The practice of outsourcing dates back generations, but it is only in more recent years it has grabbed the headlines. In the aftermath of the financial crisis, outsourcing has become an even more important part of running a business. In the words of one manager, it has moved from an economic choice to an economic compulsion.
According to greenfield investment monitor fDi Markets [insert link to product page], 2009 saw the largest ever number of outsourcing projects since data started being collected in 2003. This comes after project numbers had been levelling off and declined slightly in both 2007 and 2008. For 2010, as global markets continue to wobble, the number of projects is on pace to eclipse 2009.
The three largest sectors receiving the most outsourcing projects in 2009 were those that are traditionally the most commonly and easily outsourced: business services, communications, and software and IT services. These have been the most outsourced sectors for the past seven years, with financial services also experiencing high levels of growth. More recently, the machinery and equipment sector witnessed a similar rise.
All companies great and small
On a company basis, it was the larger and more multinational firms that were the most active in outsourcing. Hewlett-Packard and IBM topped the charts with totals of 55 and 52 projects since 2003, respectively. However, smaller companies have become more active in these projects, with the top 10 outsourcing companies only making up 14% of total projects in the past.
Ganesh Ayyar, chief executive officer of Indian outsourcing firm Mphasis, expects the outsourcing market to grow between 10% to 13% over the next year. He points out that of the entire global IT market,the percentage of the industry that has been moved to India is only in the mid-single digits. Consequently, he believes the opportunity for growth is huge. His company performed admirably during the recession and he jokes that its mantra at the time was: “No matter what, don’t lose the customer.”
The word ‘offshoring’ is being changed as we speak because it is moving from labour arbitrage to value sourcing
Mr Ayyar says: “More people are looking at outsourcing but, initially, people were looking at it as a way to reduce the scope of what they do. But over time companies have realised that you can only cut your scope so much. You need to do certain things to support the business.
“The word ‘offshoring’ is being changed as we speak because it’s moving from labour arbitrage to value sourcing. Obviously, it won’t happen in the absence of cost-effectiveness but an increasing amount of value has been added through outsourcing and offshoring. That is a clear trend that is emerging.”
The decision-making process for companies looking to outsource has not changed dramatically over the years, though in many ways it has moved to being driven by adding value instead of cutting costs. Still, the fundamental question companies have to ask themselves is what activities and areas are they better off leaving to another firm. Perhaps just as important, they also need to understand what their core offering is. In other words, what part of the business is unique to them and what parts of the business detract time, space and money from this core.
It is widely acknowledged that companies can also go too far in their outsourcing and must remember not to leave too much of their speciality in the hands of another business.
Furthermore, while the larger corporations tend to be the most active outsourcers, many managers say they have seen growing interest from smaller companies who are more vulnerable to economic cycles.
A large number of these firms are recognising that outsourcing is perhaps even more important to a company with fewer resources.
Nigel Bacon, chief executive officer at Secantor, a firm that is largely involved in financial outsourcing,believes companies are predominantly motivated by costcutting, but are now making sure they do not lose control of core areas of their business.
He says: “My advice always would be not to outsource something critical. Companies need to ask themselves what their core success areas and factors are. And also what areas they can step away from that are not going to give them a competitive advantage.
Outsourcing is letting the best people do the job... I don’t think we are taking jobs away
“We’re seeing that for many start-up companies, especially small and middle-sized businesses, areas such as back office and human resources are being more frequently outsourced because companies of that size cannot afford to do it themselves.”
The financial crisis and global economic downturn has not necessarily changed the outsourcing decision-making process, but it has certainly increased the volume of projects and generated much more interest in the industry. Mr Bacon says he has seen a widespread pick-up in activity since the slowdown began. However, once again it is not merely a matter of cutting costs. Trimming expenses can be done in several ways, but outsourcing is a much more complex way of reacting to a tougher economic climate.
He explains: “What happens in a recession is that people and businesses find it very difficult to grow their top lines. As a consequence,they look to other areas where they can make efficiency improvements. This is not necessarily because it might be cheaper, but because it might be more efficient.”
Where to go?
