach motors to the dynamometer for load testing. They are still working out who will pay for what and when the supplier can borrow couplers that Newport News has. Unfortunately, such situations rarely result in lower prices from the supplier. 2. The cost analysis of the motor shop done for this outsourcing analysis was designed to capture the actual costs of operating the motor shop. The DCAAapproved costing approach used by most shipyards to charge the Navy for its work is based on a much different approach: billing the customer based on overhead charged against direct labor where the overhead rate is based on a much larger part of the company. Such billing systems, while approved by the customer and by definition therefore appropriate for that purpose, do not show the real costs of a specific type of work. Therefore, work that actually costs more than the overhead rate covers is subsidized by work that costs less. While the shipyard does not get rich on this situation, neither does the customer end up with the best possible overall price. Further, effectively documenting the cost advantage of outsourcing in practice is very difficult, because the internal costs are documented at the rate charged to the customer rather than the actual costs. This is a further problem when budgets have to be shifted from in-house labor to external purchases. The rates for the conversion often lead to the appearance of the outsourced cost being higher than the work it is replacing, even though the cost factor analysis shows otherwise.

3.8 Activity H Implement Keep Internal Decision


If the decision is to keep making the part family internally, then the two steps shown in Figure 3-12 should be undertaken. Both of these steps are outside the outsourcing process.

Strategic Outsourcing Decision Guidebook

3-25

Figure 3-12: Keep Internal Steps

(F)

Reserve Capital and Overhead H.1

Continue Internal Process H.2

3.8.1

Activity H.1: Reserve Capital and Overhead


For make decisions resulting from either the outsourcing analysis or the candidate being core/strategic, capital and overhead needs to be reserved to keep and maintain the existing process.

3.8.2

Activity H.2: Continue Internal Process


This is the basic manufacturing process and is, of course, outside the scope of this project.

3-26

Strategic Outsourcing Decision Guidebook

Lessons Learned Summary


The two pilot projects undertaken at Newport News did what such pilots are supposed to do. First, they demonstrated that the outsourcing analysis approach works. Second, they suggested improvements to the process we created at the start of the project. Third, they provided a number of lessons that future implementers would be well advised to heed. While specific lessons learned are presented throughout the process described in Section 3, the following list summarizes the lessons learned in more general terms. A. Be sure to capture the full range of activities up front. Because of the way the switchboard shop part family was initially described, the focus for much of the cost generating process was strictly on switchboards. It was well into the process that we realized that the shop in question was also responsible for panels. If the switchboard shop were to be closed, then panels would have to be outsourced as well. Because panels are so different in scale from switchboards, we had to go through a separate costing process for them. While this was not a problem intellectually, the late recognition that panels were a significant issue delayed the outsourcing analysis process. That such a problem occurred is exactly why we did the two pilot projects. By making such mistakes, we could develop a more useful guidebook. B. Talk to the right people. No one can have a complete picture of something as complex as a shipbuilding operation. Not surprisingly, therefore, the general understanding of what people do does not always capture their actual functions. Accordingly, to develop the process map requires talking to people who do the work in each part of the organization. C. Consider carefully when to talk to stakeholders. It is important to talk to stakeholders of the part family being considered for outsourcing. However, you need to be careful choosing when in the outsourcing analysis process you talk to them. You can include the stakeholder too early or too late depending on the situation. If they are inclined to be against outsourcing, bringing them in too soon may allow them to interfere with the outsourcing analysis. On the other hand, the less satisfied the stakeholders are with the current situation, the earlier you should bring them into the process. Consider the nature of each stakeholder carefully and include that stakeholder only at the appropriate time. If it is possible to do so without resulting in substantial problems, it is best to interview all stakeholders before sending out the inquiry RFQ. The stakeholders will become the stakeholders of the outsourced work, so their requirements need to be considered. D. Be ready for opposition to outsourcing. Personal sensitivities and loyalties reinforce one another to dynamically oppose outsourcing. They are very easy to trigger, and their connections are not always obvious. People can be very sensitive about job security, sometimes to the level of paranoia. Anyone you talk to may immediately assume that his job is in jeopardy or that the scope of his job will change dramatically. Incorrect understandings and rumors can result. Likewise, an individual, who just knows its not the right thing may deliberately disrupt the analysis by spreading rumor that the decision has already been made. This is difficult to prevent, but the best way may well be to be completely open about what you are doing, telling everyone clearly what the

Strategic Outsourcing Decision Guidebook

4-1

issues are and how they will be addressed. Of course, the past history of management/staff relations will affect how well that will work. E. Be thorough in identifying costs. There are many possible cost factors associated with a part under consideration for outsourcing, including and beyond the list presented in Appendix D. The more cost factors you can bring into consideration, both for making the part family and for outsourcing the part family, the more accurate your cost picture will be. Every valid cost factor you neglect to include in the calculations incorrectly skews the economic argument for or against outsourcing. F. Watch for additional requirements. It is highly likely that as the outsourcing analysis proceeds, additional requirements and ways to compare the various supplier firms will be identified. Such requirements can show up in almost any conversation, including in the course of visiting the potential suppliers and talking to their references. Make sure that all involved in the project are on the lookout for requirements. G. Watch for expediting and other non-standard costs. To get accurate quote information from vendors, you need to ensure that the work they are quoting accurately reflects reality. If you commonly have to expedite 20% of your work on the part family due to end customer changes, then the potential suppliers need to build their quotes with that in mind. H. Supplier quotes can vary significantly. In both the switchboard and motor pilots, the inquiry quotes that came in from the vendors varied substantially. You can develop a set of cost comparisons, such as best and worst case comparisons. If the worst case still supports outsourcing, then that makes outsourcing a likely approach. We did this for the motor shop pilot. You can also use other factors to help determine which quotes are the best to use, such as an estimate of how well you believe each supplier really understands your companys needs. I. Watch for unnecessary or exaggerated requirements. People often exaggerate requirements or add unnecessary requirements into the mix. A good example is setting a due date that is actually earlier than needed and that causes expedited work. When this is done on a regular basis, it skews peoples perceptions of what is really required. It can also be done in with the specific intent of misleading people, either in general or in a particular case. Either way, all requirements should be considered skeptically, especially early in the outsourcing analysis process. There may also be ways to eliminate or address requirements outside the outsourcing process. Billing systems are not equal to cost factor analysis for management purposes. Typical labor-plus-overhead-rate approaches to costing rarely lead to accurate information on a local level within a company. Such billing systems, while approved by the customer and by definition therefore appropriate for that purpose, do not show the real costs of a specific type of work. Therefore, work that actually costs more than the overhead rate covers is subsidized by work that costs less. While the shipyard does not get rich on this situation, neither does the customer end up with the best possible overall price. When determining whether to outsource a part family, you need to know what the costs of making the part family really are.

