Focus offshoring on value and not just cost
05/03/2008
Lisa Hammond examines 'intellectual arbitrage' and why it will allow companies to gain more value from offshoring.

Written by Lisa Hammond, CEO, Centrix

3 March 2008

For companies under increasing pressure to deliver short-term cost savings, the so-called 'promise' of cost reduction by offshoring is very seductive.

Such a narrow view can lead to operational problems and in many cases threaten the long-term viability of a company.

Global talent pool

Organisations that view offshoring simply as a cost cutting exercise are missing the real potential of the sourcing model.

With access to a global talent pool, companies can use sourcing strategies to bring intellect to their business, improve quality of service and increase productivity.

In the last few years, the trend towards offshoring has continued to gather pace.

Most companies miss out on some of the most powerful benefits of offshoring, however, because they view it as an opportunity to cut costs in the short term rather than as a long-term strategic move to improve productivity and deliver innovation.

Labour arbitrage, the process of profiting by buying labour in one market at a low price and being able to sell in another market at a higher price, has been the principal driver for offshoring a business process or capability.

While this cost rationale is very appealing, many companies who have chosen offshoring as a sourcing strategy have experienced significant productivity challenges.

It is worth remembering that no matter how big the cost savings are it never makes sense to move to an offshore location unless the operational performance levels are at least equal to the existing facilities.

This is where intellectual arbitrage really comes into play as it focuses on how to achieve a far superior outcome, a lot faster, for a price the company can afford to pay.

It is all about using offshoring to gain access to distinctive skills and higher quality servicing with the opportunity to reduce operation costs, or at least keep them the same.

Why the right approach to sourcing is vital

We are in the middle of a process of fundamental social and economic reform, in which services are being industrialised in the same way as the manufacturing industry has been revolutionised in the past.

The transformation process is closely intertwined with technological innovation, which has initiated changes in attitude about how business can be conducted, and is producing a consumer base that is confident to shop around.

The impact of globalisation is being felt across every market sector and UK companies had better be prepared.

Between 1940 and 1980 the basis of competition was determined largely by the assets a company owned, whether factories, infrastructures, raw materials or bank branches.

During the last two decades successful companies moved their focus from owning assets to owning capabilities ? think of Tesco's supply-chain management skills of recent years.

Now we are entering a third phase of competition in which companies will compete based on how skilfully they can exploit capabilities owned not just by themselves but also by suppliers.

Service delivery

This approach focuses on the customer-centric service value chain; successful companies will be those able to draw upon the best global intellect and talent to support components of the chain and innovate service delivery.

Take this telemedicine scenario as an example. In the past, when a patient needed an X-ray, his GP would refer him to a hospital where a radiographer would perform the scan.

The film image would then be passed to a medical transcriber who would turn it into a printed report, while the X-ray film was sent to a medical records store somewhere in the hospital.

The report would be faxed or mailed to both the patient's GP and the hospital doctor overseeing the patient's care in the hospital.

Using today's technology, the entire process can be redesigned. The patient can be scanned at a location convenient for him: a mobile unit or a 'cottage hospital'.

The image then can be sent electronically to the radiologist who may be in a specialist centre thousands of miles away, as well as to the hospital and GP.

Low-cost economy

Voice recognition technology can transcribe the radiologist's report as she makes it, or the audio report can be recorded as a computer file and sent offshore for transcription in a country, such as India, where there are many highly-qualified medical transcribers available at rates that are a fraction of the cost in the developed world.

Even the skills of the radiologist may be replaced by intelligent systems currently under development, which can diagnose certain conditions automatically.

Who wins? The patient enjoys greater convenience and lower cost; the hospital saves money by offshoring or outsourcing an expensive service to a lower-cost economy but still retains a high-level of intellect and value adds.

So how will offshoring affect business and IT skills? Operating at a time of intense competitive pressure, with a squeeze on talent and local skill shortages, UK companies have to rethink their strategies.

To stay competitive they must drastically improve their working practices, re-skill their workforce and focus intensely on customer preference, quality and value instead of just price.

Sourcing practices

Offshoring will impact the kind of skills IT professionals and business heads will need to be successful.

Managing offshore suppliers and innovating service chains will become more important parts of the IT staff job function.

To prosper in a customer-centric climate, companies will need agility, aggregation and adaptability qualities, the success of which will rely on flexible, competitive strategies and the ability to publish or subscribe to IT services anywhere in the world.

Today's sourcing strategies must be built around sourcing practices that encourage change, not those that hinder it.

Change is difficult because people are rewarded for stability. Sticking to an outdated yet stable sourcing practice, in a complex and rapidly changing business environment, is following a recipe for failure.

As more and more companies jump on the outsourcing bandwagon, businesses need to find ways to gain a competitive advantage ? or risk losing market share.

Business and IT leaders require a new set of skills, such as being able to identify the most suitable and productive offshoring partners or negotiating favourable contract models such as subscription based pricing.

Smart CEOs will look at the entire spectrum of sourcing options from a strategic standpoint, literally reinventing their companies by drawing together the right capabilities from the right sources at the right time using a subscription based model to eliminate risks.

This new subscription based model of sourcing will result in greater productivity and flexibility, therefore creating a strategy, which can be changed quickly by companies to respond to changing market demands and inseparable to competitive strategy.

New offshoring hot spots

China and India are leading the market transformation in service industrialisation, with China focused on manufacturing and India on services.

There are, however, also a host of emerging countries that are hot on their heels providing specialist expertise and competitive skill pools. These countries include Poland, Czech Republic, Brazil, Hungary and Slovakia.

To select the most appropriate labour pool to match the required outsourced activity a company should refer to the location suitability index, which considers: costs, productivity, language skills, infrastructure, political stability, regulations regarding labour, legal factors, macro-economic stability and security.

It is important to realise that a company may get most benefit from offshoring different functions or business processes to different locations.

This may lead to a more complex outsource strategy but when managed correctly, it will provide the best return on investment (ROI).

For example, according to Centrix CHIPS (figure 1), countries such as Hungary, Poland and Slovakia, where multi-language capabilities are not a given, are most suited to handling back-office operations.

Push higher up the value chain

Countries such as India and Brazil are apt locations for offshoring front-end operations, however, where the multi-lingual skills are key to the new service-orientated era.

For UK companies, prudent offshoring to other countries can reduce costs, increase productivity and enhance flexibility.

It can provide companies with the ability to innovate and introduce new products and services, while pre-empting and sidestepping recruitment crises resulting from a shortage of labour.

In the highly customer-centric age, companies must focus on customer preference, quality and value, not just price, and look for ways to find value from existing and unfamiliar sources by unbundling and re-bundling their offerings.

UK companies will need to push higher up the value chain, adding more creativity and sophistication to their products and services. Offshoring could play a critical part in achieving this, if approached in the right way.

Centrix has a seven step approach to assessing whether outsourcing is the right option, and then for successful handover:

Strategic priority and risk: evaluate where in the value chain you want to compete.

Market consideration: consider the options for external provision of the activity. Are their suitable outsourcers that have the relevant capability?

Internal vs external capabilities: assess the capabilities of suitable suppliers vs. in-house provision.

Economic assessment: conduct a complete assessment of the long-term cost (hard and soft) of the activity in-house vs. outsourced.

Ability to manage suppliers: assess your ability to manage and measure an external supplier for this activity.

Ability to manage new processes: assess your ability to manage new processes that cut across organisational silos.

Project-based handover: divide your functions into smaller projects and hand them over one at a time. Only move onto the next project when the current one is successful.

Lisa Hammond is Chief Executive Officer of Centrix.