Virtual Companies, Virtual Profits

The primary reason for operating a for-profit enterprise is profit, which is defined as the difference between a product's manufacturing cost and its selling price. Therefore, at least in theory, reducing product costs generates additional profit-and generating profit is a good thing, isn't it? Perhaps it depends on what you do with the gain. Consider the electronics industry as a case in point. Since the costs of fabrication, parts, assembly and testing add up to claim the largest portion of total electronic product cost, it is not surprising that production was the first task to be outsourced. Generally, the results were as expected: Outsourcing lowered manufacturing costs and lifted profits.

So what happened to those profits? Were they used to fund innovation-to invent the next big thing? Unquestionably, there was a lot of money out there in the 1990s. Clearly, it could not have all been spent on adding color displays, cameras and thousands more ring-tone options to cell phones. Neither was much of it spent on hiring, capital investment or additional dividends to shareholders. So where did it go?

It was given back to customers, in the form of reduced selling prices. The industry did this not because it wanted to, but because it had to. Granted, there was an economic downturn; but the harsh reality was that the industry had reached a point of product saturation, and there was no other alternative. Far too many companies had talked themselves into believing there was more value in pushing their brand than in pushing for something brand-new.

In what may go down as the greatest botch in history, the tech industry simply allowed itself to degrade into what economists call a commodity market, where selling price becomes the primary differentiator.

If you find this depressing, hang on. It will get worse.

Already, at a steadily increasing rate, companies have begun outsourcing not only manufacturing but also product design, purchasing, office processes, information systems, logistics, customer service, call centers and other functions. They're doing so to reduce their costs even further so they can continue to lower prices to remain competitive in the expanding yet fickle world of virtual commerce, where side-by-side feature comparisons are accomplished in keystrokes and customer interactions are reduced to electronic order numbers. It's a cutthroat, thankless environment where prices rule and free shipping clinches the deal.

So, who benefits from all this? The outsourcing companies? Given their margins, it is difficult to believe they consider the situation to be utopian. What about the low-cost workers in places like China, India and Indonesia? Aren't they better off? Sure-as long as their wages and benefits stay low, or they might find themselves on the list of yesterday's good-deal locations. Perhaps the consumers benefit. But are lower prices helpful when you've lost your job?

Maybe no one benefits. And if that's the case, then there should be someone to blame.

Why not blame management? They were the ones who chose the quick and easy returns of outsourcing vs. the tougher, high-risk path of innovation. Maybe it is time to outsource the CEO's job. All in favor, raise your hand.

Charlie Barnhart can be reached at cbarnhart@techforecasters.com.