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A Functional Examination of
Outsourcing Decisions
Introduction
Professor of Management Many business and organizational managers see outsourcing
Kenneth W. Monfort College of Business as a panacea for improving organizational efficiency and
University of Northern Colorado effectiveness, and virtually no segments of organizations have
Greeley, CO 80639 been spared from outsourcing decisions. Outsourcing has greatly
expanded from its original applications in manufacturing and
. tf.04ul.esi, operations to include outsourcing functions such as administration,
Professor of Management finance, and human resource management. The lure of shedding
Kenneth W. Monfort College of Business assets in hopes of boosting financial return measures has
University of Northern Colorado resulted in an irresistible impulse for outsourcing decisions. In
Greeley, CO 80639 the year 2000, the market-to-book ratio of the S&P 500 was
six times greater than it had been in 1981—a reflection of the
2). JLtfSUl jl&lfjjWUHt declining importance of tangible assets (Doig, Ritter, Speckhals,
Professor of Management & Woolson, 2001). Business spent approximately $125 billion
Kenneth W. Monfort College of Business in the U.S. in 1996 for outsourcing services and spending has
University of Northern Colorado grown by approximately 33.7% per year. Outsourcing services
Greeley, CO 80639 revenue in the U.S. was approximately $400 billion in the year
2000 (Outsourcing Index, 2000).
Dun and Bradstreet report that spending on outsourcing
Assistant Professor of Management services has grown by approximately 37% since 1996
Kenneth W. Monfort College of Business (Outsourcing Index, 2000). The Outsourcing Institute (2003)
University of Northern Colorado also suggests the growth of business process outsourcing may
Greeley, CO 80639 well double between 2000 and 2005. Further, nearly everything
is up for discussion in terms of what companies should outsource
(Hitt, Keats, & DeMarie, 1998). When organizational decision
Professor of Management
makers contemplate whether or not to outsource, they must
Kenneth W. Monfort College of Business
determine how much to outsource, and which functions should
University of Northern Colorado
be outsourced. Factors such as quality, quantity, price, delivery,
Greeley, CO 80639
service, and profitability must be considered.
Literature and practice seem to suggest that there are clear
Assistant Professor of Management benefits to outsourcing, yet there also appear to be discernible
Kenneth W. Monfort College of Business limits. Quinn (1992) and Prahalad and Hamel (1990) have
University of Northern Colorado suggested that perhaps the best approach is for firms to hold
Greeley, CO 80639 onto their core competencies, but be willing to outsource the
rest. This may be a crucial point. An organization's core
competencies encompass both the direction and purpose of a
Abstract
firm, and to allow others to alter or influence these crucial
Although outsourcing is often viewed as a panacea for
resources could be disastrous (Peteraf, 1993).
improving organizational performance, recent research
suggests that outsourcing has delivered much less value Research is just beginning to assess the longer-term impacts
than it could have. This paper presents a discussion of the of outsourcing decisions and it has been suggested that the
complex managerial issues shown to affect the decision of rush to outsource has delivered much less value than it could
whether or not to outsource, as well as those that enhance have. One-fifth of the executives in a recent survey indicated
implementation success. Topics of discussion include the they are dissatisfied with the results of their outsourcing
business strategy implications of outsourcing, the role of arrangements and another fifth suggest they are seeing no
trust in outsourcing partnerships, the behavioral benefits (Outsourcing Trends Report, 1999). Dun and
consequences associated with outsourcing, the role of Bradstreet reported that nearly 20 to 25 percent of all
communication in outsourcing, and the labor relations outsourcing relationships failed within two years and 50 percent
impacts of outsourcing. failed within five years (Ozanne, 2000). In a firm-level analysis
of the value of outsourcing, Gilley and Rasheed (2000) found
no direct impact on the financial, innovation, or stakeholder
performance of the firm.
CENTRAL BUSINESS REVIEW • VOLUME XXIII NO. 2
A decision to outsource is one of the most critical decisions
an executive makes, since the implementation of the decision F gure 1 : Managerial Aspects of Outsourcing
will result in massive changes to an organization's structure
Strategic Considerations
and operations. Garaventa and Tellefsen (2001, p. 29) stated
that "outsourcing is a complex, multi-faceted process, with 'Whether to Outsource -- Strategic Competitive Advantage?
'What to Outsource -- Core/Noncore Capabilities?
implications and consequences that span department, division,
and corporate boundaries." This decision can affect thousands
of employees and crucial aspects of the company's core abilities J
may be exposed to chosen partners. A recent McKinsey study Role of Trust
(Doig, et al., 2001) found that better processes for identifying 'Trust Orientation
and managing the activities in the value chain before making 'Control
outsourcing decisions could result in much higher performance. 'Industry Regulation
Once decision makers have decided to outsource, they must Behavioral Issues
then pay careful attention to details involved in implementation. 'Leadership Style
Managing new structural and operational processes involves 'Procedural Justice
not only the strategic aspects of the partnerships, but also 'Employee Impacts
requires sound leadership and management of human resources 'Organizational Culture
from the more behavioral dimensions. Motivational impacts on
Role of Communication
diverse groups of employees involved and clear communications
'Internal
of expectations are vital managerial considerations.
