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Why we wrote this book

Whether one is for it or afraid of it, we are convinced that managing offshoring is a
competency that tomorrow™s IT managers must learn. We wrote this book to help build
that competency.
This book builds offshore competency in the breadth and depth of the material
covered here: offshore economics, offshore strategy, offshore legal issues, how to get
started in offshoring, and many other critical topics.
By teaming up across the Atlantic (Erran is in the United States, Paul is in The
Netherlands), we bring different views and challenged each other™s assumptions. We
bring different views in other ways, we formed a business-academic alliance (Erran is
a professor of business and Paul is a consultant on offshoring). We also invited other
experts to contribute: there are eight additional authors and co-authors of some chap-
ters and some cases. For example, we invited an attorney specializing in offshoring,
Rebecca Eisner, to author the chapter on offshore legal issues.
We have also collected many real-life examples: nine in-depth cases, all of which
are ¬rst published here, as well as countless stories and anecdotes sprinkled through-
out the book.
This book is also a resource for students and teachers in business and technology
programs. As we wrote this book the ¬rst offshore outsourcing classes were offered.
Today, the topic of offshoring should be a component of any management curriculum.
Finally, we also wrote this book for policy makers and analysts in or around gov-
ernments. Governments in dozens of nations have been devoting more attention to off-
shoring as path to increase their national wealth.
We, the authors, both live in countries where offshoring has become a controversial
political topic. Thus, as we wrote this book, we were often asked by friends and col-
leagues: “So, what stance are you taking on this issue?” By this our interrogators
meant: are we for or against offshoring? In this book we cover the advantages and dis-
advantages of offshoring openly and honestly. We did not write this book to take a
political stance; this is a management book.
xviii Preface




Offshore jargon and the scope of this book

Why isn™t this book called offshore information technology OUTsourcing?
The term offshore information technology outsourcing is replete with misleading
usage. So, at the outset, we will de¬ne and parse some offshore jargon and explain
what “they” mean “ and what we mean in this book. This will also be a good place to
explain what is in the scope of this book.


What is meant by offshore?
Strictly speaking, offshore can be any country outside the home country, similar to the
word “foreign.” Before everyone began using offshore IT outsourcing, the common
usage of offshore in the business context was for offshore tax havens,1 often on small
islands offshore, such as the Cayman Islands off the coast of the US. Indeed, an
Internet search will still present these items on occasion.
But, the word “offshore” has taken a new meaning. It is understood by many of its
business users to mean the shifting of tasks to low-cost nations, rather than to any des-
tination outside the country. Low-cost nations are those that fall into the economic
grouping of “developing nations” or “emerging nations.” Thus a British software ¬rm
does not usually refer to its US software research center as an “offshore site.” Really,
the broader theme of this book is the ascendancy of nations outside the most developed
industrialized economies “ and the true globalization of the software industry.
“Offshore” has spawned many derivative terms, the most important of which is the
opposite: onshore. In this usage “onshore services” are those that are provided by for-
eign ¬rms locally (onsite) often using lower-wage foreign employees. For example,
the US special work visa, the H1-B, has been used to import labor in order to staff
these “onshore” services. Amusingly, offshore has morphed in the hands of marketing
departments as the list of terms in Exhibit 1 demonstrates.


What is meant by outsourcing?
Outsourcing has two implications. First, it means that tasks and processes are con-
tracted to be performed outside the boundaries of the ¬rm. Thus, some of GE™s offshore
development centers (ODCs) in India are, indeed, outsourcing, because they are per-
formed by a third party, Tata Consultancy Services; while Siemens™ software develop-
ment center in India is owned by Siemens and its employees are Siemens™ employees.
Many technology ¬rms have globalized via acquisitions “ acquiring smaller soft-
ware ¬rms around the world “ and then molding them into their global operations.
Other ¬rms have expanded offshore by setting up green¬eld subsidiaries “ setting up a
new, from-the-ground-up subsidiary or software center. When such an offshore center
xix Preface



Onshore


Offshore


Nearshore


Best Shore (EDS)


Anyshore (BearingPoint)


Rightshore (Capgemini)


