Recognizing this challenge, we began to streamline our product definition, design, and development processes. Our group vice president, Bill Johnson, instituted a formal process to review key projects and programs. While solving project issues did result in improved quality and quicker time-to-market, the data gathered in this phase gave us an indication that we were facing much deeper issues. We began to see that our problems were linked to long-term dynamics such as changing customer demands and the increasing complexity of our business environment, which would require a different approach than we had used in the past.

This was the start of a long journey for our group. Our path took many turns as we met new challenges and discovered new resources along the way, uncovering deeper and deeper levels of obstacles to our business success. The process involved people with varied roles who were willing to work together to try new approaches, learn from their mistakes, and try again. Our story will hopefully offer some guidelines for others in the middle of a similar discovery process (see “The Journey: Going Deeper into Causes”).

A Systems Approach

The first phase of our journey was to address the immediate issues of customer satisfaction and quality. Customers were moving away from Digital proprietary computing environments, and were more often demanding multi-vendor “system solutions” — families of products that worked together to solve their business problems. As one key customer said, “We want to choose the best solutions regardless of who makes it. And we want everything to work together just as if it came from a single vendor.”

To meet this need, we began experimenting with a systems approach to product design and delivery, which meant paying as much attention to the relationship between products as to the products themselves. This approach caused us to focus in a more disciplined and structured manner on actual market and customer requirements, forcing us to surface our assumptions about trends in the marketplace, the industry, the technologies, the customer, and the competitive environments.

For example, we evolved a simple but powerful process called “Customer-Based Requirements Dialogue.” Rather than beginning with the question, “What product should we build?” we began by exploring our marketplace and customer environment assumptions. Only after we had acknowledged and explicitly surfaced our assumptions did we begin talking about the market requirements: the problems we were trying to solve and the opportunities we were addressing. Finally, we defined the specifications for the system and the features for each component product. We found this new process difficult because we were more used to prescribing solutions than describing the marketplace and customer environment in which the products would be used. Although these descriptions were about future states, which meant that most of them were educated guesses, this process proved to be more effective and efficient than our traditional methods.

Our systems approach also required us to work more actively across functional and hierarchical boundaries within the networks group, because it became increasingly clear that the answers we needed were located throughout the organization, not just at the top or in one area. We began to consciously open up our decision-making processes to include diagonal slices of the organization. We also made necessary job changes to meet the needs of our new approach, creating new roles such as systems technical leadership, systems business management, and systems project leadership. These changes addressed the need to manage the relationships between products, people, projects, and processes.

Focusing on the system also forced us to reevaluate our relationships with other companies. We acknowledged that if we were moving toward open solutions in response to the customer’s changing demands, then cross-company collaboration was required. An early result was that long-time competitor Apollo Computer (now Hewlett-Packard) became a new partner in the design and development of products.

From Systems Engineering to Systems Thinking

As we continued with our fledgling attempts at a “systems” approach to solving customer problems, we discovered two important books that helped bring clarity and structure to our efforts. The first was Peter Checkland’s Systems Thinking, Systems Practice, which clearly articulated our uphill struggle as we moved from “component thinking” to “systems thinking.”

Checkland writes, “Rene Descartes taught Western civilization that the thing to do with complexity was to break it up into component parts and tackle them separately…. Systems thinking, however, starts from noticing the unquestioned Cartesian assumption.., that a component part is the same when separated out as it is when part of a whole…. The Cartesian legacy provides us with an unnoticed frame-work — a set of intellectual pigeon-holes — into which we place the new knowledge we acquire. Systems thinking does not drop into its pigeon-hole, it changes the shape and structure of the whole framework of pigeon-holes. This questioning of previously unnoticed assumptions can be painful, and many people resist it energetically.”

