The Outsourcing Dilemma on Decision to Outsource Among Small and Medium Enterprises in Malaysia

Abstract

Making a decision on outsourcing has posed many difficulties among many organizations, particularly the small and medium enterprises (SMEs). The outsourcing dilemma surrounds the issue on the factors that influence the outsourcing decisions. Therefore, this study attempts to examine what factors may influence the decision of the SME owners to outsource their business processes. A data sample of 100 SMEs was analyzed to examine the relationship between the factors (business owners’ characteristics, environmental dynamism and strategic orientation) and the decision to outsource more of their business processes which is measured through degree of outsourcing of the respondents. The analysis was then conducted via partial least squares. The results showed several interesting findings: (i) business owners’ characteristics encouraged SME founders/owners to outsource more of their business processes, (ii) environmental dynamism has a negative significant impact on the degree of outsourcing and (iii) the relationship between strategic orientation and outsourcing was not supported. Rational explanations of the unexpected findings were then discussed in this study.

Keywords

Business owners’ characteristics environmental dynamism strategic orientation outsourcing small and medium enterprises

Introduction

The trend towards outsourcing has become one of the strongest and most sustained developments over the last 10 years (Fill & Visser, 2000). Operating in a dynamic and hostile business environment, organizations are being exposed to many challenges that pose adverse impacts on the survival and development of the businesses. Having noted that, organizations have sought to restructure, build flexibility and reduce cost by contracting out functions and activities traditionally performed in-house. This scenario also has impacted the development and growth of small and medium enterprises (SMEs). In fact, from the context of Malaysia, SMEs have been at the front line of the economic expansion and have been considered as the powerhouse of the country’s economy which, if properly nurtured and groomed, could leapfrog Malaysia from a developing to a developed nation. Moreover, the era of globalization has required SME entrepreneurs to face massive changes regarding how they operate their businesses. In line with this, it has marked the end of the usual way of doing business, mandating new approaches in the forms of strategies that entrepreneurs need to adopt in order to ensure business sustainability (Shane & Venkataraman, 2000).

One of the many challenges is to get access to reasonably cost-effective financing and mostly venture capitalists do not see the potential of SMEs as many SMEs do not have the track record that a stable or large organization does. Apart from that, many SMEs do not have skilled manpower because they cannot afford to pay high salaries to get the skilled employees. Small and medium enterprises cannot be competitive, innovative and creative without skilled employees. In addition, SMEs also experience lack of technological capability in which they do not have sufficient financing to acquire technology that may be actually very pertinent for them to be competitive and have a strong market position (Zainuddin, 2012). Hence, it is pertinent for SMEs to adopt new strategies, such as outsourcing their business processes, to ensure survival.

This article is organized into the following sections: The next section reviews the outsourcing literature and develops the hypotheses; the third section presents the method used in the study; the fourth section highlights overall results of the study and the final section presents the discussion, limitations and conclusion.

Objectives and Rational of the Study

In consideration of the above arguments, the challenges faced by the SMEs have also encouraged entrepreneurs to establish and execute strategies relevant to the new episode of intense competition and to survive in the marketplace. Progressively, many SME entrepreneurs are turning to outsourcing as a new management strategy. The make and buy decision is a classic management issue. If an organization decides to perform activities in-house, it will transact internally with a division or another part of the organization. If it decides to buy the activities, it will contract out with external service providers. In this respect, it is very crucial to understand the decision criteria behind the transaction.

Malaysian SMEs outsource the non-core or secondary activities to the external vendors through outsourcing, and they themselves only focus on core, main functions (Li-Ping & Ying, 2010). This business approach emphasizes on the establishment of core competitive advantage; meanwhile it attempts to reduce costs, lower risk and improve economic efficiency and competitiveness. Apparently, knowledge about outsourcing behaviour in SMEs in the academic literature is somewhat limited (Elango, 2008; Gao & Mitchell, 2010). Many researchers argue that it may be more efficient to outsource some activities than try to develop the capability to perform them in-house (Arbaugh, 2003; Weaver, 2000). Therefore, it is important to understand why some SMEs embark on outsourcing, while others prefer to wait and see how events spread out (Everaert, Sarens & Rommel, 2007; Vilaseca-Requena, Torrent-Sellens & Jiménez-Zarco, 2007). Importantly, it is very pertinent to unfold the quandary by grasping on the essentials that elicit outsourcing. In the context of this phenomenon, several questions become pertinent: What factors influence the Malaysian entrepreneurs to engage with outsourcing? What are the activities outsourced? Given the limited empirical evidence about how organizations are engaging on outsourcing in the context of SMEs, this study makes use of a quantitative approach in the effort to delve into the current practices of Malaysian SMEs in managing their ventures that describe their approach towards outsourcing.

