Nearshore - the new offshore?

Realities of unsafe world affected outsourcing industry.


Despite the economic crisis and challenges it has brought to global economy, the outsourcing market is expanding to offer both a bigger choice of locations and a wider range of services. These are turbulent times increased importance of operational efficiency and cost reduction, which closely associated with outsourcing nowadays. As the scale of this crisis become clear, most companies introduced cost-cutting measures and approved outsourcing strategies. Many see outsourcing as a road to survival as it allows to mitigate budget and bottom line pressures.

Outsourcing is not, however, appeared to be a panacea as many have tried and failed to make it work, especially where long distances, unfamiliar cultures and intellectual property along with other risks are involved. There was a big rush to go offshore early this decade, particularly to India. But the time and expense traveling to remote locations mainly caused by cultural and language dissimilarities has been noticed.

The global political, economical, social and security changes during past year have a substantial impact on outsourcing industry at international level. After the terrorist events and corruption scandals of 2008 in one of the offshore industry main destinations, the outsourcing decision process as well as risk/reward calculations have irreversibly been changed. The new realities of socially unsafe world have fully overrun into outsourcing decisions. Client's interests are no longer motivated by only English language skills and high numbers of unemployed locals as such criteria do not ensure data safety and business continuity. As every company that outsources is fully exposed to the downstream risks, unless it can establish the threats in the regional location where their operations are hosted.

As the savings gap between India and other world locations sunk to less than ten percent, the value proposition is tempered more by potential threads. From this point, the ability of suppliers to ensure that customers' sensitive data and business processes remain safe with the perspective to location's proximity, intellectual protection and infrastructure capabilities has been considered as an important element of decision making process and included into strategic outsourcing planning. While less inclusive outsourcing location rankings based on cheaper but skilled labor pools and tax incentives considered to be not sufficient to make a qualified destination decision.


Nearshoring - strong trend


Escalating uncertainties of regional threats in offshore locations combined with increased focus on vulnerability management and demand to keep data, process resources and account executives closer to where clients actually based have contributed to the shift in delivery preferences.

The survey being made by Black Book Research indicates that Central and Eastern Europe and Latin America are viewed as significantly less dangerous outsourcing locations that all major hubs of India and being marked as the top destinations for operating with lowest downstream risks in 2009. According to research having centers nearshore and sameshore will be a major client priority during next years.

Compared with offshore outsourcing, there are some other factors of nearshoring allowing to improve outsourcing governance and build productive relationships with providers, including less travel costs, less time zone differences, and closer cultural compatibility. In nerarshoring study conducted by Erran Carmel and Pamela Abbott argue convincingly that distance still matters, and point to customer choosing the nearshore option to gain benefit from one or more of the following constructs of proximity: geographic, temporal, cultural, linguistic, economic, political, and historical linkages.

Canada, Central and Eastern Europe and Latin America, for example, are significant nearshoring destinations for US and West European customers respectively, and some analysts argue that US and West European clients can have lower total costs with nearshoring to Canada and Central and Eastern respectively than with offshoring to India. As proximity between parties provides with lower costs interaction enabling client's management to be more present in the project, cultural closeness also makes easier communication thereby reducing time to reach a conclusion. Time zone aspect eliminates the need in extra work. And as a result of all this the hourly rate difference between nearshore service model and “traditional” farshore model is eliminated and real costs match.


Conclusion


Increased focus on vulnerability management as well as shifting outsourcing delivery preferences to nearshore and sameshore allow nearshoring destinations to profit from nearshoring advantages in their specific clusters based around clients in North America, Western Europe and in a less degree East Asia, differentiating themselves from farshore suppliers on proximity criteria. While traditional offshoring suppliers, particularly Indian leading providers will find the lack of client nearshore and sameshore options as absolute deal breakers and streamline their efforts on advancing to Central and Eastern Europe as well as Latin America to establish data and service centers to reduce downstream risks and diminish concerns of US and European clients.

Top Security Trends for Outsourcing in 2009 by Black Box Research

Political, Economical, Ecological and Social changes in 2008 have substantial effect on outsourcing industry. The global economic crisis, terrorist attacks, corruption, catastrophes and rise of whole new bunch of emerging outsourcing destinations have changed global outsourcing landscape. Black Box Research claims in its report that last year's events have irreversibly changed the process of evaluation of outsourcing destinations and risk/rewards calculations.
With an increased advertisement flow from emerging outsourcing spots on behalf of developers from various countries investors and clients interests are no longer motivated by destination advertisement alone. English skills and high numbers of local unemployment turned into misguided recommendations of where to consider outsourcing. As an example can be recent endorsement of South Africa, Nigeria, Pakistan, Kenya and Jamaica that finally proved unreliable and were excluded from the next year's lists of hot outsourcing destinations.


