Disrupting the Management Supply Chain: An Organizational Learning Model of IT Offshore Outsourcing

Abstract

Information technology (IT) offshoring is an increasingly important strategic tool for firms. Although offshoring activities have led to significant cost savings in many cases, a critical concern is that as IT work moves offshore the deep, experiential knowledge will also move offshore. This knowledge loss may leave the domestic firm with a smaller pool of candidates vying for upper-level management jobs, leading to a future disruption in the management supply chain. In this dissertation three models are developed to investigate how the offshoring of IT activities may affect the domestic firm's knowledge level and as a result the costs of IT work.In the first model the impact of critical model parameters on the offshoring costs is investigated under the assumption that the offshoring rate is fixed. Although short-lived offshoring projects may generate substantial cost savings, long-lived offshoring projects may cause a disruption in the management supply chain, resulting in substantial cost increases. Under some conditions the domestic firm may be locked into an agreement where the backshoring decision becomes economically infeasible.In the second model, the domestic firm is allowed to make the offshoring rate decision. In this case the domestic firm may "steal" learning-by-doing knowledge from the foreign firm with a very low offshoring rate when the knowledge transfer rate is assumed to be constant. This "discontinuity" in knowledge transfer results in a "bang-bang" solution for the offshoring rate. Depending on the level of the disruption in the management supply chain the domestic firm should choose either very small offshoring or full offshoring. In response, it may be in the foreign firm's interest to contract a minimum offshoring rate. The impacts of assuming the knowledge transfer rate as a proportionally increasing function of the offshoring rate is also examined. In this case the middle range offshoring rates are viable solutions for the domestic firm.In the last model, the impact of allowing the domestic firm the real option to alter the offshoring rate is examined. This flexibility provides value in the mid ranges of the disruption of the management supply chain.