J.

4-2

Strategic Outsourcing Decision Guidebook

Appendix A

Selected Definitions

Depending on your background, some of the concepts discussed in this Guidebook may be unfamiliar. Rather than provide some kind of detailed tutorial and take up a lot of pages, we provide below a brief description of some of the major concepts. Cost Factor Analysis Examining the actual costs involved in doing some kind of work. Cost factors include direct labor, management labor, supporting labor, materials, equipment costs, utilities, depreciation, facilities, and so on. This is a management approach (as opposed to an accounting approach) that explicitly avoids the use of standard labor plus overhead calculations. The intent is to forecast what it will actually cost the company to do the work. Cost factor analysis has essentially nothing to do with what the customer will be billed for the work. Core Competence A core competence is a capability that must be maintained internally to provide a unique and defensible position in the market. All other capabilities are considered to be candidates for outsourcing. Rationalization Rationalization takes an undifferentiated set of suppliers and categorizes them so that the shipyard has guidelines for working with each type. Develop New Suppliers & Relationships This is where a shipyard finds new suppliers or helps an existing company develop a capability to act as a supplier to them. An example would be if a shipyard wanted a steel distributor to provide steel that was primed, but the distributor lacked this capability. The shipyard might assist the distributor to develop a capability in priming. Customer-Supplier Teams These are teams are used to solve problems, develop designs, eliminate waste, and create joint technology roadmaps. Supplier Continuous Improvement and Training Providing assistance to supplier to improve their processes. New Supplier Responsibilities Suppliers augment their traditional business with other activities such as program management, product design, assembly and integration, testing, packaging, and shipping. Integration with Customer Planning and Scheduling This involves tying the supplier and customer schedule and processes together, showing the effect of the suppliers schedule and process on the customers and vice versa. Frame Agreement A type of long-term agreement to provide material for a fixed price or to provide material based on some framework that will determine a fair price. Similar types of agreements may be called long-term agreements.

Strategic Outsourcing Decision Guidebook

A-1

Strategic Alliance Characterized by behaviors such as mutual marketing or development, or technology transfer between the partners. Strategic alliances may include explicit or tacit agreements that the supplier will get the business if the customer firm does. Such agreements normally remain in place as long as the supplier firm continues to maintain standards of performance appropriate to the business context. Consolidated Purchasing Consolidating multiple purchases of different items from one supplier into something like a single master purchase agreement. Lowest Total Cost Selection Everything involved in supplier selection and management, in receipt and installation of the suppliers product, and support of the end item after delivery that involves the suppliers product represents a cost that should be added to the suppliers product cost to arrive at the total cost associated with that supplier. Competing suppliers are ranked on the basis of total cost, and the one showing the lowest total is selected. Sometimes the term Best Value is used for this practice, but many prefer lowest total cost because in has more quantitative connotations. Supplier Managed Inventory The supplier is responsible for making sure that the customers inventory is kept up to certain minimal levels without individual orders from the customer. Metrics There are two types of metrics that must be used to provide feedback to the outsourcing decision making process. The first is changes in cost and on-time delivery that result from the use of the new supplier. The second is an assessment of how the changes in internal processes have affected total ship cost and delivery.

A-2

Strategic Outsourcing Decision Guidebook

Appendix B

Process Responsibilities

Table B-1 (next page) presents a typical division of responsibility across the various activities that make up the outsourcing decision process documented in this Guidebook. In general, tasks not led by the Executive Staff or Outsourcing Steering Committee are performed by the Process Implementation Team (PIT). Within the PIT, different functions will take the lead for different tasks as shown in the table. However, all PIT tasks should be considered team tasks, with joint responsibility for their successful completion.

Strategic Outsourcing Decision Guidebook

B-1

Table B-1: Outsourcing Decision Process Responsibilities


Outsourcing Steering Committee Process Implementation Supply Chain Management

Functional Areas

Executive Staff

Cost Engineering

Assembly

Activity

(Foundation)

Set strategic direction and funding Determine core competencies & objectives Develop list of candidates for consideration Appoint process implementation team

L S R L S S S S S S S R S S S S S S S S S S L S R S S S L S S S

L S S S S S S L S S S L S S L S S L S S L S S S S L S S S L S L S S L S S S S S L S S L S S S S S S S S S S S

A.1 Initiate outsourcing decision process A.2 Identify product/process categories A.3 Identify sub-components of items/parts/products A.4 By part family, determine origin and volume of work B.1 Develop process map for each part family B.2 Perform internal manufacturing cost analysis B.3 Document requirements for suppliers C Evaluate potential substitutes D.1 Identify appropriate suppliers D.2 Investigate suppliers capabilities D.3 Develop criteria and data for ranking suppliers D.4 Perform inquiry RFQ process D.5 Rank potential suppliers D.6 Determine supplier relationship E.1 Determine program impact E.2 Perform final cost analysis E.3 Make recommendation to steering committee E.4 Steering Committee review F Outsourcing decision G Implement make decision H Implement outsource decision
R

S S L S S

R S S S S S S S S L S S S S

L S S S S S S S R L S S S S S S S S S S R L L S R L L S S S S S S S S S S S S S

S S L S

KEY:

L = Leader, S = Support, R = Review

B-2

Strategic Outsourcing Decision Guidebook

Customer

Programs

Contracts

Facilities

Planning

Finance

Quality

Trades

Roles and Responsibilities

Environmental

Manufacturing

Engineering

Legal

HR

Appendix C

Data Gathering

The following are interview questions to be used to gather information during the outsourcing decision process. They cover the following two types of interview: Data gathering interviews (Activities B.1 & B.2) Reference checking (Activity D.2)

The additional text in italics after most of the questions in these interviews is probing information, follow-up or more specific questions as well as suggestions or ideas to get interviewees thinking should they find it otherwise difficult. The goal is not to lead the interviewee, but to help them understand the type of information you seek. The italicized text between the square brackets [] contains notes to the reader on considerations necessary to adapt the content to a specific purpose.