The realities of politically, economically and socially unsafe world have direct influence on outsourcing decision process. Ability of supplier to ensure that customer's sensitive data and processes remain safe has been included into offshore strategic planning. As every company that outsources is exposed to the downstream (security) risk, it is essential to establish high-quality control and determine the best location choice for its organizational processes.

As the saving gaps between India and other outsourcing locations widens less than ten percent, the value proposition tempered by potential treats. Offshore location rankings that based on cheaper but skilled labor pools and tax incentives are not adequate to make a qualified destination selection. With the emergence of new outsourcing sites and diversification of outsourcing vulnerabilities companies cannot afford to neglect vulnerability management and need to secure their sensitive data. Offshore outsourcing vulnerabilities and weaknesses need to be identified and addressed before they cause a security, quality or access issue.

With increased emphasis on security and reliability outsourcing decision making process has been changed making corporate development and location specialists absorbed by the challenge of determining the best location for their organization. As uncertainty of regional threats in offshore location continues to grow and companies want to control their data and processes there are new trends emerged.

Security Trends in 2009

1. In striving to keep data, process resources and account executives locally many companies will shift outsourcing delivery preference to Nearshore and Sameshore
2. Management of outsourcing strategies and global operations continue to sharpen focusing on mitigating offshore risks, vulnerability assessments and measure tools
3. Lack of nearshore and sameshore options force Indian providers moving to Central & Eastern Europe and Latin America to establish data and service centers
4. Increased role of safety and vulnerability measurement:
- The top locations for operating with lowest downstream risks in 2009 are Central & Eastern Europe and Latin America
- Hot spots to avoid, Southeast Asia (with the exception Singapore, Singapore) and Africa (with the exception Cairo, Egypt)
5. Strong green trend demanding offshore vendors to reduce technology carbon footprint
6. Outsourcer's quality can impact on client's brand. As suppliers integrates deeper into core business processes company's clients are look to see who it uses for outsourcing and where it offshores
7. Outsourcing suppliers will provide better service and price hoping to get long-term deals
8. Clients demand promised savings payment upfront from outsourcers. To cope with global slowdown and credit pressure companies demand upfront savings payment making the costs of acquiring new businesses for offshore vendors higher, however upfront payments can be a good differentiator for money-rich Indian suppliers.
9. Escalating US Unemployment brings workforce back home. Growing US unemployment has already driven domestic wages much below where they previously were. The U.S. Immigration Service slowed the process of obtaining H1B visas discouraging foreign workers to apply for local jobs.

With more organizations embracing offshoring and Business Process Outsourcing (BPO) became a common practice where providers get an access to most sensitive client's corporate data assets an information security has became a top concern among companies evaluating current and potential outsourcing relationships. Companies perceive a significantly higher security risk in working with offshore providers over those in the developed countries due to a lack of trust in legal and regulatory environments in developing countries.

Successful outsourcing requires successful security management and most companies applying outsourcing indicate that security management requirements need to be defined in the contracts and agreements governing outsourcing relationships. At present immaturity of security and vulnerability management stand as the biggest management challenge in outsourcing. A well defined security management plan that balances control and freedom can be effective in securing data and increasing the confidence of consumers and other stakeholders.

In a country scale where providers with operations in Asia and Africa are particularly challenged by the security and perception gaps, those destinations which can undertake resolute steps to improve legal environment and infrastructure for better data protection and minimization of offshoring risks as well as facilitate to the development of a security culture will attract investors and perspective clients not only by providing right mix of enhanced capabilites and costs savings but and increased security confidence that will be a significant differentiator for further strategic choices.

Outsourcing Relationships Before and During the Global Financial Crisis

The aim of this paper is to analyze the history of evolution of outsourcing relationships, discuss the main changes occurred over last years and point to effects of the Global Financial Crisis on outsourcing relationships.
Before...

During last decade outsourcing has became more popular, enterprises chose to outsource various functions for all kinds of reasons, some of important were reducing and controlling operating costs, improving company focus, gaining access to world-class capabilities and to releasing internal resources for more important activities. Onrush of Information and Communications technologies has brought IT outsourcing as a priority topic on executives agendas as organizations realized an important role of IT in business transformation and potential it carrying in achieving strategic goals.

