Abstract: Offshore Outsourcing has become an IT imperative. This ...

Abstract:Offshore Outsourcing has become an IT imperative. This article outlines the key factorsunderlying the successful offshore outsourcing of software development. Topics ofdiscussion include typical pitfalls and how to avoid them, offshore vendor evaluation andmanagement, establishing realistic financial goals, security and risk management, andfinally, navigating the difficult waters of employee impact. This article is based upon thehands-on guide, Managing Software Development Offshore - Making it Work (CRCPress, 2004), by the same author.Part One2

Introduction:Offshore Outsourcing is now widely acknowledged as a core competency for Fortune100 IT organizations. This article explores the typical pitfalls associated with thesuccessful management of software development via Offshore Outsourcing.The following questions are addressed:• What is Offshore or Offshore Outsourcing?• Why is it an IT Imperative?• How do we best start our Offshore program?• What can we expect in terms of cost savings?• How do we avoid the typical pitfalls of Offshore Outsourcing?• How do we select the best Offshore vendors?• How do we respond to security and geopolitical risk?• What is the best way to handle sensitive employee concerns?Geared towards the hands-on IT practitioner, the focus of this article is to provide apragmatic guide to Offshore software execution, tapping the collective knowledge of"been there - done that" seasoned professionals. For a more extensive treatment of thistopic, interested readers are referred to the hands-on guide, Managing SoftwareDevelopment Offshore - Making it Work (CRC Press, 2004), by the same author.3

It is useful to compare how Offshore Outsourcing differs from Traditional Outsourcing.Traditional Outsourcing occurs when the entire IT function is shifted to an externalorganization. Traditional Outsourcing tends to extract a big price - the loss of thecollaborative partnership between business and technology. This critical strategicrelationship often goes by the wayside in the focus to achieve short-term efficiencies andcost cutting. The business - technology partnership is a delicate one, often hard toachieve and maintain. One characteristic of market leaders is that these two majordisciplines are not only able to communicate effectively, but are able to somehowtransmute their mutual understanding into a strategic advantage by banding together todecide how to leverage technology to establish a competitive edge. Few largeTraditional Outsourcing firms can afford to have an IT strategic planner follow theircustomer's business leaders around just to tee up next year’s potential partnership – yetthis is exactly what is required when business and technology meet to put a plantogether. If the IT function is kept in house, the best and brightest of IT leadership havelearned to do double duty by keeping a close relationship with their business peers whilesimultaneously leading the tactical execution of the existing IT strategy. While this mayor may not be acknowledged, even with the growing number of executive level“relationship managers” that are springing up as part of IT services everywhere, it one ofthe key factors that enable truly innovative technology deployment as the basis formarket leadership.Offshore Outsourcing is unique in that the strategic in-house business partnershipfunction is preserved along with the savings associated with Outsourcing. This is througha business model commonly called Co-Sourcing.5

In Co-Sourcing, the geographic placement of team members is determined by theirfunction. Offshore teams are often discussed in terms of percentages, such as “80/20” or“70/30.” 80/20 means that, of a given IT application development or maintenancesupport team implemented with the Co-Sourcing model, 80% of the team is locatedOffshore (out of the US) and 20% of the team Onshore (within the US or the Americas).This team structure is maintained, of course, with “70/30” or even “60/40” teams.Whatever the percentage of the team that is Onshore, the functions of that team usuallyinclude maintaining the partnership and planning function with their businesscounterparts. While the specifics vary from team to team and firm to firm, as a generalrule of thumb, the Onshore positions maintain the strategic, planning or architecturalfunctions, while the Offshore positions usually require the most tactical execution. Thetable below shows the typical Onshore / Offshore mix of team functions across thesystems development life cycle (Table A).Part of the Onshore function is the “retained layer” or the internal senior operationalteam responsible for on-going Offshore program execution and oversight. This internaloversight team provides a focal point for program oversight and reporting. The retainedlayer also ensures that the Offshore program remains aligned with the strategic businessgoals of the firm, and that internal stakeholder expectations are both clearly establishedand monitored for successful execution.6

