The economic benefits of outsourcing and Economic Value Added’s concern with the cost of capital make them a good strategic match. What better way to boost EVA than to take capital assets off the books completely by outsourcing? The answer is complicated, but outsourcing is often a good option for IT investments because of those cost-of-capital concerns.
“Outsourcing is a key strategic component in capital management,” says Karl Pichler, an associate at consultancy Stern Stewart, which developed EVA. “Not so much to avoid the capital charge, but more to make capital variable and to reduce overall costs? operating costs and capital costs. Looking at outsourcing as a technique to simply reduce the capital costs would be too narrow.”
Manufacturer Manitowoc recently outsourced a reverse-auction software program for raw materials procurement to FreeMarkets, a Pittsburgh-based sourcing software and service solutions provider. The company had originally considered a costlier investment in a supply chain package, so a direct EVA comparison was not possible, but the example on the right shows how their EVA analysis may have worked.
Many companies look only at the income statement side of the ledger when making evaluations like this, but an EVA analysis considers all factors, like cost of capital and annual operating costs.