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4

OUTSOURCING, OFFSHORING AND THE GLOBAL FACTORY

Roger Strange and Giovanna Magnani

Introduction

Outsourcing and offshoring are terms that are often used interchangeably, yet they refer to different firm strategies and have different motivations. Outsourcing¹ refers to the procurement by lead firms² of goods and/or services from independent outside suppliers, when those goods and services had previously been provided internally within the firm. Outsourcing does not refer to one-off purchases, but involves the strategic decision to reject the vertical integration of an activity (Gilley & Rasheed, 2000; Grossman & Helpman, 2005). It is a process which involves the lead firm externalizing elements of its value chain,³ i.e. there is an organizational fragmentation of production. For instance, an electronics goods manufacturer such as Sony might outsource the production of certain parts and components to local Japanese suppliers. Outsourcing thus involves a decision about ownership. In contrast, offshoring⁴ refers to the relocation of the production of goods and/or services overseas and thus involves an international fragmentation of production and the creation of global value chains (GVCs). For instance, Sony has, through the establishment of factories overseas, offshored the manufacture of many of its electronic products to North America, Europe, and elsewhere. Offshoring thus involves a location decision.

Outsourcing and offshoring are different processes, but they can be combined.⁵ Outsourced activities may be undertaken by suppliers located in the same country as the lead firm (domestic outsourcing), or may involve suppliers in foreign countries (offshore outsourcing). Thus when Apple contracts Foxconn to manufacture its iPads and iPhones in Asia, it is engaging in offshore outsourcing (Denicolai, Strange & Zucchella, 2015). Meanwhile, offshoring may be effected through offshore outsourcing, or when multinational enterprises (MNE) undertake foreign direct investment (FDI) and retain ownership of the offshored activities. As regards the temporal sequencing of the outsourcing and offshoring decisions, Mudambi and Venzin (2010) aver that there is no universal recommendation. When the lead firm’s strategic objectives:

[a]re not location-bound, as when the MNE leverages in-house knowledge to enter new markets, control is the primary decision (taken first) and the location (offshoring) decision is conditional on and subservient to it. Conversely when the MNEs’ objectives are location-bound, as when it enters a technology cluster to access local knowledge (that is not available elsewhere), location becomes the primary decision.

(Mudambi & Venzin, 2010, p. 1515)

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Recent decades have witnessed a proliferation of activities taking place under (domestic and/or offshore) outsourcing contracts, increased offshoring through FDI by MNEs, and the growth of locally owned firms in many emerging economies: these developments have given rise to the concept of the global factory (Buckley & Strange, 2015), and have been driven in large part by a combination of technological advances (particularly in information and communication technologies and transportation), market liberalization and economic restructuring in many countries, international trade and investment liberalization, financial deregulation and the integration of global capital markets, and improved contract enforcement and protection of intellectual property rights in many jurisdictions (Maskus, 2000; Hillberry, 2011; Amador & Cabral, 2014).

There is a considerable literature on the outsourcing of support activities (e.g. IT and HR services),⁶ but relatively little attention has been devoted to the outsourcing of primary activities such as manufacturing. Yet UNCTAD (2011, p. 135) report that the most active sectors for offshore outsourcing are garments ($200bn of cross-border outsourced sales and 7m employees), footwear ($50bn sales and 2m employees), toys ($15bn sales and 0.5m employees); electronics ($240bn sales and 1.7m employees), auto components ($220bn sales and 1.4m employees), and pharmaceuticals ($30bn sales and 0.2m employees). Increasing attention is being devoted to the growth of so-called factoryless goods producers (FGPs) in many advanced countries (Bernard & Fort, 2015; Morikawa, 2016), and the issue of whether firms that have outsourced their manufacturing activities should nevertheless be classified as part of the manufacturing sector.