IT Lifecycle StagePrimarilyOnshorePrimarilyOffshoreEquallyOnshore andOffshoreBusiness PartnershipXOverall IT StrategyXApplication Planning and DesignXBusiness Process Planning and DesignXApplication Analysis and DesignXApplication Efficiency Analysis /UpgradesXApplication CodingXApplication TestingXApplication MaintenanceXApplication Retirement PlanningXTable A: Typical IT Application Development Team Functional DistributionB. Why is Offshore Outsourcing an IT Imperative?Significant cost savingsMost Offshore Outsourcing programs demonstrate an Internal Rate of Return (IRR) wellover 100%. 2 IT projects are routinely approved with an IRR well under 70%. Thesavings generated by Offshore are difficult to match with other initiatives.2 Independently verified IRR examples are rare. IT services 3-year IRR of 272% was independentlyvalidated by Nucleus Research, Inc. in the ROI Case Study: ePeople Teamwork Anonymous case study(www.NucleusResearch.com).7

In mature organizations where Offshore Outsourcing is well understood across theorganization, it is often credited with saving the jobs of the IT employees from the moredrastic Traditional IT Outsourcing. So it may well be viewed as an integral part ofkeeping the IT organization intact.As Offshore Outsourcing becomes more and more part of the mainstream, UScorporations will not be able to afford to keep the Offshore appropriate jobs here in theUS, when these services are available at such inexpensive and high quality elsewhere.The landscape of Offshore sets the waves of change across the way we will structureour IT skill departments, our training, our colleges and our career planning, far into thefuture. Note again, however, that there is a natural limit to the IT jobs that can be movedOffshore – the limitations of networked consultants access to sensitive customer data.Even the firms most committed to Offshore, and have programs in place for over adecade, average about 30% of the IT organization in a co-sourcing model. 3Ability to move US-Based employees higher up the IT skills pyramidFor some, Offshore may actually be a career boon. Moving the programming as well asthe maintenance and support functions Offshore may free up the US-based IT resourcesto do the more interesting and challenging efforts (and generally more highly prized andrecompensed in the job market) such as new project development, systems architectureand project management.Hedge the availability of mainframe programmers, who are rapidly “aging out” inthe U.S.Offshore ensures that the firm will have continued access to mainframe programmerswell into the next decade, despite the anticipated shortage. Today’s businesses do not3 Grover, V., Myun, J.C. and Teng, J. (1996). “The Effect of Service Quality andPartnership on the Outsourcing of Information Systems Functions,” Journal of MIS,12(4), Spring 1996, pp 89-116.8

always follow a predictable schedule in retiring old technology. New technologyemployees do not learn and train on yesterday’s technology. Thus, the cost ofmaintaining technology may sharply increase as trained resources able to maintain andenhance these systems become scarce. Offshore Outsourcing can help to ensure thatthe old legacy systems are able to be maintained at a reasonable cost.Leverage time differences to shorten system and product development life cyclesWhile the Onshore team sleeps in the U.S., the Offshore team is productively conductingbusiness, and vice versa. Productivity can theoretically be doubled, or at leastsignificantly enhanced.Support efforts related to cultural diversity and acceptanceMost IT organizations struggle with the realities of providing equal opportunity to allworkers, especially in retention of quality diversity candidates. Executed correctly,Offshore can provide an invaluable learning opportunity to underscore the value andimportance of acceptance of other cultures within the organization.Finally cleaning out the closets – document and streamline those old applicationsystemsFor many firms, the process of moving old systems Offshore represents the first timethese legacy systems are properly documented and their related processes streamlined.Most large firms have an enormous backlog of systems that are created off to the side ofthe official architecture, created on the fly for an emergency need, and possessing littleorganization, documentation and structure. Offshore firms possess great ingenuity andabilities in these areas, and are able to quickly create order out of chaos, by evaluating,combining, and making more efficient the maintenance effort.C. How do we best start our Offshore program?9