'External
Outsourcing also has potential disadvantages. Bettis,
'Global
Bradley, and Hamel (1992) have suggested that a reliance on
outside suppliers can lead to a decline in overall market Labor Relations Impacts
performance. Teece (1987) had earlier expressed a concern Bargaining Agreements
that outsourcing could well lead to a reduction in a firm's Labor Conflicts
research and development activities, thereby lessening its
competitive advantage over time. Levy (1995) identified that
outsourcing can create longer lead times and hamper a firm's 1r
ability to bring its products and services to the market in a timely
Successful Outsourcing
fashion. Further, Markides and Berg (1988) have pointed out
that in international outsourcing in particular, the practice of
sharing competencies can lead to piracy and counterfeiting
problems for companies. These problems can seriously erode A Strategic Perspective
a company's capability of building and sustaining a competitive The strategic goal to be obtained through outsourcing is to
advantage. achieve a greater strategic advantage (Bettis, et al., 1992).
Another disadvantage to outsourcing is the potential loss of Casale (2002) has suggested that outsourcing is an essential
control over the function being outsourced. While this loss of revenue and growth strategy that every corporation must
control is not complete and can be mitigated by contractual seriously consider. He further states that outsourcing is becoming
agreement, it nonetheless occurs. Because all organizations a major strategy in achieving goals faster and more effectively
are, after all, human organizations, all organizations are prone and with a greater return. Practice suggests that nearly all
to human error. When control of the potential for human error functions in an organization are viable candidates for outsourcing
can be kept within the confines of the company's structure, the (Outsourcing Institute, 2003). Evidence suggests that
company will maintain better control. Once operations are organizations are even willing to outsource core capabilities
outsourced, however, control of human error transfers to the that one might think could threaten the protection of vital core
contracted source, giving the focal firm less control over activities competencies. For example, Fiat, already one of the world
that could have a major impact on overall operations if they leaders in outsourcing, has outsourced everything but a
were to go terribly wrong. "stunningly narrow definition of the automaker's core
A number of these managerial issues are discussed as they competencies" at its new Cordoba, Argentinian plant. Fiat could
relate to making and implementing outsourcing decisions. The redefine its idea of core competency to "attaching Fiat
complex management factors shown to affect first, the decision nameplates" as the cars roll off the assembly line, in hopes of
of whether or not to outsource and second, the effectiveness improving overall performance (Phelan, 1998, p. 71).
of the outcome once the decision has been made are presented The decision to keep an operation in house or to outsource
and discussed. Figure 1 illustrates these factors. Additionally, it to other firms can only be made appropriately if decision
research propositions are offered regarding each factor. Topics makers understand the value of the key activities and then assess
of discussion include the (1) business strategy implications, (2) the efficiency and capabilities of performing those activities in
role of trust, (3) behavioral consequences, (4) role of house or externally. The decision process is one of assessing
communication, and (5) labor relations impact. relative strategic value to capability and efficiency (whether in
house or external). The fundamentals of strategic management
provide a key understanding of the limits to which companies
UNIVERSITY OF CENTRAL OKLAHOMA • SUMMER 2004
should strategically maintain control. Potentially, outsourcing Role of Trust in Outsourcing Arrangements
not only spreads risks, but it also relinquishes control beyond Involvement in strategic alliances and inter-organizational
the traditional boundaries of the firm. Relinquishing control linkages among business firms has become necessary to respond
commands unprecedented levels of trust, a topic covered further to an increasingly dynamic and competitive environment.
in other aspects of this paper. To help mitigate this risk, Howard Various forms of inter-firm agreements, such as outsourcing
Lackow, Director of OI Advisory Services, has suggested that and strategic networks, allow organizations to pool technological
it is important to find a good strategic fit between organizational and knowledge resources, spread costs and risks, enhance the
goals and potential outsource partners (Casey, 2002). Kavan, efficiency of product development and expedite product
Saunders, and Nelson (1999) advised that companies keep introduction. One result of the proliferation of such linkages is
elements of their core competencies within the purview of their the requirement for unprecedented levels of trust among allied
own control, while only outsourcing peripheral activities and, in firms (McLellan, Marcolin, & Beamish, 1995). Most writers
so doing, not lose control of their most valuable resources and agree that trust has positive effects on performance (Jeffries
strategic advantages. & Reed, 2000; Jones & George, 1998; Lane, 1998; Sako, 1998).