Review of Literature and Hypothesis Development

Outsourcing

In general, outsourcing can be defined as a situation where a company purchases a value creating activity from external vendors which was or could have been done in-house (Gilley & Rasheed, 2000). In other words, when a firm seeks external vendors to achieve value-adding activities which otherwise could be done internally by the firm itself, it can be seen as engaging in outsourcing activity. Organizations nowadays are increasingly adopting business process outsourcing (BPO) that outsources non-core business (Ruhanita, Aini, Noradiva, Rozita & Sofiah, 2010). Furthermore, there is an upward trend of companies to outsource some of their functions, products or services to other companies or even countries (Bhagwati, Panagariya & Srinivasan, 2004), as companies nowadays strive to focus on their core competencies and leave the non-core activities to specialized third parties (Maelah, Aman, Hamzah, Amiruddin & Auzair, 2010) with big companies, such as Toyota, Accenture and WalMart, already outsourcing many of their jobs to other countries (Lei & Hitt, 1995). Even in Malaysia, the outsourcing of non-core activities has long being utilized not only in the manufacturing sector but also in public and private sectors (Sofiah, Aini, Ruhanita, Rozita & Noradiva, 2013).

This has prompted researchers to examine the subject of outsourcing, such as the relationship between outsourcing and business performance, the motivation and risks involved when a firm outsources its core activities and what are the factors that really motivate companies to outsource. Researchers generally agreed that the three main categories of factors that motivate companies to outsource are cost, strategy and politics (Kremic, Tukel & Rom, 2006). However, most of the studies were conducted on large organizations where their major aim was to redefine and reorganize their operations to achieve higher efficiency to gain better leverage for what they were already good at (Corbett, 2001). On the other hand, SMEs will opt for outsourcing due to lack of resources, such as expertise or equipment in certain business processes (Halim, Ahmad & Ramayah, 2012b). Thus, lack of knowledge on SMEs’ outsourcing behaviour is an interesting area to endeavour upon. This knowledge gap was also noted by researchers, such as Elango (2008), Sledgianowski, Tafti and Kierstead (2008) and Yue, Yandong and Ping (2011), where they generally agreed that the area of outsourcing remains relatively unexplored in the area of entrepreneurship.

Prior literature on outsourcing of SMEs in Malaysia is mostly function based, mainly in the area of outsourcing of accounting function as can been seen through the researches done by Jayabalan et al. (2009) and Wong (2009), or focused on technology-based outsourcing, such as the studies by Dorasamy, Marimuthu, Jayabalan, Raman and Kaliannan (2010) and Alam (2009). Additionally, many service industries consider activities, such as food services and health insurance, peripheral functions that are more labour-intensive and thus more appropriate to be outsourced to external vendors (Sonfield, 2015). Factors that motivate SMEs to outsource generally can be traced to a qualitative study conducted by Halim et al. (2012b) where they postulated that entrepreneurs are mainly motivated to outsource in the peak period, for cost saving, to access talent, to improve quality, to focus on core business and to enhance capability.

Theoretical Perspective and Hypotheses Development

Previous studies on SMEs focused on the relationship in which an SME is a supplier of component parts for larger organizations and the dynamics of those large organization–small organization relationships (Alvarez et al., 2001; Lumpkin & Dess, 1996). However, an emergent strategic trend has shown that SMEs start to engage with outsourcing particularly on non-core activities, a strategy previously implemented primarily by medium and large organizations. There are a number of conceptual perspectives from which arguments for and against increased outsourcing intensity within SMEs might be made. These perspectives comprise transaction cost economics (TCE) and resource-based views.