In this chapter, we focus on the offshoring and outsourcing of manufacturing activities. We first briefly review the different conceptions of the global factory used in the literature. We then consider why firms choose to offshore manufacturing activities, what are the implications for the global distribution of the value-added in the resultant GVCs, and why some MNEs choose to reverse the offshoring process. We then address the issues of why firms may choose to vertically integrate their value-chain activities, why firms may instead decide to outsource manufacturing activities either offshore or within their domestic economies, the empirical evidence on the growth of FGPs, and what determines the extent of the outsourcing. The final section highlights some methodological problems encountered in empirical studies, suggests areas where further research is merited, and also considers the implications for the global factory of the latest wave of new manufacturing technologies including robotics and additive manufacturing (3D printing).

The global factory

Various authors (notably Grunwald & Flamm, 1985; Gereffi, 1989; Buckley & Ghauri, 2004) have used the term global factory, though each makes different assumptions about who maintains control over these geographically dispersed activities (Buckley & Strange, 2015). Thus Gereffi (1989, p. 97) envisages the global factory as ‘a global manufacturing system in which production capacity is dispersed to an unprecedented number of developing as well as industrialized countries’, and that a widening of corporate ownership on a global scale has been associated with this greater geographical dispersion of activity. In contrast, Grunwald and Flamm (1985) consider the global factory to be the result of offshore assembly operations being established by MNEs from the advanced economies to meet the competition of low-cost imports – echoing the work of Vernon (1966, 1979) on the product life cycle hypothesis of FDI. These MNEs had offshored many value chain activities to emerging economies, but these activities were still integrated (internalized) under common ownership notwithstanding their geographic dispersion. Finally, Buckley and Ghauri (2004) conceptualize the global factory as a complex strategy by MNEs from advanced economies, in which many value chain activities are offshored to emerging economies whilst also being outsourced (externalized) to independent suppliers. The MNEs are assumed to control the resultant geographically distributed networks of activities even though they have relinquished equity ownership. These different conceptions of the global factory thus make different assumptions regarding the location, ownership, and governance of the globally dispersed value chain activities.

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These three conceptualizations of the global factory differ in terms of their assumptions about value chain governance, corporate ownership and control, and the (re)location of manufacturing activities – see Table 4.1. These differences in turn have important implications for the appropriation of the rents earned in GVCs and the global distribution of income (Buckley & Strange, 2015).

Why do firms offshore manufacturing activities?

Offshoring involves a location decision, independent of who actually undertakes the manufacturing activities. Lead firms can offshore manufacturing activities through FDI and thus maintain ownership, by contracting out production to foreign licencees, or by offshoring the activities to independent suppliers (offshore outsourcing). In all cases, the motivation is typically lower production costs in the foreign location, though less strict environmental regulations (Walter, 1982; List, McHone & Millimet, 2003; Copeland & Taylor, 2004), less stringent employment requirements (Levy, 2005; Olney, 2013), and greater contractual flexibility (Vivek, Richey Jr & Dalela, 2009) may also have an impact. The potential gains, however, may be mitigated by factors such as increased transportation and communication costs, enhanced exposure to systematic (political, social, and/or cross-cultural) risks, greater managerial complexity, and liabilities of foreignness.

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The offshoring trend emerged in the early 1960s when US manufacturing companies began relocating manufacturing activities towards low-cost destinations to obtain cost-savings and increase financial performance (Nayyar, 1978; Maskell et al., 2007). Since the 1990s, thanks to the afore-mentioned developments in transportation and ICT developments, the offshoring phenomena has been growing intensively (Levy, 2005) enabling firms to increasingly locate activities and processes globally (Sidhu & Volberda, 2011). The current trend in advanced economies towards offshoring has been likened to a Third Industrial Revolution (Blinder, 2006; Blinder & Krueger, 2013), with similar potential to disrupt patterns of employment. Blinder and Krueger (2013: S117) measure the offshorability of various jobs, assessed in terms of whether the work can be moved overseas in principle even if that movement has not yet actually occurred: they estimate that about 24–25% of US jobs are potentially offshorable, but that this figure varies considerably across industrial sectors with their estimate for manufacturing as high as 50%.

