Evaluation of backsourcing efficiency using the discounting cash flows method

Innovations management

This article aims to determine the effectiveness of termination of outsourcing, using the discounted cash flows method that, unlike simple comparisons of cost, allows to take into account the time factor and one-time investment costs which could be quite considerable. The actual process of construction or reconstruction of own production may take a lot of time, so the efficiency of backsourcing is determined by using the time factor.   The article examines an example of using the discounted cash flows method for the economic evaluation of the effectiveness of backsourcing, including the simulation of different scenarios of project development and the analysis of sensitivity to price changes. The article calculates the risks of price changes on the NPV of the project using sensitivity analysis. The limiting criteria for the ratio between the cost of outsourcing services within the current contract and the manufacturing costs or the costs of a different outsorcer have been determined for each scenario. This way the company can calculate the efficiency of backsourcing when deciding to terminate the outsourcing contract even with the inevitable costs that include possible penalties for early termination of the outsourcing agreement and investment costs for the reconstruction of own production.  The article gives well-known examples of global practices of early termination of the outsourcing agreement with the payment of huge penalties for early termination and a significant amount of investment in the rehabilitation of the company’s own business. The calculations can be used in Russian practice for economic substantiation of early termination of the outsourcing agreement.