Questions about outsourcing relate to many of the broader make or buy issues addressed in TCE. A purely production cost-based decision would suggest that SMEs pursue more outsourcing (Alewell, Hauff, Weiland & Thommes, 2011). However, increased governance costs for activities, such as the search for suppliers, the specification of agreements and the enforcement of contracts associated with open market transactions, may make it more cost-effective for the SMEs to perform these activities in-house (Alewell et al., 2011; Kraut, Steinfield, Chan, Butler & Hoag, 1999). This is applicable for SMEs since resource constraints are generally much more significant than they are for larger organizations (Lei & Hitt, 1995). Thus, the management of SMEs must be more creative if they are to bundle the organizations resources in ways that will produce competitive advantage (Alvarez & Busenitz, 2001).

In resemblance with TCE, the decision to outsource among SMEs is to build core competencies (Quinn & Hilmer, 1994). In this respect, SMEs that seek greater focus on assembling and developing the internal skills, knowledge and capabilities would not consider outsourcing as an option to pursue (Prahalad & Hamel, 1990; Quinn & Hilmer, 1994). This is because outsourcing supports strategies of selectively building valuable skills through outsourcing non-core functions, which provides existing employees more time to focus on core and high-skill functions (e.g., Barney, 1991; Ulrich, 1996). Nevertheless, research suggests that most new emerging organizations may focus more on internal capability building since external relationships may take much longer time to establish (Lee, Lee & Pennings, 2001; Kuan-Siew, Ramayah, Ahmad, Abdul-Halim & May-Chun, 2015).

However, SME decisions to outsource or to increase the number of business processes to be outsourced are usually made on the basis of a management team’s skill or personal interest rather than how it supports the whole organizations strategy (Halim et al., 2012b). Hence, this has sparked a notion on whether factors that are related to the entrepreneur itself, such as their characteristics, their strategic orientation and their perception towards the dynamism of the market, would have an impact on the degree of outsourcing, that is, how many business processes they are willing to outsource. Moreover, SMEs are still in the process of establishing normal procedures (Nelson & Winter, 1982); hence, difficult in determining which functions to outsource (Arbaugh, 2003) causing SMEs to outsource mainly founder/top management personal interest and inclination towards outsourcing (Halim et al., 2012b). Therefore, the key research question in this study is ‘would individual factors, such as characteristics, strategic outlook and perception towards dynamism of the market, have an impact on the inclination of entrepreneurs to outsource more of their business process?’

Effect of Business Owner Characteristics on the Degree of Outsourcing

Characteristics of an entrepreneur can be referred as demographic, individual characteristics, personal traits and entrepreneur orientation (Islam, Khan, Obaidullah & Alam, 2011) of the entrepreneur/owner/manage itself. The studies of business success in SMEs can be generally categorized into two broad groups, namely, external factors and internal factors of SMEs, which refer to organizational variables and the characteristics of the entrepreneur (Ahmad, Ramayah, Wilson & Kummerow, 2010). An SME entrepreneur is often the key figure in SME operations (Filion, 1991) and is directly involved in the daily business operations (Gélinas & Bigras, 2004). Thus, decisions that SMEs make are mainly from the prerogatives of the owner/manager of an SME. Entrepreneurs/founders/managers are the ones who are responsible for formulating strategies, identifying opportunities and translating these opportunities into business activities (Beaver & Jennings, 2005). It is imperative to examine the issue of outsourcing from the perspective of business owner characteristics, especially in SMEs, whereby these entrepreneurs make the decision on the dissemination of the internal resources of the organization. Entrepreneurs who possess the right characteristics, that is, are innovative, knowledgeable and possess problem-solving skills, would have higher inclination to outsource more of their business processes. In this case, business owner characteristics play an important role in determining the functions that are non-core or core (strategic functions) to the company. According to Sonfield (2014), many SMEs move towards outsourcing certain business functions which are not central to their business missions. Therefore, the characteristics of business owners, for instance, the owners’ competencies and areas of expertise, are needed to see the impact on the degree of outsourcing.