Recent years, however, have witnessed moves by several manufacturing firms to bring back offshored production activities to their home countries (Albertoni et al., 2015), though the aggregate scale of the phenomenon is still limited (Oldenski, 2015).⁷ This phenomenon has been termed inshoring (Liao, 2012), reshoring (Ellram, Tate & Petersen, 2013; Gray et al., 2013), or backshoring (Bals et al., 2015).⁸ Various motives have been identified for reshoring. Albertoni et al. (2015) report that increased delivery times, poor production quality, and rising overseas labour costs were common motivations reported by reshoring firms. Other authors have added to the list of possible drivers. Kinkel (2014) suggests that many reshoring initiatives are operative corrections to previous managerial decisions, as firms understand that their offshoring strategies have not been compatible with meeting consumer needs (Gylling et al., 2015; Stentoft et al., 2015). Often firms need to be proximate to customers and to cut long supply chains (Albertoni et al., 2015), as customers require fast delivery and customized products (Arlbjørn & Mikkelsen, 2014; Bals et al., 2015). Martínez-Mora and Merino (2014) suggest that the imperative to reshore may depend upon the nature of market demand. They report that Spanish manufacturers of premium footwear have been reshoring all manufacturing so as to respond flexibly to customers’ and distributors’ needs, and to maintain quality standards. In contrast, manufacturers of lower-quality footwear continue to pursue offshoring strategies. Both Uluskan, Joines and Godfrey (2016) and Hikmet and Enderwick (2015) highlight reshoring as a response to concerns about the theft of intellectual property in the foreign locations.

Why do firms outsource manufacturing activities?

In this section, we first outline the potential advantages to firms from vertically integrating their value-chain activities before considering the possible benefits that might arise from outsourcing selected activities. We summarize the evidence on the rise of factoryless goods production, review the small empirical literature that aims to establish the firm-level determinants of manufacturing outsourcing, and the rather larger literature that looks at the implications of manufacturing outsourcing for the performance of the lead firms.

The rationale for vertical integration

Vertical integration is the counterpoint to outsourcing. Vertical integration involves lead firms internalizing value-chain activities under common ownership, and various authors have suggested that this may improve inter alia scheduling and coordination (Coase, 1937; Williamson, 1975; Chandler, 1977; Harrigan, 1984); eliminate imperfect competition in upstream markets (Vernon & Graham, 1971; Westfield, 1981); facilitate investments in specialized assets, so protecting product quality and proprietary technology (Jones & Hill, 1988) and avoiding opportunistic recontracting (Monteverde & Teece, 1982); produce scope economies (Porter, 1987; D’Aveni & Ravenscraft, 1994); allow price discrimination (Perry, 1989); lead to positive externalities (Tirole, 1988; Perry, 1989); and increase bargaining power vis-à-vis buyers and suppliers (Porter, 1980). In the International Business context, the benefits of cross-border integration have typically been explored though the lens of internalization theory (Buckley & Casson, 1976; Rugman, 1981; Hennart, 1982), though attention has also been drawn to the associated information, coordination, and motivation costs (Buckley & Strange, 2011).

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Indeed, Alfred Chandler (1977) in the Visible Hand testified how, in the late nineteenth and early twentieth centuries, the coordination requirements of high-throughput technologies, and the capabilities of contemporary markets and institutions to meet those requirements, led to the emergence of large vertically integrated firms. In turn, Richard Langlois (1993) commented that the managerial revolution chronicled by Chandler was an adaptation to a particular set of historical circumstances, during which the extant market-supporting institutions were inadequate for the profitable opportunities associated with the new technologies, and hence the costs of coordinating through markets were high. Langlois further suggested that managerial hierarchies were second-best solutions that emerged in the absence of better alternatives, but that, over time, markets ‘catch up’ and firms will find it cost-effective to delegate more and more activities. According to his vanishing hand hypothesis, Langlois asserted that market-supporting institutions had evolved in many countries by the late twentieth and early twenty-first centuries, and hence vertically integrated firms were increasingly succumbing to the forces of specialization, with the result being widespread vertical disintegration and outsourcing. This suggests that decisions regarding outsourcing (or vertical integration) may well depend not just upon firm-level characteristics, but also upon the institutional environments within which firms operate – and these institutional environments typically vary across countries and over time.

