Offshore Outsourcing: Impact on the American Workplace

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The dramatic increase in the number of companies using offshore outsourcing over the last several years is an area of growing concern to many Americans.

This concern spans a whole range of current HR and labor relations issues facing today's workplace.

From the political effects to changing HR policies, few job sites will be unaffected by this issue in the future. In this article we will address some areas of offshore outsourcing which may not be getting as much press today... and we will put these in a context that should shed some light into the impacts that we might see effecting HR and labor relations issues in the workplace in the months and years to come.

It is often difficult to get an objective view of this topic because many reports and articles have a vested interest in their position that is effected by economic or political concerns. Since the main "advantage" which motivates many businesses engaging in offshore outsourcing is primarily one of "cost cutting" and "savings", we won't spend much time addressing that issue.

In this article we will address some areas that many companies did not foresee when they initially began their offshore outsourcing ventures... and which often turned out to offset any "savings" that they set out to achieve in the first place.

You might recall H. Ross Perot in his bid for the Presidency claimed there would be "a giant sucking sound to the south" such that no jobs would remain in the US. Dire predictions have been around as long as the movement of jobs has existed.

During the Cold War most offshoring activity was from the United States and England to Ireland and Israel. After the end of the Cold War more countries began opening up their doors to international trade and the exchange of jobs and services. The trend towards globalization began to increase dramatically.

Currently the newer players in this market are India, China, Philippines, Russia and South Africa. The country getting the most press and having the biggest impact is India. With more than one billion people and a large educated English speaking work force, India became a major force in offshoring after a serious currency crisis in 1991 convinced the country to open its doors to free trade. Low cost computer coders and testers were used extensively in the 1999 Y2K "crisis" and during the "dot-com boom", and the use of those coders established the precedent and presence for working relationships that have continued ever since.

India is considered the most employer-friendly country for outsourcing because Ireland and Israel have saturated their surplus labor pools and salaries in those countries have risen. College graduates in India earn one-tenth to one-fifth the salaries of their American or Western European counterparts. Each year the Indian educational system turns out approximately 3 million college graduates.

One of the main elements that began to factor in to the drive to move towards offshore outsourcing was the availability of this new potential low cost labor pool. In the cost cutting, benefit-slashing environment of the American economy that was prompted by ever growing pressures for increased productivity and profitability, companies found the prospect of a significantly lower cost labor pool an irresistible enticement to move towards offshore outsourcing.

At the same time as an expanding... and cheaper... labor pool was seen to be developing overseas, U.S. government statistics have been projecting the shrinking of a qualified labor pool here in our country for the next several years.

It is generally agreed that the main factors influencing the beginnings of the offshore outsourcing movement were a combination of pressures to reduce labor costs and improve productivity, and an expanding, economical labor pool in other countries.

According to Som Mittal, former managing director of Compaq India, "Anything that can be outsourced can be offshored." He has been quoted as claiming that by sending work like computer coding, document scanning, customer-service call-center staffing and payroll processing to countries like India companies can achieve a 20 to 25 percent gain in productivity.

Another benefit often suggested is that companies can increase or decrease their work forces quickly to reflect peaks and valleys in production or demand, as well as reduce their investment in equipment or infrastructure.

The more considered analysis of outsourcing agrees that basic back-office functions are the most successful candidates, as long as they are unconnected to the "core competencies" of the company. Repeatable and automated "rule-based" tasks are the most successfully outsourced functions going overseas.

However, it should be noted that realistic expectations of gains resulting from offshore outsourcing are primarily related to long-term investment, with long-term payback. It is a process that takes time to properly set up, and must be maintained and nurtured over a span of years, not months... just like here at home.

An interesting corollary benefit sometimes mentioned is the benefit to the American economy. India's National Association of Software and Services Companies commissioned a report by Evaluserve that stated that for every $100 worth of work sent abroad by U.S. companies, $130 to $145 will be reinvested in the U.S. economy.

Cost savings are said to create value in the U.S. economy, and it is sometimes claimed that offshore outsourcing makes U.S. companies more globally competitive.

There is a potential political backlash in both the United States and some foreign countries from the impact of offshore outsourcing... from both ends of the spectrum.

For example: Indian prime minister-elect Sonia Gandhi and her new government are to be sworn in after a recent election victory. This may bring changes in the future that will affect the offshore outsourcing situation in that country as well as ours. Shortly after her election in May stock markets plummeted on fears that her leftist allies would roll back fundamental economic reforms.

There is concern that the business climate in India that fostered the feverish pace of offshore outsourcing from America may slow dramatically, or that problems will occur with existing relationships that have already been developed. In India there is also a political backlash over the "haves" and the "have-nots" concerning the flow of wealth into the country... some have profited handsomely, many have not.

