Another issue on design outsourcing: what about the other costs?

Before leaving the question of design outsourcing altogether for this month, I wanted to mention a fascinating point made by operations management guru Charlie Barnhart in a recent Blog posting on his site. Charlie cites a report on a 2009 Apple Computer audit of its suppliers. The company reportedly found 17 types of serious violations of Apple’s policies: such things as excessive recruitment fees (a euphemism for child-buying?), under-age workers, illegal disposal of hazardous wastes, and falsified records. The audit also turned up dozens and dozens of instances of lesser violations, including consistent excessive working hours, failure to follow employee safety procedures, pay irregularities, and involuntary pregnancy testing. Apple terminated one supplier over repeat offenses.

Now granted, Apple deals in huge volumes of relatively inexpensive (to them, they have never been interested in passing their economies of scale along to their customers) consumer products. And so their supply chain reaches deep into the corners of so-called low-labor-cost markets. But all these violations were found across a universe of only 102 suppliers. So as a statistical guess, it’s probable that just about everyone in the audit was breaking at least a few rules for which Apple could conceivably be held responsible, either under US law or local laws in the regions in question.

Charlie’s point in mentioning the survey is that the fully-recognized cost of outsourcing includes more than just the tangibles of labor costs, administration, transport, and inventory. You have to make allowances for such things as audits, and for the risks involved to your organization should your contractor entangle you in legal or political issues. Those costs are very real, but much harder to quantify.

Apple’s situation involves primarily manufacturing, and if you conjure up a mental image of a sweatshop, you may not see any relevance to design outsourcing. But increasingly, design outsource partners are either located in developing countries outside the well-established Hsinchu, Shanghai, and Bangalore pales, or they themselves use teams that lie in remote areas. Do you really know about the recruiting, labor, and hazmat practices of your design contractors? Do you really want to?

This is not to say that there is a known problem with any design outsource vendor. But it is to say that, just as in the case of a low-cost manufacturing contractor, due diligence requires you to understand any pertinent US law with regard to your contractors, local laws at the contractor’s location to which you might become liable, and not just the contractor’s policy but their actual practices with regard to recruitment, employment, intellectual property—shall we say—acquisition, health and safety of employees and the community, and so on. The probability that this data will become as relevant to your project as, say, the way the contractor conducts design reviews is small. But the potential value at risk is large. So you have to pay attention.

Calculating an expected value for these risks, hard as they are to quantify, may tip the scales in favor of an outsource partner in a known and well-developed region of the world, even at a higher labor rate or contract price. It’s a tough call, weighing intangibles against hard cash flows. But you can’t ignore it.