On the Offshore Outsourcing of IT Projects:
Status and Issues
Won Kim, Cyber Database Solutions, Austin, Texas, USA
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Today countries such as India and China have thriving information
technology (IT) industries performing projects that the US, Western
Europe, and Japan have outsourced to take advantage of the substantially
lower labor costs there. These countries have been able to service
many small and large outsourced projects by deploying large numbers
of workers skilled in the basics of IT. Although the current outsourcing
practices afford certain benefits to the outsourcing countries, the
migration of jobs and the large-scale rapid advances in IT in the countries
that service the outsourced projects may have some troubling impacts
on the outsourcing countries. In this article, I will review the status
of the outsourcing practices, and consider the potential impacts on
both sides of outsourcing.
1 STATUS About 15 years ago, I attended a large trade show in the
US. There I came across a few booths set up by Indian companies looking
for clients who would outsource software projects to them. Each of
the booths was of the smallest size in the trade show, inexpensive-looking,
and manned by one company representative. The booths drew almost no
attention from the show attendees. Two years ago, when India and Pakistan
were on the brink of an all-out war after Pakistan-supported Muslim
terrorists attacked the Indian Parliament and launched an offensive
on the Indian-controlled Kashmir territory between India and Pakistan.
The war was averted largely due to intense international pressures
on both countries. Afterwards, it was also reported that one decisive
factor that stopped India from escalating the tension one final and
fatal step was an appeal from India’s massive IT (mainly software)
industry that a war would destroy the IT industry that had been built
on outsourced IT projects from the United States and Europe. In a span
of some 15 years, India has managed to build a powerhouse IT industry,
to a good extent, by winning numerous small and large outsourced IT
projects and call-center functions for IT products, both software and
hardware. In the fiscal year that ended in March 2003, India's IT industry
revenue was $12 billion, and $9.5 billion of this was from outsourced
IT projects and services [RAI 2004]. Many large IT companies in the
US now have a good part of their software products developed and tested
in India. Some outsource projects to Indian companies, while others
use wholly owned satellite organizations or joint ventures with Indian
companies.
Several factors have made India’s improbable success
possible. These include substantially cheaper labor costs (compared
to that of
the US, Western Europe, and Japan), the existence of high-caliber universities
that turn out a large pool of workers well-trained in the basics of
IT, the fact that most people understand English, and the talent and
work ethics of the work force.
As India’s success became apparent,
other countries in Asia aggressively seeking economic development started
emulating India’s model.
Several years ago, China started courting outsourced IT projects on
the strength of low labor costs and a large pool of workers skilled
in the basics of IT. Like India, China has some very high-caliber universities
that turn out a large pool of well-trained IT workers, and the work
force matches that of India in talent, aspirations and work ethics.
It
is generally known that IT workers in these countries are just as capable
as their counterparts in the US, Western Europe, and Japan,
in most aspects of IT product development. However, often the work
force in these countries lacks “senior” skilled workers,
such as those who can architect complex products, and those who can
lead large development projects. The companies that outsource projects
often use their own architects and project managers to ensure success
of the projects.
The labor cost in India and China is said to be about
20% of that in the US. Often, this very substantial cost advantage
is not realized
fully. As competition for skilled workers in these countries has become
intense, the companies that perform outsourced IT projects have experienced
rather high employee turnover rates. As a result, some companies often
assign two workers to a task that really requires one worker, so that
when one worker leaves the project, the other may stay on and complete
the task. An additional cost to the outsourcing companies is that needed
to send architects and project managers.
2 SUCCESS FACTORS
Countries such as Vietnam, the Philippines, Singapore,
Malaysia, and even Nepal, where the labor cost is much lower than in
the US, Western
Europe, and Japan, all seek to emulate India’s and China’s
success in building IT industries. Only a small number of these countries
are likely to succeed. US and Japanese business managers think that
countries such as Vietnam, the Philippines, Russia, and Brazil are
likely to succeed.
The critical success factors, from the perspective
of the countries that receive outsourced projects, include the existence
of high-caliber
universities that can turn out workers well-trained in most of the
IT tools of trade. The number of such workers needs to be substantial,
thousands to tens of thousands, in order to form and sustain an entire
industry. To sustain over a long period an industry that performs outsourced
projects, the industry must deliver high-quality work output. This
requires the work force to combine talents with strong work ethics.