With this new understanding, we renamed what we had been calling “Systems Engineering” and began calling it “Systems Thinking.” This new term reflected our recognition that we had to apply a systems thinking approach to all aspects of the way we did business, not just engineering. As a result, we developed a brief, 20-question guideline for people to use to begin applying systems thinking to any problem or situation they were facing. We also developed a systems thinking work-shop to meet requests for this type of work in other parts of the company. One such seminar was delivered regularly at a management development program, which reached hundreds of middle managers and technical leaders worldwide.

Then, in late 1990, we discovered Peter Senge’s The Fifth Discipline: The Art and Practice of the Learning Organization. This wonderful book made sense out of the experiences of the preceding three years, and gave us a clear set of constructs, language, and guidelines to bolster our efforts. Now we knew we were not in this alone — there was plenty of help and knowledge available that was based on a vast body of research and practice.

Servant Leadership and Decision Making

As we improved our ability to deliver at the product level, it became clearer that we needed to gain clarity at the larger “umbrella” level of shared vision. In order to do this, we needed to explore our individual “mental models”— our internal assumptions and beliefs about the way the world works — and come to some shared understanding of the larger issues we were facing. Therefore, in the early spring of 1991, we began looking for ways to surface, examine, and systematically break through our mental models of the marketplace and industry trends.

We began with a process called “FutureMapping,” a scenario planning methodology brought to us by North-east Consulting Resources Inc. of Boston. Through this process, we developed scenarios that described industry, competitive, and product trends from the present through 1997. Over the course of the next 15 months, we held one-day working sessions that engaged over 350 key people across the group in a modified version of this process. The key benefit was that we were forced to explicitly describe our industry, market, competitive, and customer “systems,” and to identify and monitor those five or six critical assumptions that represented “forks in the road”—decision points where we had to make tough choices.

As we did this work, it became clearer that the most difficult points for us in all of these new systems processes were the points of decision making. Working with teams that crossed functions, groups, hierarchies, and companies, it was often difficult to establish clear leadership roles and points of decision-making accountability. In addition, every manager, engineer, project leader, and technical leader had to balance the need for rapid execution and delivery against the desire to stay open to new information. It was all too easy to flip to one extreme or the other — to go for consensus and remain in dialogue forever, or to make quick decisions in an authoritarian manner. Our core challenge was (and still is) to manage this balance, and learn how to live productively within this dilemma.

To address the challenge of making decisions among diverse groups of people, we embarked upon some experiments with new leadership styles. With help from Robert Greenleaf’s book, Servant Leadership, we began moving toward developing “servant leaders”— or as Peter Senge puts it, leaders whose job is not so much to have the answer, but to instill confidence in those around them so that together they will come up with the answer at the time it is needed. We received some very positive feedback from this work — leaders told us they now found it easier to make decisions and that product development moved forward more quickly. But we also learned that the decisions were only as good as the information that was placed “on the table.”

Facing Undiscussables

It seemed that the next challenge we faced was how to bring more data to the table — including those issues that people did not feel comfortable raising. So, we embarked on a series of carefully designed and facilitated dialogues between senior management and several hundred engineers, technical writers, project leaders, and supervisors to discuss the obstacles we faced in quality and time-to-market. These meetings began to surface some of the difficult issues people found hard to raise because they felt “unsafe.” Harvard Professor Chris Argyris calls these unsurfaced issues the “undiscussables” that prevent real learning in organizations. Using the framework presented in his book Overcoming Organizational Defenses, we began to acknowledge the presence of “undiscussables,” but were left with the dilemma of how to raise and resolve them productively.

Change and Upheaval

At the same time that we were facing the challenge of how to deal effectively with “undiscussables,” a major change took place in the company as a whole. In October of 1992, Digital founder and CEO Ken Olsen was succeeded by Robert Palmer. This transition heralded two years of massive downsizing and almost continuous restructuring within the company. At that point, Digital as a whole was losing approximately $3 million per day, and had absorbed more than $3 billion in losses over the previous three years.