Once these areas of the business can be identified for outsourcing, the process then moves to choosing a partner for the project as well as a destination. Not surprisingly, it is India that receives the bulk of the attention for outsourcing. The country’s low costs, high education levels and huge number of English language speakers have made it an immensely attractive destination.
However, the destinations for outsourcing are not all emerging market countries. fDi Markets data implies that it is possible for any country or city to make itself a potential place for outsourcing if it is willing to lay the groundwork for it and play to its natural strengths.
fDi Markets shows there is actually a hybrid of developed and emerging market nations making up the top destinations for outsourcing. For example, the top 10 recipient countries include the US, the Philippines, China, Canada, the UK and Poland. Yet when it comes to destination cities, the emerging markets are dominant. India’s Bangalore, Hyderabad and Chennai were the top three recipient cities of investment projects since 2003.
As recently as the past few months there have been a number of investments from both developed nations into emerging markets and, inversely, a few projects from lesser developed countries into places such as the US and UK.
Beyond the bottom line Daniel Naoum is the co-founder of Valueshore, a government-backed association of information technology and communications (ITC) consulting firms operating in Spain, which actively supports and encourages companies to outsource ITC projects to the country. Even though his opinion naturally tilts towards promoting Spain, he says that, in general, the trap many people fall into when choosing a location is to look solely at the bottom line.
He says: “Everyone goes straight to cost-cutting and that is where the decision-making process can stop. I don’t think that is right. They have to talk to their partners and see if there is a shared vision. It is not just about finding the cheapest partner. In the end you’ll get what you pay for.
“It really depends on the project, too. For a run-of-the-mill project it can make sense to take the cheapest option, but if you are being more innovative you need someone you can do business with and who is on the same wavelength.”
As economies around the world remain fraught with uncertainty and sovereign debt risk, companies will continue to actively look for ways to protect themselves against downturns and make their operations leaner and more efficient.
Outsourcing could be one of the few industries that performs well when things go badly. Even though the US and India have emerged as important locations for both inward and outsourcing projects,the market remains open for new players and destinations to win what looks such as a growing market with potential for considerable expansion.
Job Creator or Job Cutter?
Perhaps the most controversial aspect of outsourcing is the ever-raging debate over the effect on employment.
fDi Markets data shows that 131,625 jobs were created by outsourcing projects in 2009, an average of about 352 per project. While it is undeniable that outsourcing projects create jobs in the places where they occur, what about the people who are ultimately seeing their jobs lost to people who will work for less money? It is an argument that is not lost on outsourcing managers, with all of them quick to offer their own opinions. None who contributed to this article shied away from the topic as they are fully aware of the consequences of their work.
Like most outsourcing managers, Daniel Naoum, co-founder of Valueshore, believes the answer to this will come in the future and that we must think of these projects and moves in the long term.
He says: “outsourcing is a question of letting the best people do the job. Lots of people are good at things so let’s make sure they can do what they are good at. I don’t think we are taking jobs away. If a large corporation is struggling, maybe it will fare better if better focused. If the whole company fails, everyone loses.”
Cloud computing: the next frontier?
Cloud computing was mentioned by every single manager interviewed for this article as a concept that could dramatically shake up the outsourcing industry.
Loosely defined as internet computing where information is given to computers and stored in cyberspace, outsourcing managers are keeping a close eye on it. Their reactions are a combination of fear and interest, but most of all uncertainty. Cloud computing is still in its early days and it is unknown if the concept will open up new markets for outsourcing or put a lot of people out of work.
At the moment it is expected to have the most immediate impact on the it sector, with some analysts predicting it could be a $160bn market in only three years. But it could just be the beginning, with expectations that it will eventually be applied to human resources, banking, software and many more sectors. Perhaps it is best summed up by Mphasis chief executive officer Ganesh Ayyar, who says: “Cloud computing, as and when it takes centre stage, could be the biggest disruption to the outsourcing world. Because you don’t even know where the service is being provided, it can outsource the outsourcing. It has the potential to make the outsourcing business market much larger than what it is. The whole concept of political boundaries will be changed dramatically. That’s why i call it ‘disruptive’. not in a negative sense, but it is clearly an inflection point, as and when it is adopted.”