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Leading offshore vendors now compete with global outsourcing vendors, matching resources, industry breadth, and project capabilities. Although most historical success is for application services, vendors are diversifying capabilities to include consulting, vertical expertise, business process outsourcing (BPO), and infrastructure management. As domestic vendors also expand global resources, the competitive landscape for offshore becomes key to successful market dominance.
META Trend: Through 2005, offshore outsourcing will remain a distinct outsourcing market dominated by pure-play offshore firms, with increasing market penetration by domestic firms. Vendors will increasingly emphasize operational functions such as command/control centers, and network operating centers will increasingly move offshore. During 2005/06, regulatory labor restrictions will compel pure-play offshore vendors to adopt new operating models and shift to domestic citizens for on-site work. By 2007/08, global resourcing (a.k.a. leveraging an array of nearshore and offshore capabilities) will be a delivery model and not a distinct outsourcing industry.
Offshore labour is proving to be a disruptive alternative in the outsourcing industry. The application and BPO markets are fundamentally about labour — both its cost and efficiency. With global resources costing one-third to one-fifth that of American employees — without accounting for hidden costs — and higher process discipline (as measured by the Capability Maturity Model [CMM]), offshore strategies now pervade North American IT organizations (ITOs). Several leading vendors now exceed US$1 billion in annual revenue, and the total market surpasses US$10 billion.
Although the market will continue to grow nearly 20 per cent through 2008, the competitive landscape is becoming more complex. Immediate market growth remains in application development and maintenance (20 per cent), but packaged application services augmenting vendor skills is growing 30 per cent to 40 per cent on a smaller basis. In addition to restructuring around vertical market offerings, leading vendors are also developing consulting and strategy services (moving upstream) and infrastructure and application services (moving downstream). Our research also indicates that the political backlash toward offshore is not deterring market adoption. Rather, public perception is another item to be managed in the process of moving offshore.
Top offshore vendors offer a full range of application services, including development and maintenance and packaged application implementation, customization, and maintenance. Vendors are also developing various infrastructure services that range from desktop and server management/monitoring, application management, and database administration. Moving away from technology, offshore firms are deepening the bench of consulting and integration expertise — not from an offshore perspective with non-U.S. talent — but they are hiring top domestic talent from large systems integrators to develop world-class methodologies. Add to this the emerging range of services for BPO (from call centres through accounting and architecture), and leading offshore vendors are developing robust, diverse business capabilities.
Although much emphasis was placed on quality, specifically achieving Level 5 on the CMM, little differentiation remains among many vendors. Nearly all vendors have some sites, teams, or methodologies that are certified at CMM Level 5. Current differentiation on quality is focused on applying Six Sigma and other quality methodologies to projects and application technologies. Increasingly, clients throughout North America accept the idea that testing or auditing the work on their specific projects is superior to any certification.
Currently, all the major offshore vendors are organized by vertical markets. Each emphasizes vertical expertise and the ability to provide knowledge beyond application and project management. Top vendors have limited consulting staff with extensive industry experience and the ability to design projects that go beyond client-defined requirements. Only rarely do vendors engage in industry-changing projects such as supply chain with multiple industry clients. Such projects are inherently higher risk and are trusted to traditional vendors such as Accenture or IBM Global Services.
Offshore vendor solutions for BPO, with the exception of call centres, are embryonic and lack anything resembling maturity. Although the quality of services may meet client requirements, the services are usually unique to the client and not based on industry standards. (The BPO market overall lacks standards, so this challenge is not unique to offshore.)
META Group research denotes an important distinction between business services and BPO. Business services are discrete defined functions (e.g., payroll), some of which have been outsourced for many years, though not in “outsourcing” terms. BPO refers to broader change initiatives that re-engineer or otherwise change the way an organization performs a broad function such as human resources. Thus, a BPO contract might include the delivery of specific business services by another vendor. Business services are functions that will be candidates for moving to offshore locations.
Most domestic vendors have significant offshore capabilities but choose not to sell them as standalone solutions. Our research concludes that domestic vendors need to have an offshore function in the portfolio of capabilities but do not wish to sell standalone offshore services because of lower-average profit margins. Full-service outsourcing vendors (e.g., EDS, CSC) measure success in offshore by the amount of business within their installed base that is not lost to pure-play offshore alternatives (e.g., TCS).
Nevertheless, domestic vendors must be competitive with offshore vendors in price and quality. Domestic firms frequently match the hourly labor rates offered by pure-play offshore vendors but attempt to differentiate on other dimensions such as global resources (rather than focusing on India), local or on-site project management, reduced risk working with a domestic firm, and stirring up concerns about the public perception or political backlash of moving work offshore. In reality, offshore vendors can match or even compare favourably on each of these issues, but local vendors are playing to the fears and doubts of clients.
Quality is another matter. Few North American vendors can afford to go to the effort to certify their vast facilities and methodologies as CMM Level 5. Most vendors are certifying some teams and facilities as a “proof of concept” but lack enterprisewide endorsement. In reality, approximately 85 per cent of offshore work is performed at Level 3, despite various CMM certifications. The vast majority of ITOs within North America are still operating at Level 1, and vendors are unable to operate more than two levels above the client organization.
Vendors such as IBM and Accenture have the lead for delivering BPO services, but ACS is much better positioned within various niches for business services (with some re-engineering capabilities). Domestic vendors have a little more depth in offshore BPO than do offshore pure-play vendors. Various offerings move specific business functions to offshore locations, but the market overall still lacks standards, and vendor offerings remain piecemeal and proprietary.
Indeed, many larger corporations are able to relocate select IT or business functions offshore without engaging in outsourcing contracts. Although most organizations must use outsourcing to leverage offshore, some firms can go offshore without outsourcing.
Bottom Line: IT managers should consider offshore as part of their portfolio of IT services, but consider risk and cost models together to determine the best vendor partnerships.
Business Impact: Offshore fundamentally shifts the cost equation for IT investments, but outsourcing inherently adds complication into the calculations.