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Finding the right division of labor between the home IT operation and the IT outsourcing services firm has been the key to success for those firms that have had profitable engagement experiences.
According to analysis firm Datamonitor, the IT outsourcing market grew by 37% to $163 billion in 2004 but was characterized by a larger number of smaller deals and greater competition among vendors.
IT outsourcing is extensive and spreading rapidly, according to John White, who served as CIO for Texas Instruments and Compaq before retiring in Plano, Texas. White stays active in the industry by serving on the board of directors for Fuego, Citrix Systems, Siebel Systems, MetaSolv Software and numerous other private, high-tech companies.
"Companies, in order to be competitive, are having to outsource much of their software development," White says. "Even high-tech companies are outsourcing software development and maintenance work," he adds. White projects the number of jobs to move offshore in the next few years to be measured in the many thousands, possibly even hundreds of thousands.
The impact in the U.S. job market is "going to be immense", he continues. He attributes that to the number of people in India, for instance, who are seeking and achieving scientific degrees vs. those in the U.S. "Many of these high-paying jobs in the U.S. are going to be outsourced and offshored to India, China and other places," he forecasts.
As a result, White says, people that are skilled in high-tech in the U.S. will find it increasingly difficult to find jobs. White is already seeing market evidence of such people being unable to find employment in the high-tech industry. Instead, they’re "having to descale their requirements in order to gain employment," he says.
While IT offshore outsourcing will result in the creation of some jobs at home, the impact will be minimal. "Many people currently serving in these high-tech jobs — programmers, in particular — are going to have to move into interface roles," White says. These people will serve as liaisons between the IT organizations at home and the IT outsourcing service providers abroad.
By and large, a combination of cost savings and opportunity are driving the market for U.S. IT organizations and software product suppliers to outsource work to service organizations using developers in other countries. "The most elemental driver is labor arbitrage with rates that can cut service or development labor costs between 50% and 80%," says Erik Keller, an analyst at AMR Research in Boston. "After the labor cost savings is had, companies are finding that foreign partners are more than up to the task to assist with strategic issues and projects."
Joseph Feiman, research vice president for Gartner in Stamford, Conn., agrees with Keller that the expectation of the potential cost savings for organizations that outsource is driving the market. However, he doesn’t think firms are getting what they expect. Companies expect a cost savings that is proportional to eight times that of what it would cost for them to do the outsourcing task themselves, he says. They’re not accounting for the communication factor, the measure of cultural and geographical distance, he adds.
"What they’re missing," Feiman says, "is that the application development life cycle consists of phases. Each and every phase could be outsourced, but not every phase could be done off-site." Feiman says only two phases in application development are really good for outsourcing: construction (meaning programming and coding) and unit testing. So companies are expecting to save, and Feiman agrees they can save money. "But they’re expecting that savings will be proportional to the cost of labor. It never will be," he says.
When White first became involved in IT outsourcing in the early 1980sit cost about 35 cents on the dollar to send work to India, he says, with 10 cents going to people costs and 25 cents going to communication costs. Today, the total cost has increased slightly to 40 cents on the dollar, but 30 cents of that is now people cost and the communication cost is only 10 cents.
And outsourcing rates tend to vary by the strength of the home economy and its degree of maturity in the business. The cheapest alternative today is China, followed by Eastern European countries. India is more mature in the business, and outsourcing there is now more costly.
"They’ve been doing this longer," White says. "People in India have developed skills in delivering this capability," and are highly trained and speak English well. "Competitors such as China have to be more cost-effective because they’re not as mature and not as skilled," he says. One outsource firm in China working for one of White’s software firms doesn’t have a single person at its offices in China who speaks English. The company has one English-speaking person in the U.S. who handles all the communication with the Chinese.
"To choose which partner to work with for its IT needs is a difficult question for both enterprises, which use technology; and IT organizations, which create technology," says Amit Bhardwaj, senior manager in business development in the New York City office of Cybernet Software Systems, a business and technology solutions provider specializing in services to corporations and independent software vendors. "Usually, high stakes are involved, and it’s difficult to jump into a relationship with an outsourcing services provider outright for a mission-critical, complex application."