The rationale for outsourcing

Attention has thus shifted to the potential benefits of outsourcing as a performance-enhancing strategy. One common explanation is that lead firms are outsourcing activities so as to economize on their scarce financial and managerial resources, and focus on their core competencies (Prahalad & Hamel, 1990). Such core competencies form the basis of competitive advantage and represent the collective learning in the firm, especially how to coordinate diverse production skills and integrate multiple streams of technological and managerial competencies to enable individual firms to adapt quickly to changing opportunities (Coombs, 1996). Notwithstanding the intuitive plausibility of this argument, there are both conceptual and practical difficulties in actually defining what activities are core (and thus should be internalized) and which are non-core (and thus may be gainfully outsourced). A second common line of argument is provided by the strategic outsourcing literature (Quinn & Hilmer, 1994; Quinn, 1999; Shy & Stenbacka, 2003; Jacobides & Winter, 2005; Holcomb & Hitt, 2007) that highlights the exploitation of knowledge complementarities and learning opportunities thanks to the integration with independent agents in intermediate markets. The focus moves from the minimization of transaction costs to the maximization of value generated in the value chain. Lead firms not only pursue cost benefits but also explore alternative solutions thus obtaining higher value and innovative outcomes. Other suggested rationales for outsourcing include inter alia the lead firms being able to take advantage of specialized skills and/or economies of scale enjoyed by outside suppliers (Abraham & Taylor, 1996; Gilley & Rasheed, 2000); suppliers having lower labour and/or other production costs (Abraham & Taylor, 1996; Weil, 2014); greater flexibility in response to volatile output demand and/or technology changes (Abraham & Taylor, 1996; Díaz-Mora, 2008; Holl, 2008); reduced investment in plant and equipment (Gilley & Rasheed, 2000); and access to better quality inputs due to competition between outside suppliers (Gilley & Rasheed, 2000).

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The above arguments all emphasize that outsourcing will be the preferred organizational arrangement because it is more efficient, as external suppliers are somehow able to provide the requisite intermediate goods and services at lower cost than the lead firms are able to do internally. A rather different explanation for outsourcing emphasizes the asymmetric power relationships between lead firms and their suppliers, which permit the lead firms to outsource even manufacturing activities whilst still retaining control over the disaggregated value chains (Hymer, 1972; Strange & Newton, 2006; Strange, 2011; Denicolai, Strange & Zucchella, 2015). This ability to leverage power asymmetries rests on the lead firms enjoying certain isolating mechanisms (Rumelt, 1984, 1987) that enable them to appropriate the rents from externalized value chains: such mechanisms may involve formal property rights (patents, trademarks, licences); firm-specific technical knowledge that is difficult to imitate; market-based firm-specific assets (marketing capabilities, distribution networks, corporate reputation, brand names); and/or first-mover advantages (Denicolai, Strange & Zucchella, 2015). Grossman and Helpman (2002) have provided a theoretical model in which the viability of outsourcing is determined by the distribution of bargaining power between the lead firms and their suppliers, the degree of competition in the market, and the number of potential partners in the market. They conclude that the benefits from outsourcing depend on the characteristics of the firm and industry in question. Denicolai, Strange and Zucchella (2015) further argue that the efficacy of isolating mechanisms – and hence the ability of lead firms to extract rents – will tend to dissipate over time as competitors emerge to imitate successful strategies and products (see further discussion later).