C.1 Data Gathering Interview


Introduction for Interviewee
[Briefly describe here what the project is about and what your purpose is in conducting the interview. Then follow with the next two items.] Any reports we prepare as a result of these interviews will not indicate what any individual said in other words, your specific responses will be kept confidential. [Confidentiality is important. Many will say they dont care. Others wont believe you. An important element of the confidentiality is to interview enough people that no one persons knowledge or concerns will be obvious. Sort of resulting in a plausible deniability. However, if you cant promise the interviewee confidentiality, do not promise it.] Do you have any questions before we start? [Answer any such questions to the best of your ability and as honestly as you can.]

Individual Context
1. Name: 2. Title: 3. Phone: 4. Email: 5. Briefly describe your job, i.e., what are your responsibilities? How long have you been in this position? How long have you been with this company? 6. Describe how your piece of the organization fits into the larger organizational structure. Where do you fit in the organization - to whom do you report and who reports to you? 7. What is the number of employees in your group? How many people work with you?

Strategic Outsourcing Decision Guidebook

C-1

8. What are the different types of products you work on in this shop?? What work do you do related to either switchboards or electric motor repair?

Process Model
9. What are the primary activities that go on in design? What do you do every day? 10. What % of time do you spend on each activity? 11. What types of supplies are consumed supporting each activity? 12. What types of equipment are used for each activity? 13. What do you see as the driver(s) for each activity? What are the key things that affect each activity? 14. Can you give us any suggestions for improving any activities? The following is a follow-up to the content asked during the activity model questions about the process. 15. What are the different roles and responsibilities during the process? How do you distinguish between the roles? Who does what?

Relationships with Other Departments


16. For a typical system or subsystem that you work on, what other departments do you communicate with during the design process? Prompt for shops, sourcing, finance, planning or any other likely department. 17. For each department that the respondent lists: How do you communicate with them? Media used. How often do you communicate with them? If they have trouble you could prompt as follows: several times a day, daily, several times a week, weekly, less than weekly. What do you communicate about? Is there anything you get from this department that you cant get from anyone else? How important is it that you closely coordinate your work with this department? If it is important, ask: At what phases of the design process is it most important? Why?

Outsourcing Decision Process


18. What is the process used here to determine whether to make or outsource a component? What are the basic steps that people go through? Can you walk us through a recent example? 19. When you are involved in the development or modification of a system or subsystem there are two levels of outsourcing decision that can be made. One is whether to make or outsource the whole system, the other is at the part level whether given parts should be made or bought. Do you have any discretion regarding these decisions or are they entirely covered by shipyard policy? If you have discretion, what types of decisions can you make?

C-2

Strategic Outsourcing Decision Guidebook

How are these decisions made on your own, by committee? What is your role in these decisions? What criteria are used to choose whether to outsource instead of make? Do those reasons (criteria) make sense to you? Should some be dropped or others added? If so, what are they?

20. How complete is engineering information when the work goes to the shop? Does the shop have to do work to gather or generate information or does the shop have all the information it needs when the time comes to do the work? 21. Do you believe a typical supplier could work with the same information received by your internal shop? Would more work have to be done by your company for a supplier to do a typical job?

Relationship with Suppliers


22. Have you ever had any role in an outsourced system or sub-system? If yes, what was your role? How do you do your job differently when the decision is to buy something rather than to make it? Does is increase or decrease your work? 23. Describe the roles and responsibilities that suppliers have had in your past projects. How were they involved in planning of the product? How were they involved in design and development of the product? How were they involved in production and delivery of the product? How were they involved in service and maintenance of the product?

24. How did you measure the performance of your suppliers in these roles? 25. What was the informal relationship like with these suppliers? 26. What portion (percentage) of purchased items require you to do additional work to support an outside supplier over the internal shop? What is the nature of this additional work? 27. Did you use any electronic commerce technologies with your suppliers? 28. Did you exchange any product data with those suppliers? How? 29. How do your suppliers communicate with your organization during various phases of a project? Who was responsible for the communication? What communication media were used? What direction did it go? What was communicated? Who often did communication take place? Where did meetings usually take place?

Strategic Outsourcing Decision Guidebook

C-3

Expedited Work
30. What portion (percentage) of the work you do has to be expedited? Requiring dropping other work to address, substantial unscheduled overtime, or bringing in extra design staff for a short period. 31. What portion of purchased items require expedited or additional effort by Newport News staff? 32. What are the typical causes of expedited design work? Unplanned work? Unexpected schedule changes? 33. What are the typical causes of expedited manufacturing work? Internally made parts? Parts purchased from a supplier? Unplanned work? Unexpected schedule changes?

Culture
We want to ask a few questions about the culture in your company. The reason we are asking is that we have found that cultural differences between customer and supplier can be a source of tension and misunderstanding between the two companies. We hope that by learning a little about your culture and that of your suppliers we can learn about whether there is some type of mismatch, and if it is indeed important. 34. What do you believe the core values are here? Whats important? What behavior gets people promoted/noticed? What is the quickest way to a promotion What behavior is frowned upon?

35. Do most people here prefer to work alone, or in teams? Why? 36. Do people generally have a high amount of confidence and trust in each other here? Between management and workers? Between peers? Across functions? 37. What is the general view of risk taking here? Do people spend much time worrying about what others will say or do if they make a mistake? 38. How would you describe the general view of suppliers here? Are they viewed as partners, as leeches who want to take our jobs away? 39. How do people feel about buying products or services that are currently done outsourcing work thats currently in the shipyard? A terrible thing all around Sad for a few people, but necessary for the good of the company Great itll make the shipyard grow again

C-4

Strategic Outsourcing Decision Guidebook

Wrap Up
40. Is there anything that cant be done today, but if it could be done, would radically change the way outsourcing decisions are made? 41. Are there any areas that we haven't covered that you think would be useful for this project?

