OUTSOURCING – The Man in the Middle

Agents. Intermediaries. “Pivotal providers,” one analyst calls them. By any name, third-party brokers are now serious players in the burgeoning offshore outsourcing marketplace. From eager-beaver startups to big-name systems integrators, these brokers come in all shapes and sizes but offer the same value proposition: to negotiate, manage and even take financial responsibility for outsourcing projects sent offshore to India, Eastern Europe and other foreign outposts.

In return, they want a cut?maybe even half?of the cost savings CIOs go offshore to achieve.

Where’s the value in giving up savings to get savings? For small to midsize companies new to outsourcing, brokers offer the big benefit of offshore projects?good work done cheap?but without the cross-cultural vendor management headaches. Even some larger companies going offshore for the first time can benefit from a broker if their first consideration is accountability that the work be managed correctly. But to the big, experienced players, the idea of a middleman is as compelling as throwing money out the window.

Clearly, the answer to the new question of whether to use a third-party broker is the age-old “It depends.” There are risks: Brokers vary in offshore experience, and any time you add a middleman to a transaction, communication can get bungled three ways, not just two. There’s also the chance that brokered vendors may be of lesser quality or experience than ones you might attract if you outsourced directly. Key points for CIOs to consider when weighing offshore options are: Know your own vendor management capabilities; do your homework on your prospective broker’s experience and talent pool; and if you do opt for a broker, be prepared to make a business case that’s rooted less in the hard numbers of cost savings and more in the softer concept of peace of mind.

1 When Harry Met Sari

In 2000, when Harry Margolis launched ElderLawAnswers.com, a Boston-based Web portal offering legal advice to senior citizens, he couldn’t afford a big-name Web developer. So Margolis, who is president of ElderLawAnswers.com, hired Providio Technology Group, a Boston-based offshore broker and consultancy, to outsource the work to less-expensive developers in India. Beyond matchmaking, Providio managed the project from beginning to end, relieving Margolis of the burden of having to learn outsourcing on the fly. “We’re just too small an operation to think about [going offshore directly],” Margolis says. “For us, the [broker] model makes a lot of sense.”

But even the presence of a broker doesn’t guarantee success?particularly when communication issues arise, as they do in any outsourcing relationship. Margolis’s project almost fell apart over the initial vendor’s inability either to understand or perform the tasks requested through Providio. “We’d give [the vendor] a list of things to get done, and half would, half wouldn’t,” Margolis says. “And then there’d be a couple of things added that we hadn’t even talked about.” Providio was unable to improve the relationship and was forced to replace the vendor with a much more responsive (also Indian) company, a job Margolis didn’t have to do.

For larger companies that have outsourced at home but not abroad, brokers can bring knowledge of the offshore marketplace and accountability for making sure the job gets done right. These were the qualities sought by Rino Bergonzi, CIO of Basking Ridge, N.J.-based AT&T Business Services, when he started looking offshore for application development services in 1999. After considering direct offshore options, Bergonzi opted to outsource through IBM Global Solutions, which operates its own offshore facilities and partners with foreign vendors. His rationale: AT&T had a long-standing business relationship with IBM, and Bergonzi felt more comfortable venturing offshore through a partner he knew and trusted. “I lose some cost savings,” he says, “but I hold IBM totally accountable for the work. If I went [offshore] directly, I wouldn’t have the same comfort level.”

The Middleman Cometh

The offshore outsourcing marketplace is roughly a decade old, but brokers have emerged only in the past two years?the result of early adopters monopolizing the services of the top offshore vendors, says Cambridge, Mass.-based Forrester Research Analyst Christine Spivey Overby (who coined the term “pivotal providers,” and who has been a major proponent of offshore brokers).

“There’s a real drop-off in quality between tier-one and tier-two providers,” Overby says, citing unpredictable costs, spotty telecommunications infrastructure and nascent business practices at the secondary vendors. “If you’re a GE or a J.P. Morgan [two big-spending offshore pioneers], you’re going to get on the radar screen [of a tier-one vendor],” she says. “But if you’re new to the marketplace and the tier-one dance cards are full, that could lead to risks that are intolerable.” By engaging a broker, Overby says, a customer that is new to the offshore market benefits from the experience of an agent who knows how to select and manage offshore vendors, who’s willing to act as a mediator and legal resource, and who will accept financial responsibility for delivering the outsourced goods. Another consideration: Going offshore through a U.S.-based broker may ease the concerns of business executives wary of dealing directly with a vendor in some of the world’s more volatile corners.

While today brokered deals are outnumbered roughly 2-to-1 by those managed directly by customers, Overby says that by 2005 the flood of new customers entering the marketplace (and the resulting scramble to lock in the biggest and best vendors) will result in 64 percent of offshore contracts being managed by third-party brokers.

The startup brokers that come to the marketplace with varying levels of offshore experience are attracted by opportunity?they see a lot of first-time offshore customers who need global guidance. “The Fortune 50 go offshore directly?they’re already global,” says Rob Linder, president and CEO of Providio, which was founded in 1999. “But there are only 50 of those guys. The rest are going offshore project-by-project and wondering, Who do I go with?”

The big-name outsourcing vendors now getting into the offshore brokerage business?IBM Global Services and PricewaterhouseCoopers among them?have been dragged (“kicking and screaming” may apply) into the offshore marketplace. These companies, which typically have competed against the offshore vendors, now find their own customers demanding offshore options?and the lower pricing that comes with it. And if the big-names won’t provide them, the customers will go elsewhere. While offering offshore services?or brokering them?at offshore prices reduces the profit a company such as IBM typically makes, the vendor’s hope is that its customers will reinvest their cost savings in additional business with the vendor.

