India's Outsourcing Industry Faces New Challenges

The global outsourcing industry, once India's near-exclusive preserve, is shifting to other parts of the planet including China, the Philippines, Russia and Eastern Europe, presenting unprecedented challenges to the country that virtually invented the idea.

India still controls as much as 65 percent of the industry and derives an estimated US$52 billion in annual revenues from it, employing more than 2 million people in finance, human resources and customer services. R&D operations for information technology in places like Bangalore are some of the most extensive in the world, with as many as 200 of the Fortune 500 companies operating their own research centers, according to the Philippines-based outsourcing website IT2P.

The industry, however, is continuing to change dramatically, growing progressively more complex and delving into previously untapped areas and sectors. According to a new report issued this week by the International Association of Outsourcing Professionals, the top 100 outsourcers alone employed more than 3 million people globally, with 22 countries now involved in the industry.

And, although much of the English-speaking world perceives outsourcing as a re-trained accent at the other end of a phone line 14,000 kilometers away, discussing how to mend a recalcitrant computer, or as back-shop operations like accounting, multinationals are setting up R& D centers in other parts of the world, investing hundreds of millions of dollars in their own captive units to develop patents, taking on ever-more complex operations design and marketing of commercial products and shipping those products to other parts of the world for interlinked development.

Until a couple of years ago, India's extensive talent pool, cheaper labor costs and no-holds-barred government promotion policy made the country the undisputed leader, with the government basically reorienting the country's professional education systems to suit the industry's requirements. It also worked towards strengthening the country's talent pool and making educated youth employable.

However, despite the importance accorded to the BPO industry – which had been growing at a scorching 35 percent annually, it has lately been losing some of its sheen as the world's favorite back office. Growth has tapered off to 10 per cent this year and most Indian companies are finding their market share eroded by countries like China, Philippines, Russia and Eastern Europe.

The outsourcing advisory firm Tholons predicts that while India's industry will continue to grow through 2009, its rivals will take progressively larger slices of the global pie. The Philippines and Russia are actively promoting foreign direct investment in their outsourcing industries. Outsourcing companies from a few East-European countries too, are cutting their prices to lure western companies.

The Philippines itself may seem like a poor country beset with political strife and corruption, but its government is doing everything it can to get more American companies to outsource to it. It has been paying off. Along with inward remittances from overseas workers, business processing has become a major support for the economy and is expected to grow by 22 to 30 percent in 2009 despite the global downturn, creating some 130,000 jobs in a country where job creation is difficult at the best of times, let alone during a global economic disaster.

Despite a scarcity of English-language skilled workers and a culture that in the past has encouraged intellectual property theft, China too is making dramatic strides in bolstering its outsourcing industry. According to a study by the international consulting company McKinsey, "China is in a remarkable position to become an IT outsourcing superpower in less than five years' time."

Earlier this year, as a component of its massive US$585 billion stimulus package, the government targeted 20 Chinese cities to be developed as bases for outsourcing. The government recently approved tax breaks and subsidies to boost the growth of its service outsourcing industry. Its software industry grew by 30 percent per year for the five years to 2006, with exports growing seven-fold according to the McKinsey report.

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In other words, 2009 looks like a turbulent year. In an adverse economic climate, Indian organizations are scrambling to reduce headcount, freeze salaries and struggling to win new business. As revenues diminish, the companies are also having to whittle down skyrocketing costs from inflation and high staff-turnover rates.

Moreover, the Satyam scandal – in which founder Ramalinga Raju admitted that he had invented $1.02 billion in non-existent cash reserves and had been making up profits for years -- has led many global companies to wonder if one of the world's biggest corporate governance scandals was a one-off affair or a systemic failure within India. Many Indian offshore service providers have consequently reported enhanced scrutiny from customers regarding their own corporate governance and financial viability.

"The Satyam scandal has indirectly raised prickly questions about the trustworthiness of Indian companies and the sufficiency of corporate controls in the country," says Pratik Jaiswal, a Mumbai-based BPO consultant. "Many global biggies have started avoiding dealing with Indian off shoring outfits."

To top it all, last year's Mumbai terrorist attacks have shattered India's image as a reliable business destination. An InformationWeek Analytics survey of 628 business technology professionals said global companies are not as happy as they used to be with India's offshoring companies and are actually looking to decrease their spending.

The survey states that due to the Satyam scandal, 63 percent of companies has new concerns about Indian outsourcing and many would simply prefer not to deal with them. The biggest problems that customers have had with Indian outsourcers are -- communications, under-qualified staff, and turnover of key personnel, the survey states. Fifty-eight percent of the respondents say their Indian service providers fell short of expectations in delivering projects quickly.

While revenue visibility has become hazier than ever before for Indian companies, attrition rates in the industry are about 8 percent higher than the national average, according to a report by global consulting firm the Hay Group. Annual staff turnover at Indian BPOs stands at 24 per cent, ahead of the country's average of 16 per cent.

Though most global corporations too, will take a hard knock in these economically tough times, Indian behemoths are particularly vulnerable because -- unlike their western counterparts -- they haven't branched out into ancillary activities like consulting. To make matters worse, other areas such as back-office operations for airlines and retailers are also showing signs of slowing. Hence there are predictions that contract prices charged by Indian firms will plummet by 3-5 percent in the next fiscal year, which started in April.

But despite the current chaos, it's not as if its all gloom within India's outsourcing sector. According to a NASSCOM survey, the country's outsourcing sector is poised for sizable growth though in the future. Concerns about talent turnover too, are likely to abate as Indian IT professionals – hitherto spoilt by high salaries and job-hopping for increasing profit -- will have no choice but to settle down with diminishing growth and exhibit more loyalty for their employers.

In other words, despite the current turbulence, the Indian BPO industry is still reasonably well-poised to play a vital role in the global scenario. This is mainly because Indian firms have continued to expand their range and depth of services and their global footprint into newer arenas. Currently, they may be frustrated about not being able to move up the value chain or feel hampered by cost optimization and talent retention, but they are still a force to reckon with in the global arena.

Of course, competition for Indian outsourcers is there and will only intensify as other countries climb onto the bandwagon. But that's only to be anticipated in a highly competitive field like outsourcing. So, to maintain their lead, Indian off shoring units will need to seriously reassess their strengths and flaws and recalibrate their business plans. Indeed they have no choice but to face up to reality by embracing the new market dynamics, inventing novel ways of getting business and providing value-added services to keep their increasingly demanding customers happy.

Neeta Lal is a New Delhi-based freelance journalist neetalal@hotmail.com.