Further, the IT industry in countries with advanced IT is zealously
protective of the intellectual property rights. This means that the
countries that take outsourced IT projects really need to educate their
workers to respect intellectual property rights of the companies that
outsource projects to them. This may be particularly problematic in
China where pirated copies of IT products and contents (e.g., movies
on DVDs, music on CDs) have been known to flow widely, and the government
is not known for vigorous enforcement of intellectual property laws.
The
countries may also offer a variety of incentives to the companies that
consider outsourcing IT projects. The incentives may include tax
benefits, preferential consideration when selecting products for use
in government-funded IT-infrastructure construction projects, cheap
land on which to construct office buildings, etc.
3 ISSUES
The countries that receive outsourced projects do not have
much to lose. They receive payments from overseas companies for their
services.
The money feeds a good part of their population. The IT projects serve
to train their workers, beyond their university classroom training,
on leading-edge, commercial products. The workers learn the internals
of complex commercial IT products, the process of developing and upgrading
such products, how such products are used by the customers, some of
the problems such products have that might shed important insight into
new product ideas, etc. While striving to sustain the industry, these
countries get to elevate the quality of education in their universities
and secondary schools.
For those countries that outsource IT projects,
however, the consequences of outsourcing are not all positive. Clearly,
the companies that outsource
projects can reap benefits at least for the short term. Provided of
course that they find the right partners and manage the projects properly,
they can significantly reduce the cost of developing products. The
cost savings help increase the companies’ profits, which tend
to boost their stock prices, which in turn can help the companies create
wealth for their shareholders and to make further investment in their
businesses. The cost reduction in developing products and supporting
customers can potentially result in controlling or even lowering the
price of the products and services for the customers. (Companies are
not likely to voluntarily reduce the price of their products and services
even when the cost of producing and supporting the products goes down,
unless competitors and customers press them.) Further, depending on
the concessions they may receive from the host countries, they may
receive certain benefits such as reduced tax, inside track opportunities
to sell the products in those countries, etc.
As the economy further
grows and pay scale goes up in the countries that perform outsourced
IT projects, financial incentives for the outsourcing
countries will become weaker. However, as long as the outsourcing countries
receive high quality work at a significant cost advantage, they will
continue to outsource IT projects, unless their governments erect legal
barriers or offer financial incentives. During the fourth quarter of
2003, India’s top three outsourcing companies – InfoSys
Technologies, Satyam Computer Services, and Wipro Technologies – reported
average revenue growth of 35% [InfoWeek 2004].
From the perspective
of the countries (not the companies) that outsource projects, however,
outsourcing IT projects on a large scale has some
troubling consequences. When companies in one country outsource projects
to companies in another country, in essence jobs move from one country
to another. At the end of 2002, Forrester Research reported that by
2015 3,300,000 IT jobs will have moved from the US to other countries.
In July 2003, Gartner Group reported that 5% of IT jobs will have moved
from the US to other countries between the middle of 2003 and the end
of 2004. As a result of such warnings and rising political debates,
what may be initial steps to stem the outsourcing trends are being
taken in the US. At the end of 2003, the state of Indiana in the US
canceled an outsourcing contract with India’s Tata Consulting
valued at $15 million. In January 2004, the US Senate passed legislation
that prohibits the outsourcing of IT projects funded by the US Federal
Government. Some ten US state governments are planning similar legislation
for projects funded by the state governments. Some US Senators are
starting to question whether IT projects should be outsourced to countries
that do not meet certain labor and environmental standards. Understandably,
Indian companies complain that any protectionist legislation runs counter
to the principle of free trade among nations. Some US-based multinational
companies even claim that such impediments to unfettered outsourcing
of IT projects may even force some US companies into bankruptcy. I
believe such dire protests are without much merit; after all, US companies
did well up to 15 years ago when they did not do much IT project outsourcing
to countries with cheap labor costs.
