Recession Driving Changes in Captive Center Strategies?

A recent article in the Wall St. Journal consolidated reporting on a number of recent changes in so-called captive centers (IT or back-office services operations in India owned by non-Indian, usually US or UK, businesses).  While the leading sentence talks about “reversing a  a decade-long trend,” I think the article reveals a more complex picture.

The author points to three large financial services companies (Citigroup, AXA and Aviva) that have sold their entire outsourcing operation – facilities and staff – to leading outsourcing firms, for cash payments and multi-year contracts for services from those same facilities and staff with the outsourcing firm.  Two airlines, Delta and United, have made similar deals.  These are all examples of businesses in industries that have been hard hit by the global financial crisis and recession, and are desperate for cash infusions.  The deals are not shutting down their Indian operations, just shifting the ownership and management to an Indian outsourcing firm, typically one of the top 10 IT or BPO firms.  What’s not discussed in the article are two other benefits of these deals: first, the company no longer has any potential “offshore” profits which could be taxed under Obama’s proposed tax law changes; and second, the company reduces its political risk in the U.S., since it no longer has any Indian employees, just a contract with a vendor.  (The company may also reduce political risk in India, since it is sending revenue to a large India-owned company.) One could also argue that they have reduced their management workload, since they are no longer managing the Indian employees and services directly, but I suspect that on a day-to-day basis, there is not a lot of difference for project managers, and at the senior management level, they have  probably just traded some of their operation management to vendor management.

Another kind of situation is the example of a small biotech firm quitting most of its Indian presence and selling its facilities to a mid-sized outsourcing firm, along with signing a 10-person services contract for 18 months (probably for transition purposes only).  Small captive IT services operations are notoriously difficult to manage, and are often started with the idea that while theyrequire an upfront investment, they will make sense financially over the long run.  If the business doesn’t grow as expected (common in this recession), or if the people managing the center quit, the company can be left with a money-losing headache.  It can make a lot of sense then to turn it over to an India-based services company that can integrate the facilities and staff into their operations.  Reducing the U.S. political risk can also be a factor, particularly if the company is looking for U.S. government contracts or funding.

In contradiction to the main story line, the article also points out that Everest, a leading outsourcing advisory firm, knows of four companies who opened new captive centers in the first quarter of 2009.  This suggests that there continue to be some benefits to the captive model, such as greater control, security & IP protection; establishing a geographic presence in another region, and potential cost savings.

The bottom line message, for me, is not that there has been a wholesale change in outsourcing strategies, but that the strategy about how to engage and manage services in India is always complex, and usually evolves over time.  These examples are great object lessons about the importance  of evaluating a number of factors, and considering a wide range of possible scenarios for both the environment and business model, in developing smart outsourcing strategies.

Car Sales Soar…in India and China

The Wall Street Journal (sorry, subscription required) noted earlier this week that February car sales in India increased 22% over last year.  China’s car sales increased by 2.7% in January and February.   This contrasts starkly with car sales in the U.S., which declined by 41%, and Europe, which declined 18% (only rising in Germany).

To be sure, there are some quirks behind these numbers: India’s sales last February were especially low because of anticipated changes in excise taxes, and this February have been spurred by increased credit availability.  China’s sales were similarly influenced by a cut in the purchase tax (Germany’s sales increase was also driven by a policy change,  an incentive to scrap old cars) .  Still, the WSJ article forecasts an 8% increase in China car sales for all of 2009, and notes that it is now the largest car market in the world, having surpassed light vehicle sales in the U.S. in January.

The woes of the big three American car companies are splashed across the newspapers almost every day,  and they are only alive because of massive loans from the U.S. government.  European car manufacturers are doing layoffs,  production and salary freezes , and seeking loans from their governments.   Meanwhile, Tata Motors announces it is opening a new plant in Gujarat, to start manufacturing the Nano.

Could this pattern be any clearer?  While all economies have stumbled and fallen in this global recession, it certainly looks like India and China are going to be picking themselves up and brushing off the dirt sooner than the U.S. and Europe.