The immediate impact on NaC was that it merged with other networking entities under a new vice president, and continued to be reorganized and reshaped into many forms. As a result, people felt very insecure, morale plummeted, and attrition rose. It was simply not the time to begin the difficult and soul-searching work of connecting at the level of integrity, honesty, and respect espoused by Chris Argyris. Although we knew how important this work was for our long-term success, we just couldn’t begin it, given the constant instability and growing state of anxiety within the group. It was challenging enough just to continue to design, develop, and deliver products and systems. So what next? As with many of the breakthroughs we had in the past, the answer was close at hand.

Bringing in the “People”

Aspect In June of 1992, I presented at a conference on organizational learning, where 1 met Sandra Seagal and David Home. Their work, Human Dynamics, offers a framework for understanding differences in the way we learn, communicate, relate, and develop as human beings. With support and funding from John Adams, now vice president and technical director of Networks Integration Software, I attended a five-day training course in Human Dynamics and became convinced that this was the missing piece that could move our work forward. Human Dynamics offered a systemic approach to the complexities and wonders of human functioning that was clear, logical, and structured, yet broad and flexible enough to encompass the infinite nuances that make us each unique human beings (for more on the Human Dynamics methodology, see “Human Dynamics: A Foundation for the Learning Organization,” May 1994).

Back in the Networks Group, we saw Human Dynamics as the technology that would enable us to rebuild the trust, safety, and empowerment we knew was desperately needed. Over the next two years, almost 500 people across the company received training in Human Dynamics. Much of this was accomplished under the auspices of the Engineering Excellence Program led by Corporate Consulting Engineer Peter Conklin. Human Dynamics was seen as a foundational technology that would enhance our ability to make the changes needed in our engineering processes. We also began to dovetail Human Dynamics with Human Systems Change, a technology from Options Consulting, Inc. (Reading, MA) that was helping us create a systemic language for the human/cultural side of change so that we could name and over-come perceived resistance.

As with the efforts of the preceding seven years, we have had some good results from our application of Human Dynamics. While it is difficult to measure them quantitatively, there are many anecdotal accounts of improved efficiency and effectiveness in interpersonal communication and team productivity. As with many new technologies, our challenge now is making this practice part of our everyday way of doing business.

Valuing the Relationships

Despite the difficulties in Digital as a whole over the seven years of this story, our portfolio of networking products has continued to be profitable. While we cannot prove a direct connection between our ongoing efforts and our continued profitability, it is clear that it was a contributing factor.

As a networking group, we have learned that relationships are equally important as products — after all, connectivity is the essence of our business. In fact, we are beginning to believe that a root cause of many of our business problems lies in the breakdown of personal relationships. Although our first inclination in business is to blame profitability problems on poorly executed strategy or a lack of management skills, we believe that the cause may well be the absence, avoidance, or breakdown of authentic connection and communication between human beings.

Peter Block puts it very well in his 1994 book Stewardship: “Money is a symptom, money is never the real issue…. An economic crisis for any organization means it is failing in its market-place. In some fundamental way it is unable to serve its customers. And if it is unable to serve its customers, it means it has failed to serve its own internal people.” We have learned that serving the most basic needs of our people — to connect, communicate, and grow in a supportive environment — does indeed produce a profitable business.

Our seven-year journey has brought us far in our ability to learn and work together in more effective ways. In some sense, we have worked “back to front.” If we were to start over again, we would without a doubt begin with the fundamental technology of Human Dynamics and proceed from there. We would then know that we were building on the most solid foundation there is—people who are aware of themselves as fully empowered human systems, learning and growing, and consciously nurturing themselves and each other in order to produce the results they most desire.

Chris Strutt holds the title of Consulting Engineer. Systems Thinking Methods, In the Network Integration Software Segment of Digital Equipment Corporation.

In a future Issue, Chris Strutt will discuss In more detail the application of Human Dynamics technology at Digital. Editorial support for this article was pro-vided by Kellie T. Wardman.

The post A Journey Through Organizational Change appeared first on The Systems Thinker.

