1. Operational Framework for Outsourcing
A Make-vs-Buy decision occurs when a company must choose whether to manufacture a component part internally or purchase it from an outside commercial supplier.
2. Differential Financial Cost Models
To make an accurate financial comparison, isolate the internal costs that would be avoided by outsourcing against the external purchase price:
+-----------------------------------------------------+-------------------------------------------------------+

| Internal Making Costs (Avoidable)                    | External Buying Costs                                 |
+-----------------------------------------------------+-------------------------------------------------------+

| Direct Raw Materials                                | Quoted Purchase Price per Unit from Vendor            |
+-----------------------------------------------------+-------------------------------------------------------+

| Direct Production Labor                             | Outbound Freight and Receiving Inspection Fees        |
+-----------------------------------------------------+-------------------------------------------------------+

| Variable Factory Overheads                          | Specialized Procurement and Contract Management Costs |
+-----------------------------------------------------+-------------------------------------------------------+

| Specific Fixed Costs (e.g., renting custom tools)  | Less: Opportunity Cash earned by using freed space    |
+-----------------------------------------------------+-------------------------------------------------------+

Managerial Rule: General factory fixed overheads (like factory security or building insurance) will continue to exist whether you make or buy the part. These costs are irrelevant and must be left out of the comparison.
3. Strategic Risk Variables
Outsourcing is rarely a purely financial choice. Management must evaluate several non-financial risks:
  • Quality Control: The external supplier might deliver defective components, damaging your final product quality.
  • Supply Chain Reliability: Delivery delays from an outside vendor can stall your entire assembly line.
  • Intellectual Property Theft: Sharing custom designs or engineering patents with outside manufacturers increases the risk of corporate espionage.

 
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