Proposition 1: Firms that choose to outsource their However, the risk of loss through opportunistic behavior, defined
strategic core competencies will experience by Williamson (1975) as self-interested behavior with guile, on
declining performance over time. the part of one or the other partner, is also acknowledged (Deakin
& Wilkinson, 1998; Jeffries & Reed, 2000; Sheppard &
Along with these concerns, it is important to understand Sherman, 1998). The risk of loss due to opportunism may be of
the strategic intentions of provider firms and whether or not particular concern in some of the more complex linkages in
their intentions may be in conflict with the strategic intentions which firms engage in cooperative behaviors in one domain,
of the focal firms (Kavan et al., 1999). The provider firm should for example, technology transfer, and competitive behaviors in
have outsourcing as its basic mission (in other words, that firm others, such as marketing, inventory management, and so on
is in the business of providing outsourcing services). These (Gnyawali & Madhavan, 2001) or in situations in which core
provider firms can achieve increasing profitability by providing competencies have been outsourced.
services at a predictable level of demand so they can plan for
In some cases, trust is conceptualized as a singular
operational efficiencies. In addition, provider firms can achieve construct-both trust and distrust are engendered by the
greater efficiencies if they perform several steps in a value interaction of values, attitudes and affective states that result
chain process resulting in greater efficiency over time. This from repeated interactions between partners over time (Jones
allows provider firms to add value, and therefore to realize cost
& George, 1998). In contrast, Lewicki, McAllister, and Bies
savings, for both themselves and their clients. Generally, the
(1998) suggest that trust and distrust are separate, although
outsourcing firm's strategic intention is to reduce costs as a
closely linked, constructs with distinct antecedents and
primary motivation for entering into an outsourcing contract
consequences. According to this two-factor approach, trust
with a provider. The decision to use a particular provider is,
varies from low to high depending on the absence or presence
then, an important strategic decision. Such focal firms want
of positive expectations regarding another's conduct. Likewise.
flexibility to change the product, service, interface employees,
distrust varies from low to high depending on the absence or
rules, and/or quality as dictated by their customers or their needs.
presence of negative expectations regarding another's conduct.
This frequently means changes in the focal firm's demand for
Importantly, this conceptualization allows for the simultaneous
services, creating uncertainty and forecasting demand difficulties
existence of trust and distrust within an exchange relationship.
for the provider. In addition, those focal firms that outsource
only a tiny piece of the value chain, in order to retain flexibility Based on the idea that mature, on-going relationships are
and/or control, deprive the provider from becoming more multiplex (characterized by multiple experiences within different
efficient. Similarly, provider firms must decide what range of contexts, with different outcomes), Lewicki et al. (1998) suggest
activities to offer. This need to reconcile the focal firm's demand that ambivalence with respect to the trustworthiness of another
for tailored service with the provider's need to standardize is both possible and commonplace. The highest level of
requires the partners to communicate more efficiently than ever ambiguity occurs when both trust and distrust levels are high.
before (Auguste, Hao, Singer, & Wiegand, 2002). This high trust/high distrust condition is characterized by highly
segmented and bounded relationships in which risk is continually
Proposition 2: Focal firms and provider firms will benefit monitored and compliance is verified. Congruent orientations
mutually from a clear understanding of each firm s result when high and low levels of trust and distrust are crossed.
boundaries and capabilities, resulting in superior The high trust/low distrust condition is characterized by value
performance for both firms over time. congruity, a high level of interdependence, and positive
The key strategic reason any company should engage in expectations concerning joint pursuit of opportunities and new
outsourcing activities is to improve its competitive advantage initiatives. The low trust/high distrust condition is characterized
(Hitt et al., 1998). Outsourcing provides enterprises with the by managed interdependence under expectations of harmful
opportunity to purchase services, competencies, and needed and undesirable consequences. Finally, the low trust/low distrust
resources from other firms that can supply top quality at a lesser condition is characteristic of new or superficial relationships in
price than it is possible for the focal firm to provide. However, which interactional history is insufficient to develop strong trust
firms must consider the role of trust, behavioral consequences, distrust beliefs.
communication issues, and potential labor impacts before
outsourcing relationships can guarantee success.