In this way, the vertically integrated firms of yesteryear are transforming themselves into the virtually integrated supply chains of today. As such, many businesses are moving from producing all of their final products’ components and services internally to buying them from a network — or supply chain — of external suppliers. Why are so many companies taking this dramatic step? The benefits of this new business model include lower parts or service costs, lower up-front investment, and less financial risk if expected sales volumes do not materialize. But outsourcing has hidden drawbacks that may take several years to emerge. Ultimately, these “outsourcing traps” may actually increase a firm’s cost structure, reduce its products’ competitiveness, or in the worst case, lead to the emergence of new competitors.

How can businesses manage this major shift without falling into an outsourcing trap? Research shows that the design of a company’s supply chain is of decisive importance. In his book Clockspeed: Winning Industry Control in the Age of Temporary Advantage (Perseus Books, 1998), Massachusetts Institute of Technology professor Charles Fine argues that supply chain design may be a business’s most important competency, and that deciding which components to make and which to buy profoundly influences long-term corporate survival. While conducting research for Professor Fine, we discovered that the key to making wise sourcing decisions is to understand the short- and long-term trade-offs of different choices.

Although supply chains are now hot topics within Fortune 500 companies, smaller firms have long recognized their importance. For example, consider a mortgage company. As soon as a home-buyer applies for a mortgage, the mortgage company requests a customer credit report from a supplier such as Informative Research. The supplier compiles its reports from several credit databases maintained by credit repository companies such as Trans Union. At this point, the mortgage bank that will actually fund the loan (which is often separate from the mortgage company) must examine and provisionally approve the loan. In most American states, once the bank provisionally approves the loan, the mortgage company orders a property appraisal, a flood certification, and a title insurance policy, each of which is provided by a separate firm with its own supply chain. Finally, at closing, the mortgage company collects its commission and turns the loan over to the mortgage bank. Many mortgage banks in turn sell their mortgages to another investment institution.

Coordinating all of these firms to provide the end customer with a complete product is a complex process, but similar transactions occur throughout the business world. Designing a supply chain to operate as efficiently and profitably as possible is a difficult but potentially fruitful endeavor. For example, a normal mortgage company takes two to three weeks to go from application to closing. However, one mortgage company we work with has brought both the mortgage bank and appraisal functions in-house. By underwriting its own loans, conducting its own appraisals, and establishing close relationships with local builders, this company can “crash” a mortgage from application to closing in 48 hours if necessary, thus improving customer service. Mortgage companies that do not have these internal capabilities cannot equal this performance. This “simple” example illustrates the critical importance of supply chain design resulting from sourcing decisions.

Although outsourcing has been extensively examined in the academic literature, most of this work has focused on topics such as the economies of scale that it can offer. We are aware of few sources that examine outsourcing from a systems perspective, taking into account the intricate relationships, time delays, and feedback processes that relying on a vendor sets into motion. Systems thinking and system dynamics provide the perfect tools to examine the trade-offs. Companies that fail to apply this level of analysis to the decision-making process may seriously undermine their competitive position by falling into one of the outsourcing traps.

Common Outsourcing Traps

As part of our research, we developed a system dynamics simulation model that identified several circumstances in which an organization may experience short-term gains from outsourcing followed by devastating — and unexpected — long-term consequences. We call these “outsourcing traps.” Three of the more interesting traps are:

An organization may experience short-term gains followed by devastating longterm consequences. We call these “outsourcing traps.”

1. A company loses its market dominance when its supplier acquires its proprietary technology and diffuses it to its competitors.
2. A company relies too heavily on a single supplier, which weakens its ability to negotiate favorable purchase agreements.
3. A company outsources a component or service to a vendor to reduce costs, only to encounter higher expenses or reduced functionality when putting the final product together.

We examine each of these dynamics in more detail below.

Boosting — or Creating — a Competitor

One possible consequence of outsourcing is that a competitor may gain access to critical technology through a common supplier. This can occur when the supplier offers the technology for purchase or when the supplier’s engineers bring the knowledge gained from working with the original firm to projects with other companies. If a competitor then uses the information to duplicate or improve on the original product, it may erode the first company’s market position (see B1 in “The Secret’s Out” on p. 1).