Growing IT outsourcing market and continuously developing business models have had a significant influence on the type of outsourcing relationships. With emphasis shifted from short-term cost reductions to achieving sustainable competitive advantage, strategic outsourcing concept has emerged. Aimed to transform the business, and in addition to reduce costs of operations, enterprises began to look to outsource business areas to achieve greater flexibility and to gain greater ability to respond to market changes nimbly. Essentially, outsourcing is evolving into a strategic tool for change, and that change has a significant impact on outsourcing drivers and types of services involved. The emphasis has been to intellectually based service activities, such as research, product development, logistics, human relations, accounting, legal work, and marketing and market research. The outsourcing market has shifted from a cost focus to a business focus with emphasis on access and speed to market.

The co-called Business Process Outsourcing (BPO) where outsourcing employed to re-design complete business processes and increase value across whole value-chain, has turned out to be the most significant business trends and largest growth IT sector in the last years. Organizations that outsourced for strategic, not tactical benefits pursued new roles for outsourcing and pioneered new paths of outsourcing relationships. Emphasis has shifted towards closer interaction between outsourcer and provider as organizations engaged in network partnerships with multiple suppliers, each of which is best-in-class for the respective outsourcing function and where one vendor taking the role as coordinating prime contractor. The focus of that new form of outsourcing lies on long-term strategic partnerships where risks and rewards are shared, and vendors are willing to invest for innovation and technology expecting long-term cooperation and revenues.

The quality aspect of outsourcing relationships and successful management has been gaining an importance. Strategic management of outsourcing has been named by leading experts as one of the most important tool in management. New concept of outsourcing relationships referred to a purposive strategic relationships between independent companies sharing compatible goals, striving for mutual benefits and acknowledged a high level of mutual interdependence. This new type of relationships implied an investment which tied outsourcer and provider together and determined a fit which makes it beneficial to stay with one partner than to continuously having to establish new connections. Building such collaborative arrangements not only facilitated investment and innovation or accelerated reaction time but enabled organizational change that lead to competitive advantage.

In 2005 the list of TOP30 Outsourcing Benefits was published, which go beyond conventional cost reduction and resource supplementation declaring that company which outsource could achieve the following gains:

1.Reduce overheads, free up resources
2.Minimize capital outlays
3.Eliminate investment in fixed infrastructure
4.Offload non-core functions
5.Redirect energy and resources into the core activities
6.Focus scarce resources on mission-critical projects
7.Get access to specialized and sufficient skills
8.Reduce need for internal commitment of specialists
9.Save on manpower and training costs
10.Control operating costs
11.Improve efficiencies through economies of scale
12.Improve time-to-market pace and quality of service
13.Level out cyclical or seasonal fluctuations
14.Eliminate peak staffing problems
15.Provide the best quality services, products and people
16.Be reliable and innovative
17.Provide value-added services
18.Increase customer satisfaction
19.Establish long-term, strategic relationships with world-class service providers to gain a competitive edge
20.Enhance tactical and strategic advantages
21.Focus on strategic thinking, process reengineering and managing trading partner relationships
22.Benefit from the provider's expertise in solving problems for a variety of clients with similar requirements
23.Obtain needed project management and implementation consulting expertise
24.Acquire access to best practices and proven methodologies
25.Spread your risks
26.Avoid the cost of chasing technology
27.Leverage the provider's extensive investments in technology, methodologies and people
28.Reduce the risk of technological obsolescence
29.Increase efficiency by consolidating and centralizing functions
30.Keep pace and minimize the impact of rapid changes in technology without changing your infrastructure.

Financial crisis of 2007–2009...
The process of evaluation and maturation of outsourcing strategic relationships should have run steadily its course unless the Global Financial Crisis has dramatically changed the natural order of things two years ago. People are no stranger to the effects that the global financial crisis has put upon different businesses and industries. Companies, under incredible pressures to take costs out wherever they can and CFO's pounding on their CIO's to just outsource everything, just offshore have returned to conventional form of outsourcing focusing only on cutting costs in the short term by reducing head-count and moving assets and liabilities from their balance sheets on to those of their service providers.

On the other hand we have seen large portion of customers studying their existing relationships to identify how more value can be derived from them. They are seeking to reduce service level requirements to reduce the cost of service delivery and therefore charges. We also see companies looking more aggressively at enforcing their contractual rights; for example, to service credits, to the exercise of benchmarking, or to the implementation of audit rights.

Many companies run headlong into a re-negotiation without taking the time to consider exactly what the opportunity might be and where the savings might lie. Equally, many customers assume that it is their right and privilege to re-negotiate downwards without considering the service provider’s motivation or how the service provider can be persuaded to contribute positively to the re-negotiation exercise.

Instead of forcing service providers to focus on what is important to the buyers, customers should be more strategic in their methods allowing both parties to benefit from re-negotiation exercise. In striving to cut costs and derive more value from outsourcing contracts companies may forget all important lessons they have learned rushing into ambiguous arrangements chasing short-term, and sometimes elusive benefits.

