Peter Schumacher, President and CEO of the Value Leadership Group sent me a very interesting article he wrote on the failure of the European IT services industry to compete effectively with the new wave of offshore outsourcing firms, and cites Cognizant’s recent growth surge (a 98% revenue increase for its European business in 2006) as a prime example of European’s IT services providers inability to cope with this competition. This is not dissimilar to the failure of the US IT services incumbents to recognize the growth surge of Infosys, Wipro and TCS in the late ’90s. The five key reasons discussed for this failure are:
European IT services firms…
1. Have failed to see the emerging competitive scenario
2. Face revenue deflation pressure from a smart arbitrage strategy
3. Have not addressed the holistic transformational challenges posed by offshore IT firms
4. Lack the financial resources to challenge offshore firms head-on, which are now driving the game
5. Will need to compete with powerful rule-breaker companies funded by private equity and venture capital firms
I nearly choked on my breakfast this morning with the stunning news that "34% Buyers Axe Their BPO Deals", according to a study conducted by Diamond Management & Technology Consultants and headlined in Global Services Media. I have observed over 400 publicly-announced and private BPO engagements over the last decade, and barely 6 of these were discontinued, normally as a result of the enterprise downsizing to the point where the BPO engagement was no longer viable for both parties. I am not arguing that the other 394 engagements are all going extremely well, but when enterprises move beyond a BPO contract transaction, the short answer is they rarely go back to the way they were.
For starters, the article states "One of three customers of Business Process Outsourcing (BPO) services ended their offshoring deals prematurely". There is a marked difference between "BPO" and "offshoring". Offshoring is the process of moving work offshore, and – in most cases – involves a firm moving more work into its own offshore "captive" center. So are we actually talking about Business Process Outsourcing or offshoring? This is a major difference, as many firms who try to "offshore" work themselves experience far more problems than they anticipated, usually because they do not have the skills or experience internally to manage offshore transition successfully. That is why many firms decide to outsource their business processes, rather than try to offshore them. That is also why many of the large BPO deals signed today are companies selling off their captive operations to an outsourcing provider.
I respect consulting firms that invest in quality research for their clients, to generate eminence in the marketplace, create discussion points with their clients, and use it to support their consulting engagements. However, "research" can be a dangerous tool when firms use it to panic people for the sole purposes of creating attention. I can understand why Global Services Media picked up on the story, as it is a major attention-grabber, but there are no details regarding how the study was conducted, what sample of firms was used and how exactly is "BPO" defined for the purposes of this research.
Coming from the old country and spending the last few years adjusting to life in the new world, it’s about time I started sharing some observations over the cultural chasm that exists. However, it’s probably better I leak out my views in digestible chunks to avoid risk of deportation. Anyway, let’s start with sport:
Savoring victory. Sorry, the Yanks just don’t know how to do it properly. Living in Boston, I have experienced the highs of Super bowl victory and the pain of defeat inflicted upon the locals. In the UK, if the local team wins the Cup Final, everyone goes nuts, has a parade in town and gets drunk for days, and savors that victory for years to come (we still celebrate our 1966 World Cup triumph…). When the Patriots last won the Super bowl, there were a couple of car horns tooting rhythmically, but it was pretty muted. Even the celebrations for the Red Sox winning the 2007 World Series barely lasted a day.
