COMPETING IN THE OFFSHORE ERA: A CHANGING MARKET

by J. Bradford Kain, Senior Consultant, Cutter Consortium

How will the cost advantage of offshore development affect the US IT market in the long term? Economists anticipate both a redistribution of jobs from the US to offshore vendors and a gradual leveling of the competitive market for software and services. The domestic IT market is approximately nine times larger than the most successful foreign competitor, India. With more than five million US IT workers versus 650,000 in India, it is natural to expect a migration of jobs as certain functions move to low-cost service providers [1]. The number of jobs that are expected to move offshore -- three million over the next decade -- is actually modest compared to the two million jobs created and destroyed each month in the US economy [2]. Thus, the offshore trend seems to be just one aspect of the normal process of improving efficiency and reducing costs for any industry. Software that can be cogently specified and then implemented by a remote project team will likely move to the lowest-cost developer in India, Southeast Asia, or Central Europe.

However, forces other than cost will mitigate the migration of jobs overseas. Former US Secretary of Labor Robert Reich cites three risks that will keep much IT work onshore [1]:

• Intellectual property. A company will perceive the risk of losing control of the business methods and processes that constitute its most important assets.

• Validation and verification. A customer must be able to correctly specify and adequately test that an application performs as required. (Reich labels this "quality control.")

• Core capabilities. The organization needs to acquire and maintain the knowledge about its business that differentiates it from competitors.

In addition to these risks, the rapid growth of the offshore markets has led to increasing turnover and double-digit wage inflation [2]. These factors will make it more expensive for offshore vendors to build software and will narrow their cost advantage over time.

According to some analysts, the trend in offshore services is likely to boost US productivity and income in the long term [3]. Yet given the advantages of low-cost providers, how can US-based software developers adapt? The key will be to focus on software that cannot easily be built offshore and to improve quality.

An onshore project team has several advantages. On-site staff have an opportunity to work every day with stakeholders and domain experts. Remote communication and coordination are of course possible, but direct interaction is more effective. Furthermore, system development efforts often require a project team to understand undocumented or rapidly evolving system requirements. If the new system has any dependencies on poorly documented and understood legacy systems, a local project team becomes more important. Many customers lack the discipline to adequately specify and validate the implementation of a complex system, and they will need the direct access to a project team provided by the onshore approach.

Quality will also become an important competitive factor. Many offshore firms have attained CMMI [R] Level 4 or Level 5 certification and have demonstrated an impressive capability to deliver high-quality software. Any domestic vendor that fails to provide a similar level of quality will soon find itself at a strong disadvantage. Software quality must be at least as good as or better than applications built by a CMMI Level 4 competitor to compete effectively.

Most offshore vendors are now adopting a hybrid approach -- offshore implementers with onshore project managers and senior technologists. Although this increases the cost of delivery, it counters many of the advantages of a local project team. Offshore firms will be able to offer low cost, high quality, and direct engagement with the customer. The global market for IT services will therefore continue to be fiercely competitive, and this will compel any onshore vendor to take a "high-touch" and high-quality approach. This approach will not erase the cost advantage, but it will be necessary if an organization hopes to compete effectively against offshore vendors.

-- J. Bradford Kain, Senior Consultant, Cutter Consortium

References

1. Reich, R. "Jobless in America." CIO, Fall/Winter 2003.

2. "The Great Hollowing-out Myth." The Economist, 19 February 2004.

3. Blustein, P. "Implored to 'Offshore' More: US Firms Are Too Reluctant to Outsource Jobs, Report Says." Washington Post, 2 July 2004.