The classic example of this dynamic occurred when IBM was developing its new personal computers (PCs) in the early 1980s. The company made what turned out to be a crucial decision to outsource production of the PC’s microprocessor to Intel and development of its operating system to Microsoft. Little did IBM know that by doing so, it was opening the door for direct competitors such as Compaq and Dell to purchase the two components of the PC that are most difficult to duplicate. The result is that IBM today is only the third-largest maker in an industry that it created.

General Motors and Ford may have fallen into this trap when they decided to spin off their component divisions. The two new companies, Delphi and Visteon, are busily expanding their customer base beyond their parent corporations. As they do so, the risk of another automaker gaining access to once-proprietary technology grows. GM and Ford’s knowledge of the components may also become obsolete, leaving them helpless to make any innovations in component performance.

Auto companies may be most vulnerable in the area of automotive electronics, which has become the decisive factor in advancing car comfort, safety, and performance. Toyota is avoiding this trap by bringing some of its automotive electronics back inhouse after 45 years, even though its supplier, Denso, is the world leader in cost and quality. Toyota sees electronic components as critical to automobile performance and wants to keep at least some of its technology proprietary to gain a market advantage. It has made this move just as U. S. manufacturers are divesting themselves of this same capability.

“The Secret’s Out” also shows another twist on this situation. As the supplier grows more efficient at making the component and learns more about the component’s functionality, it may become sufficiently skilled at manufacturing the entire product to become a direct competitor (B2). U. S. consumer electronics firms fell into this trap in the 1960s and 1970s when they outsourced production of televisions and other electronics to Japanese suppliers. Ultimately, as domestic suppliers failed to develop their own capabilities, they fell further and further behind their own vendors. The suppliers eventually began to sell products under their own names — including Sony, Panasonic, and Mitsubishi — driving U. S. manufacturers such as Zenith and General Electric out of business. Today’s U. S. electronics and software companies may be repeating the same mistakes, as they increasingly outsource design activities to international suppliers.

Held Hostage by a Supplier

Another common but subtle outsourcing trap occurs when a supplier holds a firm hostage. If a company — or an industry — becomes too reliant on a particular vendor or set of vendors, power may shift to the supplier, allowing it to reap most of the profits. This dynamic is an extension of the IBM PC example above. Little did IBM know that the PC assembly industry would become primarily a commodity business, as the functionality that differentiated performance migrated from circuit boards to semiconductor chips and software.

As Professor Fine emphasizes — and as IBM presumably learned the hard way — the key is to “outsource capacity, not knowledge.” When IBM farmed out the bulk of the PC’s intellectual property to the software and semiconductor houses, it gave up a great deal of power in the supply chain. Intel and Microsoft could sell to any number of circuit-board manufacturers that could readily duplicate IBM’s design, but IBM could purchase Intel-compatible processors only from Intel and Windows-compatible operating systems only from Microsoft. This virtual monopoly enabled Intel and Microsoft to capture the bulk of the profits in the supply chain.

IBM tried to buck this trend by developing OS/2, its own operating system, in the late 1980s. It was arguably a better operating system than Windows. However, customers would not buy it because most software applications available at the time functioned only on Windows. Furthermore, because Windows had many more users than OS/2, Windows customers could more easily trade documents or software with other users than could OS/2 customers. In the end, the OS/2 system did not offer enough new features to convince users to switch. Because of the difficulties in competing with Microsoft and Intel, IBM and many other PC firms are instead trying to expand beyond the unprofitable PC business by moving into the maintenance and technical support of PCs, which offers more comfortable profit margins. Others are outsourcing as much of their production as possible to Asian contract manufacturers with lower personnel costs.

