Global Production, Outsourcing, and Logistics
1 Explain why production and logistics decisions are of central importance to many multinational businesses.
2 Explain how country differences, production technology, and product features all affect the choice of where to locate production activities.
3 Recognize how the role of foreign subsidiaries in production can be enhanced over time as they accumulate knowledge.
4 Identify the factors that influence a firm’s decision of whether to source supplies from within the company or from foreign suppliers.
5 Describe what is required to efficiently coordinate a globally dispersed production system.
opening case Making the Amazon Kindle
When online retailer Amazon.com invented its revolutionary e-book reader, the Kindle, the company had to decide where to have it made. Guiding the decision was an understanding that if the Kindle was going to be successful, it had to have that magic combination of low price, high functionality, high reliability, and design elegance. Over time, this has only become more important as competitors have emerged. These have included Sony with various readers, Barnes & Noble with its Nook, and most notably, Apple with its multipurpose iPad, which can function as a digital reader among other things. Amazon’s goal has been to aggressively reduce the price of the Kindle so that it both has an edge over competitors and it becomes feasible to have a couple lying around the house as a sort of digital library.
Amazon designed the Kindle in a lab in California, precisely because this is where the key R&D expertise was located. One of the Kindle’s key components, the “ink” (the tiny microcapsule beads used in its display) were designed and are made by E Ink, a company based in Cambridge, Massachusetts. Much of the rest of the value of the Kindle, however, is outsourced to manufacturing enterprises in Asia.
The market research firm iSuppli estimates that when it was introduced in 2009, the total manufacturing cost for the Kindle 2 ran about $185. The most expensive single component was the display, which cost about $60. Although the display used E Ink’s technology, there were no American firms with the expertise required to manufacture a bistable electrophoretic display that will show an image even when it is not drawing on battery power. This technology is central to the Kindle because it allows for very long battery life. Ultimately, Amazon contracted with a Taiwanese firm, Prime View International, to make the display. Prime View had considerable expertise in the manufacture of LCDs and was known as an efficient and reliable manufacturer. Estimates suggest that 40 to 50 percent of the value of the display is captured by E Ink, with the rest going to Prime View.
After the display, the next most expensive component is the wireless card that allows the Kindle to connect to Amazon’s digital bookstore through a wireless link. The card costs about $40. Novatel Wireless, a South Korean enterprise that has developed considerable expertise in making wireless chipsets for cell phone manufacturers, produces this component. The card includes a $13 chip that was designed by Qualcomm of San Diego. This, too, is manufactured in Asia. The brain of the Kindle is an $8.64 microprocessor chip designed by Texas-based Freescale Semiconductor. Freescale outsources its chip making to foundries in Taiwan and China. Another key component, the lithium polymer battery, costs about $7.50 and is manufactured in China. In sum, out of a total manufacturing cost of about $185, perhaps $40 to $50 is accounted for by activities undertaken in the United States by E Ink, Qualcomm, and Freescale, with the remainder being outsourced to manufacturers in Taiwan, China, and South Korea.
Sources: M. Muro, “Amazon’s Kindle: Symbol of American Decline?” Brookings Institute, February 25, 2010, www.brookings.edu; and G. P. Pisano and W. C. Shih, “Restoring American Competitiveness,” Harvard Business Review, July–August 2009, pp. 114–26.
As trade barriers fall and global markets develop, many firms increasingly confront a set of interrelated issues. First, where in the world should production activities be located? Should they be concentrated in a single country, or should they be dispersed around the globe, matching the type of activity with country differences in factor costs, tariff barriers, political risks, and the like to minimize costs and maximize value added? Second, what should be the long-term strategic role of foreign production sites? Should the firm abandon a foreign site if factor costs change, moving production to another more favorable location, or is there value to maintaining an operation at a given location even if underlying economic conditions change? Third, should the firm own foreign production activities, or is it better to outsource those activities to independent vendors? Fourth, how should a globally dispersed supply chain be managed, and what is the role of Internet-based information technology in the management of global logistics? Fifth, should the firm manage global logistics itself, or should it outsource the management to enterprises that specialize in this activity?
The example of the Amazon Kindle discussed in the opening case touches upon some of these issues. Like many modern products, different components of the Kindle are manufactured in different locations to produce a reliable low-cost product. In choosing who should make what components, Amazon was guided by the need to keep the cost of the device low so that it could price aggressively and preempt competitors in the digital reader market. For example, Amazon picked Prime View of Taiwan to make the display screen precisely because that company is among the best in the world at this kind of manufacturing. For Amazon to secure a competitive advantage against intense competition, it had to make the correct choices.
Strategy, Production, and Logistics
LEARNING OBJECTIVE 1
Explain why production and logistics decisions are of central importance to many multinational businesses.
Chapter 12 introduced the concept of the value chain and discussed a number of value creation activities, including production, marketing, logistics, R&D, human resources, and information systems. This chapter will focus on two of these activities—production and logistics—and attempt to clarify how they might be performed internationally to (1) lower the costs of value creation and (2) add value by better serving customer needs. We will discuss the contributions of information technology to these activities, which has become particularly important in the era of the Internet. The remaining chapters in this text will look at other value creation activities in this international context (marketing, R&D, and human resource management).