The GE way

Citigroup's divestment of its 43% stake in i-Flex Solutions is another example of a captive BPO unit going the GE way. Late last year, GE announced that it was offloading 60% of its stake in GE Capital International Services, its Indian back-office processing business, to a pair of private equity firms to transition from a captive facility to a third party services provider. Interestingly enough, GE and Citigroup were pioneer investors in the Indian offshore industry more than a decade ago. An article in the Financial Times outlines three broad factors that propel organizations such as GE and Citigroup to take on third-party customers and possibly to spin off their captive units: the need to extract value from an asset, a volatile labor movement that disrupts captive operations, and pressure from local managers seeking independence, allied with the frustration felt by headquarters about running a distant unit.

However, I think this is more a function of the outsourced process than macro environmental characteristics. As this article reports, a large number of companies, including Bank of America, Fidelity Investments, Goldman Sachs, Microsoft and Unilever have established captive centers in India. Therefore, the need to reduce costs of process ownership while controlling for factors such as risk mitigation, the need for control and protection of competitive assets may persuade a firm to establish a captive center. Such outsourcing requirements are characteristics of strategic business processes such as research, product design, etc. and probably explain why there is an increased incidence of captive centers in the area of Knowledge Process Outsourcing in India. Most important, the ambiguity that surrounds the captive vs. third part decision process is symbolic of the dynamism that characterizes the BPO market and its consequent inability to pin itself on one standard model of success.

Outsourcing less of a dirty word

At least, that's what this article in Computer World asserts. As offshoring becomes pervasive and increasingly strategic, CIOs and IT managers are moving beyond the rhetoric to discussing it openly and acknowledging it as a part of their competitive strategy.

To illustrate, Jerry Bartlett of Ameritrade says it's important to define the particular reason you're outsourcing and to honestly communicate that with your staff. For instance, outsourcing at Ameritrade is primarily viewed as a way not to cut costs but to increase speed of service delivery. Since Ameritrade emphasizes innovation, Bartlett's staff understands that if a function is outsourced, it's because it's considered non-differentiating. Bartlett states that the firm has discussions even with its development staff around initiatives that may or may not be good candidates for sending out, so that they understand the context within which they're operating.

Despite managerial acknowledgement of its role as a powerful organizational lever, I still think the decision to outsource remains a difficult one. Paranoia vs. panacea. The tension between improving organizational competitiveness and its impact on the lives of organizational employees is one that managers will have to grapple with for a long time.

Back to Sarbanes-Oxley

The Wall Street Journal reports that an increasing number of US companies are looking to India's IT outsourcing firms to cut the cost and time needed to comply with SOX. Cost savings in excess of 60% are responsible for the growth in SOX related businesses, which, some Indian outsourcing companies say is growing at more than 50% a year. A large component of this outsourcing relates to the organizational systems that support SOX compliance including new technology needed for automation and testing, design and management of compliance databases and development of efficient transaction systems and software.

While the report provides evidence that outsourcing may reduce the costs of SOX compliance, it remains to be seen whether the converse is true. The journal reports that a lack of understanding about what exactly SOX requires still makes it difficult to offshore the most complicated steps of compliance. Some Indian IT and outsourcing companies attest to this when they state that their business was hurt last year as U.S. companies took longer to decide which parts of their operations they could run abroad while staying in compliance with the new law. However, it is my opinion that these are but the short-term ripples of the law. SOX compliance may increase the short-term costs of BPO (including learning and audit costs) but will decrease over a long-term period. After all, the user firm saves on service audit costs, and analogous to quality certifications such as CMM, the demonstration of adequate controls will help the service provider build trust with its clients and reduce the costs of multiple audits.

The list of sins is not over yet.

Measuring it!

A recent article in the Economist refers to three reports - "The Emerging Global Labor Market" by the McKinsey Global Institute, an OECD report and a study by by LogicaCMG, an Anglo-Dutch outsourcing firm - all of which provide a handle on key measures that help to understand the nature and extent of outsourcing and primarily, its overseas component, offshoring. The latter has received widespread media attention as a threat to: millions of jobs here in the U.S., the security and privacy of sensitive customer data, and intellectual property of the client firm. However, little objective information on the outsourcing market exists to either support or allay these concerns. As the McKinsey report highlights, "so far, the debate about offshoring has been fuelled by anecdote rather than fact". Some interesting highlights of these reports are:

In 2003, there were 1.5m service jobs in developed countries that were outsourced abroad. According to the institute forecasts, by 2008, that number will have risen to 4.1m. To set a context, it points out that “an average of 4.6m Americans started work with a new employer every month” in the year to March 2005. A similar report by the OECD confirms that “even the largest projections of ‘jobs lost to offshoring' are relatively small in comparison to general job turnover.” Moreover, the OECD report states that during the period 1995-2002, the growth in offshoring was highest Estonia, Ireland and Sweden, all of them member states of the EU. Probable cause? "European firms," says the OECD, "tend to offshore within Europe" (perhaps, excepting Britain).

