In Project Procurement Management, the “make or buy” decision is a critical process that involves evaluating whether to produce certain project components (goods or services) in-house (make) or to acquire them from external suppliers or vendors (buy). This decision is based on various factors, including cost, expertise, time constraints, and risks. Project managers often use certain formulas or calculations to assess the most economically and strategically viable option. Here are the key formulas used in the “make or buy” decision process:
1. **Cost Comparison Formula**:
- Cost of Making (COM): Calculate the total cost of producing the item in-house.
- Cost of Buying (COB): Calculate the total cost of procuring the item from an external vendor.
**Formula**: If COM < COB, it is more cost-effective to "make" the item in-house. Otherwise, if COM > COB, it is more cost-effective to "buy" the item from an external supplier.
2. **Break-Even Point Formula**:
- Break-Even Quantity (BEQ): Determine the quantity at which the costs of "making" and "buying" become equal.
**Formula**: BEQ = Fixed Costs / (Cost per Unit by Making - Cost per Unit by Buying)
If the quantity required exceeds the BEQ, it may be more cost-effective to "make" in-house. If the quantity needed is below the BEQ, it may be more cost-effective to "buy" from an external supplier.
3. **Opportunity Cost Formula**:
- Opportunity Cost (OC): Consider any potential benefits or advantages lost by choosing one option over the other.
**Formula**: Opportunity Cost = Benefit of the Chosen Option - Benefit of the Foregone Option
If the opportunity cost is higher for "making" in-house, it may be more advantageous to "buy" the item from an external supplier.
4. **Qualitative Factors Assessment**:
In addition to the quantitative calculations, it's essential to consider qualitative factors like expertise, capacity, quality control, intellectual property, and strategic alignment with the core business. Assigning scores or weightage to these factors and conducting a comparative analysis can help in making an informed decision.
It's important to note that these formulas and assessments are not strict rules but rather tools to aid decision-making. In practice, the "make or buy" decision might involve a combination of financial analysis, risk assessment, and strategic considerations. Project managers, along with relevant stakeholders, need to thoroughly evaluate all relevant factors before making a final decision.