Notwithstanding these potential benefits, a strategy of outsourcing also brings potential disadvantages to lead firms including the creation of potential rivals (Prahalad & Hamel, 1990; Arrunada & Vásquez, 2006; Gilley & Rasheed, 2000); increased transaction costs (related to search, negotiation, contracts, coordination, etc.) especially in repeated transactions and/or over distance (Gilley & Rasheed, 2000; Díaz-Mora, 2008; Holl, 2008); and the erosion of capabilities in product and process innovation (Chesbrough & Teece, 2002; Pisano & Shih, 2012).

The evidence on factoryless goods production

The term factoryless goods producers (FGPs) has been applied to firms that add value to the production of goods through the provision of intellectual property, innovation, and marketing, yet which have outsourced all manufacturing activities and thus do not own any manufacturing facilities (Bernard & Fort, 2015). Well-known examples include Apple (Dedrick, Kraemer & Linden, 2010; Denicolai, Strange & Zucchella, 2015), Nike (Donaghu & Barff, 1990), Dyson (Loch, Chick & Huchzermeier, 2008), Nokia and Ericsson (Berggren & Bengtsson, 2004; Ali-Yrkkö et al., 2011). The FGPs provide substantial service inputs through product design, technology, and/or know-how, and control the interface with their final consumers, but do not supply (significant) material inputs to the production process.

The empirical evidence on the importance of FGPs is sparse (see also Bernard, Smeets & Warzynski, 2014). Bernard and Fort (2015) note that although such FGPs are involved in the production of manufactured goods, they are generally not recorded as part of the manufacturing sector in official government statistics.⁹ This can be problematic in that the statistics on the manufacturing sector will under-estimate the activities, employment, and trade related to manufacturing, and may hinder a proper appreciation of the distribution of the gains within GVCs. They estimated (Bernard & Fort, 2015, p. 521) that the number of FGPs in the United States was 13,500 in 2007, and that these firms employed over 672,000 workers. The importance of FGPs had moreover risen steadily and substantially since 1992 when the corresponding figures were 4,900 firms and 285,000 workers. The US FGPs were particularly apparent in the electrical equipment, computers, pharmaceuticals, garment, and footwear sectors (see also Kamal, Moulton & Ribarsky, 2013). Furthermore, the US FGPs imported 38% of the value of their wholesale sales in 2007, suggesting that they had offshored a substantial proportion of their outsourced manufacturing activities. Bayard, Byrne and Smith (2015) focus on FGPs in US semiconductor manufacturing, and reported that semiconductor sales in 2007 would be 25% higher if FGPs were included. Morikawa (2016) reports that there were 2,688 FGPs in Japan in 2013, employing over 1.1 million workers. Most of these FGPs were active in domestic outsourcing rather than offshore outsourcing.

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The literature and empirical analysis on FGPs is still in its infancy and, at the time of writing, there is still considerable debate as to how FGPs should be defined. Yet the fact that this debate is taking place in academic and government fora confirms that the scale of (domestic and offshore) manufacturing outsourcing in many countries is already substantial notwithstanding the lack of accurate aggregate data on the phenomenon.

The determinants of outsourcing

There has been a small empirical literature focusing on the firm-level determinants of manufacturing outsourcing – see Table 4.2.¹⁰ These studies use either outsourcing propensity (operationalized as a dummy variable indicating whether or not the lead firm has outsourced some manufacturing activities) or outsourcing intensity (measured by the value of the outsourced activities as a proportion of sales) as the dependent variable in their analyses, and most rely on firm-level data collected in the course of broader enterprise surveys and reported in secondary sources.