In the United States there is a political backlash that is showing itself in the presidential election, legislative politics in Washington DC, and even in some state legislatures as well. There are already some bills in Congress that would affect offshore outsourcing and more are expected. They are likely to introduce non-tariff barriers against offshore outsourcing... in terms of restrictions on visas, information privacy laws and state government initiatives. As for state government initiatives New Jersey, for example, has a bill that would require call center agents to identify the country the are calling from, making it more difficult for companies to offshore some operations.

According to Mark Riedy, an attorney and partner in the firm Pillsbury Winthrop, approximately 20 anti-offshoring bills are now under consideration in the U.S. at the federal and state levels. He also points out that there is a pending Indian government proposal to start taxing the offshoring-related dollars streaming into and out of that country.

Services exports from India are at roughly $12 billion, but are less than a tenth of the Chinese manufacturing exports to the US. Two years ago the premier of China visited India... he returned home and ordered that English be taught as a required subject to every schoolchild.

A 2001 study by McKinsey & Co. stated that offshoring was a $25.75 billion industry, expected to grow at a rate of 30 to 40 percent a year over the next five years.

Forrester Research predicted that despite the fact that only 60 percent of Fortune 1000 companies have yet begun offshoring, over the next 15 years 3.3 million U.S. service-industry jobs and $136 billion in wages will be relocated abroad.

According to a survey by Gartner, nearly 30 percent of companies saw no cost reductions, or actually saw increased expenses as a result of outsourcing IT work.

As of 2001, Ireland led the world in offshoring revenue with $8.3 billion; India's share was $7.7 billion. (Since then Ireland's income has been flat and India's is soaring.)

Hewitt Associates, a global HR outsourcing and consulting firm, estimated HR outsourcing market potential in India to be $2 billion. Estimated current market size is $27 million with a growth rate of 50 percent per anum. (HR outsourcing in India currently relates to training, payroll processing, surveys, benchmark studies and statutory compliance.)

According to the National Association of Software and Service Companies attrition rates climb as high as 35 percent in India for some offshore vendors.

The population of Indians under age 25 will increase by 47 million by 2020, and each year the Indian educational system turns out 3 million college graduates.

Hank Zupnick, CIO of GE Real Estate observed that because of cultural differences you cannot just simply replace one American worker with on offshore worker... whether they're in India, Ireland or Israel. As an example Zupnick points out an American workers' comfort level with speaking up and offering suggestions. "A good American programmer will push back and say, 'What you're asking for doesn't make sense, you idiot'," Zupnick says. "Indian programmers have been known to say, 'This doesn't make sense, but this is the way the client wants it'."

Peter Schneebergier, owner of Samudra Software, a shared-services provider says that managers must be prepared to handle cultural differences such as the importance of weddings in India. During the three months viewed as the most auspicious time for weddings, for example, up to half of his staff is out of the office.

He also points out that Indian workers expect a lot of direction. Their relationships are more hierarchical, family and caste dependent, and they have an educational system that emphasizes rote learning over independent research. "You can't just say, 'Here is the project. You'll be reporting to this person.' I try to break it down to some degree, but they don't respond so well to me... we emphasize a team concept, but at the same time they work better with direction."

Before launching his own company K3 Group, Ryan Kinzy worked in a large high-tech company that did outsourcing of computer programming jobs. He feels that the benefits of outsourcing, as currently practiced by large corporations, are often exaggerated.

"There were too many headaches in dealing with India," he says. "We often got spaghetti code that was functional, but couldn't grow. We had no idea if delivery dates would be hit because they would freely give promises, but not results. The time difference was very difficult. The explanation, 'They program while you sleep' doesn't' hold water. Too often a problem would arise and they would respond the next day with, 'Well, we weren't' sure what you wanted to do' - and a whole day was lost, time and again. Before long we were four months behind schedule. It was also very difficult to remotely manage a project unless you had a very strong infrastructure over there of U.S.-style managers. Finally, the rising costs over there make it tougher to justify."

It takes years of effort and a huge up-front investment for companies to finally see any profit from their offshore outsourcing practices. Hank Zupnick, CIO of GE Real Estate, points out "You can't expect day-one or even month-six gains. You have to look at offshore outsourcing as a long-term investment with long-term payback."

There is the time and cost of selecting a vendor, the cost of transition (it takes from three months to a full year to completely hand the work over to an offshore partner), the cost of layoffs to the home company, the cultural costs, the costs of ramping up, and the costs of managing an offshore contract. "The vendors say you can throw offshore jobs over the wall and start saving money right away. You have to build in up-to a year for ironing out cultural differences", Zupnick says.