The McKinsey report also points out that if current demand continues, the supply of suitable labour in popular destinations such as Prague and Hyderabad will run short by 2006 and 2008 respectively. The demand for engineers from Britain and America alone will use up the suitable supply in all of China, India and the Philippines by 2011. Given sunk costs in physial and human capital, this necessitates the need to tread carefully towards choice of outsourcing destination.

The study published by LogicaCMG, an Anglo-Dutch outsourcing firm, points to the benefits of outsourcing. It states that the shares of British quoted firms, after announcing outsourcing deals, outperformed comparable firms without such a deal by an average of 1.7% in the month after the announcement. Studies in America report even bigger gains. LogicaCMG says that, if British firms increase their outsourcing by half by the end of the decade, an extra £10 billion ($18 billion) will be added to their stockmarket value. The bottom line? According to the OECD, close to 20% of total employment in the 15 pre-expansion EU countries, America, Canada and Australia could “potentially be affected” by the international sourcing of services activities.

Effective IT Governance

This article by Peter Weill and Jeanne Ross of MIT's Center for Information Systems Research discusses different IT governance strategies and provides an overview of their relative merits in specific business contexts. The study states that IT governance reflects "broader corporate governance principles while focusing on management and the use of IT to achieve corporate performance goals". The figure below, which summaries governance arrangements of top-performing firms, indicates that companies focused on profitability are supported well by centralized governance structures that focus on business process costs. On the other hand, decentralized governance supports innovation and rapid growth, and those seeking to maximize asset utilization adopted hybrid models.


The study also points to some interesting tradeoffs that firms make in their choice of governance structure and objectives. An aligned thought - I am surprised that the study does not discuss the network governance form popularized by the growth in IT outsourcing which mitigates the strength of tradeoffs referred to by the study. As coordination and communication technologies become increasingly sophisticated, IT outsourcing will enable firms to concurrently pursue growth objectives and innovation while reducing costs of ownership of organizational systems and technology.

Salary Trails in Outsourcing

This News.com article refers to an interesting report by NeoIT on the wage rate differential in popular onshore and offshore or nearshore locations. Here is a sample of average annual salaries (in USD) for IT professionals with 2-3 years of experience:

Vietnam: $5,404
India: $8,429
China: $8,799
Thailand: $10,272
Philippines: $11,256
Malaysia: 19.915
Singapore: 37,924

"Salary differences are huge when comparing IT jobs onshore versus offshore, but taken in isolation they don't provide an accurate picture of the total cost of offshoring since it requires a more complex management and governance structure in order to ensure that goals are met," Atul Vashistha, CEO of neoIT, said in a statement. Wage Rate represents 35-45% of offshore costs and 55-65% of nearshore costs.

As coordination and communication techologies become sophisticated and ubiquitous, it is difficult to escape the allure of outsourcing. However, the report also highlights that wage inflation is higher in the cheaper countries. For example, of 18 outsourcing countries, India had the highest year-on-year growth in average salary for IT outsourcing professionals in 2004, at roughly 13 percent. This is an indication that the savings from offshoring may soon thin out as salary levels converge. So, while this may not offset the advantages of outsourcing in the near term, it may well impact the structure of user firms' future-state global sourcing portfolios.

US exports of education and tourism take a beating

I have a bone to pick with Uncle Sam.

Yesterday marked the end of my week-long vacation in London. Soon after my flight pulled into Houston's Bush Intercontinental Airport, I proceeded towards the perfunctory customs and immigration check as a prelude to boarding the flight to my final destination. Here, I was greeted by the US Customs and Border Protection (CBP) Department's pledge to travellers to the United States. It said:
"- We pledge to cordially greet and welcome you to the United States.
- We pledge to treat you with courtesy, dignity, and respect.
- We pledge to explain the CBP process to you.
- We pledge to have a supervisor listen to your comments.
- We pledge to accept and respond to your comments in written, verbal, or electronic form.
- We pledge to provide reasonable assistance due to delay or disability."