Farshore (CG&Y)


Dualshore (NIIT)


Offsourcing (HCL Technologies)


Offshoring


Nearsourcing


Nearshoring


Multishore





Exhibit 1 A collection of marketing-oriented terms for offshore sourcing2 (the source of the term is
noted in parentheses where it is known).



is owned by the client company, then in offshore-speak it is called a captive center.
There are also hybrid collaborative arrangements, such as setting up a joint venture
with a local partner.
So, really, a better term to use, instead of outsourcing, is sourcing. This book is
about offshore sourcing. Where sourcing can be from outside the ¬rm or inside the
¬rm: whether it be outsourcing, or inside the company in captive centers.
Second, the traditional outsourcing industry sees outsourcing more narrowly: when
an entire process is delegated to an outsider “ a call center, network management, or
application support “ and sometimes where assets and staff are actually transferred to
the outsourcing ¬rm. But, these days, many offshore activities are one-off, single proj-
ects that are contracted on a one-by-one basis. Therefore, strictly speaking, this is not
outsourcing in the traditional sense, but “project contracting,” or out-tasking. While
we use the term out-tasking in this book, we do not subscribe to the narrow de¬nition
of outsourcing.


What is meant by Information Technology “ IT?
Some software engineers hear it as information systems type activities that are con-
ducted across industries, by end-user organizations, such as a retail chain. We do not
segregate IT from software. This book is about any type of software-related activity: IT
services and IT applications, software products, and embedded software.
Figure 1 has a small appendage hanging from its right side. This is IT-enabled
services (ITES). IT-enabled services includes the many services that are now being sliced
away and offshored: from call centers, to medical transcription, architectural drafting,
through ¬nancial securities research. These are not software activities. Nevertheless,
xx Preface




Outsourcing
Out-tasking
Captive centers
Greenfield centers



Software of all kinds
IT services
IT applications
ITES
Software products
Embedded software




Figure 1 Scope of this book.




IT-enabled services offshoring and IT offshoring are closely tied together. Therefore, we
mention IT-enabled services throughout the book, but in particular in Chapters 1 and 10.



The book roadmap

We structured this book so that it does not have to be read linearly. Skim, jump, or hunt
for the chapters that are most pressing to you.
Part I, The Fundamentals covers the most important issues to the manager, espe-
cially in early offshore stages. Chapter 1, The Offshore Landscape, gives the reader a
broad overview of offshoring past, present, and future, while introducing some of the
topics that will be covered in later chapters. Chapter 2, Offshore Economics and Off-
shore Risks, examines the most critical business issue: Is there really a cost advantage?
Or is this, perhaps, an illusion? It also includes the ¬rst of our nine practical cases: how
a giant American company calculates the real costs of offshoring. This chapter also
takes a close look at the other side of cost savings: the risks in offshoring.
Chapter 3, Beginning the Offshore Journey is written for the manager who, as the
title suggests, is just beginning. It deals with the three major phases: laying a solid
foundation, the identi¬cation of potential service providers, and then selecting the best
one. Chapter 4, The Offshore Country Menu, gives the reader a foundation for under-
standing the many countries that are offshore destinations. Even if you are convinced
ahead of time that you will offshore to India, this chapter will be useful. The chapter
ends with small brie¬ngs on a cross section of 11 offshore destinations.
xxi Preface


Part II of the book is titled Managerial Competency. It takes the business reader
through ¬ve building blocks of managing offshore activities. The chapters are: Off-
shore Strategy, on the cost strategy and beyond; Offshore Legal Issues, covering the
contractual concerns and legal risks; Managing the Offshore Transition, covering the
three dif¬cult topics of knowledge transfer, change management, and governance; Over-
coming Distance and Time, offering the many small formal and informal solutions to
this dif¬cult problem; and Dealing with Cross-Cultural Issues, which takes a light-
hearted and practical perspective to differences between people around the world.
Finally, in Part III, Other Stakeholders, we introduce perspectives of interest to dif-
ferent readers. First, Building Software Industries in Developing Countries takes the
view of policy makers interested in how their countries can gain from the growing
global demand for offshore services. Then comes Marketing of Offshore Services “ the
Provider Perspective, which presents the view of offshore providers™ marketing and
sales staff seeking to enter new markets and target new clients. Finally, the last chapter
examines the controversial political and social implications of offshoring.
Acknowledgments