The role of entrepreneur characteristics in the decision to start a business and manage it successfully is often a controversial issue in entrepreneurship research as some researchers found contrasting results (Rauch & Frese, 2007). Prior literature has highlighted the link between characteristics of business owners and the level of competitiveness (Man, Lau & Chan, 2002). Business owner characteristics were also linked with business performance as shown through the researches done by Baron, Tang and Hmieleski (2011) and Keh, Nguyen and Ng (2007) where these researchers postulated that the characteristics of the owner have an impact on the SME performance. Likewise, researchers also found that characteristics of business owners also have an effect on the strategic decisions made (Forbes, 2005), where they found that entrepreneurs who exhibit a stronger belief in their abilities make decisions that are more comprehensive and incorporate more current information. Based on the foregoing argument, it is hypothesized that the business owner characteristics have a positive impact on the degree of outsourcing.

Effect of Dynamic Environment on the Degree of Outsourcing

A dynamic environment can be defined as the rate and volume of changes in the environment (Sia, Teo, Tan & Wei, 2004). Businesses now exists in an increasingly complex and dynamic world (Das, 2003). A stable environment is now being replaced by increased environmental dynamism where product life cycles have become shorter, changes in customers’ preferences are rapid and competition is becoming increasingly fierce (Alpkan, Yilmaz & Kaya, 2007). The impact of business environment on SMEs’ activities is significant, with evidence suggesting that how SMEs run their business is affected by the environment in which they are operating (Ahmad et al., 2010; Gynawali & Fogel, 1994). Past researches in the area of strategic management suggest that there is a close relationship between the environment and the strategy that an organization chooses to pursue (Li, Li, Liu & Wang, 2005; Miller 1988; Nandakumar, Ghobadian & O’regan, 2010). Moreover, the relationship between the environment and strategy was further strengthened through the perspective of contingency theorists who articulated that the decisions made by the founders/owners/managers are influenced by their perceptions of the current environmental context (Ahmad et al., 2010; Entrialgo, Fernandez & Vazquez, 2001). Hence, this study believed that the level of environmental dynamism would affect the degree of outsourcing that an SME would be willing to pursue.

Most studies in the literature of strategic management explored the relationship between business environment and business strategies, but the results of these researches have been mixed and lacking, particular in the Malaysian context (Ahmad et al., 2010). Some studies showed that the perceived business environment has a significant direct impact or moderating effect, such as the studies by Terjesen, Patel and Covin (2010) and Ahmad et al. (2010), yet some found no significant impact, such as the studies of Wang, Lo and Yang. (2004) and Baum, Locke and Smith (2001). Hence, on the basis of this discussion, this study derives the third hypothesis to be tested in this study that the environmental dynamism has an impact on the degree of outsourcing.

Strategic Orientation

Strategic orientation can be defined as the specific approach that a firm adopts to create sustainable superior performance (Gatignon & Xuereb, 1997). It can be seen as a pattern of responses that an organization makes to enhance performance and gain competitive advantage (Hambrick, 1983). The strategic orientation a firms adopts acts as a foundation of guidelines that will be implemented to continuously improve a firm’s performance (Sinkovics & Roath, 2004). A well-defined strategic orientation helps a firm to map and plan the pattern of the strategy that will integrate a firm’s major goals, policies and action sequences as a whole (Mintzberg & Quinn, 1991). The authors also further added that a well-formulated strategy helps firms to allocate their resources based on their relative internal competencies and shortcomings, anticipated changes in the environment and competitors’ actions. Hence, the strategic orientation a firm adopts would have an influence on its business decisions; in this context, the SMEs decide to outsource more of their business processes given the lack of technological expertise and human resources.

Prior researches in the strategic management literature have found that strategic orientation has an impact on the strategy implementation as seen through the work of Voola and O’Cass (2010), Homburg, Krohmer and Workman (2004) and Dobni and Luffman (2003). However, most of the studies focused on marketing orientation and less attention was given to strategic orientation of a firm as a whole, especially in the context of SMEs. Thus, it is assumed that the strategic orientation that a firm holds has an impact on the degree of outsourcing.