As in most strategic exercises, hiring outside expertise can be extremely helpful innavigating the difficult waters of program start-up. The lack of substantive writtensupporting material and the sometimes widely diverging opinions on key areas make ithard to distill and select advice and counsel.1) Do hire expert communications and strategic staffing support. Thesegenerally fall under the heading of organizational change management,and if I may indulge in a prediction, as Offshore enters the mainstream,the emphasis will shift from typical vendor management consulting(purporting to “rate the Offshore service providers / vendors,” forexample), to these kinds of more substantive and truly helpful supportservices.2) Do schedule a visit to India very early on in the process of decidingwhen and how to go Offshore, and when and how to hire expert outsidehelp. There is nothing quite like it—despite the physical challenges of thelong flights – to create and build confidence in Offshore across both the ITand business management team. Visits to India are almost alwaysdiscussed in the hushed tones of the truly transformative experience. Thepotential Offshore service providers will give you the royal treatment. It isimportant to expect the experience, however, to be typical of third worldtravel – there is still a great deal of poverty and all that implies.3) Do consider “outside the box” proposals from the many differenttypes of creative business consultants and profit models that are rapidlybuilding in Offshore. For example, proposals which include a cash-upfrontpayout to run the business Offshore with a profit-sharing model.4) Do carefully plan the internally marketing and launch of the Offshoreprogram. Why is this helpful? As we all know, in sales saying the wrong10

thing at the wrong time can break an early and tenuous relationship.Independent consultants can help the Offshore firms steer clear of thosesnafus, and help them come up to speed in learning the culture of theorganization to help position Offshore successfully. While in manyorganizations this can most effectively be achieved by a set of internalchampions, the political structure of some firms makes it easier if this roleis played by an objective third party.5) Finally, do consider bringing in program management tools, and theconsultative help that often goes with it, to help with the large andcomplex task of detailed management reporting. While dependency uponOffshore vendors for management reporting is not unusual in the firstyear or so of the program, for obvious reasons it is best to becomeindependent as quickly as possible.Negotiating with Offshore vendors for the first time: A primerVendor negotiation is the greatest area of vulnerability for firms new to Offshore. Thereare several firms that specialize in providing advice and counsel. Are they valuable? Asalways, it depends upon what those individuals / firms are selling.The reality is that all of the top Offshore Services vendors are very safe choices, and willgenerally do an excellent job in providing Offshore services.The emphasis in the US in hiring IT help has always been in qualifying individuals as towhether they have the requisite skills and experience - as individuals. The Offshoreservices firms tend to propose contracts that make that approach obsolete. The focus ison achievement of the SLA’s or other quantitative performance measures withoutreference to individual performance. It is the Offshore Services firm as a whole that isbeing hired, and evaluated, and the contract is structures to that the customer builds11

elationship for too long. The emphasis on the cost of knowledge transfer can be usedby vendors to scare new clients into contracts of 5 years or longer, implying that the onlyway to recoup the costs of relatively long and large knowledge transfer (e.g. 100consultants for 6 months is 600 months of upfront training investment in Offshore, costlyno matter how much the ultimate savings). However, signing any contract for 5 years isa stretch – given the pace of change in most industries, even 3 years is beyond theplanning and business management horizon of many large corporations. It is importantnot to allow any vendor to pressure firms new to Offshore into a contract length thatnormally would not be under consideration.D. What can we expect in terms of cost savings?Offshore in microcosm: A look at the payback of a “typical” Offshore programOn a micro level, what can the individual firm expect in terms of overall savings forOffshore? It is first important to note that resource management as a strategic functionis gaining widespread acknowledgement as a critical strategic function. To this end,more and more “C” level positions, such as Chief of Resource Management, are beingadded to partner with the traditional CIO, CEO, and CFO functions. OffshoreOutsourcing is best viewed within the overall context of a resource management andvendor management project office that can implement a central strategy, driven acrossthe organization from the top down.A central vendor management function can negotiate and leverage volume offerings,even for specialty firms or individuals, to ensure downwards pressures on on-siteconsultant’s compensation are reflected appropriately within the organization.What has this to do with Offshore Outsourcing? Often, the “lowest hanging fruit” for bigsavings is the replacement of on-site contractors with Offshore resources. The13