“It’s going to happen somewhere other than the United States”

The NY Times today has a  front page article that discusses what the economy may look like going forward,  after the recession ends (whenever it ends).  This quote in particular caught my eye:

“These jobs aren’t coming back,” said John E. Silvia, chief economist at Wachovia in Charlotte, N.C. “A lot of production either isn’t going to happen at all, or it’s going to happen somewhere other than the United States. There are going to be fewer stores, fewer factories, fewer financial services operations. Firms are making strategic decisions that they don’t want to be in their businesses.”

It’s clear that financial services will not come back in the same form or size, and also seems very likely that retail will be significantly reshaped by the current changes in Americans’ consumption patterns.  But it seems less obvious that American companies will continue to increase their business overseas: China’s economy saw a huge decline in exports last quarter, growth in India’s outsourcing industry has dropped off dramatically,  and President Obama continues to ask for legal changes to discourage American companies from “shipping jobs overseas.”  So I think that Silvia’s comment points to a longer view of our global economy, to a fundamental reshifting of how American businesses work.

Back in August 2008, the Economist published a section talking about globalization and the strengths of emerging market companies.  We all know about lower labor costs, but the Economist pointed out a number of other factors: greater understanding of the consumers in these fast-growing economies, ability to design and produce goods at lower cost points, lower cost burdens from pensions and healthcare, sometimes lower regulatory compliance costs or cost-effective business models that can be used beyond their home country.   The articles also discussed the “legacy costs” in US and EU-based companies:

multinational companies in developed countries must grapple with legacy costs of various kinds—financial (pensions, health-care liabilities), organisational (headquarters far away from new markets) and cultural (old ways of thinking)

Coming out of this recession will require not just adjustments in the financial services and retail industries, but a fundamental re-evaluation of business strategy in the global economy.  To be successful, American businesses will increasingly need to understand how to work in emerging markets, and adopt some lessons of frugality, resilience and agility from these new economic players.

Globalization of Legal Services Models

One of my business partners,  Matthew Sullivan, has just published an article on the trend of globalizing legal services, both through legal process outsourcing (LPO) and shared service centers.   The article appears on Phil Fersht’s Horses for Sources blog, one of the leading blogs about the outsourcing industry and business globalization in general.

In the article, Matt argues that the growth in the globalization of legal services and the LPO industry is likely to continue and pick up steam in 2009 (and beyond).  The primary driver is reducing the cost of legal services, particularly as the volume of e-discovery work increases dramatically.   In addition, several barriers to outsourcing legal services work have come down: recent legal decisions have allowed legal services outsourcing (with some conditions), a number of solid pure-play legal services and diversified outsourcing service providers have emerged, and both clients and vendors are able to leverage broad knowledge about how to effectively manage US-India business processes to the legal services arena.

Matt has a unique perspective on this: he’s a US-trained attorney who worked for an IT outsourcing firm in India for two years.  There are already a couple of comments and questions on the post, and I’m sure he’d welcome more.

Reviews of India’s Open-Economy Policy

As noted in an earlier post, Jalal Alamgir’s new book, India’s Open-Economy Policy: Globalism, Rivalry, Continuity, was recently published by Routledge.

Dr. Alamgir’s book was just selected by Asia Policy as one of two dozen recommended books for its 2008 Policymakers Library, and one of only two books focused on India.  You can download the PDF with the reviews of the recommended books at the journal’s website here.  Asia Policy is the journal of the well-respected National Bureau of Asian Research, and needless to say, we are proud to see our partner’s work recognized in this way.

Among the policy implications cited by the review is this nugget: “To reduce domestic political risks associated with controversial economic policies, policymakers can… [r]efocus domestic political opposition to issues of international position, status, or competition.”  This seems particularly relevant to U.S. policy at this time, when there is often semi-fanatical concern about “jobs going overseas,” with little consideration for the repercussions of protectionist policies.  Could the political debate be reframed to focus instead on the value of international trade for the U.S., and building our position as an economic partner of choice?