Marty McCaffrey was the spiritual father of this book in two important ways. First,
Marty began discussing the need to write a book on offshoring as far back as 2000.
Second, Marty made many professional introductions to us “ many of which bene¬ted
this book directly or indirectly.
We received gracious support on several of the cases. We wish to thank: for the Intel
case, Eleanor Wynn, Cynthia Pickering, Tammy Hertel, and Nathan Zeldes; and for the
GroupSystems case, Bob Briggs. Several others provided us generous access to write
our cases. These are the people behind the anonymous, but true, cases in Chapters 2, 4,
and 7. We wish we could thank them by name because their contribution was signi¬-
cant, but unfortunately we cannot because they requested to remain anonymous.
The following colleagues kindly read draft chapters and offered excellent improve-
ments: Frank DuBois, Alberto Espinosa, Sally Fowler, Zerubbabel Johnson, Jennifer
Oetzel, Steve Sawyer, and Jeremy Wells. Others helped in direct and indirect ways:
Bill McHenry, Brian Nicholson, Eric Olsson, V. Sridhar, and Shirley Tessler.
Erran adds: My most committed reader of many drafts and my most unrelenting
critic has been my father, Eli, a global business manager and also a former professor.
He persisted in demanding more and more. My thinking bene¬ted immensely from his
comments and it was rewarding to work together.
Paul adds: Dedicated to the memory of my father, Tian Seng Tjia. His business
advice and moral support were of enormous value when starting an offshore consul-
tancy in the middle of the 1990s. His motto “keep on ¬ghting” also proved valuable on
several occasions when writing this book.
Part I

The fundamentals
1 The offshore landscape




Offshoring IT work is an important milestone in the history of global economics. Why
has this happened now?
There is no one factor that brought about this phenomenon, but rather, six. Six princi-
pal forces converged, as depicted in Figure 1.1. The ¬rst of these forces is well known:
the globalization of trade and, more recently, the globalization of trade in services, which
is now approaching 2 trillion USD annually. Borders began opening in the 1980s as
market-based solutions gained broad acceptance. The collapse of the Soviet bloc spurred
this process even more.
Nations that were once hostile to business, or at best indifferent, are now competing
with one another to attract foreign investment and spur their software sectors, creating a
business-friendly climate. Nations are offering tax incentives and are easing government
regulations. They are building technology parks to make it easy to set up and run business



Globalization
of trade in
services
Business-
friendly
climate


Wage
Software
differentials
commoditization



Growth of
offshore
labor pool
Drop in
telecom costs


Figure 1.1 The principal economic, business, and technology forces of offshoring.
4 The fundamentals


