What is a Make-or-Buy Decision?
Make or Buy Decision Definition
A make or buy decision is a dilemma that businesses face between “making” a product or service in-house or “buying” it from an external source.
The make or buy decision compares the costs and benefits from producing goods or services internally against the costs and benefits that result from subcontracting to an external provider.
It is important to note that the make or buy decision is not always just a straight price comparison where the cheapest option is chosen.
Other factors such as expertise, quality and capacity would also form part of the make or buy analysis and the decision-making process.
Make or buy decisions are often referred to as outsourcing decisions.
Make or Buy Decision Making Process
There are several factors that can influence the make or buy decision making process:
Cost
In house production should be considered if it proves more cost effective after factoring in labour, materials and overhead costs.
Alternatively, external vendors should be considered if they are able to offer the product or service at a lower cost, taking advantages of potential economies of scale.
Core Competencies and Expertise
A core competency for a business is a unique and distinctive skill or expertise that gives it a competitive advantage over rivals.
If the product or service offered aligns with the businesses core competencies, then they should keep production internally, as it gives the company a competitive advantage.
However, if the task falls outside of the core competencies of the business, external outsourcing could be considered, which will enable the company to concentrate on its strengths.
Quality
Quality is another important factor in the make or buy decision, with in-house production beneficial for businesses that have specialised expertise or unique design capabilities, ensuring precise control over quality.
On the other hand, outsourcing may be preferred if external suppliers can offer specialised skills or proficiency, which can guarantee high-quality results in areas where the company might lack expertise.
The decision is centred around balancing internal capabilities and the external expertise required to meet the desired quality standards.
Capacity and Scalability
In-house production would typically be chosen when the company has extra capacity and can easily handle the required production volume.
However, outsourcing would be preferable if scalability is essential, allowing external vendors to better manage unpredictable demand.
Risk Management
Keeping production internally gives a business direct control over the production process and risk management.
Alternatively, external vendors could be used to alleviate specific risks, like market fluctuations or technology changes, from the company’s responsibility.
Make or Buy Decision Examples
Let’s look at some real-world examples across different industries to further explain the thought process behind the make or buy decision making process:
Example 1 – Car Manufacturer
A car manufacturer is deciding whether to make or buy the engines used in their vehicles:
Make: A car manufacturer might decide to produce their vehicle engines in-house if it has the expertise, facilities, and technology to do so in a cost-effective way.
This decision would allow the business to have greater control over the design and quality of the engines.
They would also have control over the integration with the vehicle design for optimal performance.
If the engines give the business a competitive advantage, then making them in house would also protect any intellectual property (patents and prototypes for example).
Buy: Alternatively, the engines could be bought from a specialised external manufacturer, giving cost savings through economies of scale.
Outsourcing the production of the engines would allow the business to focus on core competencies such as designing the vehicles and marketing.
Using an external manufacturer could also gain access to specialised expertise and advanced technology.
Example 2 – Software Systems
A business is deciding whether to make or buy their software packages.
Make: Developing in-house would allow the software company to create a tailored solution, meeting specific business processes and needs.
They would also have full control over customisation, updates, and features, as well as easy integration with any existing systems.
Buy: Outsourcing the software development could offer cost efficiency by avoiding upfront development and maintenance expenses.
It enables quick implementation and immediate access to advanced features, with continuous support, updates, and improvements from external vendors.
Example 3 – Fast Food Chain
A fast-food chain is deciding whether to make to buy their signature burger sauce:
Make: A fast-food restaurant chain may decide to make its signature sauces and condiments in-house to maintain consistency, protect secret recipes and ensure a unique taste that sets it apart from competitors.
Buy: On the flip side, the same restaurant chain may choose to buy pre-packaged sauces and condiments from external suppliers.
This decision could work out to be more cost effective as they could just buy the finished product, without incurring costs for labour, machinery and overheads to create it themselves.
Example 4 – Training
A business is deciding whether to make or buy their staff training programs:
Make: The business might decide to develop its own in-house training programs to ensure that their staff receive industry-specific training which are tailored to address unique job-specific requirements.
Buy: However, the same business may choose to buy pre-made training packages from an external vendor, which would save the company time and money developing their own solutions.