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Today outsourcing is widely practiced in all forms of organizations including corporations, governments, charities, and religious institutions. Simply put, outsourcing is a contractual agreement between the client (the organization that does the outsourcing) and one or more external suppliers (vendors) to provide services or processes currently provided by the clients’ internal organization. A recent review of outsourcing (Espino-Rodriguez & Padron-Robaina, 2006, p. 51) provides different definitions of outsourcing that has evolved over time. Some are summarized here:
- Outsourcing involves making a variety of “make” or “buy” decisions to obtain the necessary supplies of materials and services for the production of the organization’s goods and services.
- Outsourcing refers to the act of turning to an external organization to perform a function previously performed in-house. It entails the transfer of the planning, administration, and development of the activity to an independent third party.
- Outsourcing is a collaboration agreement between different types of firms in which one firm is a specialist in technology and makes a significant contribution to the other by providing physical and/or human resources during a certain period in order to attain a determined objective.
- Outsourcing involves the substitution of activities performed in-house by acquiring them externally, although the firm has the necessary management and financial capabilities to develop them internally. It is also an abstention from performing activities in-house. • Outsourcing not only consists of purchasing products or services from external sources, but also transfers the responsibility for business functions and often the associated knowledge (tacit and codified) to the external organization.
Though organizations initially outsourced only what can be considered support (noncore) activities, the scope of activities has now significantly expanded to include what can be considered core activities as well.
This paper is structured in eight broad sections dealing with the following topics: different types of outsourcing, outsourcing of information technology (IT) and related services, IT outsourcing to India, advantages of outsourcing to India, evolution of outsourcing to India, trends in Indian IT off-shoring, and outsourcing to India in non-IT-related areas.
Types Of Outsourcing
Outsourcing of activities can range from the most basic to the most complex. For example, an industrial manufacturing firm may provide transportation facilities to its employees to reach the office from their residence and back. If the firm contracts with a transportation company to provide such a facility, it is outsourcing its transportation requirements. Since transportation in this case is not
the firm’s main business activity, this is an instance of a firm outsourcing its noncore activities. On the other hand, a large automobile manufacturer, say General Motors, may contract with an automobile ancillary manufacturing unit in India to manufacture some components for their automobiles. This can be seen as an instance of outsourcing where the firm uses an external vendor to outsource activities related to its main line of business.
Outsourcing is not something new, and companies have been practicing outsourcing since the industrial revolution. Companies have brought innumerable products and services from outside companies since the modern idea of a company has been in existence. In recent years, in addition to the overall growth in volume of outsourcing, new models of outsourcing have evolved. These models are the result of the rapid advances in telecommunication and information technologies and the growing comfort with outsourcing among industry executives. Broadly, the form of outsourcing can be any or a combination of the following depending on the vendor location:
- On-shoring: An outsourcing contract signed with a provider located within the country. While there might be a movement of jobs from one company to another in an on-shoring contract, there is no loss of employment opportunities to a foreign country.
- Off-shoring: An outsourcing contract signed with a provider located beyond the nation’s boundaries. The concept of off-shoring has achieved importance in recent years as companies have started outsourcing IT work to destinations like India and other low-cost countries (LCCs). Off-shoring work can sometimes result in job losses in those countries undertaking outsourcing. Recently, off-shoring has received a lot of publicity, adverse or otherwise, in countries like the United States because of job losses. In fact, outsourcing of IT and related activities became an election topic in the 2004 U.S. presidential election.
- Near-shoring: Similar to off-shoring with a slight variation. In a near-shoring engagement, outsourcing is done to a service provider located in a neighboring country. For example, if a firm in United States outsources its work to a firm in Canada or Mexico, it is called near-shoring
Most of the initial outsourcing happened in manufacturing sector when automobile and apparel manufacturing companies used companies in China and Far East Asian countries to manufacture relevant components and accessories for their end products. These were in the nature of “blue-collar” work. However, the recent advances in telecommunication and information technologies have enabled the possibility of outsourcing even “white-collar” tasks. Today India is a leading destination for outsourcing IT and business process outsourcing (BPO) work. For some reason, outsourcing of manufacturing never came to be known as off-shoring. The concept of off-shoring came into prominence only when IT work was outsourced to destinations in India. Given the leadership position that India has attained the area of IT outsourcing, the discussion in this research-paper will largely focus on IT outsourcing.