operations. India and the Philippines are dotted with such technology parks. China has
established 15 software parks and 53 technology parks (more on the country “menu” will
come in Chapter 4).
Meanwhile, the number of engineers pouring out of universities and technical schools
in India, China, and other nations has surged. China, alone, graduates four times as many
engineers as the US every year. While the quality of these programs was once inferior
to those in industrialized nations, the gap has narrowed. The elite of the offshore labor
pool “ the talent that is now being directed at higher-end software activities (e.g. research
and development (R&D)) “ was always there. But, not long ago, this talent would emi-
grate to the industrialized nations or ¬nd other jobs. Today, global technology ¬rms tap
these talented engineers and scientists wherever they may be.
In the course of just a decade communications costs have decreased to almost zero
for nearly unlimited usage. This has brought about a remarkable outcome “ that it is
almost as easy to work with someone across the ocean as across town (though not equally
the same, see Chapters 8 and 9). Between the late 1990s and the early 2000s the bench-
mark international calling rates have fallen by 80“90%; that is, for those who still use
standard rates. Many software workers use voice over IP at zero marginal cost. Equally
important for software, the bandwidth has expanded by orders of magnitudes, from
almost zero in the 1990s, reaching 4 gigabits per second to India alone in 2004 (with
up to 9 terabits per second of system capacity). It was only in 1994 that one of the pio-
neering project managers offshoring to India had his team copy the weekly software
“build” onto tape every Friday just in time for the FedEx pick-up that would ¬‚y the tape
across the ocean.
Software commoditization is not as well understood by those outside the software
industry. It is the standardization of software development practices and tools. For the
¬rst time, in software™s 50-year history, some software tasks are suf¬ciently routinized
and automated that they have been “commoditized.” These tasks are nearly undiffer-
entiated by producer, like a barrel of oil or a bushel of wheat. Once some tasks are
commoditized they can be produced by the lowest-cost, most-productive bidder. As
one manager commented to us “these are the skills that you can shop for on the
Internet.”
Finally, and make no mistake about it, the dominant force in offshoring is the wage
differential between low- and high-wage nations. Hence this force appears in the center
of Figure 1.1. The wage differentials lead to lower costs. Some managers will utter other
politically acceptable reasons for offshoring that seem less offensive than simply slash-
ing costs, but these are often secondary considerations voiced for appearances. The cost
pressures have made offshoring a strategic necessity for some ¬rms (see Chapter 5,
Offshore Strategy). Not only are corporate executives stressing cost savings, but American
venture capital ¬rms, in an effort to reduce their own capital investments in young ¬rms,
have pushed technology startups to perform their R&D offshore from the outset. Until
the 1990s, technology ¬rms looked largely at labor pools in high- and middle-wage
5 The offshore landscape


nations: the G7 nations,1 Switzerland, Israel, Brazil, and several others. This has perma-
nently changed.
To be sure, there are other, secondary, forces that helped spur offshoring, such as the
emergence of sophisticated IT ¬rms offshore, especially in India; and the advantages,
in isolated cases, of working around the clock. Additionally, market access has been a
factor for large technology companies. Large global ¬rms need to, or are forced to, invest
in operations in important nations. China is the premier example of this. No important
technology ¬rm can sell to China today without having some R&D or manufacturing
operations in-country. For example, in 2003 China mandated its own cryptographic stan-
dard for wireless local area networks (LANs). Foreign ¬rms who wanted to access this
market were forced to collaborate in software R&D with local companies.




Historical context and lessons for the future

Offshoring is not new. The principal consumers of offshore software work, the indus-
trialized nations (e.g. USA, UK, and Germany), have already witnessed many manufac-
turing industries shift offshore as they have matured. These industrial migrations
accelerated since World War II: steel, shipbuilding, automobiles, manufacturing, textiles
and apparel, consumer electronics, tool making, semiconductors, and others. In the
automobile industry, for example, during the period of accelerated decline of the North
American industry to Japan, the market share of US ¬rms declined dramatically from
85% in 1974 to 56% in 1991. The common denominator of these historical migrations
is that, until recently, offshoring occurred in physical goods; offshoring has taken a
new turn in that it is now taking place in services.
A useful way to understand the context of these offshoring waves is via Vernon™s
classic model called the international product cycle.2 The model has three stages. In
Stage I, a new product begins with highly skilled entrepreneurial activities, typically in
industrialized nations. In Stage II, production begins to shift offshore via investments
in low-wage nations. In Stage III, as the product standardizes, it is mass produced with
cheap, low-skilled labor. The model seems to describe software offshoring fairly well,
helping to explain the recent accelerated pace of software offshoring. Interestingly,
while some software segments have now entered the third and “¬nal” stage of the inter-
national product cycle, other software segments are still in Stage I or II.
Offshoring is still a small portion of the global software and IT services marketplace “
comprising at most 5% of expenditures. A UN report dramatically labeled the new off-
shoring trend as a “new international division of labor” and emphasized that it is still at
its early stages.3 Where will it go? How far will it go?
Possible future trajectories are plotted in the graph of Figure 1.2 using ¬‚at “S curves.”
One trajectory is becoming visible: a split between design activities (high-level) and
6 The fundamentals




as a percent of global production
Development B



Offshore production
Development A


Design

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