closing caseMicrosoft-Outsourcing Xbox ProductionWhen Microsoft decided to enter the video game market withits Xbox gaming console it faced a crucial strategic decision:Should it manufacture the Xbox, or outsource manufacturingto a third party, and if so, whom? Although Microsoft is pri-marily known as a software company, it has long had a smallbut important hardware business selling computer mice, key-boards, and joysticks under the Microsoft brand name. How-ever, Xbox was different. This was not a simple computerperipheral; it was a fully functional specialized computer, withmultiple components, including microprocessors, memorychips, graphics chips, and an internal hard drive.Microsoft quickly decided that it lacked the manufactur-ing and logistics capabilities to make the Xbox itself and man-age a global supply chain. After reviewing potential suppliers,it decided to outsource assembly and significant logisticsSupply problems that might arise from a breakdown in glob-ally dispersed supply chains-as occurred after September11, 2001, and again in 2003 due to the SARS epidemic-arealso minimized by the co-location.Second, Flextronics' global presence enables the com-pany to shift production from location to location as cost anddemand conditions warrant, something that Microsoftwanted. Initially, the Xbox was produced in Hungary (for salein Europe) and Mexico (for sale in North America and Asia).Within a year, however, Flextronics shifted production fromHungary to China, where labor costs were a fraction of thosein Hungary. In 2003, it also moved Xbox production fromMexico to China, for the same reason. Today, all Xbox produc-tion is in China. Flextronics can execute production shifts veryfunctions to Flextronics, a Singapore-based contract manu-facturer. Flextronics has global sales in excess of $13 billionand more than 100,000 employees. In addition to Microsoft,customers include Dell, Ericsson Telecom AB, Hewlett-quickly-the company says within three weeks-since all ofthe relevant manufacturing data are stored in centralizedinformation systems. Thus, if China proves to be a suboptimallocation for Xbox production in the future, Flextronics canshift production elsewhere.Third, using Web-based information systems, Flextronicsand Microsoft have the ability to share information in realPackard, Siemens AG, Sony-Ericsson, and Xerox. The com-pany manufactures products for these companies in28 countries. Its largest concentration of activities is in China,where it has 35,000 employees.time with each other. Microsoft feeds information on demandconditions to Flextronics, which enables Flextronics to con-figure its own production schedules to minimize inventoryand closely match supply with demand. In addition, Microsofthas access to real-time information from Flextronics regard-ing production schedules, inventory, and product quality. Thisis crucially important, because Microsoft handles the overallmanagement of about 40 strategic suppliers for Xbox, includ-ing the manufacturers of microprocessors, graphics chips,hard drives, and flash memory (Flextronics handles the sup-ply of commodity-like inputs, such as circuit boards and plas-tic molding). The information exchange between Microsoftand Flextronics ensures that production schedules betweenMicrosoft had already contracted out the manufacture ofcomputer mice to Flextronics, so it knew something abouthow the company operated and was happy with the cost andquality of Flextronics products. In looking for a supplier,Microsoft wanted a partner that could manufacture the Xboxat a low cost, maintain very high product quality, respondquickly to shifts in demand, and share detailed information onproduction schedules, product quality, and inventory withMicrosoft on a real-time basis. Flextronics seemed to fit thebill for a number of reasons.First, Flextronics had been pursuing an "industrial park"strategy that enabled the company to tightly manage its ownsupply chain, reduce the chances of supply disruptions, andlower costs, which could then be passed on to Microsoft inthe form of lower prices for the Xbox. Flextronics' industrialall of the players in the supply chain are tightly coordinatedso that inventory is minimized, shortages are avoided, and de-mand and supply are balanced.Finally, Microsoft trusted Flextronics. Microsoft hadworked with the company for years, and there were strongpersonal relationships between employees of the two com-panies. This helped to cement the business transaction. Tofacilitate