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Key takeaways
- A make or buy decision compares doing something in-house against buying it from an outside supplier, on cost, control, capacity, quality and risk.
- Use relevant costs only: those that change with the decision. Costs that stay either way, such as unavoidable fixed overhead, do not belong in the comparison.
- Cost is the start, not the end. Strategic fit, capacity, quality control and supply risk can outweigh a small price gap.
- Revisit the decision. Volumes, markets and capacity change over time.
- Our worked example uses invented figures to show the method, not a benchmark.
Free PDF: Make or buy cost comparison worksheet. Get it below
A furniture maker has made its own drawer slides for years. Volume is steady, the machine is old and a supplier now quotes a price that looks lower than the in-house cost per unit. The finance team wants to close the line. The production manager says the real cost is not what the cost sheet shows. They are both right, and the way to settle it is to separate the costs that would actually disappear from the ones that would not.
The business is fictional. The problem, which cost counts, is the one every make or buy decision has to solve.
A make or buy decision is a choice between producing an item or service within the organization and buying it from an outside supplier, based on relevant cost, control, capacity, quality, risk and strategic fit.
How is this different from total cost of ownership?
Our total cost of ownership guide looks at the full cost of one purchase over its life, such as a machine or a software licence. A make or buy decision is a prior question: should you buy at all, or do it yourself. Total cost of ownership may feed into it, but the structure is different, because the in-house option has costs that depend on what else would change if you stopped.
Which costs belong in the comparison?
| Cost | Include? | Reason |
|---|---|---|
| Direct materials and labor to make it | Yes | They disappear if you stop making it |
| Variable overhead (energy, consumables) | Yes | They change with volume |
| Fixed costs you could avoid (a dedicated supervisor, a lease you could end) | Yes | They disappear if you stop |
| Fixed costs you cannot avoid (building depreciation, general management) | No | They stay either way |
| Cost of the alternative use of the capacity freed | Yes, as an opportunity benefit | If the space or machine can earn money elsewhere |
| Supplier price | Yes | The cost of buying |
| Freight, duty, inspection, extra stock | Yes | These come with buying |
| Management time to run the supplier | Yes | It is a real cost |
What does a worked example look like?
All figures are invented to show the method. A company makes 50,000 units a year. Per unit, direct materials are 4.00, direct labor 2.50 and variable overhead 0.80, a total of 7.30. It also has 60,000 a year of fixed cost that would end if production stopped, which is 1.20 per unit. Cost to make: 8.50 per unit. A supplier quotes 8.20 delivered. Add 0.15 per unit for inspection and extra safety stock, and the buy cost is 8.35.
| Line | Make (per unit) | Buy (per unit) |
|---|---|---|
| Materials, labor, variable overhead | 7.30 | 0 |
| Avoidable fixed cost | 1.20 | 0 |
| Supplier price | 0 | 8.20 |
| Inspection and safety stock | 0 | 0.15 |
| Total | 8.50 | 8.35 |
| Annual difference at 50,000 units | 7,500 in favor of buying |
The gap is 0.15 a unit, or 7,500 a year. That is small enough that other factors decide it. Notice also what the example leaves out: general overhead the company cannot avoid. If the finance team had spread that overhead across the in-house cost, the in-house number would look worse, and the result would have been wrong, since closing the line would not make the overhead disappear.
Free PDF
Make or buy cost comparison worksheet
A worksheet that separates relevant from irrelevant costs, compares make and buy at three volumes, and scores strategic factors, with a review date.
- Relevant cost table for make and buy
- Three volume comparison
- Strategic factor grid
- Review date and owner
What else should you weigh?
| Factor | Points toward making | Points toward buying |
|---|---|---|
| Strategic fit | Core to what makes you different | Commodity, nothing special |
| Intellectual property | Know-how that must stay inside | No sensitive know-how |
| Capacity | Spare capacity and skills available | Capacity is full or being built elsewhere |
| Quality control | Need tight control | Supplier has proven quality |
| Supply risk | Few suppliers, tight market | Many suppliers, deep market |
| Flexibility | Stable demand | Volume swings widely |
| Capital | Funds available | Capital is better used elsewhere |
Where supply risk is the concern, read sole sourcing and procurement risk management. The Hackett Group projects procurement workloads to rise 8 percent in 2026 while headcount and budgets decline, so the cost of managing another supplier is worth counting honestly.
How do you make the decision step by step?
- State the item and the volume range. Include low, expected and high cases.
- List relevant costs for each route. Use the table above and check each cost with finance.
- Compare cost at several volumes. In-house cost per unit changes with volume because of fixed costs. Buying is more flexible.
- Score the other factors. Use the grid, and weight them by what matters most to the business.
- Test the buy option. Ask two or three suppliers for quotes and references.
- Decide and set a review date. A decision based on today's volume should be checked when volume changes.
What mistakes do teams make?
- Allocating overhead that will not disappear. The most common error.
- Ignoring the cost of managing the supplier.
- Counting only price. A cheaper supplier with late deliveries may cost more.
- Forgetting exit costs. Selling equipment or releasing staff has a cost and a timing.
- Never reviewing. A decision from five years ago may not suit the market now.
Outsourcing a whole function is a related choice, covered in procurement outsourcing. For where it fits in the plan, read procurement strategy, and for the method that decides how to treat each purchase see category management.
Sources
- The Hackett Group, 2026 Procurement Key Issues Study: sample size not published on the pages we read.
- The relevant cost approach is standard management accounting. The worked example uses invented figures and is not a benchmark. Confirm cost treatment with your finance team.
Frequently asked questions
What is a make or buy decision?
It is a choice between producing an item or service in-house and buying it from an outside supplier, based on relevant cost, control, capacity, quality, risk and strategic fit.
Which costs should you include in a make or buy analysis?
Include costs that change with the decision: direct materials and labor, variable overhead, avoidable fixed costs, supplier price, freight and inspection, and management time. Exclude fixed costs that stay either way.
What are the factors in a make or buy decision besides cost?
Weigh strategic fit, intellectual property, capacity, quality control, supply risk, flexibility and capital. These can outweigh a small price gap.
How is make or buy different from total cost of ownership?
Total cost of ownership measures the full cost of one purchase over its life. Make or buy is an earlier question about whether to buy at all or do it yourself.
How often should you review a make or buy decision?
Review it when volume changes materially, when a supplier's price or reliability changes, or at least every few years. Set a review date when you make the decision.