After years of evolution of outsourcing relationships from conventional outsourcing to strategic (transformational) outsourcing enabling companies launching new strategies and reshaping organizational boundaries while improve efficiency and time-to-market, it is an imperative for business public to save all those achievements and prevent strategic form of outsourcing where long-term strategic relationships based on trust, integrity and credibility for the success. We should remember that purposive strategic relationships between two independent firms who share compatible goals, strive for mutual benefit and acknowledge a high level of interdependence not only facilitates innovation and accelerates respond time but enables rapid organizational change that lead to competitive advantage.

Outsourcing opportunities in non-BRIC countries, LSE Report Overview

The Global offshore outsourcing market for IT and business services has exceeded $55 billion USD in 2008 and some estimates suggest an annual growth rate of 20% over the next five years. In 2008, India exported $40 billion of ITO and BPO services, while China, Russia and Brazil managed $5 billion, $3.65 billion and $800 million respectively. However, there also were 120 other active offshore locations offering IT and business process services. All were looking for new business. Moreover, the BRIC countries are not without their problems, with Brazil and China hardly leveraging their potential, Russia lacks of government support and is being led into high-value but niche work, while India and China may even be seen turning to Non-BRIC locations for some of the solutions. All this points to the fact that relative attractiveness of BRIC and non-BRIC countries as offshore, outsourcing and business locations is highly dynamic.

Specific Research was undertaken by the Outsourcing Unit at the London School of Economics and Political Science (LSE) to identify major global trends for outsourcing market that will develop over next five years. The analysis points to 11 major trends shaping global sourcing, and so impacting non-BRIC activity over the next five years. Also, the report provides with the most recent research and details as to how the economic downturn will have mixed and impacts on this trends. The implications of each trend are identified for non-BRIC countries along with their attractiveness and possible responses over the next five years.

Trend 1: The rising spend on outsourcing markets - BPO will overtake ITO within 5 years.
According to the study the global BPO market grew at a faster rate than ITO market in last years. In 2008, the global ITO market was estimated to be worth between $220 and $250 billion, while the BPO market was less. The estimate for ITO market, over next five years shows that it will grow by 6-9% per annum while BPO expenditures is likely to grow by 10-15% a year, from $140 billion in 2005 to potentially $230 billion by 2013.

Trend 2: The growth of multi-sourcing.
Although the spending on ITO and BPO services is increasing, the average size of individual contracts and the duration of contracts is decreasing. The study claims that client organizations are actively perusing more multi-sourcing. Multi-sourcing has always been the dominant model and the overall growth driven by client organizations signing more contracts with more suppliers. However, while multi-sourcing allows client to access most fitted suppliers and mitigates the risks of reliance on a single suppliers, it also increases transition costs as suppliers must bid more frequently because contracts are shorter and suppliers face more competition.

Trend 3: India's changing role.
There is an evidence that US and EU clients initially used Indian suppliers to provide technical services, such as programming and platform upgrades. As the relationships matured, clients assigned more challenging work to Indian suppliers, including development and support task for critical business applications. The suppliers from three leading Indian suppliers mentioned their wish to assume higher-value tasks, such as research and development, and knowledge process outsourcing.

However Indian, and to a lesser extent China, Brazil and Russia are already experiencing upward pressure on wages, combined with rising, sometimes high, labour turnover rates. Also, both India and China are increasing their own offshoring of IT and BPO work to other countries.

Trend 4: China Promise.
In 2006, China invested $142,3 Billion in its ITO and BPO markets, specifically in information and communication technologies, to secure its global position in offshore/outsourcing services. China's long term ITO/BPO future is seen to be strong. The Everest Group estimated that Chinese offsore services market was only $2 Billion in 2006, but it predicts a growing of 38% annually to reach $7 Billion by 2010.

Despite the optimism, many client organizations are wary of China's ITO and BPO services. Language and cultural barriers along with fears to lose intellectual property remain significant obstacles for many companies in US and Europe.

Trend 5: Emerging country competition.
In addition to India and China, suppliers from all continents will develop centers of excellence. In US and Western Europe, organizations will increasingly outsource IT and business services to providers located in closer proximity with less time zone differences and lower transition costs than Asian alternatives. By the end of 2008, the Central and Eastern European ITO market exceeded $3.5 billion, with Russia also exporting over $3.6 billion of IT and business services.