Outsourcing Of IT And Related Services
IT has become an integral part of modern organizations today. The statistics are stunning. From a rudimentary base in the 1970s, the global spending on software services alone (which does not include packaged products) exceeds $350 billion today. The business paradigm for sourcing software services has also evolved over the years. From the time when Eastman Kodak announced its $1 billion deal to outsource its information systems (IS) to IBM, DEC, and Businessland in 1989, contractual arrangements for sourcing software services have become more and more innovative. Today, the outsourcing of software services has become a standard business practice in organizations rather than an exception. The Outsourcing Institute’s survey of 1,200 companies indicates that 50% of all companies with IS budgets of $5 million or more are either outsourcing or evaluating the option of outsourcing. More significantly, a considerable amount of such outsourced work now goes to offshore service providers in LCCs such as India and China. Even global consulting and service providers such as IBM, CapGemini, and Accenture have in recent years started creating delivery infrastructure in countries like India to provide cost-effective services to their global clients. With more than 90% of the world’s major companies engaged in some kind of offshore initiative, outsourcing of IT and ITES have become synonymous with offshoring. In this research-paper, therefore, outsourcing is used interchangeably with off-shoring.
Key Benefits From IT Outsourcing
The most frequently cited benefits of IT outsourcing include cost reduction, service-quality improvement, and the ability to focus on the core business. Cost reduction is an immediate benefit that many outsourcing companies are able to achieve. Firms in the United States or the United Kingdom usually gain from the lower wages in the LCCs, which are 40% to 60% below the prevailing rates in the United States and the United Kingdom. Firms evaluate outsourcing to determine if the current operating costs can be reduced and if saved resources can be reinvested in more competitive processes. Since the outsourcing contract receivers are typically servicing many clients, economics of scale and scope often help the vendors achieve lower unit costs than can any single company. For example, the often quoted 1995 Harvard Business Review article indicates that British Petroleum was able to achieve overall reduction in IT operating costs from $360 million in 1989 to $132 million in 1994. In a more recent article that appeared in McKinsey Quarterly, Stephen McGuckin, managing director for IT at Deutsche Post World Net, the corporate parent of Deutsche Post and DHL, indicated that they were able to cut their IT costs by 40% within a year of off-shoring. Even when there are other benefits sought and expected from outsourcing functions, those benefits are measured and tend to be valued in terms of cost reduction.
Other Motivations for IT Outsourcing
In addition to cost reduction, service-quality improvement, and focus on core business, the following reasons are usually cited as possible reasons for outsourcing IT services:
- Availability of adequate manpower: Shortage of qualified manpower in technology areas is often cited as a reason for off-shoring. Many firms find that very often there is not enough talent with sufficient qualifications in their own country.
- Round the clock service: Time saving is another reason for outsourcing some of the in-house IS work to offshore outsourcers. In some cases, the supplier is thousands of miles away in another time zone. This gives the possibility of programming for nearly 24 hours a day for U.S. clients and nearly 18 hours a day for the U.K. clients (with India as the outsourcing destination). This significantly reduces the product-development lifecycle.
- Reduced investment in technology and shared risks: Outsourcing companies are able to use common infrastructure to service multiple clients. Outsourcing firms thus provide economies of scale and scope advantages to their clients.
- Ability to access best in class skills: Very often non-IT companies are not in a position to provide an attractive career path for their IT employees, since they are considered as a support staff for mainstream business functions. Hence, the IT departments in these organizations are not able to attract high-quality talent. Outsourcing companies, on the other hand, are able to provide a strong career path for the IT employees and hence are able to attract best in class skills.
- Increased flexibility to configure resources to meet changing market needs: Outsourcing provides clients with the flexibility to ramp up or down some operations without changing the employee count. Offshore contractors can be used to deal with peak periods of demand while avoiding hiring personnel that will not be needed later. It also helps in risk mitigation, as physically spreading centers to many places out of the company helps in averting the impacts of natural disasters such as quakes and floods.
One often finds that even large companies that have efficient and innovative IT departments (examples include Dupont, British Petroleum Exploration, Lufthansa, Swiss Bank Corporation, and J. P. Morgan) and are large enough to provide the same scale and specialization benefits as an outsourcing vendor are nevertheless engaged in significant outsourcing deals. There are two reasons for the advances that support the rationale for outsourcing by such large firms.