Another possible adverse consequence to outsourcing is that a company may lose the ability to intelligently purchase components — and suppliers may take advantage of this ignorance and price them at a premium. An executive for a top PC manufacturer recently stated that when the company first outsourced its notebook computer manufacturing, it could do so efficiently. However, after three years, the technology had changed sufficiently that internal people no longer knew enough about the product to determine whether a contract bid was competitive — especially because they suspected their vendors of engaging in price collusion and price gouging. The suppliers had the PC company in a difficult position, because they knew that the firm could no longer make the product themselves and that they had even lost the ability to determine the cost of the products they were buying.

As shown in “Paying the Ransom,” outsourcing initially decreases the cost to purchase the product (R3). As the supplier gains leverage and the firm loses it ability to determine the component’s cost, the supplier may eventually boost the price above what it would have cost the original company to produce if it had not outsourced it in the first place (B4).

The danger of falling into this trap is especially acute for companies that outsource a component to one supplier for a long period of time. Lack of expertise within the original company about creating the component leads to increased in-house manufacturing costs, which makes outsourcing even more attractive (R5). This “Success to the Successful” dynamic can prove costly if the firm ever desires to make the part again. As time passes and the knowledge of how to make the component diminishes, it can become prohibitively expensive to reverse the outsourcing decision. If the firm determines in the future that this component is vital to the performance of the product, it may need to invest heavily to bring the knowledge back in-house. However, this penalty may be necessary to regain some bargaining leverage with suppliers.

Reassembling Humpty Dumpty?

A firm also needs to know enough about its components to effectively integrate them into a single coherent product. As stated earlier, firms commonly choose to outsource because they can purchase a component from a supplier for much less than they can make it themselves. However, outsourcing may weaken more than just a firm’s ability to make and price a component; it may damage its ability to integrate multiple components into a final product.

Industry experts believe that one of the reasons Toyota decided to bring production of its electronic components back in-house was so that it could better integrate those components into a coherent whole. Forty years ago, automobile electronics were confined primarily to radio, lighting, and starter systems. Understanding electronics was not essential to automotive design. However, electrical systems control nearly every aspect of modern cars — from engine responsiveness to suspension behavior. Without understanding the intricacies of automotive electronics, it is difficult for manufacturers to design and produce cars that will meet customers’ expectations of automotive performance and comfort.

In another example, SAP, a German provider of enterprise-wide integrated software packages, experienced serious implementation problems with many of its North American clients. These software packages, often known as enterprise resource planning programs (ERPs), integrate all the information processing activities in a firm, from purchasing and manufacturing to order fulfillment and accounting. SAP ultimately traced its difficulties to its outsourcing of implementation to third-party consultants. Because SAP did not participate in the implementation process directly, the company did not gain knowledge to feed back into product improvements. Many of these problems have lessened since SAP began to join its alliance partners in actual implementation projects.

Manufacturing a component or performing a service can thus give a firm a decisive edge in knowing how to integrate it effectively into the final product (for more on this topic, see E. G. Anderson and G. G. Parker (2000), “Learning, Product Integration, and the Dynamics of the Make/Buy Decision,” University of Texas McCombs School of Management Working Paper, available from the author). Many of Microsoft’s detractors claim that the software giant uses its in-depth knowledge of the Windows operating system to give it an edge over its competitors in designing the features of its applications software. If this is true, then splitting Microsoft into an operating systems company and an applications software company may have a hidden cost to the consumer. The new applications company may become less familiar with Windows as the operating system changes over time and former Microsoft employees leave, leading it to design less effective products.

The third trap can lead to a possibly fatal balancing loop (see “All the King’s Men . . .”). As a company’s knowledge of its products’ components diminishes, integrating those components to provide a high-quality product or service can become prohibitively expensive (B6). Because the total product cost is the sum of the cost to make or buy components plus the cost to integrate them into the final product, any benefit received from cheaper components may be eliminated by increased integration costs.