CENTRAL BUSINESS REVIEW • VOLUME XXIII NO. 1
Importantly, given the potential for opportunism in economic Given the positive association between trust and economic
exchange, it is likely that the most commonly occurring form of performance, it is imperative that managers devote time and
trust within inter-organizational relationships falls far short of resources to trust building as well as control policy in outsourcing
complete trust. According to Jones and George (1998, p. 536), strategy. Certainly, the most important consideration in inter-
"...the most common form of trust existing in organizational firm alliances is the selection of a suitable partner. At this
settings is probably conditional trust." Similarly, Lewicki et al. initial stage, adverse selection, due to a lack of knowledge of
(1998, p. 447) believe that the high trust/high distrust condition potential partners' qualifications and reliability, may be avoided
"... emerges and is the most prevalent form as business by selecting an established partner with a good reputation when
relationships mature and interdependencies are expanded and possible. Further, careful selection processes that help ensure
elaborated between executives in teams, partnerships, and a proper fit between firms, for example, the holding of pre-bid
alliances." conferences and pre-qualification of bidders, will enhance the
Proposition 3: In mature inter-firm alliances, an likelihood that potential partners are qualified and prepared to
ambiguous trust orientation (high trust/high meet joint expectations prior to entering a contract (Garaventa
distrust) toward partners will exist more frequently & Tellefsen, 2001). As a result, expectations are likely to be
than either congruent trust orientation (low trust/ fulfilled thereby establishing a foundation for further cooperative
high distrust or high trust/low distrust). efforts.
Effective communication is a critical factor of trust
The recognition that distrust plays a significant role in the generation. Whitener, Brodt, Korsgaard, and Werner (1998)
management of risk in inter-firm agreements, in part, provides report that communication has a positive influence on perceptions
a rationale for the provision of control mechanisms in such of trust through openness, the provision of accurate information,
relationships. Certainly, those involved in relationships and the provision of explanations for decisions. Effective inter-
characterized by high distrust levels will perceive a greater need firm communication serves to reduce information asymmetry
for control than those involved in more benign alliances. (Das & Teng, 1998; Jeffries & Reed, 2000; Lane, 1998) as
Further, because trust levels and control levels have similar well as enhance perceptions of the social aspects of
effects on confidence, they are often viewed, to some extent, organizational justice. The social aspects of procedural justice,
as substitutes for one another. Thus, a high level of control can referred to as informational justice (Greenberg, 1993) are
compensate for low trust or distrust whereas a high level of nearly identical to the trust building aspects of communication.
trust can reduce the need for control. For example, trust is Informational justice involves the provision of information and
proposed to reduce the need for monitoring and highly detailed explanations to another for actions and decisions that the other
performance contracts and, through its positive effect on individual may not be privy to or able to observe.
communication, decreases transaction costs associated with Finally, performance based contracts (that specify end
information asymmetry (Jeffries & Reed, 2000; Lane, 1998). results) are more consistent with trust building than behavior
By precluding opportunism, Sako (1998) notes that inter- based contracts (that stipulate behaviors and work procedures).
organizational trust may reduce transaction costs by serving as Contracts that specify outcomes rather than processes provide
a substitute for governance mechanisms or as an informal, social the flexibility required for trust building and inter-firm adaptation
governance mechanism in itself. (Das & Teng, 1998). Importantly, as noted by Jones and George
Appropriate structural controls (e.g., rules and procedures (1998), when procedures can be prescribed in advance, they
for monitoring and reporting, contracts that stipulate performance can be imitated, and thus are not likely to provide competitive
requirements, stated penalties for non-compliance, and so on), advantage. Only by providing the trustee with the latitude to
provide the mechanism that creates a sense of control for both develop economies of scale, innovative processes, or merely
parties and also reduces uncertainty through the mutual planning adjust existing processes as necessary, can the partnership truly
required to establish such criteria. The structure that results add competitive value (Kavan et al., 1999).
from controls is particularly important in new relationships, or
in the low trust conditions of Lewicki et al.'s model, in which Behavioral Consequences of Outsourcing
participants lack direct knowledge of each other's Outsourcing is, at its core, a major organizational change
trustworthiness and intentions (McKnight, Cummings, & that has important impacts on the human resources of the
Chervany, 1998). organization. As Gilley and Rasheed (2000) asserted, outsourcing
Proposition 4a: In mature inter-firm alliances, control is a decision that can cause a ripple effect throughout the
level as well as trust level will predict confidence in organization. Mclvor and McHugh (2002) noted that companies
partner cooperation. often fail to understand these organizational changes implications
that may lead to failure of the outsourcing process and ultimately
Proposition 4b: Control level will be a better predictor to a backlash against outsourcing. Outsourcing requires a new
of confidence in partner cooperation in new inter- style of leadership with different capabilities (Useem & Harder,
firm alliances than in mature inter-firm alliances. 2000). It also has implications for employees and their continued
employment with the organization. Additionally, the outsourcing
process is impacted by the organizational culture, including both
internal acceptance of the outsourcing and the alignment of the
cultures of the focal and contracting firms. These behavioral
consequences of outsourcing are discussed below.