Juerge Reiners, Hewlett Packard's director of global shared services says that when you set up offshore operations, you need strong support at every level of the company. "You need to hire great people and you need to be on the road and visit to listen, fix issues, give the employees and their managers a role to play." Six months of cross training for offshore managers and their American counterparts, and one stateside liaison for every 4 to 10 offshore managers is often recommended.

The laying off of American employees as a result of offshore contracts can pose some big problems for companies as well. Layoffs can cause major morale problems among in-house "survivors" and may lead to disaffection and work slowdowns. In fact, some companies with experience in offshoring actually factor in productivity dips and potential legal action from laid-off employees into the cost-benefit analysis.

David Raspallo, CIO of business unit Textron Financial says, "You can never underestimate the effect these issues will have on the success of your offshore venture." CIO's must take time to communicate with their staffs, being "brutally honest," he says. "If your intention is to lay off some workers and move work offshore, let them know." In talking about making these transitions he said, "In the beginning, we spent the whole time talking about the offshore proposition... if you don't spend that time doing that, your staff is going to make up stories about what's happening themselves."

The primary direct effects of offshore outsourcing on HR and Labor Relations are related to managing transition costs because of personnel changes, managing layoffs and downsizing issues, and the costs and dynamics of actually managing an offshore contract.

Another interesting side effect developing recently is that some companies in India are now outsourcing certain low-end HR processes themselves. Globally, companies are realizing the direct relationship between employees and revenue, and they are increasingly outsourcing administration-related jobs.

Generally HR outsourcing covers activities like recruitment, payroll, employees' benefit administration, fixed assets administration, management of receivables, logistics, training and development, network and hardware maintenance and database management.

Another direct effect for some U.S. companies is their need to focus on the impact of offshore outsourcing on their U.S. work force... the effect on the morale and productivity of their people and the costs of severance, retention bonuses and retraining.

Note: wholly owned, or "captive," offshore subsidiaries are under total control of the onshore company, so that the offshore labor force concentrates entirely on its needs. The "shared services" model relies on offshore contractors to hire, manage and pay the foreign employees working on offshore tasks. In both cases, far more time must be devoted to managing and monitoring offshore employees.

There is a more subtle effect that may occur as a result of offshore outsourcing. That effect is on the long-term impact on the types of jobs that people train for, as well as the "transfer of knowledge" relating to many job structures in the workplace.

Regarding the impact on the types of jobs people train for, there could be a "domino effect" for the entire tech industry for example. Steve Loy, associate professor of CIS at Eastern Kentucky University feels that the outgoing tide of jobs could threaten fundamental technology research as well as jobs. (CIS is Computer Information Science, MIS is Management Information Systems).

"The astute students will recognize the rapidly dwindling job opportunities for CIS/MIS majors and will choose other programs of study... thus, a self-feeding cycle of loss of domestic IT jobs will cause fewer people to pursue IT programs, which leads to a reduction in IT faculty, which leads to fewer IT programs, which leads to a work force with less or inadequate IT knowledge to compete in the high-tech world economy."

Regarding "transfer of knowledge" issue, there is a concern by some that job experience is being exported. If low-level (or labor intensive) tasks are sent offshore, then so is the experience gained from performing those tasks. When the time comes to perform higher-level tasks where previous experience is mandatory, there is no alternative than to go offshore... because that is where the experience will be available.

Or in other words, some feel that while company plans imply that higher-level tasks will remain performed on-shore, the lower-level tasks are performed 12,000 miles away... and eventually the required experience will be offshore. The knowledge and experience of those "lower-level" jobs will be gone forever, and may impact the proper development of the "higher-level" jobs.

The practice of offshore outsourcing is one fraught with complex issues and decisions, and often suffers from over-generalizations and knee-jerk reactions.

HR and labor relations personnel will be involved any time offshore outsourcing takes place in a company, and they will be impacted in a major way on every level.

The "answers" that we can present in this article are these - be careful, tread lightly, and stay on top of the latest news and current information.

Where people have influence or are involved in these issues it will pay to be well educated and consider the latest news and information effecting their decisions. It is helpful to look at the real-world experiences of other companies who have already outsourced offshore, and it can be important to dig deep into the company or corporate philosophy and world view for guidance.

Finally, whenever and wherever possible, awareness of the myths and misconceptions surrounding offshore outsourcing can be critical. Working to be educated on what the "reality" of the current situation is can be worth a lot of money.

Half of IT work force to quit in next 2 years -
Half of the IT work force in India is planning to resign in the next two years. Forty-five per cent of employees indicated that they would seriously consider a switch for 20 per cent higher compensation.
(Feb. 2004 SiliconIndia)

Outsourcing has its downsides: US execs.
Only 40 percent of outsourcing projects are successful. Pitfalls include security hazards, cultural differences, and logistics nightmares.
(Nov. 2003 CIOL)

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