Theory and Practice of Outsourcing

Outsourcing is the practice of charging external service providers with the task of performing in-house activities. Outsourcing has drawn attention with regard to its role in achieving effective logistics integration by which inter- and intrafirm activities are integrated to enhance customer satisfaction and competitive advantage (Bolumole, Frankel, and Naslund 35). By understanding the theoretical perspectives attributed to outsourcing, managers can identify and evaluate strategic reasons specific to their company, and analyze the cost and benefits (if any) to outsource.

The evolution of outsourcing can benefit from understanding how it exists in direct correlation, and/or in opposition, to established social science theory. Several theories are particularly relevant to logistics outsourcing practices and decision strategies: (1) Transaction-Costs Analysis (TCA) and Agency Theory; (2) Resource-Based Theory (RBT); and (3) Network Theory (NT) and General Systems Theory.

Transaction costs refer to the costs of physical and human resources incurred in order to complete an exchange of goods and services between parties. Factors that contribute to these costs include opportunistic behavior, the search for the "true" price at which purchases ought to take place, and the need to discover the “true'' quality of a good/service. In transaction cost economics, a firm's ownership decisions focus on minimizing the sum of its transaction and production costs (Mikherji and Ramachandran 213). Excessive costs may cause transactions to be transferred to other institutions. Transaction cost analysis (TCA) proposes that firms exist in order to maximize profits by reducing transaction costs through three different forms of governance structures: market (arms-length, one-off transactions for standard investments); hierarchical (vertical integration through direct ownership); and hybrid structures (combining elements of the market and hierarchical mechanisms). The transaction costs reduced by outsourcing logistics include, for example, decentralized order processing, assets, working