Hindustan to "Offshore-istan" | A Story of Opportunities, Growth and “However”

Hello readers,

I know we were meant to dwell deeper into strategic management framework this time but I had promised a variety of topics when I had started Decaf discussions, so I thought we’ll talk about something different for this edition.

Today, we talk about a revolution that changed how organizations worked. Fueled by strategic initiatives and an intent to achieve organizational efficiencies, this movement created truly “global organizations” and provided developing countries a chance to enhance their economies further, but with a cautionary tale.

Before we talk about the historic events, let’s first understand two key terms that we’ll focus on in this article.

Outsourcing: It means delegating business processes to another company or independent contractors. We’ve seen several examples of these in our day-to-day. Outsourcing allows organizations an opportunity to reduce labor costs, access specialized services and deliver short term business goals.

Offshoring: It involves running a part of the business in another country, usually a developing country to allow cost reduction and fast access to labor pools.

Offshoring has met with promoters and detractors alike. Media has seen some thoughts on Offshoring, claiming titles such as “America’s pain, India’s gain” (The Economist, January 2003) or “Tech Jobs leave U.S. for India, Russia. Who’s to blame?” (Associated Press, July 2003).

Amidst these, we also have studies like “Offshoring: Is it a Win-win game?” by McKinsey&Company which tries to offer a bigger picture view of this step and how it benefits both the Business country and the offshore country.

We’ll breakdown both these views today and understand how these evolved over time.

A disclaimer: This edition is only intended to create awareness about this revolutionary idea and nudge you to think about it from a strategy view. The intent is to not express any support or opposition for offshoring. Like any other concept, it has its pros and cons.

History

Offshoring isn’t a new concept. Started in 1960s and 70s, when large corporations started transferring manufacturing processes to lower-cost countries, it evolved over time with advancements in IT evolution and growth of internet and telecommunications in 1990s.

For India, Offshoring took a big leap when Jack Welch, the then CEO of General Electric visited India and met with Indian political leaders in 1989. Soon, GE started setting up shop in India with its Medical division leading the way. This was followed by Bill Gates, who visited India in 1997 following a similar trend of business expansion and investments in India. These steps taken by two giants in the industry created assurance amongst peers and competitors to explore this new avenue.

Also, in her book “The Billionaire’s Apprentice”, Anita Raghavan talks about the role played by Rajat Gupta, McKinsey’s managing partner from 1994 to 2003 and Anil Kumar, the man who had developed McKinsey’s internet practice in Silicon Valley, in the evolution of offshoring. Their vision was to take advantage of declining price of global telecommunications in 1990s and move offshore business services such as corporate research, financial analysis, legal transcription or any repeatable white-collar task to the east. With that, McKinsey started working with India’s biggest outsourcing companies – Infosys and NASSCOM. These engagements developed Indian organizations multi-folds with Infosys claiming “Our employee stock options program created some of India’s first salaried millionaires”.

Several US companies, such as General Electric, Ford Motors, Microsoft, American Express, joined the bandwagon of offshoring. The rest is history.

Current State

I think we’re all well aware of the current state of offshoring. What started as a niche practice for specific industries, is a trend followed by all major organizations today. While the term “Offshoring” slowly faded away from conversation, the practice has only gotten stronger.

Think about your organization, do you have an affiliate of your organization sitting in countries like India, Philippines, Ireland, China or South Korea? What kind of work is done by these affiliates and how do you define their strategic positioning in the organization?

Below is a plot by Zippia highlighting the revenue trend of global market size of outsourced services from 2000 to 2019.

?Growth and Opportunity | Benefits of Offshoring

A lot of organizations and schools of thoughts perceive Offshoring as a winning step for everyone. A few pointers below:

1. There are very large differences in the wages paid for equivalent skills between the U.S. and developing countries such as India and the Philippines. For example, the equivalent of a software developer who costs $60 an hour in the U.S. costs only $6 an hour in India. Similarly, a data entry agent who costs $20 an hour in the U.S. costs only $2 an hour in India. [1]
2. Developing countries have a faster access to labor pools in countries with a much better ecosystem for specific business functions. [2]
3. Whereas in the U.S. many of the offshored jobs are seen as relatively undesirable or of low prestige, in the countries they are offshored to they are often considered desirable and attractive. As a result, workers in low-wage countries often have higher motivation and outperform their counterparts in developed countries.
4. Offshore countries offer experts and specific skills that might not be available in parent company or country. These experts can help improve performance and value.
5. Overseas outsourcing can help U.S. companies save 70% to 90% in labor costs. The biggest savings are seen when work is outsourced to countries with a low cost of living, like the Philippines. [3]

Below is a visual created by McKinsey&Company to highlight performance improvement realised by Offshoring:

Evidently, organizations do see value in offshoring which has made it a $90 billion global industry, addressing a range of business processes. It is undeniable that the cost efficiency and skill specificity that comes with offshoring turn into bigger bucks for the host organization. Then why a cautionary tale?