UNIVERSITY OF CENTRAL OKLAHOMA • SUMMER 2004 7
Leadership Issues Transferred to supplier company. Depending on the type
One behavioral issue to address when undertaking of outsourcing arrangement, those employees who transfer to
outsourcing initiatives is leadership style. Useem & Harder the new employer may find themselves to be a contingent or
(2000) found that participants in their surveys and interviews contract employee. The contingent workforce is growing in
indicated that although day-to-day management tasks may be part because of the trend toward outsourcing. Hitt et al. (1998)
streamlined through outsourcing, it leads to a more demanding caution organizations not to overuse contingency workers
leadership environment. They asserted that outsourcing requires because consequences might include lower employee morale,
leading laterally rather than downward. According to Useem motivation, commitment, and productivity. They go on to state,
and Harder, managers employed in organizations that utilize "contingency workers, particularly in conjunction with more
outsourcing arrangements, must focus on negotiating results, permanent employees, must be managed in a delicate and
not issuing orders. They identified four capabilities that are sensitive manner" (Hitt et al., 1998, p. 29). Kavan et al. (1999)
necessary to be able to lead laterally: strategic thinking, deal also noted that contingent employees might not add value to the
making, partnership governing, and managing change. strategic functions being performed by the provider because
According to these researchers, a combination of these they lack familiarity with the organization's systems. Kavan et
capabilities is crucial for leading laterally. Additionally, many al. use transaction cost theory to analyze the role of contingent
respondents indicated they would pay a premium for managers employees and state that the closer the relationship comes to
who possessed the capabilities that were identified as necessary the market end of the continuum, the relationship has less
for leading laterally. commitment, involvement, good faith, and loyalty. Pearce (1993)
Proposition 5: Leaders who focus on strategic thinking, examined the psychological involvement of contingent workers.
deal making, partnership governing, and managing She found that contingent workers were engaged in more extra
change will have more successful outsourcing role behaviors (counter to the hypothesized direction) and that
arrangements. the levels of organizational commitment were not significantly
different between employees and the contingent workers. Hitt
Employee Impacts et al. (1998) conclude that using contingent workers and
Embleton and Wright (1998) noted that outsourcing affects outsourcing may create static, not dynamic, flexibility. They
existing employees in one of three ways. The employees may state that since the organization has fewer employees and
(1) leave the firm, (2) be transferred to the supplier company, activities, the firm may be able to act or react faster, but may
or (3) remain with the existing organization. Each of these options not possess the capabilities to change in the way required.
has potential consequences. Organizations using significant numbers of contingent employees
Leave the firm. Although an analysis of the cost of may reduce their knowledge base and skill sets, which in turn,
employees leaving the firm is not equivalent to an analysis of may make them less competitive, defeating the purpose of
turnover costs because there are no recruitment, selection, and outsourcing.
retraining costs, there are still intangible costs associated with Proposition 7: Employees who become contingent
losing employees. When employees leave an organization, their employees due to outsourcing will have lower levels
knowledge and skills, which have been developed over perhaps of morale, motivation, commitment, and productivity.
years with the organization, also leave the organization (Lever,
1997). Stayers. Due to organizational interdependence, the effect
Employees may leave the organization because their jobs of outsourcing is not confined to those individuals impacted
were eliminated due to outsourcing or the uncertainty of the directly, but is also felt by those who remain behind (Garaventa
outsourcing may drive some employees to look for other & Tellefsen, 2001). Much of the outsourcing literature cites
employment. Embleton and Wright (1998) listed as a lower morale and uncertainty as results of outsourcing
disadvantage of outsourcing, staff degradation, in which talented (Beigbeder, 2000; Embleton & Wright, 1998; Lever, 1997;
and marketable employees may seek opportunities elsewhere. Longnecker & Stephenson, 1997; Wallace, 1998). As noted
Effective communication plays a key role in the prevention of earlier, effective communication about why the outsourcing is
losing employees the organization wants to retain (Beigbeder, being implemented and the extent to which layoffs will occur
2000; Burton, 2000; Longnecker & Stephenson, 1997; Wallace, will help reduce the uncertainty.
1998). Beigbeder (2000) suggests that a well-communicated Longnecker and Stephenson (1997) also noted that
plan reporting objective criteria for layoffs can help control organizations must ensure that the stayers have the necessary
collateral damage such as wanted employees leaving because resources and skills for their new roles. Also, as in many
of the uncertain climate. Communication aspects of outsourcing downsizing situations, organizations must guard against having
are discussed further in subsequent sections of the paper. employees experience role overload. Others work longer hours
Companies should have a fair and helpful process for to make themselves more "indispensable" to their supervisors
employees laid off because of outsourcing. How those in order to survive the next layoffs. The resulting work-to-
employees are treated during the layoff process (e.g., home imbalance may lead to marital discord and family
perceptions of procedural justice) will affect the morale of the dysfunctions (Cooper, 1999).