So for Cybernet Software Systems, the division of labor typically starts with a small team contributing to a non-critical part of a project. This phase can last anywhere from one to three months, and the team size typically varies from four to 10 members. When this part of the project is complete, and specific criteria are met, the organization can scale into a larger team participating in the activities of design, architecture and feedback, Bhardwaj says.
VA Software in Fremont, Calif., a provider of software, information and community support to IT managers and development professionals, keeps core, business-critical work at home, according to Colin Bodell, CTO. "Work that benefits from close proximity to our customers stays in the U.S. Work that can be done anywhere is typically sent to India," he says.
VA Software outsources product support, enhancements, extension work and specialized work where there is no existing skill set in the U.S. — such as performance and scalability testing — to Cybernet Software Systems in Chennai, India, and has been doing so since 2001. The software firm decided to outsource to increase development bandwidth and flexibility while simultaneously reducing costs, Bodell says.
"We treat the team in India as our own staff (although they are a third-party entity), for example, when the U.S. team gets T-shirts, so does the team in India," Bodell says. "We keep the team in India informed about business (not just development) status, that is, educate them about how their work is of benefit to the company. [This] helps with motivation and retention."
VA Software manages its relationship with Cybernet Software Systems by centralizing all of its development and support materials on a single system that is accessible both by all VA staff and service provider staff. That means "we have 24/7 visibility into progress/problems/plans," Bodell says.
Cybernet Software Systems maintains collaboration with VA Software through the use of a collaborative software development tool to track and record all tasks, weekly/daily calls where the offshore team can be reached by dialing a local U.S. phone number, overlapping the working hours of the team whenever possible, weekly status reports and onsite resources to provide real-time feedback to client teams, Bhardwaj says.
With the help of Cybernet Software Systems, VA Software achieved all of its product development and release objectives at a cost it estimates was 55% of what the cost would have been to do all the work onsite, Bodell says. "In fact, it would have taken one-and-a-half to two years longer to develop our next-generation product had we not had the offshore team," he says.
Outsourcing has benefited VA Software by freeing core onshore development to develop the next generation of its product set. Plus, the company has realized an overall cost reduction across product development, Bodell notes. And "having services provided by a good size partner (more than 1,000 developers) means that when we need to swiftly increase team size, we can do so. It would take much longer to do the same in the U.S.," he says.
The division of labor for EPAM Systems, an IT outsourcing and software services and solutions provider with headquarters in North America and Europe, highly depends on the project, according to Arkadiy Dobkin, CEO in the Princeton, N.J., office. "The project could be anything from new development to the conversion of an existing application, support or maintenance," he says. "In each case it would be a project team with typical project roles from project sponsor, project manager, business analysts, architect, developers, testers, etc.," he says.
The outsourcing partner can contribute with any of the roles except the project sponsor role. "Typically, the client would have a project manager role, often a business analyst role, sometimes an architectural role and sometimes a portion of a testing/ quality assurance role," Dobkin says.
ServiceWare Technologies in Pittsburgh, a provider of Web-based knowledge management solutions for customer service and support, has outsourced all of its development and quality assurance to EPAM Systems for more than three years.
"We estimate that we have saved 60% to 70% of total costs related to R&D," says Scott Schwartzman, COO for ServiceWare. "In our case, this is several million dollars."
ServiceWare also has realized benefits of leverage, elasticity and experience as a result of outsourcing.
Before turning to EPAM, ServiceWare had software on every platform possible, Schwartzman says. The company built its product using Visual Basic, a fat Java client and C++. "The first thing we did was have [EPAM] reverse-engineer the entire platform and port it onto the Java platform," Schwartzman says. "We needed a unified architecture and chose Java because our target market was/is large enterprises where Java (J2EE) was often the desired architecture. It was a Herculean task that they did in approximately three to four months."
ServiceWare has found advantages to the time difference between it and EPAM. "You could give [EPAM] something to build during the day. They work on it overnight. You come in the morning and it’s done," Schwartzman says. His company uses instant messaging to overcome communication challenges.
EPAM has its own homegrown project management center tool called PMC that also aids the collaboration process. "It’s an extraordinarily strong tool, and it’s Web-based," Schwartzman says. PMC, Dobkin adds, "allows all members of a distributed team to be on the same page, communicate all issues to all of the team practically in real time and to provide complete transparency to everybody, especially to the client management team to make sure that everybody is comfortable and updated with everything that is happening on the project."