First, outsourcing helps to improve business impact by focusing on improving IT’s contribution to company performance within its existing lines of business. For example, the telecommunication service provider, Pacific Bell Telephone, required substantially improved IT-based business capabilities to speed up new product introductions and service enhancements. The main impediment was its aged and inflexible customer billing system, but its IS group lacked the skills and competencies necessary to replace the old system and manage the new one. Thus, the group engaged a specialized IT firm for the task. Another good example is Xerox Corporation, which despite being financially healthy and technologically advanced, decided to outsource in an attempt to completely transform its IT department and resources (viz., technology, process, and people). The company outsourced most of its then-existing infrastructure and 70% of its IS staff to Electronic Data Systems (EDS)—thereby giving them an opportunity to develop new career paths. This also freed its financial and management resources to concentrate on creating future business-critical IT infrastructure and applications and acquiring new IT-related skills for the remaining staff.
Second, it can help in realizing commercial benefits by leveraging technology-related assets applications and know-how in the market through the development and marketing of new technology-based products and services. An often cited example is the case of Swiss Bank Corporation. Swiss Bank Corporation, one of the world’s leading retail, commercial, and investment banks, went into IT outsourcing with Perot Systems to speed its IT infrastructure transformation and to explicitly leverage in the marketplace its already substantial investment in IT expertise and infrastructure. The two parties signed a 25-year contract worth an estimated US$208 million per year; 700 IT specialists were transferred to a new division created by the vendor to provide state-of-the-art systems and network services not only to Swiss Bank Corporation but also to other customers in the global financial services industry.
Outsourcing Gains to the Economy
According to a 2004 study by the McKinsey Global Institute, off-shoring, apart from benefiting individual companies, also provides significant benefits at the national level. These studies indicate that the U.S. economy could gain $1.14 to $1.17 for every dollar of off-shoring. Similarly, European economies like France and Germany could gain about 0.86 and 0.74 respectively for every Euro of off-shoring. These gains arise from the increased demand for goods and services produced by companies in the United States and Europe in those countries where outsourcing vendors are based. For example, outsourcing by a U.S. company to an Indian service provider will benefit the U.S. economy in the following ways:
- Cost savings: The cost savings enjoyed by U.S. companies is the most important and obvious source of value. For
every dollar of corporate spending that moves offshore, U.S. companies save 58 cents. It is also said that offshore workers in India are often more highly motivated than U.S. workers and perform better (because of attractive salaries as compared to the salaries that exist in other opportunities available in India), particularly in low-skilled jobs that lack prestige and suffer from high turnover in the United States. These lower costs also benefit U.S. consumers since in a competitive economy such as that of the United States, companies pass on the cost savings in the form of lower prices to consumers.
- Increased exports: Indian companies that provide offshore services also buy goods and services ranging from computers and telecommunications equipment to legal, financial, and marketing expertise. Often, they buy these from U.S. companies, which results in additional export revenues to the U.S. firms. Increased disposable income to an Indian workforce can also increase the demand for U.S. goods and products in India.
- Repatriated profits: Many Indian outsourcing firms are owned in whole or in part by U.S. companies such as GE and EDS. Benefits accrue to the U.S. economy when these outsourcing arms repatriate their earnings to the parent companies.
- Productivity and new jobs: Corporate savings from off-shoring can be invested in new business opportunities (such as nanotechnology), and this investment will boost productivity and create high value-added jobs such as research and design, which in turn make more profits and benefit the local economy
IT Outsourcing To India
Given the successes achieved by organizations in reducing costs and the overall benefits that off-shoring brings to the economy, outsourced service providers would play a more and more important role in delivering software services to organizations worldwide. To give an indication, by the end of 2002, there were over 800 third-party software services providers just in India. India’s leadership role in off-shoring and software services has now been well recognized, and the growth of off-shoring to India has been truly spectacular. In a McKinsey off-shoring survey of 239 senior executives in 2004, 65% of the respondents indicated that they offshore or intend to offshore their IT work to companies in India. Nasscom, the industry association in India for the IT and ITES sectors, indicate that export revenues of IT and ITES has increased from $4 billion in FY2000 to $37.4 billion in FY2006, with a target of $60 billion in export revenues by 2010. IT-ITES sector also contributes significantly to the economic activity of India. The sector, which accounted for just 1.2% of India’s GDP in FY98, accounted for close to 5% of India’s GDP in FY06. The employment in the IT-ITES sectors is expected to cross 1.6 million by FY2007.