AT&T is one of the companies that drove IBM into the offshore marketplace. Two years ago, amid budget cuts, Bergonzi decided to send 38 percent of his application development work (the work of 75 to 100 people per month) offshore by the end of 2001. He considered going offshore directly, but backed off because he didn’t have any experience with the vendors. But he did have experience with IBM?AT&T is in the middle of what is reportedly a seven-year, $900 million outsourcing contract with Big Blue?and it didn’t take much pushing to get IBM to develop offshore resources for him. “When you’re a big enough customer, you are able to drive customer service,” Bergonzi says. Today, in part he has attained his 38 percent goal, and he is realizing across-the-board cost savings of at least 30 percent owing to outsourcing.

“I Really Don’t See the Need”

Some industry experts share Overby’s optimism about the emergence of brokers in the offshore marketplace. Stephen Lane, research director of IT services at Boston-based Aberdeen Group, and Lisa Stone, vice president and research director at Gartner, both see the model benefiting small to midsize companies. “If you can get someone to take care of [legal and vendor-management] issues and still get cost savings, it works,” Lane says. However, others denounce those intermediaries as more hindrance than help. “I don’t really see the need [for a broker],” says Howard Lackow, senior vice president and director of outsourcing services for The Outsourcing Institute, an outsourcing professional association in Jericho, N.Y. The competition among offshore vendors is hot enough that top-notch offshore services and rates are still available to all comers in direct engagements, he says, and he doesn’t see the added value of indirect vendor management. “I would not recommend to any of my clients that they have someone else manage their vendors,” Lackow says.

Shaw Pittman is a law firm based in Washington, D.C., that specializes in outsourcing deals. Michael Murphy, partner with Shaw Pittman’s Los Angeles technology group, believes even the tier-two Indian vendors have solid enough rŽsumŽs that there’s no need for customers to worry about their service levels or stability. India is far and away the biggest offshore outpost. “Indian companies have excellent credentials?there is no compelling case to say you need an account manager sitting on top of an Indian [firm] to get the job done right,” Murphy says. “With a 30 to 50 percent costs savings, [a CIO] can afford to add some overhead, but it would be wrong to think there’s any sort of obvious case to introduce a third-party to manage these relationships.”

Also, just because a broker has a big name in the United States in outsourcing doesn’t mean it has big-time offshore experience or access to top-notch skills. “Many of the U.S.-based pivotal providers are just getting an offshore outsourcing capability,” notes Marty McCaffrey, cofounder of Global Outsourcing, a Salinas, Calif.-based offshore consultancy (but not a broker). While IBM has a good seven years of offshore experience in India and elsewhere (as much or more than many veteran offshore customers), companies such as Accenture and EDS have only just gotten their feet wet in India within the past two years. Those companies may take a year or more to establish themselves in the Indian marketplace, where they have to compete for talent with the well-established home teams. “It’s not Presto! you have a great offshore facility and now you’re a great offshore services provider,” McCaffrey says.

It’s All About Accounting

For most CIOs weighing offshore options, the bottom line is the bottom line?what’s the deal going to cost, what’s it going to save, and who’s going to be held accountable?

Rates for offshore outsourcing vary depending on supply, demand and the relative heat of competition in the marketplace. But given the variables, offshore outsourcing saves customers anywhere from 20 percent to 50 percent of what it would cost to do the work here in the United States. This cost savings is built almost entirely into the lower labor costs overseas (see “IT Salary Comparison,” Page 72). A broker will skim up to half of that cost savings off the top of the deal, reducing the customer’s discount to between 10 percent and 25 percent of U.S. costs. That’s still a significant savings over doing it yourself?but maybe not enough for CIOs who don’t want to surrender any savings or control.

Kurt Woetzel, executive vice president and CIO of The Bank of New York, has been outsourcing application development directly to Tata Consultancy Services (TCS) in Mumbai, India, for a little more than two years, and so far he’s realized a 20 percent to 30 percent reduction in costs. And although he was new to the marketplace when he first signed with TCS, he never considered venturing offshore through a broker. The main reason: total control. “If something goes wrong, management isn’t going to care that I hired someone to [manage offshore accounts] for me,” Woetzel says. “Besides, we think we’re pretty good cost managers ourselves. We don’t want to put that responsibility in someone else’s hands.”

And remember: Getting your feet wet with a broker doesn’t mean you have to stick with a broker. AT&T’s Bergonzi, a broker proponent, is starting to dabble in what he describes as “a little” direct application development work?$10 million worth?with TCS and another top Indian vendor, Wipro. And he may expand those solo efforts later this year. “I’m impressed with the quality of work in India,” Bergonzi says, and he also respects the size and capabilities of the vendors, which in their own right could be called the GE and IBM of India. “I have to deal with solid, reliable firms,” Bergonzi says. “I don’t want to work with smaller firms that might be less reliable, even if I could get a better rate from them.”

Still, when most executives look offshore, money isn’t just a factor, it’s the only factor. And that’s the key to making the broker or no broker decision: Is outsourcing a project and its vendor-management headache worth the cost savings you’ll lose by going offshore via an intermediary? For Margolis of ElderLawAnswers.com, the answer was yes. But that’s not true for everyone. As Shaw Pittman’s Murphy says, “It’s all about the money. You can make all the arguments about quality of work and access to skills, but at the end of the day it’s the 30 to 50 percent savings that gets the CFO’s attention.”