Methodology

Procedure and Respondents’ Profile

A total of 1,000 questionnaires were mailed to the SMEs listed in the SME Directory 2011/2012 (See appendix A). The questionnaires together with return envelopes were sent out via post to the SMEs. Only 100 of the questionnaires returned are usable giving a response rate of 10 per cent. The low response rate is expected, as Patel and Cordon (2010) mentioned that a response rate around 10 per cent is common among SMEs.

Majority of the respondents’ companies have been established since the year 1991 and above (98 per cent), followed by companies established during the years from 1981 to 1990 (4 per cent) and 1 per cent of companies were established before the year 1980. Most of the respondents are in the services sector (50 per cent), followed by manufacturing and agriculture with 29 per cent and 4 per cent, respectively. The majority of the respondents’ companies had sole proprietorship (56 per cent), followed by partnership (37 per cent) and joint venture (1 per cent). The majority of the respondents who participated in this research are from the food and beverage industry (36 per cent).

Measurement

Business owners were required to provide the outsourcing percentages of various functions, namely, (i) accounting, (ii) customer service, (iii) information system, (iv) marketing, (v) manufacturing, (vi) product repair, (vii) purchasing raw materials, (viii) payroll, (ix) training, (x) recruitment, (xi) warehousing, (xii) research and development, (xiii) advertising and promotion, (xiv) logistic, (xv) packaging and (xvi) others, to capture any outlying type of outsourced activities in the SMEs. The responses on the percentages were then summed up to give the overall measure of the SMEs’ reliance on outsourcing.

The measures on business owners’ characteristics were adapted from Kaplan, Klebano and Sorensen (2007), environmental dynamism from Ali and Keskin (2007) and strategic orientation measurement from Gibson, Haris and Mcdowell (2011) and Hooper (2006). The items where anchored on a 5-point Likert scale of 1 = strongly disagree to 5 = strongly agree. As for the degree of outsourcing, respondents were required to fill in the percentage of each business process that they outsourced which is adapted from Gilley, Greer and Rasheed (2004) and Gilley, McGee and Rasheed (2004).

Analysis and Result

First, missing values were checked and treated using estimation maximization (EM) in SPSS 21, where missing values were imputed based on the likelihood estimates of the parameter. Next, the data were collected from a single respondent within a firm, hence the data might be susceptible to common method bias where the variance occurred is due to the method rather than the construct itself (Podsakoff, Mackenzie, Jeong-Yeon Lee & Podsakoff, 2003). Common method bias in this study was assessed using Harman’s single-factor test. Common method bias exists if one principal factor accounts for the majority of the variance explained or the emergence of a single factor (Podsakoff et al., 2003; Podsakoff & Organ, 1986). This study found that six distinct factors emerged with the first factor capturing 41 per cent of the variance in the data. Hence, this concludes that common method bias is not a major concern in this study.

Descriptive analysis was performed to obtain detailed information on the practices of outsourcing among the SMEs. The practices investigated include the types of functions outsourced and the most frequently outsourced functions, shown in Table 1.

Table 1.

Types of Functions Outsourced

Activities	Frequency	Percentage
Accounting	38	11.8
Customer service	40	12.4
Information system	23	7.1
Marketing	45	12.0
Manufacturing	33	10.2
Product repair	44	13.7
Purchasing raw materials	38	11.8
Payroll	49	15.2
Training	29	9.0
Recruitment	41	12.7
Warehousing	25	7.8
Research and development	18	5.6
Advertising and promotion	42	13.0
Logistic	34	10.6
Packaging	27	8.4
Others	7	2.2

Source: Authors’ own.

Table 1 showed that payroll activity records the highest percentage at 15.2 per cent, followed by product repair at 13.7 per cent, advertising and promotion at 13 per cent and recruitment at 13 per cent. Packaging, warehousing and information system lagged behind at 8.4, 7.8 and 7.1 per cent, respectively. Unsurprisingly, research and development was the least function to be outsourced with only 5.6 per cent. With the nature of SMEs that experience lack of tangible resources and human capital, it was expected that SMEs may hand over this function to the external vendors (Elaine, Halim & Ramayah, 2013). Nonetheless, this scenario happens may be due to the strategic nature of the function in which SMEs prefer to perform core activities in-house.