The However

This modern-day fairy tale of winners has had a lot of criticism from people who are considering countries/people over organizations.

According to a Forbes article, Offshoring and AI pose a threat to millions of US white collar workers. Richard Baldwin, an economics professor at the Graduate Institute in Geneva who studied the “offshoreability” of teleworking jobs, gave a?warning, “If you can do your job from home, be scared.” Baldwin added, “Be very scared because somebody in India or wherever is willing to do it for much less.”

According to Zippia, about?300,000 U.S. jobs are outsourced?yearly, and 66% of businesses in America outsource at least one department. Moreover, roughly 30 million jobs are vulnerable to outsourcing.

Sounds alarming for job seekers in these business countries right?

Moreover, when you start studying about offshoring, you realize that although several reasons are listed as enablers for this idea, the most prominent one is still cost arbitrage. According to Zippia, 59% of businesses outsource to cut costs and only 26% do it to get help from an expert. While the idea of cost arbitrage sounds lucrative when we look at numbers today but what if we start considering 2050 or 2060?

The so-called developing countries, such as India, that make attractive offshore countries today are seeing immense growth. New industries, job arenas and opportunities are rising. This is eventually going to escalate the prices. What Indian employees asked for in 1997 would be very different from what they might ask for in 2050. With the cost delta getting smaller, the base reason for offshoring will start getting questionable. What would happen in that case? Would organizations choose other “developing countries” or start bringing these jobs back?

Also, let’s think from an organization perspective as well. What would the career trajectory of employees in these Offshore centres look like? Would they get as many opportunities as the employees of the host affiliate/company? The simple answer is that it would depend on the needs of the parent company. If the opportunities are kept limited, the employee attrition rate in these organizations would automatically become higher. This is seen in the attrition statistics of organizations like Infosys, Wipro and Tech Mahindra (17-25%). With this turnover, how would organizations maintain continuity of work?

Let us also think from a market perspective. Offshoring allowed parent organizations to generate higher cost efficiencies than their competitors. But with offshoring becoming common, the advantage of cost efficiency sits with everyone. And, if an advantage sits with everyone is it really an advantage? Additionally, since the target offshore countries are only a handful, the labor pool that all these organization would target are essentially the same. This makes attrition a bigger concern because an organization might train and develop an employee only to lose them to a higher paying competitor. This is an example of Operational effectiveness that we talked about in one of our previous editions.

So, what is the solution?

Honestly, there isn’t a common solution for all. Offshoring will make sense for some organizations even with these challenges.

McKinsey&Company in one of its studies recommended a portfolio approach to address some concerns that come with offshoring. Their data said that when a delivery centre grows beyond 3000 employees, costs spiral and performance begins to deteriorate.

To address this, the portfolio approach diversifies the holdings. Offshore delivery centres can accomplish this goal by diversifying their operations in two ways: on a macrolevel, by expanding their global footprints to reduce overconcentration in any one region; and on a microlevel, by broadening the range and scale of activities conducted in any one centre. The result is a network approach to offshore delivery management that features centralized global delivery hubs and decentralized local or specialized service spokes. This next-generation model not only improves overall global delivery but also brings greater predictability to cost management while fostering better coordination, flexibility, and responsiveness—characteristics that can give global companies a sharper edge in this period of rapid change. [4]

The benefits of this solution are illustrated in examples in this article, but in my opinion, the scalability of this solution is yet to be known. Also, this sounds like a good plan to start with but what about organizations with well-established delivery centres? Do the costs of efficiency make up for the cost of transition and impact on business?

The intent of this article was not to leave you with a solution but to force you to think one yourself. If you were to start an organization tomorrow, what would your model look like? In your current organization, what fraction of employees are currently in such offshored centres? Do you anticipate challenges with this model in the future?

I know we were meant to steer away from strategy in this edition but we did look at some examples of strategy in this concept. Were you able to identify them?

Think about all these things as you sip on your hot brewing cup of coffee. I’ll meet you next time with something else to hopefully make your coffee break more enriching.

References and Additional Material

[1] Offshoring: Is it a Win-win game?

[2] Difference between offshoring and outsourcing

[3] Zippia Statistics

[4] Rethinking the model of offshore services

[5] History of offshoring knowledge services

[6] Offshoring Overview

[7] Forbes: How offshoring and AI threaten US white collar workers