Overcoming Outsourcing Traps

How does a firm overcome these outsourcing traps? One way is to avoid outsourcing altogether. This approach may be necessary for firms concerned about the leakage of proprietary knowledge through a supplier. If the company still wants to pursue outsourcing, it may need to have vendors sign binding nondisclosure agreements. However, even the best of these will only slow, not stop, the diffusion of knowledge. Companies cannot prevent suppliers from transferring personnel to projects for different clients. And, even if transfers could be stopped, as long as the supplier is selling to more than one customer, some information leakage will necessarily occur.

On the other hand, complete insourcing may not be the right solution. Companies that make components in-house may avoid the supplier hostage and systems-integration traps, but they must assume all the costs of producing the component or service. So, are there ways to obtain both the low risks and low integration costs of insourcing and the low component costs of outsourcing? We have found that there are (see, “Avoiding Outsourcing Traps” on p. 5). In many instances, by making just a small percentage of the components (or one of a number of similar components) in-house, a firm can maintain adequate knowledge to control many outsourcing risks and integration penalties while still reducing the average cost to make or buy those components. Toyota has pursued this strategy in its relationship with Denso. The automaker knows that it cannot produce electronics control systems more cheaply than its supplier, so it lets Denso produce most of the components. However, by designing and manufacturing others, Toyota can gain enough knowledge to utilize the full potential of its electronics control systems when designing new automobiles. This approach also helps prevent Denso from holding the company hostage.

Businesses can pursue a similar strategy when outsourcing services. Franchisers that also maintain company-owned stores are classic examples of partial outsourcing. For example, in 1988, Dunkin’ Donuts operated only 2% of its 1500 locations itself. However, it specifically used its company-operated sites to pilot all new distribution and marketing programs before asking the franchisees to adopt them.

The success of the partial outsourcing strategy depends on a number of variables, including economies of scale, the pace of technological change, and the modularity of components. But most important are the fixed costs associated with the component or service. If both the firm and its suppliers incur high fixed costs, then pursuing this partial outsourcing strategy may not be feasible. For example, silicon wafer fabs, which make semiconductor chips, cost several billion dollars to build and are unsuitable for low-volume production. Because of such huge capital requirements, partial outsourcing is unlikely to be cost-effective in this industry. On the other hand, in the software design industry, the majority of fixed costs—such as providing workers with high-end computers and Internet access—are based on the number of programmers employed. Hence, maintaining a small fraction of programming activities in-house is unlikely to be prohibitively expensive.

There are other possible solutions to the outsourcing dilemma as well. For example, a firm can lower its integration costs by hiring and training people with certain specific systems-integration skills, such as systems engineering. If employees carefully design a product so that its component interfaces are well defined and well understood, then the organization can avoid many thorny integration problems. For example, products that are designed to use “snap-in” components are usually much easier to assemble into a final product than those designed with parts that must be screwed into place. HewlettPackard has pursued this approach in tandem with increased outsourcing over the past five years.

Avoiding the IBM PC’s Fate

In this article, we have looked at just a few of the difficulties that can result from a decision to outsource. The outsourcing traps highlight how a seemingly simple decision to have a vendor produce a component or service can have devastating effects on a company’s future well-being. Using system dynamics, we can look beyond the short-term benefits achieved by outsourcing and analyze the long-term consequences, including what effects these decisions may have on future economic and market positions. We can be almost certain that IBM’s management did not envision the future that it created when it chose to farm out its microprocessor to Intel and its operating system to Microsoft. Perhaps IBM’s fate in the personal computing market and the structure of the entire industry would have been different if the company had used the tools that system dynamics and systems thinking offer to anticipate the potential pitfalls— and promise—that supply chain design can offer.

Edward G. Anderson Jr., Ph. D., (Edward. Anderson@bus.utexas.edu) is an assistant professor of management at the University of Texas McCombs School of Business. His research focuses on employing systems thinking and system dynamics in outsourcing and other knowledge management issues. Mary Ann Anderson (CABS@texas.net) is a principal consultant with the Computer Aided Business Strategies Group in Austin, Texas. The firm provides strategic solutions to businesses utilizing system dynamics.

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