C.2 Reference Checking Interview


Introduction
[Briefly describe why you are contacting them and what your goal is. The following is an example] Your company is deciding whether to outsource item x. Supplier name is a potential candidate supplier of this item. They suggested you as a reference for them. Wed like to ask you a few questions about their work. Some of the questions may seem a bit unusual, but they are driven by an in-depth study we did of our own capability and its customers. We appreciate your giving us your time and candid opinions. We hope that someday we can return the favor.

Prime Contact
1. Company name: 2. Respondents name(s): 3. Title: 4. Phone #: 5. email:

Current Work
6. What kind of work does _______ do for you currently? What kind of equipment do they work on? On-site vs. in-shop? 7. How long have they been doing work for you? 8. How much work do they do? What % of your current work do they perform? 9. How would you characterize the quality of their work? How often do you have to reject or send back something theyve done? 10. How has the work they do for you changed over time? Has it increased, decreased, changed in character? 11. Does Supplier Name do work for you at your site? What kind of work? 12. Do they store anything for you? Delayed work in progress, spares?

Strategic Outsourcing Decision Guidebook

C-5

Scheduling
13. How much of the work they do for you is short notice, quick turnaround? (i.e., situations where fast response is critical) 14. How well have they responded to high priority, emergency situations? 15. Does your work load for Supplier Name vary a lot or is it generally consistent? If varies, how well does vendor handle the variation?

Special Requirements and Capabilities


16. Are there any special requirements your company or industry puts on this kind of supplier? If so, what? 17. How well does Supplier Name meet those requirements? 18. Are there any special capabilities that Supplier Name has that you take advantage of? How much do these capabilities affect your decision to use this company?

Business Relationships
19. What kind of business relationship do you have with Supplier Name? Do you have long-term formal agreements (service contracts, blanket orders, etc.)? Is it strictly a P.O. per motor relationship? Do you put your work out for bids? If there isnt a formal long-term agreement, is there an implied agreement that you will source a substantial part of your motor repair work with them? 20. Does Supplier Name supply all materials for the work they do for you? Or do you, as customer, supply materials for them to use? 21. Do they deliver as promised, both in terms of what and when? How often are they late or otherwise unresponsive.

Wrap Up
22. Whats the most important reason you choose Supplier Name to do work for you? 23. Is there anything weve missed regarding your relationship with Supplier Name? 24. Is there anything youd like to ask us?

C-6

Strategic Outsourcing Decision Guidebook

Appendix D

Cost Factor Analysis

The key to determining the actual cost of making a part internally is to capture all the costs that would change if the work were outsourced. Several cost factors (types of costs) tend to be forgotten, even though they are significant. Your goal as you do the cost factor analysis is to be complete. This appendix provides more detailed guidance on cost factors and how to capture the necessary data. Appendix E provides an example cost factor analysis that demonstrates many of the cost factors described below. For the most reliable cost factor analysis, capture all the costs to the best of your ability. It is better to determine a particular cost factor is relatively unimportant based on a good estimate of its cost rather than a gut feeling.

D.1 Labor Cost Factors


You need to capture all labor costs associated with making the part. This includes the actual compensation (pay plus fringe benefits, but without overhead burden) for anyone who spends time on any aspect of making the part. The kinds of labor costs to look for include: Personnel directly involved in producing the part family, including supporting services from separate shops or manufacturing areas, such as paint, powder coating, plating, machining, sheet metal, and heat treating Management labor directly related to part family, from shop floor foremen in all related activities to the highest management level where effort associated with the part family can be identified (typically two or three levels above foreman) Labor of functions that support making the part family, such as purchasing, planning, material handling, engineering, production control, transportation

Understanding the manufacturing process flow is important to capturing all the labor costs. In all cases, the intent is to capture what portion of each persons time is spent on the part family in question. For shop floor personnel, it may be all their time, though it may not (especially in supporting areas). For management, as you move up the management hierarchy the portion of time identifiable as spent on the specific part family will be less and less. Effectively, you are identifying the time that will become available if the part family is no longer made internally. The best way to determine how much time each type of person spends on the part family is to ask each of them directly as part of the process and cost data gathering. We have found that asking someone what someone else does tends to be inaccurate, often substantially so. If shop floor personnel are off limits due to labor relation issues, then you will have to rely on the foremen for estimates. Of course, not all the labor costs go away when parts are outsourced. Purchasing personnel are clearly still involved, though perhaps at higher or lower levels, depending on the specific situation. Internal engineering staff may continue to do the design work on the part family or they may shift to an oversight and approval role. The former may require an increase in level of effort, the latter will likely lead to a reduction.

Strategic Outsourcing Decision Guidebook

D-1

Accordingly, when calculating the full cost of outsourcing to compare to making the part family, these internal costs need to be included in the overall cost comparison. In addition to the direct labor costs associated with making (or outsourcing) the part, the costs of hiring can be substantial. Unless the turnover rate among the people involved in making the part family is very low, maintaining the necessary personnel costs money. The costs of hiring new personnel include recruitment, training, and the lower productivity of new hires. If outsourcing reduces the number of people that must be brought into the company over time, that cost needs to be captured. If keeping the work inside requires increasing the number of personnel, then the hiring costs are even more significant.

D.2 Purchased Goods and Services Cost Factors


Even when making a part family, there are goods and services that are often purchased from outside sources. The costs of these services also need to be captured. Examples of purchased goods and services include: Materials, such as Raw materials Purchased components or parts, whether fully or partially completed Purchased tooling and fixturing Consumable materials such as lubricants, solvents, welding rod, gases, cutting tools, and grinding wheels

Services related to product creation and preparation, such as plating, machining, heat treating, painting, and testing Material handling, including transportation of parts to and from externally contracted operations (including entirely outsourced parts) as well as internal movement to and from storage facilities or other shops, to and from the ship, and within the shop. Utilities for all production areas involved in making the part family Electricity for manufacturing equipment, heating, cooling, and lighting Natural gas for manufacturing equipment and heating