In addition, respondents generally agreed that benefits and payroll administration were non-core business activities and as such represented good potential candidates for outsourcing (Greer et al., 1999). The finding of this study pertaining to the payroll function is consistent with that of Smith, Vozikis and Varaksina (2006) and Chiang, Chow and Birtch (2010) who reported that a majority of the organizations outsourced that function. Likewise, the study by Greer et al. (1999) reported a high percentage of outsourcing particularly those related to benefits and payroll administration.

Measurement Model

Structural equation modelling (SEM) analysis using AMOS version 17 was used to estimate the measurement and structural model for quality and fit. It is pertinent to first assess the quality of the measurement model by assessing the validity and reliability of the measurement construct.

In assessing a good model fit, Byrne (2013) recommended that Chi-square normalized by degrees of freedom (χ²/df) should not exceed 3, goodness-of-fit index (GFI) should exceed 0.9, adjusted goodness-of-fit index (AGIF) should exceed 0.8, Tucker–Lewis index (TLI) should exceed 0.9, comparative fit index (CFI) should exceed 0.9 and root mean squared error approximation (RMSEA) should not exceed 0.08. The confirmatory factor analysis (CFA) analysis shown in Table 4 indicates that in this study, the χ²/df = 1.483; GFI = 0.889; CFI = 0.956; AGFI = 0.823, TLI = 0.940; and RMSEA = 0.074, suggesting adequate model fit.

This study then proceeds by establishing reliability and validity of the measurement model. Reliability was assessed using the composite reliability (CR) values. As shown in Table 2, all the reliability established had CR values exceeding the threshold value of 0.7, as recommended by Hair, Black, Babin and Anderson (2010). Next, the convergent validity was ascertained by assessing the indicator loadings and average variance extracted (AVE). Convergent validity refers to the extent where multiple items used in measuring the same concept are in agreement. Table 2 lists the indicator loadings, CR and AVE. The loadings for all the indicators that surpassed the minimum required cut-off level of 0.50 are shown in Table 2. In terms of AVE, the values of each of the constructs were well over the recommended value of 0.50, suggested by Hair et al. (2010). Hence, convergent validity was established.

Table 2.

Measurement Model

Construct	Item	Loadings	AVE	CR
Business owner characteristics	BOC2	0.742	0.685	0.896
	BOC4	0.851
	BOC5	0.825
	BOC7	0.885
Environmental dynamism	ED2	0.719	0.536	0.776
	ED3	0.759
	ED5	0.717
Strategic orientation	SO1	0.752	0.647	0.879
	SO3	0.882
	SO4	0.827
	SO5	0.748
Degree of outsourcing	Degree	1.000	NA	NA

Source: Authors’ own.

Note: NA indicates that AVE and CR are not available as degree of outsourcing is a single item measurement.

Next, the discriminant validity assessment was carried out to determine that the latent variables in the study are distinctively different and are not correlated to each other (Sekaran & Bougie, 2011) by using the Fornell and Larcker (1981) criteria. According to Fornell and Larcker (1981), the discriminant validity is assessed by comparing the correlations between the square root of the AVE for a construct with all the other constructs. Table 3, which depicts the discriminant validity of this study, shows that all the square roots of AVEs, shown in the elements in the matrix diagonals, are higher in all cases in the off-diagonal elements in their corresponding rows and columns, hence establishing the discriminant validity.

Table 3.

Discriminant Validity

Construct	ED	SO	BOC	Degree
Environmental Dynamism	0.732
Strategic Orientation	0.605	0.804
Business Owner Characteristics	0.617	0.583	0.827
Degree of Outsourcing	–0.081	–0.025	0.159	SIM

Source: Authors’ own.

Notes: (1) Values in the diagonal (bolded) represent the square root of the AVE, while the off-diagonals represent the correlations.

(2) SIM = Single item measurement.