Some studies use measures of outsourcing that do not correspond well to the theoretical constructs. Thus Kimura (2002) operationalizes outsourcing propensity by whether or not Japanese lead firms used subcontractors (using shitauke). The firm-level data were taken from surveys conducted by SMEA and METI, and it is not clear whether the subcontracting necessarily involves manufacturing activities. Girma and Görg (2004) proxied outsourcing intensity by the cost of industrial services received by the lead firms as a proportion of their wage bills. The firm-level data come from the UK Annual Respondents Database (ARD), and the industrial services include all purchases and not just those effected through outsourcing arrangements. Tomiura (2005) used firm-level data from the 1998 MITI¹¹ Basic Survey of Commercial and Manufacturing Structure and Activity, which reported the contracting out (gaichu) by lead firms in Japan of manufacturing or processing as a proportion of sales. But his study focused on the determinants of offshore outsourcing as opposed to domestic outsourcing.

Other studies have more appropriate measures of the dependent variable. Holl (2008) and Díaz-Mora and Triguero-Cano (2012) both model outsourcing propensity according to whether the lead firm reports that it has subcontracted production or not. Their firm-level data come from the Spanish Survey on Business Strategies carried out annually by the SEPI Foundation. Leiblein, Reuer and Dalsace (2002) modelled outsourcing propensity in a similar way, and concentrated on a very narrow group of products (integrated circuits). Bardhan, Whitaker and Mithas (2006) and Bardhan, Mithas and Lin (2007) considered processing, assembly, and packaging as separate activities, and constructed a composite measure of outsourcing propensity. Taymaz and Kilicaslan (2005) proxied outsourcing intensity as the proportion of subcontracted inputs to total inputs, using data from annual Turkish surveys of manufacturing firms. Díaz-Mora (2008) had a similar measure of outsourcing intensity, but estimated her model using industry-level data taken from the Spanish Industrial Companies Survey. Finally, Holl, Pardo and Rama (2012) designed and administered their own survey of Spanish manufacturing firms, and measured outsourcing propensity according to the firms’ responses as to whether they had outsourced production activities in the past three years.

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The empirical results from this small literature suggest that manufacturing outsourcing (propensity, intensity) may be positively associated with the size of the lead firm, firm age, R&D intensity, export intensity, advertising intensity/product differentiation, foreign ownership, and industry – but the results are not consistent. This inconsistency may be due to the use of firm-level data – and, in the case of Díaz-Mora (2008), industry-level data – whereas it would be preferable to use product-level data, and to the fact that all studies – apart from Tomiura (2005) – fail to distinguish satisfactorily between domestic and offshore outsourcing. The range of empirical contexts is also narrow, and many of the studies do not specify whether the outsourced activities had previously been undertaken in-house by the lead firms.

Concluding remarks

In this chapter, we have reviewed the theoretical and empirical literature on the determinants of manufacturing outsourcing and offshoring, and drawn attention to the implications for the global distribution of income and for the nature of manufacturing organization as captured by the concepts of the global factory and factoryless goods producers.

A key strategic issue is whether firm performance will be improved or reduced by increased levels of manufacturing outsourcing. This is a difficult issue and beyond the scope of this chapter. A vertical integration strategy brings many potential benefits to lead firms but there are also costs, and firm performance will only be enhanced if increases in investment are not so high as to offset profit margins, firms have high levels of product innovation, assets are specific or complex, and upstream and downstream markets exhibit degrees of uncertainty (Buzzell, 1983; Lafontaine & Slade, 2007). Equally, an outsourcing strategy too has potential benefits and costs, and whether or not outsourcing enhances lead firm performance depends upon a range of factors including whether or not the benefits and costs have ex ante been properly assessed, whether or not the strategy has been implemented correctly, and whether or not the ex post outsourcing relationship(s) are managed effectively (Doig et al., 2001; Quélin & Duhamel, 2003).