How significant each cost is depends on the nature of the part family. For example, in some cases the purchased material costs are a major part of the overall cost, in other cases they are insignificant. Until each cost factor is carefully researched and calculated, however, the significance can be difficult to predict. Capturing the cost of most of these items is usually straightforward in concept, although actually gathering the information may require a fair amount of effort. Past purchasing records are a key source of the necessary information, though adjustments for inflation or other price changes may need to be added. As with labor, you may need to determine what portions of the cost apply to the candidate part family from some consolidated cost data. A good example is electricity costs. Unless you have one or more dedicated electric meters for the areas where you do the work, the cost of electricity may be very difficult to calculate. You may need to work

D-2

Strategic Outsourcing Decision Guidebook

backwards from the equipment ratings and how much they are used. For example, you can figure out the amount of electricity used in lighting by counting the number of light bulbs and multiplying by the energy use per bulb (e.g., typical four-foot fluorescents use 40 watts) and by the hours per day they are on. For a machine tool, you would need to work from the hours it runs times the power it draws. The overall electrical cost can be constructed by adding up all the individual contributions and multiplying by the cost per kilowatt-hour. Needless to say, this may take some time to do, but it is not conceptually difficult. Other purchased items that may have to be apportioned, such as consumables or raw materials. If such items are used by more than one shop but are purchased in bulk quantities that feed all users, then you will have to estimate the portion that is used in the manufacture of the specific part family. This may be as simple as asking the relevant forklift operator how many barrels of cleaning fluid he delivers to a particular shop each month. From items that are stocked in some central warehouse, there are often internal requisitions that can show how much was drawn by a given shop. The key idea is that there is usually either a paper trail or some small group of people who can give a good estimate of the cost.

D.3 Facilities Cost Factors


Several cost factors relative to the facilities in which the part family is made need to be considered. The most common facility cost factors are: Maintenance of the building and manufacturing equipment. If your company owns the building or otherwise has maintenance responsibility for the building(s), then those costs are part of the cost of making the part family. Similarly, the maintenance costs you pay for your manufacturing equipment need to be captured and included as part of the cost of making the part family. Rent for building space that would be freed up by outsourcing. This would be actual rent on leased space or foregone rent on space your company owns and could (at least theoretically) lease to another company. This includes space for production, offices, and storage. If you own the property, then foregone rent would be based on the going rate per square foot in your area, adjusted to fit the condition and amenities of the building. Depreciation or replacement cost for the building(s) and manufacturing equipment. You may be depreciating buildings or equipment you own. If so, that enters in as a cost. If you are occupying or using fully depreciated equipment, then the cost of replacement should probably be figured in as a cost factor.

D.4 Other Cost Factors


In addition to the cost factor categories described above, there are other, and often less obvious, costs that may need to be considered. Your goal should be to capture as many of the costs as you can identify. Two examples of other cost factors are environmental costs and taxes.

Strategic Outsourcing Decision Guidebook

D-3

Environmental costs Any costs of mitigating or correcting environmental problems or disposing of hazardous wastes related to the part family needs to be captured as one or more cost factors. A good example of environmental costs is plating, which generates substantial toxic waste with significant disposal costs. Outsourcing plating eliminates the ongoing cost of chemical disposal, which generally includes substantial documentation and tracking costs. Taxes Most companies have to pay some form of tax such as property tax that can be reduced by outsourcing work

D-4

Strategic Outsourcing Decision Guidebook

Appendix E

Example Cost Factor Analysis

As described in Section 3.2.2 (page 3-10), to properly understand the cost of making a part family internally requires considering every type of cost that your company incurs in the course of making the part. In particular, it means ignoring the traditional labor plus overhead approach to costing. The cost factor analysis approach we describe is intended to help you capture the actual costs associated with making the part family. The following pages show an example cost factor analysis. To keep from losing the forest in the trees, the example is an artificial analysis of the cost of making ships bells and their mounting frames. The tables all are from an Excel workbook. A template version of the workbook is available on the Altarum website. The template provides a starting point for you to do your own cost factor analysis. The example cost factor analysis is laid out in the tables on the next few pages (Table E-1 Table E-5) and include: Labor required to make bells Other direct costs required to make bells Labor required to purchase bells Other direct costs required to purchase bells Comparison of the cost of the make option versus the outsource option

The last of these tables shows that for this imaginary situation, the buy option is the best choice from a cost perspective.

Strategic Outsourcing Decision Guidebook

E-1

E-2
Bell-maker 2.0 2 $ $ 23.80 49,504 $ $ 32.20 66,976 $ $ 35.00 72,800 $ $ 28.00 58,240 $ $ 49.00 101,920 $ $ 35.00 72,800 1.0 5 1.0 4 2.0 3 1.0 6 1.0 4 Bell foreman General Foreman Materials buyer Manufacturing Engineer Production manager Human resource manager $ $ 1.50 1.50 1.00 2.50 2.00 2.50 2.00 1.00 1.00 1.50 0.67 0.30 0.50 0.30 0.10 15.0 1 20.25 42,120 0.00 $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ 63,180.00 63,180.00 42,120.00 105,300.00 84,240.00 105,300.00 84,240.00 42,120.00 42,120.00 631,800.00 631,800.00 $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ 74,256.00 24,752.00 99,008.00 74,256.00 $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ 44,873.92 22,102.08 66,976.00 44,873.92 $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ 21,840.00 50,960.00 72,800.00 21,840.00 $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ 0.50 0.00 0.33 0.00 0.70 0.00 1.20 0.00 29,120.00 17,472.00 69,888.00 116,480.00 46,592.00 $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ 0.90 0.00 10,192.00 91,728.00 101,920.00 10,192.00 $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ 0.15 0.85 0.00 10,920.00 61,880.00 72,800.00 10,920.00 $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ $ Total 63,180.00 63,180.00 42,120.00 105,300.00 84,240.00 105,300.00 84,240.00 42,120.00 42,120.00 74,256.00 55,065.92 21,840.00 29,120.00 17,472.00 10,920.00 321,310.08 1,161,784.00 840,473.92

Table E-1: Labor Distribution and Cost for Make Option

Description of type of person:

Number of People: Salary category: Hourly Wage Rate: Annual Wage Rate: Task, Activity, or Process Retrieve raw materials Cut to shape Form parts Cast bells Load fixture Weld parts Clean parts Stack parts Transport parts In-shop supervision Out of shop supervision Engineering support Raw material's purchase Consumables purchase Bell personnel HR management All other activities Unallocated time: Cost Calculations Retrieve raw materials Cut to shape Form parts Cast bells Load fixture Weld parts Clean parts Stack parts Transport parts In-shop supervision Out of shop supervision Engineering support Raw material's purchase Consumables purchase Bell personnel HR management All other activities Total cost per category: Total labor cost:

Strategic Outsourcing Decision Guidebook

Table E-2: Other Direct Costs Involved in Making Bells


Expense Type Building Depreciation Building Maintenance Equipment Depreciation Equipment Maintenance Utilities Building "Rent" (real or foregone) Equipment Replacment Cost Personnel Recruitment Personnel Training Internal Services External Services Purchased Materials Transportation Taxes Purchased consumables Total: Annual Cost $ 10,000 $ 2,000 $ 20,000 $ 10,000 $ 7,500 $ 20,000 $ $ $ $ $ $ 150,000 $ 30,000 $ 3,000 $ 12,000 $ 264,500

Table E-3: Labor Distribution and Cost for Outsource Option


Description of type of person: Number of People: Salary category: Hourly Wage Rate: Annual Wage Rate: Task, Activity, or Process Purchase completed bell assemblies Stock bells Oversee technical specs of bells Oversee managemene of supplier All other activities Unallocated time: Cost Calculations Purchase completed bell assemblies Stock bells Oversee technical specs of bells All other activities Total cost per category: Total labor cost: Manufacturing Engineer 1.0 4 $ $ 35.00 72,800.00 $ $ Materials buyer 2.0 3 28.00 58,240.00 1.00 0.30 0.10 0.90 0.00 $ $ $ $ $ $ 7,280.00 65,520.00 72,800.00 7,280.00 $ $ $ $ $ $ 0.30 0.70 0.00 58,240.00 40,768.00 116,480.00 75,712.00 $ $ $ $ $ $ 0.05 0.95 0.00 96,824.00 101,920.00 5,096.00 $ $ $ $ $ $ 0.70 0.00 12,636.00 29,484.00 42,120.00 12,636.00 $ $ $ $ $ $ Total 58,240.00 12,636.00 7,280.00 232,596.00 333,320.00 100,724.00 $ $ Production manager 1.0 6 49.00 101,920 $ $ Receiving dock personnel 1.0 1 20.25 42,120

Table E-4: Other Direct Costs Involved in Outsourcing Bells


Expense Type Purchased bell assemblies Transportation Total: Annual Cost 635,000 40,000 675,000

$ $ $

Strategic Outsourcing Decision Guidebook

E-3

Table E-5: Overall Comparison of Make Versus Outsource Options


Scope of work: ship bell manufacture Length of analysis (yrs): 2 Make Annual Cost Total Cost $ 840,474 $ 1,680,948 $ 264,500 $ 529,000 $ 2,209,948 Outsource Annual Cost Total Cost $ 100,724 $ 201,448 $ 675,000 $ 1,350,000 $ 1,551,448

Type of cost Direct Labor Expenses Other Direct Expenses Totals:

$ $ $

Difference 1,479,500 (821,000) 658,500

E-4

Strategic Outsourcing Decision Guidebook

Appendix F

Example Supplier Interview

When gathering data from potential suppliers for a given outsourcing analysis, it is very important to actually visit the suppliers sites. The visual impressions gained from the visits and the chance to talk to multiple people face to face are important to the validity of the data. The following is the interview form the project team used to interview potential motor suppliers in Activity D. Because it is built from the issues that were raised in the course of the internal data gathering, it provides better information than if we were to give only a generic form. Many of the questions will be applicable in a wide variety of situations, however. We include explanatory notes in italics that explain the purpose and goals of the different sections.

Interview Introduction
Provide a basic explanation of what you are doing to the supplier you are interviewing. Northrop Grumman Newport News is considering shifting some or all of the motor, generator, and electromagnet repair and rebuild work done within Newport News to outside suppliers. As a part of the decision process, Newport News is looking at the capabilities and costs of potential suppliers. To that end, we have a series of issues to raise and a set of questions that need to be answered.

Basic Characteristics
Describe the basic characteristics of the parts or work you are considering for outsourcing. Newport News has four kinds of rebuilds: Navy ship overhauls, Navy repair work, commercial ship work, and internal plant equipment (e.g., motors for cranes). A large percentage of internal work is extremely high priority. Cranes being out of service can cause very costly delays in Newport News work schedules. These motors require immediate turn-around. Although only a small part of the overall workload, Navy repair work is also very high priority. This is work being done on equipment off an operational ship. While fast turn-around is required, Navy approval processes for work outside the original scope of work authority can cause delays. The bulk of the motor/generator rebuild work comes from regular Navy ship overhauls. Such overhauls typically take about two years. Over the course of that time, the motor/generator repair work rises to a peak then falls off. Much of the motor work is routine, with plenty of time to accomplish it. However, a substantial amount of the work becomes high priority for a variety of reasons. This makes load leveling in a motor shop difficult.

Basic Questions
The following questions should be based on issues you know about. The questions should be designed as much as possible to avoid sure we can do that answers. This first set of questions is to establish basic operating parameters for the supplier. Its a chance for you to both get useful information and to get them comfortable answering questions. Current work What is the current distribution of your work? How much is defense related? How much is marine?

Strategic Outsourcing Decision Guidebook

F-1

Newport News work Do you currently do work for Newport News? What kind of work? Scheduling How long does it take you to respond to a high priority request for work? Navy requirements How much work have you done for the Navy? How much other defense work? Do you have people with security clearances on your work staff? What MIL standards are you familiar with? Commercial ship work What kind of experience do you have doing repair and rework for commercial ships? Capabilities Besides basic motor rebuild work, what other kind of work do you do? Do you have any special capabilities? Off-site work What kinds of work do you do at offsite locations to support your customers? Do you have a safety program for off-site work? Storage facilities How many motors (average size 150 HP) can you store in process? Cyclical work How steady is your current work load? How many motors do you work per month? How do you handle ups and downs?