These figures highlight the impressive growth in IT-ITES outsourcing activity to India.
The United States is the largest market for offshore software service providers from India, followed by Europe. As the Nasscom figures indicate, 67% the software export revenues are from the United States, followed by Europe, which accounts for about 25% of software exports. Though companies in Europe have been outsourcing their IT requirements for some time, it is only in recent years that they have started off-shoring their IT service requirements to Indian vendors. Therefore, the growth in export revenues to Europe is expected to grow faster in the coming years as compared to those of the United States.
In addition to homegrown IT service providers from India, global IT service providers are establishing and expanding their capacities in India to take advantage of the low-cost structures, and thereby become more competitive. By end of 2006, Accenture had close to 17,500 people (which accounts for about 40% of its global strength in outsourcing) in their India centers providing IT outsourcing services to overseas clients. Similarly, IBM employed over 43,000 people, CapGemini employed about 5,000 people (accounting for 8% of their global strength), and LogicaCMG employed about 3,000 people in their India centers in 2006 for providing outsourcing for their global clients. While the global majors have started setting up their delivery centers in India only after 2000, the Indian service providers have a head start as they set up their operations much earlier. However, going by the announcements made by these large corporations, investments in setting up these facilities in India are expected to increase significantly in the near future.
Advantages Of Outsourcing To India
Over the last few years, India has become a destination of choice for off-shoring. In a 2004 study on offshore location, attractiveness index by AT Kearney, India ranked first in the list of the 25 countries included in the study. It retained the top slot in the study as in the previous years by a comfortable margin over China, the second country in the ranking. Even other research agencies like Gartner, Forrester, Giga, and soon have given the top rank to India in their respective research studies on offshore destinations.
The following is a summary of the key advantages that India offers as an outsourcing destination:
- Low-cost structure: Software development is a manpower-intensive activity. The labor cost arbitrage that exists between India and its Western countries can therefore provide significant cost benefits. For example, the average annual salary of an IT professional is $5,850 in India compared to $63,000 in United States. This leads to a significant cost differential to clients since an average software programmer
in India would only cost $20/hour, whereas the cost in the United States for a comparable employee would be $50 to $60/hour. Even after taking into account the increased transaction costs as a result of off-shoring, overall cost reductions of 25% to 40% are possible from off-shoring because of lower labor costs in India.
- Education: India has had a long history of investment in tertiary education, especially engineering. The presence of the world-renowned Indian Institutes of Technology (IITs) and the use of UNIX in the academic environment provides a good educational background for the engineers. Apart from the premier IITs, several universities offer high-quality engineering education. The colleges in Andhra Pradesh alone, 1 of the 25 states in India, produce close to 100,000 engineering graduates every year—which is more than the number of engineering graduates produced by all the U.S. universities combined. Roughly 115,000 computer sciences graduates are produced per year in India and close to 350,000 engineering graduates from other disciplines of engineering enter the software industry each year. This total represents roughly 10 times the available technically trained talent pool in the United States.
- Language skills: The government of India realized the importance of English very early, and made it an official language soon after independence in 1947. This has led to a situation where most people undergo 17 years of school education where English is main medium of instruction. India has world’s second largest population of English-speaking scientist and engineers, following only the United States. Since most of the software development uses English as the main language, language proficiency has helped India achieve the leadership position in off-shoring.
- Human resources: India has a fairly young population where more than half the population is under the age of 25. Since India has many years of experience in off-shoring, the education and training institutes have been able to impart skills that are relevant for the industry. Engineering education provides strong technical and quantitative skills, which are helpful in developing software. Indian service providers have now evolved from providing low value-added services such as maintenance and migration to high value-added services such as business process management, analytics, and consulting. The existing employees are thus familiar with not only the job content, but also with the work ethic, productivity, and quality expectations of global clients, and they are able to bring the new employees up to speed much faster by accelerating their learning cycle. It has also been felt that Indian programmers have a strong enthusiasm for learning and adapting to new technologies. India also has a large supply of qualified talent in areas outside IT, such as basic and applied sciences, finance and accounting, economics, mathematics, and back-office administration. Indian graduates are more mobile than those elsewhere, and they are open to relocating to cities outside their home towns. This helps in obtaining large pool of skilled engineers at preferred offshore locations in India such as Bangalore, Hyderabad, Mumbai, Chennai, and Pune.