We would also make the following observations. First, performance is a multi-dimensional concept, and different dimensions (e.g. profitability, sales growth, fixed asset investment, employment, wage levels, innovation) may be of importance to different stakeholders. The effects of manufacturing outsourcing on some of these dimensions may be positive, but the effects on others may be negative. A related issue is who benefits and who loses from outsourcing, as the lead firm shareholders may well welcome outsourcing whilst the labour force may be less enthusiastic. Second, there is the issue of the counterfactual. It may be difficult to establish a statistical association between outsourcing by the lead firm and any of the performance measures unless the firm’s competitors refrain from new strategic initiatives during the period, and hence the competitive context can be assumed to be exogenous. This is, of course, highly unlikely in practice and it might be the case that all firms are implementing similar performance-enhancing outsourcing strategies but that the beneficial effects for the lead firms are cancelled out by competition. Third, there is the temporal issue. All corporate strategies take time to implement and to have an impact, and the lags may be both substantial (especially so in the case of the impact on innovation) and difficult to estimate. Fourth, it is important to consider the fit between the chosen governance arrangement, the underlying attributes of the transactions and the nature of the contracting environment: the so-called ‘discriminating alignment’ proposition (Leiblein, Reuer & Dalsace, 2002).

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Lahiri (2016) provides an excellent overview of the empirical literature on outsourcing and performance, though he does not limit himself to consideration of manufacturing outsourcing. Much of the extant literature relies on firm-level (or even industry-level) data, but outsourcing (and offshoring) is a strategy that is typically applied by lead firms only to selected manufactured products. We would thus concur with the view of Gilley and Rasheed (2000, p. 787) that it would be useful ‘to collect information on the product level, and then to aggregate the firm’s various product-level outsourcing initiatives into a firm-level measure’. We would also endorse the view of Lahiri (2016, 493) that future research should devise:

[a]ppropriate measures of outsourcing and firm performance . . . [as] . . . researchers use a wide variety of measures to operationalize these two variables. Scholars in future research need to devise robust measures [emphasis added] that tap the extent of value chain functions(s) given out for execution by third-party provider(s) who may be located in the same country or overseas.

As Ketchen, Ireland and Baker (2013) note, ‘if a measure does not effectively capture the construct that it is purported to capture, any statistical tests involving the measure cannot be considered valid’. Our pessimistic assessment is that much of the extant empirical research on outsourcing fails to pass this test.

In terms of a future research agenda, we would suggest several promising lines of inquiry. First, various motivations for manufacturing outsourcing have been advanced in the literature, but as yet there has been none to test which are the most important in practice. Are lead firms outsourcing primarily to focus on core competencies, or to exploit knowledge complementarities and/or economies of scale enjoyed by suppliers, or to take advantage of lower production costs and/or greater flexibility, or to reduce fixed investments, or to secure better quality inputs, or to exploit power asymmetries? Do the motivations differ between domestic outsourcing (when the alternative is in-house production) and offshore outsourcing (when the alternative in FDI)? Second, outsourcing arrangements are inherently unstable, as the power asymmetries between lead firms and their suppliers will necessarily change over time as the efficacy of isolating mechanisms dissipate over time (Denicolai, Strange & Zucchella, 2015). In-depth case studies tracking the dynamics of outsourcing relationships would be valuable to understand the nature of the power asymmetries and how they evolve over time (Azmeh, Raj-Reichert & Nadvi, 2015). Third, Langlois (2003) advanced the proposition that contemporary outsourcing trends were a strategic reaction to the historical improvement in market-supporting institutions. This suggests that outsourcing will be more prevalent in countries with better market-supporting institutions (i.e. more advanced countries), and also that the extent of outsourcing should increase over time if such institutions adapt faster than the coordination requirements of new technologies. If this is indeed the case, it would point to the need to use multi-country samples and/or undertake longitudinal studies to capture the country and time effects. Fourth, much of the literature focuses on the motivations and performance outcomes of the lead firms, but what about the supplier firms? What motivates supplier firms to enter into outsourcing relationships, what are their performance outcomes, and how can supplier firms upgrade their positions within GVCs to capture a greater share of the rents (Navas-Aleman, 2011)? Fifth, small and medium-sized enterprises are increasingly important players in International Business (Mohiuddin, 2011), yet too little attention has been given to their involvement in outsourcing relationships either as lead firms or as suppliers (Hätonen & Eriksson, 2009).