Trend 6: returning to "software as a service".
According to the reports back in 2002 many large organizations were not interested in renting applications, services and infrastructure over networks. They already had ASP product offerings and expertise in-house, and they wanted customized services and to source to stable providers, not risky start-ups. Many analysts thought that ASP died with dotcom bust but there are several reasons (see blow) to believe that organizations will reconsider ASP for targeted activities, not least as it evolves into software as a service.

• large organizations want net-native applications that are available through ASP delivery
• organizations are ready to abandon their expensive proprietary suites for cheaper ASP alternatives
• ASP providers realize that customers want customized services, and the need of customized services increases service providers viability as they can generate profits by charging for value-added services

Trend 7: outsourcing helps insourcing
As organizations become smarter at outsourcing, they also become smarter at insourcing. In-house operations are facing real competition in nearly every area and can no longer assume they will retain their monopoly place with the organization. As a result, in-house operations are adopting the techniques of the market. However, insourcing will be impeded by a shortage of talent within developed countries, particularly for IT skills. Nearly every research report suggests that US and Western Europe countries will suffer a shortage of domestic IT workers within the next five to ten years. For example, the UK will experience a shortage of 714,000 IT workers by 2010, while US is projected to short of 17 million skilled workers by 2025, France, Spain and Germany each with 3 million and Italy with 2 million short.

Trend 8: Nearshoring - a strong trend.
Nearshoring is defined as outsourcing work to supplier located in a lower-wage foreign country close in distance and time-zone. Compared with offshore outsourcing, the benefits of nearshoring include less travel costs, less time-zone differences and cultural affinity. In the Nearshoring studies experts are arguing that the distance still matters and point to customers choosing nearshore option to gain benefit from one or more of the following constructs of proximity: geographic, temporal, cultural, linguistic, economic, political and historical.

The Central and Eastern Europe is significant Nearshore destination for Western Europe. According to a 2006 Deutsche Bank Research imports of IT services from the Central and Eastern Europe to Western Europe increased an average of 13% per year between 1992 and 2004. This growth nearly comparable to the import of IT services from India, which averaged 14% per year over the same time period. Clients from Western Europe are attracted to Central and Eastern Europe European suppliers for many of the same reasons that US customers attracted to Canadian suppliers: common language, cultural understanding, minimal time zone differences, geographical proximity and low labour costs.

Trend 9: knowledge process outsourcing is increasing
Knowledge process outsourcing (KPO) is the outsourcing of business, market and industry research. KPO requires significant amount of domain knowledge and analytical skills. Although the KPO market was, in 2008, quite small, industry analysts expected a huge growth in this sector over the next five years. There are some estimations that the KPO market will be 17 billion by 2010-2011, employing approximately 350,00 professionals around the globe.

Trend 10: Captives - building and selling.
While it is widely recognized that Western companies are setting up sites offshore, there is an emerging trend called "The GE effect". General Electric established first captive center in India, in 1997. In 2004 GE sold off 60% of its center to two equity companies. A year later the name of the center was changed and now it is one of the top 10 ITO/BPO service providers in India.

With virtual captive center, the company owns the physical operations, but the staff are employed by a third-party supplier. Presumably the captive center offers the best of both worlds - the client investor still maintains strategic control but the supplier equipped to attract, develop and retain local talent.

There are several examples of US companies selling their captive centers. The Black Book of Outsourcing 2007 survey found that selling captive centers may indeed be a significant trend. Among the survey respondents were 487 companies with captive centers in India and Philippines, and 29% of these companies were actively seeking to sell out their centers.

Trend 11: Outsourcing successes and disappointments.
According to Outsourcing Unit it is estimated that over the next five years some 70% of selective sourcing deals will be considered relatively successful. Presumably, clients will be spending anything between 15-58% of their operating budgets on outsourcing, usual to several, sometimes multiple, suppliers. In contrast, it is estimated that only 40% of large scale deals involving complex processes that represent more than 80% of operation budgets will be successful, 30% will have mixed outcomes and 30% will seen as failures.

The Outsourcing Unit at the London School of Economics and Political Science (LSE) states that economic downturn will have a deep impact on trends identified above. By early 2009 there was an evidence of client behaviours observed during previous economic downturns.

• Deferring project decisions
• Consolidating vendor relationships
• Delaying making decisions to commit new contracts
• Looking for dramatic costs savings

All that means that providers will need to be clever in cost control, financial planning and innovation, both for themselves and clients. Providers will also need to be inventive with how they add calue in contracts.

At the beggining of downturn, some organizations took a drastic measures to cut costs and headcount, and hold existing and new projects fire. Others continue to invest in their long-term strategy, though sometimes doing this at a slower rate.

The research indicates that the offshoring and outsourcing markets will remain dynamic, both for BRIC and non-BRIC destinations.