Make-or-Buy Decision

Make-or-Buy Decision

A strategic analysis determining whether a company should produce a component, product, or service internally or purchase it from external suppliers, considering both quantitative cost comparisons and qualitative business factors.

For instance, an electronics manufacturer evaluating whether to produce circuit boards in-house or outsource might compare internal production costs ($45 per unit including allocated fixed costs) against supplier quotes ($42 per unit plus shipping), while also considering quality control needs, proprietary technology concerns, capacity utilization, and supply chain reliability.

The quantitative analysis compares relevant costs—only those costs that differ between alternatives should influence the decision. When considering the “make” option, only avoidable costs matter, typically including direct materials, direct labor, variable overhead, and any specific fixed costs that could be eliminated by outsourcing. Opportunity costs, including potential alternative uses of facilities and management attention, also warrant consideration. Beyond cost comparisons, effective make-or-buy decisions evaluate strategic factors: control requirements, confidentiality concerns, specialized expertise needs, capacity flexibility, vendor reliability, and long-term dependency risks. The optimal decision balances immediate financial implications with broader business objectives and risk management considerations.