- Time difference with the United States: India’s geographical position with the United States, which gives a time difference of 10 to 14 hours between the two countries, is a big advantage. By engaging in simultaneous development at both on-site and offshore locations, companies have been able to effectively increase their conventional 8-hour work day to about 16 to 20 hours. This has helped in providing faster product development and quicker response to customer queries.
- Stress on quality: Indian companies have consistently produced very high-quality results and have made a clear commitment to software process disciplines. For example, nearly 140 Indian contracting firms have achieved ISO 9000 certification and more than 80% of the SEI CMM Level 5 (the highest level of accreditation provided to software developers by Software Engineering Institute, Carnegie Mellon University) certified software developing firms are located in India. In 15 years of off-shoring, the country has developed a group of world-class IT service vendors that can save foreign companies the trouble of setting up their own offshore centers.
- Stable political environment: For more than 6 decades after independence, India has had a stable democracy. Though there have been changes in the government following elections, there have been no major reversions to the policies of the earlier government. The policy of liberalization of throwing open the economy to private sector and foreign direct investment, which the government embarked in 1991, has continued to date. Political observers note that this tradition of strong democracy is a big strength of India, given the ideological similarities with the political environment of United States, its biggest market.
- Legal environment: India has a strong and robust legal system with an independent judiciary and well-functioning stock markets. While there might be some concerns toward protection of intellectual property rights, the supporting infrastructure is being developed to address issues in that regard.
- Physical infrastructure: If there is one concern for India, that is the availability of adequate physical infrastructure in terms of power, roads, airports, and water supply. The government has realized the importance of infrastructure in supporting economic growth and has undertaken ambitious projects in various infrastructure sectors. New international airports are being constructed in Bangalore, Hyderabad, and existing airports at Mumbai and New Delhi are undergoing expansion. A large program called the Jawaharlal Nehru Urban Renewal Mission is being implemented to augment urban infrastructure in different Indian cities. A separate program for national highway development that aims to improve the arterial roads is already underway. It is expected that these initiatives will reduce the infrastructure deficit that exists in the country.
Outsourcing of labor to offshore destinations first became prevalent in manufacturing industries in the United States. Labor in other countries was cheaper than in America and transportation cost fell. This made sending manufacturing work to other countries more economic and thus began a large wave of outsourcing. The process of off-shoring that started in manufacturing gradually began to be practiced in other areas as well. Outsourcing of IT services has now become a very popular source of competitive advantage. IT outsourcing originated from the professional services and facility management services of the 1960s and 1970s in the areas of financial and operations support, when computers were very expensive and physically large. To eliminate or avoid the capital intensive investment in computer hardware, many organizations contracted with data-processing service bureau to operate the data-processing function.
Initially, IS outsourcing consisted of an external vendor providing a single basic function to the customer. An example is a facilities management contract, where the vendor assumed operational control over the customer’s technology assets, such as a data center. Outsourcing of IS began to evolve in the 1960s when Ross Perot and his company EDS signed an agreement with Blue Cross of Pennsylvania to handle its data-processing services. This was the first time a large business had turned over its entire data-processing department to a third party. In addition to taking over the facilities, EDS took over the responsibility for Blue Cross’s employees in the division. Following the Blue Cross deal, EDS signed several customers such as Frito-Lay and General Motors. However, the real interest in outsourcing occurred during the mid-1980s when EDS signed contracts with Continental Airlines, First City Bank, and Enron. These deals signaled an acceptance of outsourcing as a competitive business model leading to the landmark $ 1 billion deal signed by Eastman Kodak in 1989.
While a major problem of IS in the 1960s was the cost of hardware, the expense of software development became a major concern since the 1970s. Since many organizations did not have the expertise to develop software in-house, they looked to external vendors to meet their software requirements. Indian firms realized the importance of providing outsourcing services in software development, maintenance, and reengineering.
Phase 1: On-Site Model
The initial wave of demand for Indian programmers came in the late 1990s when many firms were grappling to address the changes that needed to be made in their computer code to adapt to year 2000 (commonly known as the “Y2K” problem). This required expertise in COBOL language, since most of the existing applications then were developed in that language, and the expertise of which were not readily available in large numbers in the United States and Europe. Therefore, most firms contracted Indian firms, which had access to a large pool of engineers trained in COBOL. Most of the Y2K work involved mainframes. At the beginning, the practice was usually to send programmers to the respective overseas country to work at client locations, which was known as “body shopping.” In the early 1990s, this practice accounted for approximately 95% of Indian software revenue.