Coping with defeat. Now here is a marked difference. The depth of despair suffered by Yanks when they lose clearly outweighs their heights of ecstasy when they win. In the UK, it’s the reverse. When we lose, we go into a mild depression, take the mickey out of our team for being "rubbish" and quickly look forward to the next attempt at silverware. Over here, I have never seen anything like it – words such as "disaster" dominate the press. Inquests begin, radio phone-ins focus on the deep depression that has inflicted the local society. Another coping mechanism I have observed over here is to simply ignore their team if it is losing. I will never forget the Ryder Cup in 1999 (Brookline Mass) where the media made quite a fuss about the prestigious tournament and hyped it up considerably for two weeks prior to the event. Then disaster struck – the Europeans dominated days 1 and 2, racing into a seemingly unassailable 6-point lead moving into the final day. I was eagerly trying to find some media coverage, and only found a 6 inch sized write-up in the Boston Globe. So from hype to nothing in two days. No-one seemingly wanted to talk about the loser golfers. Then the famous "Day 3 comeback" happened. At about 3.00pm on the final afternoon. the media suddenly realized their boys were poised to pull off a stunning comeback. The golf returned to the main TV networks, and friends of mine who had zero interest in the sport started getting involved as if they never missed a PGA event…. that evening I had to be subjected to prolonged victory gloating from people who probably thought Jack Nicklaus had holed the winning putt…
My conclusion is that the Brits, quite simply, are used to losing, probably originating from the collapse of the British empire. When you’re downtrodden and no longer aspire to the greatness you once had, you take comfort in the small achievements when you get them. The US Empire is still pretty strong – the country still rules the world (until Beijing 2008 anyway). Maybe in another 20 years, they’ll start to take defeat with a pinch more salt and self-mockery than they currently do…
My interest has been piqued by the recent announcement of Sunlife of Canada outsourcing its UK customer services operation to TCS’s Diligenta subsidiary in a $200m deal. This comes hot on the heels of some financial services captive buy-outs in India. The financial services sector has long been the problem child of the BPO industry, with operational executives extremely reluctant to relinquish control over business processes – especially finance and accounting. As I have said on record several times, it will only take a few big deals to hit and many others will follow in a domino effect. Bottom-line, the large BPO providers have capacity and are willing to invest in clients to gain an edge in this market. Most of the near-term deals will more likely be captive acquisitions like the two mentioned above, but this is the clear strategy some of the providers are following to build out a global delivery infrastructure. (Hey – I managed to avoid saying lift n’ shift).
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So why do I think this sector is poised to become a BPO hotbed?
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Competition is too fierce and the incumbents are looking at all options to contain costs and improve margins;
Decreased shelf life of products;
Business impacts and high costs of maintaining non-strategic and closed blocks of business;
Rising wage costs and attrition within captives is proving too costly and taking up far too much management resources – the outsourcing option is becoming increasingly attractive and less risky from a business perspective;
The sub-prime fiasco has really changed the game with several FSI firms – they are now prepared to take on more risk to remain profitable;
BPO models can help firms scale up and down quicker – particularly with a looming economic downturn. Having that flexibility could prove vital, especially in times when FSI firms need to get product to market quickly;
Improved service levels from providers and their willingness to take on more customer risk;
Improved technology add-ons at no incremental cost, for example analytics tools, that can sweeten the BPO opportunity.
As I’ve mentioned before, I admire people with the dedication and focus to write a book… especially one about their experiences of offshoring. Step up Utkarsh Rai, who heads up India operations for Infinera, an optical transmission equipment supplier, after starting his career working for Siemens in India in the ’80s and spending time in Germany and Silicon Valley in various roles. Uktarsh has a deep and unique experience of setting up offshore operations in India and has kindly offered to share some of his views here, taken from his book Offshoring Secrets. I found the book an extremely informative and refreshing read about the trials, tribulations and best practices behind developing successful offshore operations . Over to you Utkarsh:
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Global corporations, especially those with large operations in the west, are constantly seeking to reduce costs, improve bottom lines, and create “quarterly results” magic in the least possible time. There are many secrets to make an India operation successful, to name a few:
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Leadership skills: It is not appropriate to expect that one person should be able to provide both management and technical leadership with equal ease. During the initial setup time where around 60-70% of the time of the leader spent in non-engineering activities, it is very important to have someone coming from parent company to provide the technical direction.
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People Management: The Indian IT industry is marked for their heavy dependence on people. People issues can arise due to any of the following: career crisis, appraisal, pay hike, designation & promotion, work content and many more. It is important to understand that people management demands a good amount of time & attention from people managers.