Structural Model

Once the measurement model has been assessed, the next step is to evaluate the structural model. Table 4 presents the results of CFA analysis, where the (χ²/df) = 1.632; GFI = 0.887; AGFI = 0.812; TLI = 0.93; CFI = 0.950; and RMSEA = 0.08, suggesting adequate model fit. The significance of the individual paths is shown in Figure 1. Two out of the three paths were significant with p-values less than 0.05, with an R² value of 0.14 meaning that 14 per cent of variance in degree of outsourcing can be explained by the model. This study also found that out of the three path coefficients, two were found to be significant. The analysis revealed that business owner’s characteristics and environmental dynamism have a significant impact on the degree of outsourcing. Hence, H1 and H2 were supported.

Figure 1.

Source: Authors’ own.

Table 4.

Model Fit Indices

Fit Measures	Recommended Values	Measurement Model	Structural Model
χ²/df	≤3.00	1.483	1.632
GFI	≥0.90	0.889	0.887
AGFI	≥0.80	0.823	0.812
TLI	≥0.90	0.940	0.930
CFI	≥0.90	0.956	0.950
RMSEA	≤0.08	0.074	0.080

Source: Authors’ own.

Discussion and Conclusion

Based on the above analysis, two out of the three factors, that is, business owners’ characteristics and environmental dynamism, had an impact on SMEs’ degree of outsourcing. The findings suggest that business owners had a profound effect on the outsourcing decisions of their businesses. Business owners who are knowledgeable, advocate innovative ideas, have a clear strategic direction of their businesses and see the important need to constantly upgrade their business capabilities tend to have a motivation to outsource their business activities. This finding is consistent with studies conducted by Beaver and Jennings (2005) and Forbes (2005). Hence, the SME business owners’ characteristics is one of the key deciding factors for outsourcing business processes to a third party.

Next, the findings of this study confirmed that environmental dynamism has a significant impact on the degree of outsourcing. This confirms the researchers’ contention, such as Dobni and Luffman (2003) and Ward and Durray (2000), that changes in the business environment would have an impact on the strategy that an organization is pursuing. This study found that there is a significant negative relationship between dynamic environment and degree of outsourcing. In other words, the more dynamic the business environment, SMEs will have the tendency to outsource less. Further contemplation on this issue might shed some light on this finding. There are a few possibilities as to why this negative relationship occurs. The first plausible explanation for this result is that it may be due to lack of resources. One of the major SMEs’ challenges is lack of resources (Narula, 2004; Ngah & Ibrahim, 2009), such as financial resources. In a dynamic environment, where changes are happening rapidly, resources, especially financial resources, are needed to help cope with the changes. Besides that, SMEs’ dependence on few customers and suppliers (Bourletidis & Triantafyllopoulos, 2014) increased their business risk, especially in a dynamic environment. In a dynamic environment, business owners may face time constraints in weighing the pro and cons of outsourcing business processes to a third party. Hence, SMEs may find it difficult to outsource their business processes.

On the contrary, the findings indicated that the relationship between strategic orientation and outsourcing was not supported. The main reason for this could be due to other more strategic motives for outsourcing. Possible explanations on what triggers SMEs to decide on the degree of outsourcing may be influenced by other factors. Outsourcing the business functions is probably associated with the interest or ability of the SMEs to perform the functions in-house. In this respect, they only focus on business processes that they have the ability and interest to perform, and outsource those functions which they believe the external vendors can perform better. Therefore, the outsourcing decision may be made on the basis of talent, interest and capability in performing the functions or convenience rather than the strategic orientation of the SMEs. Besides that, the decision to outsource may also be associated with the organizations’ relationship with service providers. When the business owners examine the other party’s incentives, reputation and past behaviours, they might decide to outsource heavily if they conclude that the external vendors behave responsibly and do as promised. Therefore, outsourcing decision is probably facilitated by trust between the two parties, particularly when both organizations keep on maintaining their reputations as trustworthy partners.

Implications

This study makes several contributions to SMEs’ and business strategies’ research. First, the results of this study are of value not only to the SMEs’ business owners responsible for managing outsourcing but equally to the researchers interested in understanding the phenomenon of outsourcing relationship. This study contributes to the body of knowledge in grasping the factors that have an impact, namely, business owner characteristics, environmental dynamism and strategic orientation, on the degree of outsourcing the business activities. It specifically indicates that the characteristics of the business owners have a significant impact on the degree of outsourcing. Therefore, owners themselves play an important role in determining what and how many business activities should be outsourced to another party.