What the US government will no
doubt consider is the potential erosion of the US’s dominant
position in the world in the creation and dissemination of IT, and
the economic advantages such dominance has
accorded it thus far. Even before the outsourcing of IT projects has
become fashionable, US-based multinational companies have set up engineering
and customer technical support organizations in many countries around
the world. Such organizations have hired and trained local workers
over the years. However, there is no question that the outsourced IT
projects have created hundreds of thousands of additional jobs and
skilled workers in such countries as India and China. The big pool
of experienced IT workers in such countries means that in the foreseeable
future the workers who currently perform outsourced projects on behalf
of US companies will be in a position to conceive and create a wide
variety of IT products of their own, ranging from minor to strategic
products. They will distribute such products to new markets and compete
effectively against comparable US-based products on the strength of
lower cost, local connections, and acceptable quality. There have not
been very many foreign IT companies that have carved out substantial
market shares in the US. Such companies as SAP, Business Objects, Cognos,
etc. are exceptions. As such, the prospect of major success in the
US by possible future India and China-based IT companies is not clear.
However, no doubt such companies will make serious efforts to enter
the US market.
For over a decade, the IT industry in the US has depended
to a great extent on foreign-born but US-trained scientists and engineers,
and
has even had to import workers from India, China, and other countries
on H1 temporary work visa. The exodus of IT jobs from the US is likely
to further erode US-based pool of skilled IT workers and in turn further
depress the number of students who will choose to major in IT fields.
This can seriously degrade the US’s ability to retain its supremacy
in military technology and in space exploration programs, since modern
military and space technologies rely heavily on IT. Fighter jets, tanks,
artilleries, missiles, submarines, torpedoes, etc. are all controlled
by sophisticated software running on special and general-purpose computers.
Soldiers are equipped with combat uniforms, weapons and communication
devices that are all based on information technologies. The space exploration
programs, involving spacecrafts and robotic vehicles, their control
and communications over long distances, and analyses of data gathered
by satellites and robots, all require sophisticated IT. The depletion
of the pool of skilled workers who must work on the development of
future military and space exploration technologies will be a very serious
concern for the US government, as it has always regarded its military
supremacy as critical for national security and as a component of its
geopolitical diplomacy. The nature of the longer-term relationship
between the US and China (and India, too, for that matter) is difficult
to predict. China may be able to maintain the current pace of its economic
development and become an economic superpower that rivals the US in
the next 15 to 20 years. The economic development and spread of higher
education will tend to make China become a democracy, and a good and
benign citizen of the world. However, China has some serious domestic
problems each of whose resolution may have unforeseen consequences,
such as the Taiwan issue, the political system controlled by the increasingly
irrelevant Communist Party, the widening gap between the emerging rich
in coastal cities such as Shanghai and dirt poor inner regions of the
vast country, some provinces of ethnic minorities that want to secede
from China, continuous outbreak of deadly diseases such as SARS, etc.
If China will use its economic power to become a geopolitical superpower
(unlike Japan during the past two decades despite its economic might),
and for whatever reason China’s national interests collide with
those of the US, the two nations will become bitter adversaries in
the Asia Pacific region. The fundamental racial and cultural differences
between the two nations, and the history and geography of China, can
contribute to this unhappy but possible scenario. Such considerations
are likely to cause the US to be guarded about relinquishing supremacy
in IT, and, therefore, military technology, to China (or any other
country for that matter). As such, the outsourcing of IT projects to
China (and, to a lesser extent, India) may be particularly troubling
to the US government.
REFERENCES
[InfoWeek 2004] NewsScan, p. 20, InformationWeek, January
26, 2004.
[RAI 2004] Saritha Rai. “Indians Fearing Repercussions
of U.S. Technology Outsourcing”, The New York Times, February
9, 2004.
About the author
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Won Kim is President
and CEO of Cyber Database Solutions (http://www.cyberdb.com)
and MaxScan (www.maxscan.com) in Austin, Texas, USA. He is also
Dean of Ewha Institute of Science and Technology, Ewha Women's
University, Seoul. Korea. He is Editor-in-Chief of ACM Transactions
on Internet Technology (http://www.acm.org/toit),
and Chair of ACM Special Interest Group on Knowledge Discovery
and Data Mining (http://www.acm.org/sigkdd).
He is the recipient of the ACM 2001 Distinguished Service Award. |
Cite this column as follows: Won Kim: “On the Offshore Outsourcing
of IT Projects: Status and Issues”,
in Journal of Object Technology, vol. 3, no. 3, March-April
2004, pp. 21-26. http://www.jot.fm/issues/issue_2004_03/column2
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