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Attracting Talent: There are many ways by which one can attract right talent: Few of them are: Rejected candidates sometimes help in spreading the word if they are impressed during the interview process. Providing an excellent work environment, a challenging work and a competitive compensation and benefits package are important in attracting the talent. Reference checkshould not be treated lightly and should not be left to the recruitment agencies or HR. Hiring manager or engineering head should personally undertake this activity as it will help in positioning the company better. Senior management should spend time with prospective candidates and last but not the least Ex-employees as company ambassadors so one should treat them well.
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Attrition and Retention: The widely held believe that most of the people leave because of salary is not true. It is mostly the manager.
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Cost of operations:For the last three four years the salary raises have been given to India employees in the range of 15-20%. But this does not translate into the payroll cost. The annual payroll cost increase can be around 5% or so, depending upon the type of growth in the headcount. Also the cost should be compared against the average experience level in the center, which can provide the correct data about cost escalation. Initial years might see a higher experience level and higher cost, which will lower with the expansion of team.
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Communication: There are many ways in which any surprises in execution can be avoided. Frequent voice contact is a must. Status report should state assumptions and facts clearly. Early identification of risks and its tracking is important. In order to get better result, it is imperative that engineer to engineer interaction should be high by travel and by voice contact.
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Cultural differences: Though there are many cultural differences between India and the West, but to name a few ones:
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“Compare and contrast” culture: The compensation and other personnel details are discussed freely leading to multiple people issues.
“Social” culture: The work environment also becomes a social network which on one hand helps in better teaming but on the other hand fuels “compare and contrast” culture.
“Seniority” culture: In Indian society, age and knowledge are important factors in commanding respect. Age usually takes precedence over knowledge.
“Difficult to say no” culture: Saying “no” means different to different people. It can be interpreted as impolite or disobeying or doubting ones skill etc.
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Commitment: This is the fundamental question which should be asked to the person responsible in the parent company for the offshore team in India. Most of the time the decision to open an offshore center or team is forced upon him and he has no other option for the lack of alternative plans for achieving the desired goals.
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Trust:The offshore center that is being setup or is operational will not be successful if the core ingredient of trust is not present between the parent organization and the India operations.Trust is mutual and plays a significant (but hidden) role in the success an Indian office.
Firstly, thanks to all of you who have sent me best wishes – both privately and on the site. I am currently in the throes of rolling out a research agenda that aims to fill a significant gap in the industry to advise buy-side clients on how to approach their complex sourcing issues, particularly in light of this mooted economic downturn. This will focus more on the how to source than the what, based on multiple ongoing discussions with enterprises that have been through the process and are continually looking to optimize what they have on a global basis. I wanted to invite regular visitors to this site to contribute their ideas and views on what the industry needs to see from a research perspective. Feel free to share your views here, or email me directly.
I am returning to my analyst roots with AMR Research, where I will be studying Outsourcing and Implementation Services markets for AMR’s enterprise clients.
Those of you who know me well, will remember I spent the first 10 years of my career in the analyst community, before moving into the outsourcing advisory world three years’ ago. I have found the practical experience of working on outsourcing and offshoring engagements extremely valuable, but always wanted to go back to my analyst roots at some stage (it kinda gets into your DNA…). AMR sets such a high standard with its research, has some of the finest analyst minds in the industry, and is in my adopted home town of Boston. Moreover, I am delighted to end my days of waking up every morning in airport Marriotts, stuffing free beer from the concierge lounge in my laptop bag each evening, and getting back to what I love doing best 🙂 But I do have some pretty decent frequent flyer status…..
I found myself embroiled in a debate with a colleague today, who covers software markets. 2008 promises to be a year of unprecedented consolidation in many niche software markets… because supply usually outstrips demand in new innovative areas (where software products tends to live), software products often complement each other, and software companies like to buy each other to hoover up more clients. Software is an acquisitive industry, which is so well highlighted over at the Human Capitalist with the example of HCM vendor Workstream hawking itself around potential suitors. (I know several software entrepreneurs who spend all their time trying to find someone to buy them out…. that’s their end-game).