LogicLibrary, a Pittsburgh provider of software and services that help companies develop better software applications and integrate them faster, also enlisted the help of EPAM to save money and to have a broader pool of technology and expertise to use, says Alan Himler, vice president of product and marketing management. LogicLibrary handles the architectural design and requirements, while EPAM provides input on that and actually does the developing.
After some less-than-desirable experience with other IT outsourcing firms, where LogicLibrary learned of bad news very late in the process, "the cultural differences between our team and a team in Russia has been much easier in terms of setting expectations and setting project timelines," Himler says. "Bad news early is good."
LogicLibrary sells a product that runs on a native J2EE stack and wanted to run it on a native.Net stack. "We took our J2EE-developed product and ported it to .Net in under six months, and 80% of the code is common code across the two platforms," Himler says. The software vendor accomplished that with EPAM’s help.
To manage the relationship with EPAM, LogicLibrary stores assets in its own product. "We have a sync-up meeting with (EPAM) every day to review what we’re going to do," Himler says. LogicLibrary maintains daily communication with EPAM through discussion forums, e-mail and daily meetings.
While cost is a definite consideration in outsourcing, the major factor for LogicLibrary is agility, Himler says. EPAM can locate skills, meet a project and fill a project. "If we know we have a project coming up and need Java skills," for instance, "we can ask EPAM to fill that. We don’t have to worry about staffing up for that type of skill. We’re not left with those ongoing costs," he says.
Weighing the risks
Of course, outsourcing endeavors do have their share of drawbacks. One drawback facing ServiceWare in offshoring its development is that the source code is offshore. "It’s in the hands of different people," Schwartzman says. Some companies also worry about IP protection, but ServiceWare has written that into its contract with EPAM.
Some outsourcing risks remain constant every year, such as change management, government, service-level agreement compliance, cultural fit between buyer and supplier and supplier longevity. Other risks vary. The top risks in 2005, according to an Outsourcing Journal poll of 34 attorneys and outsourcing service provider executives, include offshoring, privacy, rising interest rates and technology.
Gartner’s Feiman says the primary challenges facing U.S. organizations are cultural and geographical distance, as well as time-zone difference. Communicating with your service provider can be an added challenge. "You have to have processes to resolve issues," he says. "It’s never face-to-face."
Management presents yet another challenge. "Throwing projects over the wall (or ocean) will disrupt any organization and eliminate any potential costs savings or strategic advantage," AMR’s Keller says. Companies also need to realize which types of activities are best to move offshore, he says.
LogicLibrary’s Himler advises those considering outsourcing to understand that there are no silver bullets. "You’re still responsible at the end of the day for the quality of the code and the project," he says. "Do your homework on reference-checking with customers they supply you on what they do well and what they don’t do so well."
Be ready for initial issues, problems and tensions within a distributed project team, warns EPAM’s Dobkin. "Do not count on the benefits from Day One. Do not give up. Enforce project management practices not only to outsourcers but to your own team, and track all metrics from the very beginning," he recommends.
VA Software’s Bodell encourages those considering outsourcing to focus on incremental improvements, concentrate on communication, match the offshore vendor by size, cultural fit and process fit, treat the offshore team as you would treat your own staff, identify risks and establish mitigation plans early in the process, and have some face-to-face time with the offshore team.
Have a strong project manager that excels in communication and people skills, ServiceWare’s Schwartzman says. "Set expectations with your internal team," he adds. "Anticipate their concerns and try to eliminate the potential fear, uncertainty and doubt." He also urges clarity on scope, timelines, roles and responsibilities, "and have a clear communication plan."
AMR’s Keller says offshoring is going to be one of the most disruptive areas for IT over the next decade. "Offshoring, combined with open source initiatives, will continue to shift the economics and spending patterns of IT and change the build vs. buy equation," he predicts.
Gartner’s Feiman concurs. "Whether we like it or not, for a typical enterprise it’s becoming more cost-effective to outsource to professional organizations, not necessarily offshore," he says. "Just from cost savings, outsourcing has become mainstream. We’re facing a global, distributed, application-development model. Parts of an application are being done internally, primarily analysis and deployment. Other (parts) are being done in other locations. That global distributed model becomes the new thing."
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