Phase 2: On-Site/Offshore Model
Having obtained substantial experience in software development because of on-site work, Indian companies started off-shoring a significant part of the software development cycle at their development centers in India, rather than sending programmers abroad. Simultaneously, the development of Internet and advancement of telecommunication technologies also facilitated the Indian off-shoring companies to execute significant components of their work from India. This helped the Indian software vendors to provide services at lower costs as compared to their global competitors.
A typical outsourcing engagement consists of the following components:
- Requirement analysis: During this stage, the vendor understands the client requirements followed by a clear definition of the scope of the project. Since this phase involves intensive client interaction, most of the work pertaining to this stage is done at client location (on-site).
- Development: Following the requirement analysis stage is the development of software. Since there is no regular interaction required with the client during the development stage, most of the work is done offshore to take advantage of lower costs.
- Testing: The testing of software developed follows the development stage. In most cases, testing is done in two parts. The first part of the testing is done at the offshore location by replicating the client environment to ensure proper functioning of the software. The second part of the testing is done at the client site, in the actual production environment.
- Implementation: After the software is successfully tested, it is rolled out in the client facilities. Although it is possible to segregate implementation into offshore and on-site components, most of the activity during this stage is done on-site.
- Training: Following implementation, the vendor may be involved in training the users of the software application at the client location. Since training in most cases involves human interaction, it is usually done on-site.
- Maintenance: After successful implementation, the offshore vendor may also be responsible for ongoing maintenance of the application. Similar to implementation, maintenance can be segregated into offshore and on-site components.
Today there are technologies enabling maintenance to be provided from offshore locations. Whenever it is possible to provide remote maintenance, offshore companies usually adopt this strategy to take advantage of the lower costs.
Thus, the current model of off-shoring involves separating the development lifecycle into different stages. Stages that are amenable to be executed offshore are done in India, and those stages needing client interaction are done on-site. Off-shoring in India is thus a hybrid model utilizing both on-site and offshore resources to yield the best results in terms of faster, better, and cost-effective development. Over time, new technology has been developed that has enabled vendors to transition most of the work offshore. Testing, implementation, and maintenance, which were earlier considered to be exclusively on-site activities, now offer considerable scope for offshoring. For example, in Infosys Technologies, India’s second largest software services company, offshore effort increased to 70.8% of the total person-months during FY2006 as compared to 66.3% during FY2003.
Phase 3: Domain Specialization
The next phase of off-shoring involved further specialization and customization of software development. With the emergence of PCs and client-server technology and the evolution of technology specialization of software to meet the expectations of clients, offshore companies started developing domain expertise in various industry verticals to develop specialized applications for respective industries. Infosys, for example, has separate practices for the following industries: Aerospace and Defense, Automotive, Banking and Capital Markets, Communication Services, Consumer Packaged Goods, Discrete Manufacturing, Energy, Healthcare, High Technology, Hospitality and Leisure, Insurance, Life Sciences, Media and Entertainment, Resources, Retail, Transportation Services, and Utilities. By having such industry-specific practices, Indian software vendors were able to cater to the industry-specific requirements of their clients.
Phase 4: Horizontal And Vertical Movement In The Value Chain
Though off-shoring started with software services, it is being widely used in different types of IT services (viz., maintenance, application reengineering, enterprise applications, and infrastructure maintenance). Offshore firms are positioning themselves as a one-stop shop for all their client requirements. In order to meet that objective, the Indian software firms are not only expanding their breadth of service offerings in IT (horizontal movement in the value chain) but are also providing related services like management consulting (top end of the value chain) and business-process outsourcing (bottom end of the value chain). Infosys
Consulting Inc., a subsidiary of Infosys, provides business-consulting services in an attempt to capture the downstream IT revenues from their consulting clients. Infosys also has a unit called Infosys BPO that provides process outsourcing services. Even other large Indian software companies have their own consulting and BPO practices. This strategy helps the Indian companies in retaining their customers and increasing revenue footprint among its clients.