So why do we see zero action happening with the large outsourcers? True we, see growing outsourcers like NCO buying up specialist process vendors like OSI to build out their global delivery model and broaden their process scope, but what ever happened to Accenture buying Hewitt, or IBM buying Genpact, or Infosys buying CapGemini (the list goes on….)? So here’s my reasoning:
Outsourcing industries let themselves flesh out naturally… remember HRO? The only large acquisition of any note was ACS buying Mellon’s HRO business, which seemed like the right move at the time, but did little to bolster their HRO business. After that episode, the leading players saw the market for high-end engagements dry up and they simply watched as the second tier took itself out of the enterprise market.
Well-resourced ambitious outsourcing providers prefer to grow organically and acquire new clients they want to grow their long term business. This way, they can shape the type of services and global delivery model they want. Moreover, why buy up a rival, when many of its clients are not particularly (if at all) profitable, and you will pay an inflated premium to acquire all its assets? As outsourcing solutions mature, each deal is (normally) structured better than the last, buyers get smarter, and the risk of failure decreases. It’s fascinating to observe the leading Indian-HQed providers competing aggressively with the Tier 1 incumbents for high-end clients – they want to build up their client infrastructure their way, and not simply inherit clients whose engagements may not be optimum.
Outsourcers like to acquire firms that bring something new to the table to enhance their outsourcing offerings – for example new technologies, or a niche expertise that gives them competitive advantage. Too many large outsourcers are too similar… they overlap too much and a merger would often end up as an unprofitable exercise and result in a mass exodus of key talent.
The market for IT outsourcing and F&A BPO, which tend to derive from companies which have both offerings (namely IBM, Accenture, Infosys, CapGemini, Wipro, Genpact), are doing well and there is enough business to go around for the time being.
However, I would add that the new tier of Indian outsourcers, namely Satyam / Nipuna, Patni, HCL and Comnet are potentially disruptive to the Tier 1s. They have the capability to aggressively undercut pricing with offerings such as Remote Infrastructure Management, which can drive significant downward pricing pressure on an engagement, and eat into the lifeblood of CSC, EDS et al. Some Indian-based firms are already claiming a 50% cost decrease from original budget with their RIM offerings. It’s not inconceivable that some other Tier 1s will look to take these firms out of the market as a strategic move to protect their market share.
All in all, I don’t expect any major acquisitions in the outsourcing space in 2008. With a likely recession poised to spike demand, there will be enough business to go around. I can see the industry reaching saturation in 2009 / 2010, and then we may see some strategic moves, but at the end of the day, outsourcers simply don’t like the taste of each other.
Away from the outsourcing topic, I watched the Democratic debate (or should I say "slugfest") last night on CNN. Being a citizen of the old country, I am used to opposing political parties viciously going at each other… but never the politicians from the same party. If two British MPs (Members of Parliament) from the same party threw accusations at each other in public anything like Obama and Clinton were doing, their party would have thrown them out, because the only winners from my perspective were the leading Republican candidates. The Democrats should be celebrating the fact they have, for the first time, both the first African American and woman candidates leading the race for their presidential nominations, but instead we are subjected to them trawling through each others’ backgrounds on live TV digging up dirt on each other.
Please can we see their campaign leaders clean up their act for the remainder of the campaign?
You may recall the feisty debate on the H1B Visa and outsourcing issue here and here last year. With the 2008 campaigning now in full swing, the "O" issue is noticeably absent from the candidates’ agenda and our old friend Lou Dobbs is waiting in the wings to shoot pot-shots at any of the candidates who say anything that remotely supports offshoring, outsourcing or increasing H1B visas. Step up Hillary Clinton (see video clip below, taken from Lou Dobbs’ CNN show last year).
Yes, she’s supporting Silicon Valley businesses and has them contributing substantially to her campaign, but at least she’s openly discussing the issue and – more importantly – attempting to tie together the realities of outsourcing, offshoring, immigration and the need for the US government to invest in developing technical and engineering talent. I respect Lou Dobbs a great deal – he’s a passionate man who sincerely believes in his vision for American workers, has a great sense of humor, and conjures up some excellent – and entertaining – political discussion. However, this H1B argument just isn’t holding up.