Specific Issue Questions


The following questions are more specific, giving the reality of what the motor supplier can do. The results directly affect the cost and scheduling of what, in this case, is motor repair and overhaul work. For the foreseeable future, a supplier will have to work within the resulting limitations and requirements. Scheduling Can you support a highly changeable schedule? Probably the most significant concern is the lack of an accurate, updated schedule for overhaul work. An overhaul schedule is created before the ship arrives at the yard, but the actual overhaul schedule has little to do with the prepared schedule. Many influences affect the actual overhaul process, from the Navy not releasing sections of the ship for work when expected to the difficulties of accessing compartments on the ship to the availability of other components. Unfortunately, the master schedule is not always broken down to properly schedule material as required. Navy requirements Are you familiar with Navy requirements? Before a ship arrives at the yard, a list of planned motor/generator rebuilds is generated. When a motor is delivered to the motor rebuild shop, it must be opened up and inspected. The resulting inspection report is examined by a Newport News engineer. If the needed work is within the planned work, the Navy does not need to be consulted and the work can then go ahead. If, however, problems are identified that require work beyond the planned overhaul, Navy approval is required before the work can be done. This approval can take substantial time. If the delay causes problems with the ship overhaul process, then the work can become very high priority. Have you done work under MIL-S-17060 and MIL-278 (welding) requirements? Commercial requirements Are you familiar with the requirements for motors on commercial ships? Because commercial work involves capital equipment sitting idle, they are also usually in a hurry to get the work done as fast as possible. Pump testing Can you test motor/pump combinations? Many of a ship's motors drive pumps. Motors and pumps are typically taken off the ship as a unit, with the Newport News machine shop separating

F-2

Strategic Outsourcing Decision Guidebook

them and overhauling the pump while the motor shop overhauls the motor. Once the separate overhauls are complete, the motor and pump are reassembled and tested. Pump testing facilities will be considered a plus at a motor rebuild supplier. If pump testing is not part of the suppliers facility: Do you have a recommended course of action? Often the Navy requires pumps be sent back to the pump manufacturer for rebuild, with Newport News responsible for rebuilding the electric motor and sending it to the pump manufacturer for test as an assembly. Can you support that? Non-motor work Are you qualified to do other, non-motor work (generators, transformers, electromagnets)? While the quantity of this work is much less than the motor rebuilds, Newport News still needs to have it done. It includes both internal and Navy work. On-ship support Are you able to supply on-ship support services (perhaps on short notice)? Such work includes motor maintenance (e.g., slip ring and commutator work), troubleshooting problems, disassembly of large units, and taking critical measurements. Can you provide such services on short notice? Do you have a Newport News approved safety program? Do you have appropriate staff with security clearances already? Are their other security issues? Special services and capabilities Can you provide other support services such as degreasing, baking large items, cleaning, or sandblasting of parts other than motors? The Newport News motor shop currently supplies these services to other parts of the yard, though they are a small part of the overall shop work. Storage Can you provide storage for a large number of motors? Motors have to be stored for two major reasons: delays in Navy repair approvals and the natural flow of ship overhaul work (needing to remove motors early that won't be reinstalled until late in the overhaul process). A motor shop can expect to have to store 200 or more motors at one time at the peak of a ship overhaul, many at least partially disassembled, waiting for Navy repair approval. Cyclical nature of work Can you support the ebb and flow of work over a typical two-year cycle? Gaps between ship overhauls can be 6 months or more, with work building from the start of an overhaul to a peak in the middle and then fading away again. This is likely to get worse in the future. More and more motors are being used on new ships. Therefore the peak work loads will increase as these ships are overhauled. Material Will you furnish both planned and contingent materials for overhaul work? Or will it be necessary for Newport News to provide materials? Financial Status Will you provide certified financial statements and a credit report? If we are to enter into long-term agreements with you, we need to be confident that you are in good fiscal shape. Labor Status Is your shop unionized? If so, when does the current union contract end? How have labor relations been in your company the past five years?

Cost
This is simply preparing the way for the inquiry RFQ that you will send out later. We will describe a set of motors needing repair that characterize our typical work load. We request that you bid on these motors as if you would actually do them under the work environment described in the

Strategic Outsourcing Decision Guidebook

F-3

questions above (highly variable schedule, substantial storage requirements, frequent need for expedited work, etc.). These quotes should be realistic, not low-balled to get the work. If Newport News chooses to purchase motor rebuild services, it will choose the company that best meets its needs described above rather than the lowest price. Explain how you will meet the needs if you get the work. What services will you provide?

F-4

Strategic Outsourcing Decision Guidebook

Appendix G

Example Supplier Comparison Sheet

Table G-1 is the supplier comparison sheet developed for the Newport News Motor Shop pilot. After interviewing each supplier, we filled in the cells of the table with the appropriate information. Note the inclusion of the internal shop as a comparison. When filled, the table actually ran to seven pages (with the leftmost column half as wide and the content columns wider).

Strategic Outsourcing Decision Guidebook

G-1

Table G-1: Supplier Comparison Sheet

Item
Prime Contact Motor Size and quantity Pump overhaul & testing Engineering capabilities Key technologies in house Other Capabilities Current work Newport News work Cyclical nature of work Scheduling, delivery, & reliability Navy requirements Customer site work capability & cost structure (could be onboard ship) Storage facilities ISO 9000 certification Measurement capability Warranty coverage Other quality issues Customer relations (long-term relations) Labor Material Transportation of Motors e-commerce capabilities Other Comments

Motor Supplier 1

Motor Supplier 2

Motor Supplier 3

Motor Supplier 4

Newport News Motor Shop

G-2

Strategic Outsourcing Decision Guidebook

Appendix H

Example Supplier Rating Sheets

Comparing potential suppliers is often done in a rather ad hoc manner. Without some kind of tool driving the analysis, subjective judgments based on incomplete information are likely to dominate. The results of decisions made in such circumstances are often not the best. The concept behind supplier rating sheets is that, although comparing suppliers inevitably has a subjective element, the less subjectivity and the greater the depth and consistency of the data gathering, the better. In any comparative supplier analysis, certain capabilities and characteristics will be required. Beyond the requirements are the discriminators, the capabilities and characteristics that differentiate qualified suppliers from each other. So, when creating a supplier rating sheet, there are two major sections, the requirements and the discriminators.