An interesting finding in this study showed that a dynamic business environment has an impact on the degree of outsourcing, albeit a negative relationship. This suggests that in a highly dynamic environment, SMEs are less likely to outsource their business processes. This may be due to the fact that most SMEs’ owners are insecure about the future of their businesses, and do not want to rely heavily on their external vendors. Hence, they would choose not to outsource their business processes in a very volatile environment.

This study also offers useful guidelines for business owners. The findings indicate that payroll is the most outsourced function and strategic activity, that is, research and development, is the least outsourced function. This also may imply that outsourcing can play a role as a competitive strategy among SMEs in Malaysia and perhaps is still relatively new than in other countries and many of its potential benefits are not fully understood. Therefore, business owner should be aware that by understanding their own competencies as well as the dynamism of the environment they will be able to achieve outsourcing success by identifying areas of expected benefits and improvements.

This study also assists business owners by emphasizing that strategic orientation may not be an attractive option for outsourcing decision. Business owners should understand that there are many other factors that can have an influence on the outsourcing strategy.

Limitation and Future Research

One of the main limitations of this study is the problem of common method variance, as data were collected from a single source (Podsakoff & Organ, 1986; Podsakoff et al., 2003). However, the Harman single-factor test with un-rotated factor analysis showed that a single factor did not emerge and the first factor did not explain most of the variance; the issue of common method variance was not a major concern.

Another limitation is that this study used only selected variables, that is, business owners characteristics, strategic orientation and environmental dynamism. There are some other variables that could be interesting to be studied in future research in order to examine the antecedents of the decision to outsource. Variables such as entrepreneurial orientation (EO), partnership quality, the level of resource dependence, asset-specific factors and factors that are related in the context of SMEs should be scrutinized in detail.

Finally, another potential limitation of this study is generalization. Since this research was conducted in specific national context (Malaysian SMEs), the validation and generalization of this research are still limited. A useful direction for future research in this regard is to test the model in SMEs in other countries.

Footnotes

Acknowledgements

The authors are grateful to the anonymous referees of the journal for their extremely useful suggestions to improve the quality of the article. Usual disclaimers apply. We would like to thank the RU Grant 1001/PMGT/816236 for funding this project.

List of Items

Strategic Orientation
My company is a leading innovator in the industry
My company is very sensitive to environmental signals
My company responds quickly to market opportunities
My company’s movement always initiates competitive actions in the industry
My company always actively develops new markets
My company always provides customers with new products and services
My company always comes up with innovative solutions for most business problems
Comparing the qualities of products and services, my company puts more emphasis on price competition
My company pursues best results in markets with relatively limited product varieties
My company tends to maintain present position instead of actively expanding market
My company is seldom the first company to introduce new products
My company satisfies the customers’ needs through lower cost of products
My company considers price competition as important
My company has a strong tendency to follow competitors in introducing new things
Business Owner’s Characteristics
The owner focuses on carrying out innovative activities
The owner always concentrates on the adoption of new practices
The owner generates innovative approaches to business activities
The owner is actively seeking innovative ideas
The owner puts emphasis on the development of new systems
The owner possesses knowledge of the company’s business strategies
The owner understands the culture of the company
The owner has formal qualification in the area of expertise
The owner has the skills in solving business problems
The owner constantly updates his/her knowledge on business-related capabilities
The owner has skills in identifying potential areas of improvement
The owner has the ability to quickly understand the changes in business practices
Environmental Dynamism
Changes in mix of products/brands carried in the industry are very fast
Changes in marketing practices in the industry are very rapid
Changes in consumer demand are difficult to predict
Changes in product obsolescence are very fast
Changes in production technology are very fast
Changes in technology are difficult to predict
Changes in competitors’ actions are difficult to predict
Outsourcing
Please tick on the types of activities and the percentage of these activities being outsourced.
Activities	Percentage (%)
Accounting
Customer service
Information system
Marketing
Manufacturing
Product repair
Purchasing raw materials
Payroll
Training
Recruitment
Warehousing
Research and development
Advertising and promotion
Logistic
Packaging
Other __________________
Other__________________
Other __________________
Other __________________

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