One key reason is the fact that the average salary differential between a "domestic" worker and his/her supplanted job to an H1B worker is….$12,000 per annum. Having advised on several offshoring and outsourcing engagements over the last three years, I can state categorically that I have yet to see companies go through an offshoring or outsourcing process – driven by the goal of cost containment – at such a low cost-saving per FTE. Most companies will not entertain outsourcing business cases if they cannot achieve cost savings in excess of 25% from their original budget – it’s simply not worth the transition cost, complexity and risk to many firms. I would add that some companies have moved into outsourcing engagements at cost-savings lower than 25% from original budget, but their reasons for outsourcing were nearly always driven by motives beyond mere cost-reduction (for example, the need to re-design and standardize processes and drive rapid change to their enterprise that an outsourcing environment could bring). Bottom-line, most companies can’t be hiring H1B workers for the sole purpose of saving a few bucks… they generally need these staff. More key points regrading this issue:
Clinton’s policy is to increase the current (and already reached) H1B Visa cap from 65,000 to 115,000. Er… is this a big deal – will this type of increase in temporary workers cripple the US economy?
Clinton wants to increase the H1B Visa fees for sponsoring companies. The current cost of sponsoring an H1B Visa for an organization is about $6,000 – which covers USCIS fees and typical attorney costs. Clinton wants to re-invest these fees into grants for training and education of US graduates in these specialized professions. Why not raise these fees to $10,000? This would have the effect of nullifying any minimal "cost-savings" of bringing in a skilled immigrant worker, and would incent the sponsoring US organization to focus on sponsoring higher caliber staff which are really worth the effort of bringing over (normally US firms will have to cover relocation costs, flights home for their H1B staff and devote HR time to administering the whole process).
H1B is "legal immigration" and represents a very small fraction of the total number of immigrants in the US.
The H1B cap is a year-by-year renewable policy. It provides short-term solutions for businesses which need skilled staff.
Dobbs makes the argument that "7 out of 10 H1Bs are going to Indian companies for outsourcing". Let’s not beat around the bush here, but most of the FORTUNE 1000 firms have been outsourcing some elements of their IT services or business processes to firms that have offshore staff in India. As discussed here on this site on many occasions, outsourcing providers – and firms that have their own captive offshore resources, must have strong "bridging" teams that can help manage the work being carried out offshore, particularly for complex tasks such as application development, implementation services, and BPO processes such as accounting, claims processing etc. These bridging teams need native staff from the offshored location who can communicate effectively with the offshore staff, oversee the day-to-day operational issues and manage the knowledge transfer activities, and understand the cultural, management and communication issues that are crucial for ensuring the ongoing success of the offshore work. Without many of these H1B staff, US businesses will suffer as a result of poorly managed outsourcing and offshore captive work. If Lou Dobbs is so desperately unhappy about this high ratio of Indian-centric staff holding H1Bs, then he needs to focus his attacks on the vast majority of today’s FORTUNE 1000 leadership, which made the decisions to use Indian offshore staff in the first place. This high proportion of Indian staff is not the cause of the problem, but merely a symptom of what is happening. The root causes of US firms needing to use offshore resources are set deeply in the culture of corporate America, and the political and educational manifestations of the Unites States over the last three decades. I’m going to tackle the key issues the government needs to address in my forthcoming post "the Outsourcing Equalizer", if it wants to accelerate the development of local IT and business process services centers.
Peter Schumacher, President and CEO of the Value Leadership Group sent me a very interesting article he wrote on the failure of the European IT services industry to compete effectively with the new wave of offshore outsourcing firms, and cites Cognizant’s recent growth surge (a 98% revenue increase for its European business in 2006) as a prime example of European’s IT services providers inability to cope with this competition. This is not dissimilar to the failure of the US IT services incumbents to recognize the growth surge of Infosys, Wipro and TCS in the late ’90s. The five key reasons discussed for this failure are:
