utsourcing—the management strategy for contracting out a company’s manufacturing and services operations to specialized contractors—is not only revolutionizing the way business is being conducted around the world, it’s requiring CPAs to rethink how they value a business and the metrics they traditionally monitor. If they fail to change with it, they will be left in a place that is equivalent to the days of green eyeshades and columnar pads.
Until recently, outsourcing was a strategy applied by just a handful of forward-thinking companies. Today, it’s the way to go for many businesses. Look down the list of the Fortune 500 and you’ll see that a growing number of major manufacturers no longer operate factories or even assembly plants. Instead, all their products are produced, and even distributed, by specialized contractors.
What does that mean to the accounting profession? It means many financial managers are being expected to answer questions they never had to address before. For example: Which business capabilities should our company own? Which should it contract for? And what information do we need to make those decisions?
For the past 100 years the goal of financial managers was to optimize internal business-process costs. Contact with the external world was limited to purchasing and sales, both of which traditionally focused on price rather than on total cost to the organization. But for the company that outsources not only production but its distribution, as well, accountants must now compare internal business-process cost with the cost of outsourcing those processes; the emphasis now is on cost —not price.
Accountants must now determine the true cost of a company’s various business activities by establishing the value of a specific business capability —and that includes such things as quantifying the value of contracting out supply chain logistics or human resources management.
GO BACK IN TIME
Lowell decided to junk the putting-out process and, instead, brought all the operations under one roof, with the work performed by his own employees—a management concept later called integration. Lowell was 100 years ahead of even Henry Ford, who applied the same principle at his River Rouge car assembly plant in Michigan.
It took many years for Lowell’s idea to catch on—not just because it was revolutionary, but because switching to integration from the putting-out system required both hefty capital costs and the hiring of a large number of full-time employees at a time when U.S. labor costs were relatively high compared with those of Great Britain, the major competitor in the textile trade. But Lowell saw integration overcoming those obstacles because it was able to process converted raw material into final products more quickly.
It wasn’t until later, in the 19th century, that economic changes began to support integration: Improvements in mass production, communication and transportation technologies made the value of time more precious; in addition, managers acquired new skills that improved the running of complex integrated enterprises. And then, when U.S. labor costs declined as immigrants flooded the country, the advantages of integration became so overwhelming that the vertically integrated, hierarchically organized, centrally managed industrial corporation became the model for 20th century manufacturing.
But in the 1990s two of the integrated enterprises’ most prized advantages began to slip. Internet-based business collaboration software was introduced and that almost immediately weakened integration by making real-time coordination of business capabilities among a group of collaborating companies a cost-effective option. At the same time, technological innovations were changing the marketplace. The market lifetimes of even highly successful products and services started to decrease— narrowing profit windows. To remain competitive, companies were forced to offer a wider range of continually changing models or services. They even found they had to abandon still-profitable products because fast-moving new competitors threatened to chip away at their market share.
This inevitably led to the growth of manufacturing outlets that could produce special-purpose products and services aimed at niche markets—perfect candidates for outsourcing—quickly, cheaply and in high volume.
Finally, the market change that, for many companies, sounded the death knell for integration was the switch from selling individual products and services to producing solutions: customer-specific combinations of physical products, information and services. General Electric and IBM are outstanding examples of traditional manufacturing companies that in the 1990s successfully made the transition from sellers of products to marketers of solutions.
AND THEN DISINTEGRATION
Given the value of flexibility in the face of rapidly changing demand and constantly changing products, why not form an alliance with a company whose sole competence is highly flexible manufacturing? Given the extremely short market lifetimes of information and knowledge, why attempt to “own” information and knowledge personnel, as opposed to acquiring information and knowledge opportunistically, as new solution opportunities arise?
How far can disintegration be pushed? General Motors and Volkswagen are building auto assembly plants whose workers are employed and supervised by a few key suppliers. Suddenly, an auto company doesn’t even assemble cars let alone manufacture them. GM is moving toward becoming a vehicle design and marketing company—in effect, the customer interface. Boeing is moving in this same direction: Partners and contractors do all the manufacturing and assembly.
The message is clear: A high-tech version of the old putting-out system is back, and that means the role of the accountant must change apace. That opens an extraordinary opportunity for the profession to exercise creativity—but CPAs will have to be proactive. In short, financial professionals can either count dollars or they can measure value.