people who continue to work for the organization, the stayers In her study of contingent workers, Pearce (1993) also
(Embleton & Wright, 1998). examined whether trust levels of permanent employees differed
Proposition 6: Staff degradation will be lower if depending on whether they had contingent co-workers. She
employees perceive the outsourcing process as fair. found that trust levels were reduced when contingent co-workers
CENTRAL BUSINESS REVIEW • VOLUME XXIII NO. 2
were present. Pearce suggested the lower level of trust was a Attention must also be paid to the current organizational
result of employees realizing that the organization is willing to culture of the focal organization to determine if it is conducive
take advantage of workers and the awareness that they are in to effective outsourcing. For example, if the current
a market, not a familial relationship. It might be expected that organizational culture does not facilitate partnering across
this awareness would be heightened if the employees witnessed internal functions, it will be very difficult to develop partnering
the outsourcing of their co-workers, especially if those former relationships with the contracting company (Mclvor & McHugh,
co-workers are now employed as contingent workers. As 2002). The roles of middle and lower level managers in
Cooper (1999) noted, there is a change in the psychological effecting a successful outsourcing operation is crucial and
contract at work with the advent of virtual organizations and requires a culture accepting of employee involvement and
the trend toward increasing use of contingent workers. participation. Successful outsourcing requires a culture that
Employees notice this changing psychological contract, even if encourages and values collaboration (Mclvor & McHugh, 2002).
they are the stayers or survivors of the outsourcing actions. Proposition 10: Organizations that have an
Along with decreased trust, stayers may also have increased organizational culture that is conducive to
alienation. Zeffane and MacDonald (1993) found strong collaboration will be more successful in their
linkages between organizational change, uncertainty, and outsourcing efforts.
alienation. Robinson (1996) found that workers who
experienced a breach in the psychological contract were likely While undertaking strategic initiatives such as outsourcing,
to lower their organizational contributions. Additionally, positive it is important that the behavioral aspects not be overlooked.
gestures such as promotions or pay raises were not able to Mclvor and McHugh (2002) asserted that the successful
raise employee performance after the psychological contract implementation of outsourcing requires a multi-functional
breach. organization change strategy. Further, individual employees are
The impact on job satisfaction is contingent on several often ignored in these major changes and yet they are vital to
factors. The primary factors are how well management the success of the project.
communicates its intentions, involves employees, keeps them
informed, explains the business need, and builds and maintains Communication
employee trust (Embleton, 1998: Wallace, 1998). Although job As has been noted previously, communication plays a crucial
satisfaction usually declines, it can be mitigated by avoiding role in the outsourcing process. Both internal and external
several mistakes (Embleton, 1998; Wallace, 1998) or in rare communications are vital to the success of the outsourcing
cases improved (Krackhardt & Porter, 1985). arrangement. Internally, open communication is important to
Proposition 8: Employees' perceptions of the fairness of allay employees' fears of impending layoffs and may result in
the outsourcing process will impact the morale and the lessening of staff degradation (Beigbeder, 2000; Burton,
job satisfaction of those employees who stay with 2000;Longnecker&Stephenson, 1997; Wallace, 1998). Open
the company. communication means that there is adequate information
dissemination in formal channels. Without adequate information
Organizational Culture through formal channels, communication will consist of more
Culture and values are an integral part of an organization, grapevine information, which can be false or incomplete (Guffey,
which are often taken for granted until a misunderstanding or 2000).
conflict occurs. In outsourcing, understanding the formal Proposition 11: The greater the level of formal
structure of the other company alone is not enough; it is crucial communication, the lower the level of
to understand the subtle values and norms as well. For the misinformation regarding outsourcing.
focal firm, it is important that it has knowledge of its own
organizational culture and the skills to effectively communicate Externally, communication is very important in managing
such to the outsourcing partner. the relationship with the outsourcing partner. Building and
Organizational culture impacts the outsourcing process in maintaining a trusting partnership have been emphasized in an
two ways. First, it is important to the successful implementation outsourcing process (Valazza & Wada, 2001; Dvorak, 2001).
of the outsourcing arrangement that the organizational cultures Klammt (2000) uses an analogy of marriage to describe the
of the focal and contracting firms be aligned. The cultures do supplier and client relationship in which there are stages of
not have to be identical, but they do need to be able to work "the courtship (prequel), the engagement (negotiations), the
together. Highly discordant cultures may have difficulty wedding (award), and the honeymoon (transition)" (p. 18). As
achieving the alignment necessary to work well together. For in a marriage, communication and mutual trust become critical
example, it is helpful to the outsourcing process if both components in building a successful partnership. Good
communication in the beginning is especially crucial in a
companies have a culture that encourages joint problem solving
successful transfer, but it can easily be overlooked (Vallaza &
and decision making (Mclvor & McHugh, 2002).