The CBP did not adhere to any one of its commitments. No tourist in the serpentine queue leading to the CBP officers looked comfortable and at ease. There was palpable tension in the interactions between the officers and the visitors. Further, while collecting biometric information including fingerprints and digital photographs, no effort was made to assuage visitors' concerns. As one of the officers rudely brushed aside my concern about missing my connecting flight, a visitor from the UK, who stood directly behind me, remarked, "Fortress America treats us like common criminals, isn’t it? Actually, worse. For we're guilty until proven innocent."

I am not against the extant security practices, policies and procedures. However, my experience at Bush Intercontinental revealed to me a slip between the institutionalization of such policies and their execution, which can and is shifting focus from the isolation of terrorism to the isolation of America. According to the Commerce Department estimates, visitors from foreign nations accounted for about $93.5 billion in spending and economic activity in the United States in 2004. However, that is fast changing. Between 2000 and 2003, the United States' worldwide share of travelers from Britain declined by 15 percent, from Germany 18 percent, from Japan 15 percent and from Brazil 28 percent, according to data from the Travel Industry Association of America. A November poll by Seattle-based market research firm GMI Inc. of 8,000 consumers from eight industrialized nations revealed that 55 percent of respondents had an increasingly negative perception of that United States. Brad Foss, in this article, “U.S.: an unfriendly fortress?” states that the image problem aside, the U.S. tourism industry is already losing global market share as borders in many parts of the world have become easier and cheaper to cross, and as countries from Spain to Singapore outspend the United States in tourism marketing and advertising.

The commission that investigated the 9/11 attacks also noted evidence of disruption of travel to the United States. Visa applications in 2003 were down 32 percent compared with 2001. It recommended that the nation's border screening system become more efficient and friendly. In the midst of gripping paranoia, are we fast turning into a nation that cannot differentiate its tourist customers from terrorists and immigrants from invaders? We see them everyday. In this article, “Don’t Slam the Door: How immigrants keep this country rolling”, Tamar Jacoby states that immigrants are more than: 20% of all medical doctors, 25% of all PhDs, 30% of patent holders, and 82% of farmhands. Without immigrants, the retail prices of meat, fresh fruits and vegetables would rise some 15 percent; in restaurants, which are large employers of immigrants, the price increases could be twice that.

The U.S. remains dependent on foreign immigration for a large chunk of its science and engineering prowess. According to NASA administrator Dan Goldin, with American students opting out of key math, engineering, and science fields, over the next decade, America will need 50 percent more people with science degrees. Foreign-born-scientists and engineers account for a third of the technical work force in Silicon Valley. Moreover, a quarter of the high-tech companies started there in the 1990s is run by Chinese and Indian entrepreneurs. Immigrants are founders of institutions such as Intel, Google, Carnegie Foundation, Liz Claiborne and Oscar Mayer.

In this review of Richard Florida’s current book, The Flight of the Creative Class: the New Global Competition for Talent, the author states that in the past, a large chunk of the highly skilled immigrant population never returned to their native land, and thus contributed immeasurably to the American economy. However, the isolationist policies pursued by the country and its increasingly unfriendly image are keeping a growing number of talented immigrants out of the country. They have resulted in a serious drop in the number of visas granted to foreigners looking to work and study in the U.S. The book states that the world’s top minds are now increasingly finding international locales more conducive to their work and research. Japan produces cutting-edge consumer electronics. Hollywood finds competition for movie business from Canada, New Zealand and Australia. London, Milan, and Paris compete with New York as the fashion mecca. The drop in student visas to the US was accompanied by a record increase in visas to the United Kingdom and Australia. Florida states that the country faces a major dilemma. Manufacturing jobs have dried up, courtesy of automation and offshoring. Natural resources are under demand by many more countries, primarily India and China, and the U.S. faces significant competition on the scientific front.

Government and business leaders are yet to recognize the “creative class” as a potent force in economic development. In the interim, I aim to request the CBP to either remove their pledge from the airport where it is so blatantly violated or train their personnel better so that I feel welcome in the country where I live, pay taxes and call home. And where I am innocent until proven guilty.