joint design, which is important for reducing manu-facturing costs, some Microsoft people are located at theFlextronics U.S. operations center in San Jose, California, andsome Flextronics people are located at Microsoft's headquar-ters in Redmond, Washington. The two companies hadworked together on product design before, and Microsoftknew that could be replicated with the Xbox. Microsoft alsopark strategy requires key suppliers to site their factoriesnext to a Flextronics assembly plant at low-cost locationsnear customers' end markets. Flextronics has large industrialparks in Brazil, China, Hungary, Mexico, and Poland. In addi-tion to a Flextronics factory, each park contains the manufac-turers of printed circuit boards, components, cables, plastics,and metal parts needed for assembly of a product such asXbox. The co-location of Flextronics and its suppliers at anindustrial park minimizes logistics costs by facilitating just-in-time inventory systems and reducing transportation costs.470 Part Five Competing in the Global Marketplace believed that Flextronics could deliver production of Xboxon time, even though assembly of the product was far morecomplex than the assembly of a computer mouse.2. What are the risks associated with outsourcing toFlextronics? Has Microsoft mitigated these risks? Do youthink Microsoft would be better off making the Xbox itself?Sources: J. Carborne, "Outsourcing the Xbox," Purchasing, August15, 2002, pp. 22-25; H. B. Hayes, "Outsourcing Xbox Manufacturing,"Pharmaceutical Technology North America, November 2002,pp. 88-91; "Weathering the Tech Storm," BusinessWeek, May 2,2003, pp. 24-25; and Flextronics 10K Report 2003.3. How does Flextronics' industrial park strategy enable thecompany to respond to national changes in relativefactor costs?4. How important are Web-based information systems tothe relationship between Microsoft and Flextronics?What are the economic advantages of real-timeinformation flows between Microsoft, Flextronics, andCase Discussion Questions1. What is the strategic advantage to Microsoft ofoutsourcing Xbox production to Flextronics?Flextronics' own subcontractors?Chapter Fourteen Global Production, Outsourcing, and Logistics 471

Question

closing caseMicrosoft-Outsourcing Xbox ProductionWhen Microsoft decided to enter the video game market withits Xbox gaming console it faced a crucial strategic decision:Should it manufacture the Xbox, or outsource manufacturingto a third party, and if so, whom? Although Microsoft is pri-marily known as a software company, it has long had a smallbut important hardware business selling computer mice, key-boards, and joysticks under the Microsoft brand name. How-ever, Xbox was different. This was not a simple computerperipheral; it was a fully functional specialized computer, withmultiple components, including microprocessors, memorychips, graphics chips, and an internal hard drive.Microsoft quickly decided that it lacked the manufactur-ing and logistics capabilities to make the Xbox itself and man-age a global supply chain. After reviewing potential suppliers,it decided to outsource assembly and significant logisticsSupply problems that might arise from a breakdown in glob-ally dispersed supply chains-as occurred after September11, 2001, and again in 2003 due to the SARS epidemic-arealso minimized by the co-location.Second, Flextronics' global presence enables the com-pany to shift production from location to location as cost anddemand conditions warrant, something that Microsoftwanted. Initially, the Xbox was produced in Hungary (for salein Europe) and Mexico (for sale in North America and Asia).Within a year, however, Flextronics shifted production fromHungary to China, where labor costs were a fraction of thosein Hungary. In 2003, it also moved Xbox production fromMexico to China, for the same reason. Today, all Xbox produc-tion is in China. Flextronics can execute production shifts veryfunctions to Flextronics, a Singapore-based contract manu-facturer. Flextronics has global sales in excess of $13 billionand more than 100,000 employees. In addition to Microsoft,customers include Dell, Ericsson Telecom AB, Hewlett-quickly-the company says within three weeks-since all ofthe relevant manufacturing data are stored in centralizedinformation systems. Thus, if China proves to be a suboptimallocation for Xbox production in the future, Flextronics canshift production elsewhere.Third, using Web-based information systems, Flextronicsand Microsoft have the ability to