HBR CASE STUDY

Consumer electronics giant USTech outsources to a Taiwanese manufacturer, which in turn farms out much of the work to its factory in China. If USTech removed the middleman, would it cut costs $$ or cut its own throat?

Eliminate the Middleman? by Ming$-$Hui Huang

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DANIEL VASCONCELLOS

reg, it$$s good to see you again,$$ Joe Lin said, extending his hand with a smile. $$It$$s been too long.$$ Greg Jamison, the chief global sourcing officer at USTech, an American consumer electronics firm, shook Joe$$s hand and returned the smile.$$It has,$$he said.$$But we$$ll make up for lost time.$$ Greg paused, waiting for Joe to greet USTech$$s new manager of Asian sourcing, Morris Chang. But Joe simply looked at Morris with a blank expression, hesitating just a moment before turning to say hello to the others who had arrived for the meeting upstairs. This was even worse than Greg had anticipated. Until recently, Morris had worked at TaiSource, USTech$$s primary product supplier, where Joe was the CEO. As a Taiwanese original design manufacturer, or ODM, TaiSource both designed and made products sold under

USTech$$s brand name, primarily for the U$.$S$.$ market. Morris had managed TaiSource$$s relationship with the U$.$S$.$ company, which was one of the Tai company$$s biggest customers. When USTech created the position of Asian sourcing manager and Morris asked about the job, his experience and talents made him an obvious hire. Greg had worried that Joe might be upset by the departure of his longtime lieutenant. But he never imagined that Joe would consider Morris to be a traitor. If the two men couldn$$t work things out, it would put a strain on USTech$$s longstanding and mutually beneficial relationship with TaiSource. As Joe chatted with Dan Rollins, USTech$$s senior vice president for marketing, about preparations for the $2008$ Olympic Games in Beijing, Greg wondered where the relationship between

HBR$$s cases, which are fictional, present common managerial dilemmas and offer concrete solutions from experts. march $2006$

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H B R C A S E S T U D Y $$ E l i m i n at e t h e M i d d l e m a n $?$

USTech and TaiSource was heading. The questions of loyalty and betrayal raised by Morris$$s move to USTech were only part of this complicated situation, he realized. Indeed, the tense encounter between Joe and Morris, in the lobby of TaiSource$$s Beijing manufacturing plant, spoke to issues at the very heart of USTech$$s corporate strategy.

The China Question Six months earlier, Greg and Dan had met with the rest of USTech$$s senior leadership team at headquarters to discuss the company$$s sourcing strategy. The CEO began by setting the context: USTech had positioned itself as a midlevel brand, offering more features than commodity producers and lower prices than higher$-$end rivals. Its goal was to capture the number three spot in the global market. But the company was losing market share, particularly to CaliTech and TexaTech, the number one and number two players, which were marketing more innovative products. And

they started doing their own sourcing in China.$$Now$,$ wait,$$Greg said.$$We should be cautious about jumping on the China bandwagon. What about the indirect costs that CaliTech and TexaTech are incurring? Have you tried to calculate those? Sure, labor is inexpensive in China, but what about dealing with government bureaucracies or resolving long$-$distance logistics breakdowns? We can$$t begin to see all the hidden costs.$$But haven$$t our years working with TaiSource given us sufficient experience to work directly with the Chinese?$$ asked the head of human resources. $$Not really,$$Greg explained.$$Yes$,$ TaiSource has moved most of its manufacturing to China. But that hasn$$t involved us$.$ In fact, we$$re getting the best of both worlds$$TaiSource$$s world$-$class research and design and its lower manufacturing costs. We$$re getting the benefits of direct sourcing in China without the hassle of coordinating it$.$

$$Sure$,$ labor is inexpensive in China, but what about dealing with government bureaucracies or resolving long$-$distance logistics breakdowns? We can$$t begin to see all the hidden costs.$$ the commodity producers were pulling down prices and squeezing USTech$$s margins. $$My question,$$ the CEO said, $$is whether rethinking our sourcing arrangements can help us regain share and solidify our position.$$ The CFO jumped in first. $$I don$$t think we can wait any longer to source directly from China,$$ he said. $$Where else do labor, electricity, taxes, and government fees account for just $5\%$ of total manufacturing costs? Our numbers are showing that CaliTech and TexaTech cut their costs by $20\%$ after

$$At what cost, though?$$ the CFO asked.$$We should go through TaiSource only if the transaction costs of going to China ourselves would exceed the production cost savings.$$ Greg sighed and flattened both palms against the table. $$Okay$,$ so why don$$t you go ahead and find out$$Cost reduction is only a secondary benefit,$$ Dan interr