Outsourcing decision in manufacturing supply chains considering production failure and operating costs

Outsourcing has been a very popular strategy in many industries to reduce production costs and allow companies to focus on their core competencies. Unfortunately, there are few models available in the literature that can aid management in the outsourcing decision. This paper presents a model that considers two critical characteristics relevant to the outsourcing decision-making process in manufacturing supply chains: failure costs due to not meeting the production requirements (resulting in lost orders and customers) and operating costs (including fixed costs associated with the management and control of the production stages, as well as the variable unit costs per production stage). The proposed model, motivated by the rapidly growing contract manufacturing environment in the pharmaceutical industry, determines the optimal manufacturing network consisting of in-house and Contract Manufacturers (CMs). The results demonstrate the sensitivity of the outsourcing decision to the reliability, cost of lost production and the replacement ability of the manufacturing network. Specifically, we show that when manufacturing network is unreliable parallel processing can result in lower total costs. Also, high failure costs results in redundant production and parallel processing.