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In the longer term, new manufacturing technologies (e.g. robotics, additive manufacturing) will alter the economics of production and make many production processes less labour intensive (The Economist, 2013). These technologies will reduce the share of labour costs in total costs, and will also facilitate remote control of many production processes. These developments in this so-called Fourth Industrial Revolution (Löffler & Tschiesner, 2013; Schwab, 2016) will clearly lessen the advantages of offshoring these processes to emerging/developing countries, and should herald the reshoring of many value chain activities to advanced countries. The effects of these technological advances on the outsourcing strategies of lead firms are less clear cut. Our assessment is that, as the technologies become more advanced and commercially viable, the Fourth Industrial Revolution may well herald a new phase of vertical integration as lead firms aim to protect and maximize the returns from their intellectual property.

Notes

  1    Various synonyms for outsourcing are found in the literature, including externalization, subcontracting, and contracting out.

  2    We use the term lead firm to refer to the firms which have outsourced significant activities within their value chains.

  3    A value chain may be defined as the range of activities required in the production and distribution of a finished good or service, and may involve (Porter, 1985) both primary activities (i.e. design, procurement, production, marketing, distribution, after-sales service) and support activities (e.g. IT, HR, and other back-office services). These activities may all be located in one country, or may be dispersed in different countries within global value chains (Gereffi & Fernandez-Stark, 2011; Gereffi & Lee, 2012). Synonymous terms for value chain are commodity chain, supply chain, demand chain, production chain/network, and filière (Dicken, 2015).

  4    Again various synonyms for offshoring are found in the literature, including global outsourcing, international sourcing, super-specialization, global production sharing, and co-production. Some authors (Fratocchi et al., 2014) refer to nearshoring, when activities are offshored to countries in the same region as the home country of the lead firm.

  5    Unfortunately the literature is awash with other terms such as captive offshoring, which is simply foreign direct investment (FDI) under a new name.

  6    See the reviews by Dibbern et al. (2004), Mahnke, Overby & Vang (2005), Gonzalez, Gasco & Llopis (2006), Chadee & Raman (2009), and Lacity, Khan & Willcocks (2009). More general reviews have been provided by Espino-Rodríguez & Padrón-Robaina (2006), Hätönen & Eriksson (2009), Mohiuddin (2011), Schmeisser (2013), and Lahiri (2016).

  7    See also the January 2013 Special Report on ‘Outsourcing and Offshoring’ in The Economist.

  8    We consider these three terms to be synonymous, and will refer in the rest of this paper to reshoring. As with offshoring, reshoring is a location decision independent of the ownership of the process. The reshored activities may be undertaken in-house by the lead firm, or the lead firm may simply choose to source from an independent domestic supplier. Other authors have coined additional terms (e.g. back-sourcing, re-insourcing, near-reshoring, intelli-sourcing) and, in so doing, have often confounded the location choice with the issue of ownership.

  9    A proposal by the US Office of Management and Budget (OMB) to expand the traditional definition of a manufacturing business, and create a ‘factoryless goods producer’ classification in the 2017 revision of the North America Industry Classification System (NAICS) was withdrawn in August 2015 after considerable opposition from various interested parties. See the formal notice in the Federal Register, 79(153): 46558-46559 published on 8 August 2015.

10    Other empirical studies (e.g. Abraham & Taylor, 1996) use samples of manufacturing lead firms, but focus on the outsourcing of support activities.

11    The Japanese Ministry of International Trade & Industry (MITI) was replaced by the Ministry of Economy, Trade & Industry (METI) in 2001.

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