Wada, 2001). Unclear communication, unrealistic expectations,
Proposition 9: The greater the alignment of the and undefined goals are the potholes in the outsourcing process,
organizational culture of the focal and contracting and by careful planning, difficulties can be minimized and
organization, the greater the likelihood of success conflicts can be prevented (Baltezor, Crawford, & Weir, 2001).
of the outsourcing arrangement.
UNIVERSITY OF CENTRAL OKLAHOMA • SUMMER 2004
All the details of the negotiation should be identified and UAW workers went on strike against an engine factory in
reviewed by all parties involved. Baltezor, Crawford, & Weir Detroit that forced Chrysler to shut down four plants, thus
(2001) identify unrealistic or unspoken expectations as one of affecting 25,000 workers. The issue resulted over Chrysler's
the pitfalls that the contract organization and the focal company desire to move its drive train production outside the plant,
can encounter. Clarifying expectations, sometimes hidden or eliminating 150-300 union jobs. The strike lasted a month with
unrealistic, from the beginning is imperative in creating a the agreement that Chrysler would maintain the union jobs and
productive partnership. When the client's expectations are clear, could outsource jobs through 1999 (Overman, 1997).
the contract organization can determine what it can and cannot Another example is the Teamsters' delivery drivers five-
deliver. It is crucial to identify a project manager or a contact week strike against Giant Food. The strike ended with a
person from both sides and to determine a route of compromise that offered the veterans lifetime security and
communication, which should include ways to disseminate allowed Giant Food to work with outside truckers (Overman,
information to the other members of the team (Baltezor et al., 1997). The movement to outside work also affects government
2001). entities as they seek to lower costs. The public sector unions
Proposition 12: Companies with predetermined also see outsourcing as a challenge and a threat to their longtime
communication plans with their outsourcing partner security (Foster & Peter, 1998).
will have more successful outsourcing results. Proposition 14: The level of labor conflict increases as
Effective communication is even more crucial in global the use of outsourcing increases.
outsourcing. One of the major challenges is the cultural and Unionized firms face additional obstacles to outsourcing
language barrier. If the official language of the outsourcing than do nonunionized firms. Unionized firms must be aware
country is not English, the cultural difference becomes a greater of the current bargaining agreements under which they are
challenge; and that is the reason why outsourcing in China is working and any restraints that are placed on outsourcing.
considered to be more difficult than outsourcing in India (Chen, Additionally, these firms must be aware of the potential labor
Tu & Lin, 2002). Cultural differences found to be especially conflicts that might arise because of outsourcing efforts.
difficult in developing countries include employer-employee
relationships, employee evaluation and job assignment based Summary and Issues for Future Research
on seniority and personal relationships, and culturally and There are credible reasons for seeking outsourcing
politically sensitive relationships between local employees and opportunities, such as cost reduction and moving non-core
foreign employer (Chen et al., 2002). activities out of house. However, the issues raised in this paper
Proposition 13: Outsourcing across global lines should be considered by strategic decision makers when making
increases the number of problems experienced in outsourcing decisions. Although the strategic considerations of
the implementation of outsourcing. whether to outsource and what to outsource are important
overarching considerations, managers must consider the role
Open communication plays a key role in the successful
of trust, behavioral issues, the role of internal and external
implementation of outsourcing. Although some managers may
communication, and labor relations impacts.
focus exclusively on either internal or external communication,
both are vital to the success of the outsourcing arrangement. A direction for future research is to empirically test the
propositions outlined in this paper. These results will further
enhance the strategic decision makers' abilities to make better
Labor Relations Impacts of Outsourcing Decisions
outsourcing decisions. Specifically, future research needs to
One negative consequence of outsourcing is the occurrence address the long-term performance implications of outsourcing.
of labor disputes (Foster & Peter, 1998; Overman, 1997; Useem Another issue that needs to be tested is whether the outsourcing
& Harder, 2000). Flexible workforces and flexible of functional operations leads to a decline in performance,
manufacturing directly attack unions' traditional concerns about regardless of the centrality to the operations or core
job security and security for the union itself. The National Labor competencies of the firm.