Trends On Indian IT Off-Shoring
A recent report on trends in off-shoring by Gartner research has identified the following key points:
- New companies and countries are emerging as viable competitors: Although Indian vendors dominate the today’s offshore market with an estimated 80% to 95% of offshore revenue other countries have already built their own successful capabilities (e.g., Ireland, Northern Ireland, and Israel). In addition, many foreign companies are planning to compete for western business with or without the active support of their governments (e.g., Russia, Hungary, Egypt, Singapore, Pakistan, The Philippines, Russia, Egypt, and Jordan). India has to sustain or improve its competitiveness to retain its leadership position in off-shoring.
- The level of projects and processes moved offshore is becoming more sophisticated: Initially, clients primarily outsourced only cost-sensitive, trailing-edge projects (e.g., legacy maintenance, conversions, and migrations) offshore. As the offshore firms proved themselves, clients began to send higher level IT work offshore such as enterprise integration, enterprise resource planning (ERP) work, and e-business development.
- Software development processes have been refined: Processes to enable global software development efforts or offshore application management have been revised and streamlined. The CMM accreditation has helped the Indian firms to follow disciplined, mature processes for documentation, communication, sign-offs, and revisions. Although Indian companies may not use any special coding tools or techniques beyond what U.S. enterprises do, their meticulous approach toward these processes (e.g., preparing documentation, planning for alpha and beta releases, establishing user acceptance procedures, regression-testing procedures, and collecting metrics during development activities) has aided in the industry’s success.
- Essential communication infrastructure issues are being addressed: The offshore industry is highly dependent on first-class communication to sustain current and future growth. Some countries (e.g., in Eastern Europe and Russia) still have inadequate capabilities that prevent them from becoming strong offshore destinations. Despite a severe lack of telecomm infrastructure within India, voice and data communication from Indian data centers to the United States or Europe are excellent.
- Cultural issues are better understood but still present challenges: The need for cultural awareness between both parties is fairly well known at this point, but cultural differences still pose a formidable challenge to participants. Most enterprises do not fully appreciate how deep these differences can go from either a business standpoint or an interpersonal one. Some of the ways that cultural differences have been observed include the following dimensions: revering hierarchy, individualism versus collectivism, taking care of business, risk avoidance, and a long-term orientation.
- The advantages are becoming clear: Cost saving was the prime reason enterprises adopted off-shoring in the early 1990s. The major drivers in the recent years have gone way beyond cost and include time to market, an available and flexible labor pool, quality, higher productivity, and a 24-hour workday for support activities. Though 24/7 has not yet successfully enabled follow-the-sun global development efforts, it has facilitated round-the-clock customer service, application management support, and production support.
- Cost dynamics and workforce mix are changing: India derives its competitive cost advantage from performing high-margin activities offshore. The general goal is to perform about 70% of programming activities off-site and achieve approximately 50% of export revenue off-site. However, for newer projects, which are at the high end of the value chain such as process reengineering, e-commerce projects and so forth, clients desire to have more staff on-site. To retain their margins, Indian firms charge more for on-site people, which in turn can reduce the cost competitiveness of Indian off-shoring firms.
- Billing rates are decreasing: Software service is becoming a commodity, and several large deals are being procured solely based on price. Given the competitive market, the billing rates in offshore outsourcing are gradually decreasing in real terms. Vendors offset the effect of decreasing billing rates by improving their productivity.
Outsourcing To India In Other Areas
The factors behind the success of IT outsourcing (low-cost labor and high-quality manpower) can also be replicated in other areas. The following are a few areas other than IT where India is emerging as an attractive outsourcing destination.
In addition to IT, India is emerging as an attractive destination for outsourcing manufacturing activities. Though India leads the market in providing offshore services in IT, as a manufacturing center it lags behind countries like China and Thailand. The reasons are as follows: erratic electric supplies, poor roads, gridlock seaports and airports, and government policies that discourage hiring and firing of labor holdback domestic demands in many sectors. Though the infrastructure hurdles can be considerable, many companies have moved ahead to take the advantage of India’s low-cost, but skilled labor in design and manufacturing. For example, Daimler Chrysler, Toyota motors in auto components and engineering, Degussa and Rohm and Hass in specialty chemicals, ABB, Siemens and Honeywell in electronic and electrical products have set up manufacturing operations in India for their global markets. Multinationals considering India as a manufacturing base focus on skill-intensive industries to take advantage of country’s abundant supply of well-qualified engineers.