share information in realPackard, Siemens AG, Sony-Ericsson, and Xerox. The com-pany manufactures products for these companies in28 countries. Its largest concentration of activities is in China,where it has 35,000 employees.time with each other. Microsoft feeds information on demandconditions to Flextronics, which enables Flextronics to con-figure its own production schedules to minimize inventoryand closely match supply with demand. In addition, Microsofthas access to real-time information from Flextronics regard-ing production schedules, inventory, and product quality. Thisis crucially important, because Microsoft handles the overallmanagement of about 40 strategic suppliers for Xbox, includ-ing the manufacturers of microprocessors, graphics chips,hard drives, and flash memory (Flextronics handles the sup-ply of commodity-like inputs, such as circuit boards and plas-tic molding). The information exchange between Microsoftand Flextronics ensures that production schedules betweenMicrosoft had already contracted out the manufacture ofcomputer mice to Flextronics, so it knew something abouthow the company operated and was happy with the cost andquality of Flextronics products. In looking for a supplier,Microsoft wanted a partner that could manufacture the Xboxat a low cost, maintain very high product quality, respondquickly to shifts in demand, and share detailed information onproduction schedules, product quality, and inventory withMicrosoft on a real-time basis. Flextronics seemed to fit thebill for a number of reasons.First, Flextronics had been pursuing an &#34;industrial park&#34;strategy that enabled the company to tightly manage its ownsupply chain, reduce the chances of supply disruptions, andlower costs, which could then be passed on to Microsoft inthe form of lower prices for the Xbox. Flextronics' industrialall of the players in the supply chain are tightly coordinatedso that inventory is minimized, shortages are avoided, and de-mand and supply are balanced.Finally, Microsoft trusted Flextronics. Microsoft hadworked with the company for years, and there were strongpersonal relationships between employees of the two com-panies. This helped to cement the business transaction. Tofacilitate joint design, which is important for reducing manu-facturing costs, some Microsoft people are located at theFlextronics U.S. operations center in San Jose, California, andsome Flextronics people are located at Microsoft's headquar-ters in Redmond, Washington. The two companies hadworked together on product design before, and Microsoftknew that could be replicated with the Xbox. Microsoft alsopark strategy requires key suppliers to site their factoriesnext to a Flextronics assembly plant at low-cost locationsnear customers' end markets. Flextronics has large industrialparks in Brazil, China, Hungary, Mexico, and Poland. In addi-tion to a Flextronics factory, each park contains the manufac-turers of printed circuit boards, components, cables, plastics,and metal parts needed for assembly of a product such asXbox. The co-location of Flextronics and its suppliers at anindustrial park minimizes logistics costs by facilitating just-in-time inventory systems and reducing transportation costs.470 Part Five Competing in the Global Marketplace believed that Flextronics could deliver production of Xboxon time, even though assembly of the product was far morecomplex than the assembly of a computer mouse.2. What are the risks associated with outsourcing toFlextronics? Has Microsoft mitigated these risks? Do youthink Microsoft would be better off making the Xbox itself?Sources: J. Carborne, &#34;Outsourcing the Xbox,&#34; Purchasing, August15, 2002, pp. 22-25; H. B. Hayes, &#34;Outsourcing Xbox Manufacturing,&#34;Pharmaceutical Technology North America, November 2002,pp. 88-91; &#34;Weathering the Tech Storm,&#34; BusinessWeek, May 2,2003, pp. 24-25; and Flextronics 10K Report 2003.3. How does Flextronics' industrial park strategy enable thecompany to respond to national changes in relativefactor costs?4. How important are Web-based information systems tothe relationship between Microsoft and Flextronics?What are the economic advantages of real-timeinformation flows between Microsoft, Flextronics, andCase Discussion Questions1. What is the strategic advantage to Microsoft ofoutsourcing Xbox production to Flextronics?Flextronics' own subcontractors?Chapter Fourteen Global Production, Outsourcing, and Logistics 471

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