H.1 Requirements
The requirements are the minimum set of capabilities that a supplier must have to even be considered as a possible source for a given part or service. In this context, evaluating whether a supplier meets the requirements is a simple yes/no situation whether the supplier meets each of the minimum requirements. Naturally, when evaluating a supplier, the requirements should be evaluated first. If they are not met, then there is no reason to continue. If no supplier meets all the requirements, then the question that must be asked is whether those requirements are realistic and reasonable. They may not be, if people in the right places are trying to prevent outsourcing. One of the checks is whether the internal shop actually effectively meets those requirements. Another is whether the requirement is there because the internal shop works that way, even if it not necessary. If the requirements do turn out to be valid and no supplier can meet them, then outsourcing is effectively not an option. On the other hand one or more suppliers can exceed the minimums on a given requirement. If that happens, the extra capabilities may become discriminators. Example requirements are: Minimum acceptable production volume Minimum acceptable part size Maximum acceptable lead time Ability to meet Mil-specs Ability to put personnel on customer site

Strategic Outsourcing Decision Guidebook

H-1

H.2 Discriminators
As the name implies, discriminators are those characteristics that distinguish one supplier from another. Discriminators provide the information on which a company bases its supplier selection decision. The approach presented here is to: Generate the list of discriminators Determine a rating system for each discriminator Determine a weight for each For each potential supplier and each discriminator, evaluate the rating value Calculate the overall rating as the sum of the weighted ratings

A convenient way to approach this is to rate the company for each discriminator on a 1-5 scale, with the end values of the scale given as part of the rating chart. Giving each discriminator a weighting factor allows variation in the importance of the discriminator. The resulting supplier rating is then equal to the sum of all rating values multiplied by their respective weighting factors. More formally, the overall rating score for a given supplier can be expressed by:

R = ri wi
i =1

where:

R = the overall comparative rating score ri = the ith rating value wi = the ith weighting value

This overall rating value then becomes a way to rank the potential suppliers. A higher score identifies the supplier that better meets your needs. Example discriminators include: Quality ratings by third party organizations Longevity of the business Manufacturing capabilities beyond the minimum requirements Customer relations Stability of work force Portion of their business your company would provide Supporting services provided

The rest of this appendix provides an example rating sheet developed for the Newport News motor shop example.

H-2

Strategic Outsourcing Decision Guidebook

H.3 Motor Repair/Overhaul Supplier Rating


Required Capabilities
The following capabilities are required of any motor repair/rebuild supplier shop to be considered as a supplier of motor repair and rebuild services for Newport News. Capability Motor size capacity Motor testing Onboard ship work Storage facilities Material procurement Transportation of motors Base Measurement range of HP dynamometer capacity yes/no capability to do work on board the ships at
Newport News

Minimum Required Full range, 1-500 HP Full range, 1-500 HP on call capability 200 motors procures all on call

quantity of storage space up to max of 200 motors yes/no none/available/on call

Cost Structure
The expectation is that any motor repair/rebuild shop will be competitive with both competing shops and with realistic Newport Newss internal shop costs. While supplier decisions will not be made based on cost alone, it will be a strong factor in the decision making process. The above table of capabilities will be at least as significant in the supplier selection process.

Discriminators
The capabilities in the table on the next page, while not fundamentally required, will be considered in making any decisions regarding purchasing of external motor repair and rebuild work. They are each to be rated on a 1-5 scale, with the end values of the scale given in the table. The resulting supplier rating is equal to the sum of all rating values multiplied by their respective weighting factors.

Strategic Outsourcing Decision Guidebook

H-3

Capability Technical capability Primary work Rebuild quantity/ capacity Overflow capacity Pump overhaul Engineering capabilities Key technologies in house Other Capabilities Experience Time in business Categories of work Navy work Newport News work Financial stability Labor Stability Availability Scheduling Cyclical nature of work Timeliness of delivery Reliability of delivery

Base Measurement

Preferred Value/Trend more better more better Yes more better more better N/A more better more better more better more better less better enough best

Weight (1-10) 5 8 5 5

Average motors/month Motors per month at other sites yes/no level of engineering from none to complete all/some/none (text comments) years quantity & history quantity & history good/bad Annual percentage of employee turnover Adequate labor on hand or readily available as measured by how long it takes to fill position Variation in work load over time Variation in delivery consistency of delivery

100/month 50/month none none none N/A 0 years 0% 0% Chapter 11 50% 60 days to fill opening 25% variation over year average miss ideal date by more than 1 month unpredictable delivery

500/month 300/month All pumps on Navy ships complete all N/A 10 years 50% 50% Profitable > 10 years 10% 10 days to fill opening 5% variation over year average miss ideal date by less than 2 days delivery always the same relation to idea date

3 9 4 3 6 4

smooth better on time best consistent best

2 10 9

H-4

Strategic Outsourcing Decision Guidebook

Capability Surge capacity Quality Quality certification Measurement capability Calibration program Warranty coverage Warranty length Other quality issues Special requirements Cost structure for on-site work Ability to expedite work Other factors Customer relations e-commerce capabilities Intangibles & other factors

Base Measurement Number of unscheduled motors the organization can handle within a given time frame yes/no (ISO 9000 or other recognized quality certification) Excellent/good/adequate/inadequate/unacce ptable frequency, internal vs external what covered months (text comments) How costs are determined for work at customer site (on ship) time of response Existence and success, especially of longterm relationships none/limited/comprehensive (text statement)

Preferred Value/Trend more motors in less time yes is best excellent is best best regular, external broader better longer better N/A clearly defined and reasonable total cost best lower better more better more better N/A

1 No surge capacity

5 Can overhaul 20 large motors within 5 days ISO 9000 certified full set of measurement equipment external calibration, no less than annual all parts & labor 2 years N/A clear, reasonable cost structure 2 day average response Variety of longterm contract and partnerships CAD, EDI, email, Internet N/A

Weight (1-10) 8

not certified no verifiable measurement no calibration program none none N/A ad hoc cost structure unable to expedite no long-term relationships none N/A

5 8 7 2 1 6 10 5 7

Strategic Outsourcing Decision Guidebook

H-5

This page intentionally left blank.

H-6

Strategic Outsourcing Decision Guidebook