Other factors that attract companies to India for outsourcing manufacturing are the increasing availability of reliable suppliers, the chance to escape unrelenting price pressures at home, and the size of domestic market and government support. Since setting up manufacturing facilities provides new employment opportunities, both the state and central government have provided strong support to players keen on investing in manufacturing facilities in India. The support has ranged from providing land for the project, quicker governmental clearances, and in some cases, tax incentives. Presence of a very large domestic market offers companies a chance to set up facilities that would cater to the needs of both domestic and global markets. LG, Nokia, and Motorola are planning to set up mobile phone manufacturing facilities in India to meet the global as well as local market demand. Commenting on the advantage of outsourcing to manufacturing to India, Carlos Ghosn, CEO and president of Renault, has said, “There is something unique about the frugality in engineering and management here (in India) that we would like learn from.” He also added that though there were many low-cost manufacturing countries and India was not the only one “owing to frugal product planning and frugal management that is followed here (in India) and the competitiveness of vendor sourcing, the costs are 30 per cent lower than in Western Europe and Japan.”
Pharmaceutical Research and Development
In recent years, U.S. and European firms are discovering the advantages of setting up research and development (R&D) laboratories in India. For example, large pharmaceutical companies such as AstraZeneca and Pfizer have set up their research and analytical centers in India to support their global product development efforts. Before any new drug is introduced in the market, it is mandatory to test the efficacy of the drug on human patients. This process is called clinical research. Increasingly global pharmaceutical companies find recruitment of patients to clinical research programs challenging because of nonavailability of patients for rare diseases. Given the size of its population, India is seen as an attractive destination for outsourcing clinical research because of availability of qualified patients. According to one estimate, the clinical testing business will grow to over $8 billion by 2008. Like IT outsourcing companies, many specialized companies operate in India providing clinical research outsourcing (CRO).
Knowledge Process Outsourcing
The success in IT outsourcing has given rise to another form of global outsourcing, which is now popularly known as knowledge process outsourcing (KPO). It is another outsourcing concept focusing on knowledge-intensive services and knowledge management. Capturing, creating, sharing, maintaining, tracking, improving, and collaborating knowledge are few domains of knowledge-management apart from two major aspects of knowledge application and dissemination. KPO involves adopting the successful IT outsourcing approach to knowledge-intensive industries such as management consulting and investment research. For example, leading companies such as McKinsey and Goldman Sachs have set up their captive outsourcing centers in India where employees from India work with their global counterparts to provide research and other tactical support to ongoing engagements. These companies recruit MBAs from the top schools in India for their India outsourcing centers. Start-up companies have started providing innovative services under the KPO concept. For example, Hey Math! is a Chennai-based company that provides assistance with mathematics homework to students and lesson plans to teachers over the Internet.
Most of the companies today look at outsourcing as a useful tool to enable them to compete more effectively. The rationale for outsourcing has expanded beyond conventional cost savings and the need to outsource is now guided by the following objectives:
- Improved productivity measurements
- Increase in cost-efficient foreign competition
- Need to move inventory faster
- Need for flexible production
- Development of supply-chain partnerships
Though India was a late entrant to outsourcing compared to countries such as China and Singapore, it was able to quickly establish itself as a leader in IT outsourcing by leveraging its strengths. To reiterate, India has emerged as a destination of choice for outsourcing IT for the following reasons:
- Availability of highly qualified manpower at lower costs
- Large numbers of technically trained talent pool
- Proficiency in English
- Young population with strong work ethic
- Time difference with the United States, which enables to stretch workdays
- Ability to deliver high-quality consistently
- Stable political environment with well-established and independent judiciary
- Increasing availability of high-quality physical infrastructure
Overtime, the scope of IT outsourcing has expanded to specialized industry-specific solutions and also high value-added solutions such as management consulting. Having attained leadership position in IT outsourcing, Indian firms now seek to adopt the off-shoring model to other sectors like manufacturing, R&D, and KPO. The government in partnership with the industry is creating an ecosystem that aims to replicate the success of IT off-shoring even in the newer sectors. Going by the trends so far, the frontiers of outsourcing to India will continue to evolve. Companies that wish to remain competitive will pursue outsourcing in newer areas and domains in an attempt to leverage the numerous advantages that India offers.
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