Relations Act and the Railway Labor Act protect union
involvement. These laws require both parties to discuss topics Structural and operational considerations must be
affecting wages, hours, and working conditions. Negotiations manageable by all firms involved in the partnerships. The focal
can include any of these topics plus others, may require a firm decision makers must feel assured that the provider firms
negotiating response for the other party, or could lead to an will not engage in opportunistic behaviors and that an appropriate
impasse. level of trust exists among the firms. Managers of the focal
firm and partner firms must be prepared to deal with the
Many unions vigorously defend their members' jobs from attitudes and perceptions of all employees involved and realize
being subject to outsourcing. Aunion at a steel company had a the potential for lowered morale if employees perceive any
provision added to the union contract which prohibits the injustices occurring as a result of the outsourcing relationships.
company from engaging in future outsourcing unless the Disparate organizational cultures between focal and provider
company proves that the existing labor force cannot do the firms could jeopardize the success of any outsourcing decision,
work (Useem & Harder, 2000). The United Auto Workers and clear communication processes and systems are necessary
made outsourcing a major bargaining issue in 1996 with all three prerequisites for realizing the benefits that can be gained from
U.S. auto companies. UAW's position is to fight outsourcing outsourcing. Predicting and planning for any labor disputes that
before it happens at any of its plants. On April 9, 1997, 1800 may be caused by implementing an outsourcing decision can
10 CENTRAL BUSINESS REVIEW • VOLUME XXIII NO. 2
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effects on employee co-workers. Academy of About the Authors
Management Journal, 36(5), 1082-1096. Sharon Clinebell is a Professor of Management at the
Kenneth W. Monfort College of Business at the University of
Peteraf, M. A. (1993). The cornerstones of competitive
Northern Colorado. She received her D.B.A. at Southern Illinois
advantage: A resource-based view. Strategic
University and her M.B.A. at the University of Arkansas. Her
Management Journal, 14, 179-191.
research interests include part-time employees and the impact
Phelan, M. (1998). Fiat redefines 'core competency'. of physical distance on manager/employee relationships. Her
Automotive Industries, 178(6), 71. articles have appeared in the Academy of Management
Prahalad, C. K., & Hamel, G. (1990). The core competence Executive, Journal of Management, Management
of the corporation. Harvard Business Review, 68 (3), Communication Quarterly, and the Journal of Management
79-93. Education.
E-mail: sharon.clinebell@unco.edu
Quinn, J. B. (1992). Intelligent enterprise: A knowledge
and service based paradigm for industry. New York:
Free Press. Karen L. Fowler is a Professor of Management at the
Kenneth W. Monfort College of Business at University of
Railway Labor Act. (1926). 95 Statute 681, Section 1157.
Northern Colorado. She received her Ph.D. from the University
Robinson, S. L. (1996). Trust and breach of the psychological of Nebraska-Lincoln and her M.B.A. from the University of
contract. Administrative Science Quarterly, 41, 574- Wyoming. Her research interests include crisis and emergency
599. preparedness planning, outsourcing, and mergers and
acquisitions. Her articles have appeared in the Academy of
Management Journal, Strategic Management Journal, and
Journal of Operational Research Society.
E-mail: karen. fo wler(o),unco. edu
12 CENTRAL BUSINESS REVIEW • VOLUME XXIII NO. 2
D. Lynn Hoffman is a Professor of Management at the
Kenneth W. Monfort College of Business at the University of
Northern Colorado. He received his Ph.D. from the University
of Iowa. His research interests include the Americans with
Disabilities Act and strategies for small businesses. His articles
have appeared in Journal of Small Business Strategy and
Journal of Business and Entrepreneur ship.
E-mail: lynn.hoffman(q),unco. edu
Keiko Krahnke is an Assistant Professor of Management
at the Kenneth W. Monfort College of Business at the University
of Northern Colorado. She received her Ph.D. and M.A. from
Colorado State University. Her research interests include
spirituality in the workplace, human resource management,
communication, and complexity theory. Her articles have
appeared in Journal of Organizational Change Management
and Journal of Behavioral and Applied Management.
E-mail: keiko.krahnke@unco.edu
Daniel J. Rowley is a Professor of Management at the
Kenneth W. Monfort College of Business at the University of
Northern Colorado. He received his Ph.D. from the University
of Colorado and his M.P.A. from the University of Denver. He
has published a number of books on strategic planning for higher
education and his articles have appeared in the Journal of the
International Society of Competency Based Management
and International Journal of Management.
E-mail: daniel.ro wley@.unco. edu
Mary (Terry) D. Stecher is an Assistant Professor of
Management at the Kenneth W. Monfort College of Business
at the University of Northern Colorado. She received her Ph.D.
from the University of Colorado and her M.S. from the
University of Northern Colorado. Her research interests include
procedural justice and trust in organizations. Her publications
have appeared in the Journal of Applied Psychology and the
Journal of Management Education.
E-mail: terry, stecher (giunco. edu
UNIVERSITY OF CENTRAL OKLAHOMA • SUMMER 2004 13
I
Central
Business
Review
SUMMER 2004 VOLUME XXIII NO. 2
UNIVERSITY OF
CENTRAL OKLAHOMA
COLLEGE OF BUSINESS ADMINISTRATION
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