Asia-Pacific: Source of income
According to Forrester Research, the total value of outsourcing deals struck in the second half of 2007 increased by £724.2m from the same period in the previous year and forecasts suggest that this level of outsourcing activity will continue in 2008, with Gartner predicting global outsourcing market growth of 8.1%. Experience says that while a major driver in many recent outsourcing transactions has been the quest for improved quality, cost pressures will make a return in 2008 as the most significant outsourcing driver, as the sub-prime credit crunch bites and other factors of globalisation - such as currency movements and relentless increases in energy and other fixed costs - come into play. Credit meltdown and resultant write-off losses will put 'cost' firmly back at the top of the boardroom agenda and decreased cost will become one of the major drivers for outsourcing, displacing to some degree other drivers, such as service improvement and quality. Sectors to watch include financial services, which is likely to be more strongly affected by losses resulting from the credit crunch. In addition, within business transformation outsourcing (BTO), 2008 will experience movement away from the high up-front investments seen in recent deals, with customers looking to smooth significant transformation charges over the life of the deal. On the supplier side, a slowdown could drive increased M&A activity with providers divesting underperforming business units and further consolidation by the more aggressive players who see the opportunity to buy increased market share.
February 27, 2008 at 07:31 PM
5 minute read
According to Forrester Research, the total value of outsourcing deals struck in the second half of 2007 increased by £724.2m from the same period in the previous year and forecasts suggest that this level of outsourcing activity will continue in 2008, with Gartner predicting global outsourcing market growth of 8.1%. Experience says that while a major driver in many recent outsourcing transactions has been the quest for improved quality, cost pressures will make a return in 2008 as the most significant outsourcing driver, as the sub-prime credit crunch bites and other factors of globalisation – such as currency movements and relentless increases in energy and other fixed costs – come into play. Credit meltdown and resultant write-off losses will put 'cost' firmly back at the top of the boardroom agenda and decreased cost will become one of the major drivers for outsourcing, displacing to some degree other drivers, such as service improvement and quality. Sectors to watch include financial services, which is likely to be more strongly affected by losses resulting from the credit crunch.
In addition, within business transformation outsourcing (BTO), 2008 will experience movement away from the high up-front investments seen in recent deals, with customers looking to smooth significant transformation charges over the life of the deal. On the supplier side, a slowdown could drive increased M&A activity with providers divesting underperforming business units and further consolidation by the more aggressive players who see the opportunity to buy increased market share.
In this environment, one of the key challenges for companies is to avoid any knee-jerk reaction which loses sight of desired objectives. Organisations risk losing control of non-core services and, where cost is the driving force, there may be a potential degradation in service quality. Customers should also focus on the hidden costs of outsourcing, including compliance issues, such as ensuring adequate security of customer data, as well as paying careful attention to the ongoing (and sometimes hidden) management costs of outsourcing. Where possible, companies should look to agree a variable cost model to enable them to match costs with business volumes.
The financial services sector was the focus for the mega-deal in 2007 with announcements from Royal & Sun Alliance, Prudential, Resolution and Co-operative Financial Services among others, and this is likely to continue in 2008, as evidenced by last month's outsourcing by Marsh of its back-office support systems to Capita in a £200m deal. Sector-specific BTO (e.g. insurance administration) will also increase as the market matures and companies become more confident with providers.
Pillsbury Winthrop Shaw Pittman has been riding the outsourcing wave by taking the rare step for a law firm of patenting its ValueChain methodology, which comprises a matrix system that illustrates how a company operates before and after outsourcing. This provides a visual representation of the transformation that is required and means that vulnerabilities (such as responsibility overlaps and hand-offs between suppliers) can be identified at the earliest stage. Clients can then ensure that the outsourcing programme continues to be aligned to its key objectives, resulting in greater efficiency and cost-effectiveness.
Last month's TPI index revealed that India's outsourcing contracts contributed $12.8bn (£6.5bn) to the global outsourcing market in 2007, a 30% increase over the previous year. The Asia-Pacific region recorded the highest growth (101%) in BTO contracts, while the Europe, Middle East and Africa region grew by 24%. India is likely to continue as the destination of choice for BTO due to the English-speaking population, although rising currency and increasing wage/real estate costs will continue to boost the appeal of other countries as potential offshore destinations, particularly in the Far East. This is especially the case where non-customer facing processes are involved.
China will enjoy further growth despite concerns about the lack of a suitable intellectual property (IP) protection framework. However, Chinese companies are building capabilities in biologics, bioinformatics and molecular biology and the region is likely to play a role in the supply of biology-based services.
Russia emerged last year as the third-largest outsourcing destination after India and China, due to its domestic IT sector growing 25% annually – three times faster than the rest of its economy. More companies can be expected to follow the likes of Microsoft, IBM, Cisco, Dell and Siemens, all of which have opened software development centres in Russia.
Vietnam is vying for popularity as a low-cost destination, with 9,000 new IT graduates entering the labour market each year, while Singapore has strong IP protection and has made significant investment in creating a large biotech presence. In addition, Egypt is actively promoting itself as an offshore service location for BTO services. However, its proximity to the Middle East and accompanying potential for greater regional political and economic risk – as well as well-publicised internet connectivity issues – may deter some companies.
For the emerging destinations, it is important to understand that industry players can no longer rely solely on cost arbitrage for growth, as US and European companies increasingly view quality and project management as key factors in destination choice. For the outsourcing client, the destination options are increasing which, while providing a greater opportunity to develop an outsourcing solution tailored to an organisation's needs, can also bring additional complexity to the supply chain as well as increased contract management costs.
Tim Wright is a global sourcing partner at Pillsbury Winthrop Shaw Pittman in London.
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