average on-site contractor is generally – at a minimum -- $ 85 per hour. The averageoffshore contractor is generally – at a maximum -- $ 30 per hour. Even if you havesignificant one-time or on-going infrastructure costs required to implement the Offshoremodel, it is unlikely that over a three year period your Offshore hourly costs will riseabove $ 35.00 per hour, including the costs for the percentage of the Offshore teamthat remains on-shore within the Co-Sourcing model.Let’s look at the numbers if we replace 100 contractors averaging $85 per hour withOffshore resources averaging $ 35 per hour. Assuming the 100 consultants are workinga 45 hour week, the total cost is $ 3825 per week for an individual or $ 382,500 for all100. Over a one month period the savings is $ 945,000. For one year, the savings is$1,134,0000.00. Even if that number is decreased significantly by start up costs, thesavings base is significant, and does not include increases in efficiency, quality orreliability that usually accrue from Offshore Outsourcing.It is no surprise, with these figures, that Offshore Outsourcing is the first IT project typethat regularly supplies an internal rate of return (IRR) well over 100%.Like any strategic initiative, however, it is not unusual for there to be a period ofinvestment - and cost - up front. However, the overall financial returns for the Offshoreprogram are usually so compelling that these investments are correctly perceived as theentry price point for a reliable source of dramatic, year-over-year savings.Establishing ROI (return on investment) for Offshore OutsourcingIt is one of the facts of our measurement-oriented society that the easier a thing is tomeasure, the more useless the results. One can easily measure the progress of one antacross a room, but to measure the movement of all ants across the country is toocomplex and difficult.So it is with Offshore. The real payback – keeping the IT department, or even thecompany, alive by getting to stay in the game – is too difficult to measure, yet that is the14

ultimate reason for Offshore. Analyzing the efficiencies of a handful of individuals nowresiding in remote locations is just the tip of the iceberg – usually Offshore brings manyintangible benefits, not the least of which is a firm that has business processes andmethodologies well organized enough to function within radically diverse geographiesand cultures. What is it worth to finally say the days of undocumented systems, vaguebusiness processes in which no one seems to understand what to do next, and why –are gone for good? Offshore enablement, viewed as a competency, can be the catalystfor putting the IT function into high gear.The initial costs to factor include:1) Network security architecture restructuring costs, such as firewall design andinstallation.2) Knowledge transfer, or the costs of training to bring the Offshore firm up tospeed on the particularities of the IT systems and related business processes tobe moved Offshore. It is not uncommon for Offshore consultants to require 3 to 6months shadow training with current IT resources in order to be effective (thismay include time to document systems that are not currently documented).3) Communications, or the costs to effectively launch Offshore without an ITorganizational meltdown. US-based travel for face to face team building meetings(not so much required for Offshore execution as to help manage job impactcommunications and concerns) is usually not in today’s trimmed-down budgets,but is often emotionally necessary for a demonstration of support bymanagement, and to address the fears that the Offshore program may bring.4) Travel, including so-called marketing trips to India with internal businesspartners. The enthusiasm, professionalism and sophistication one encounters onthe modern campuses of the Offshore Service providers can make anyone abeliever.15

5) Expert Legal Counsel may be a required safety net, particularly in highlyregulated industries. Specialized legal firms have been established to provideadvice to your internal legal counsel and may be helpful in getting through thefirst fine points of an Offshore contract. These can also provide advice upon howto interact with regulatory agencies, who themselves may not be fully updated onOffshore and it’s implications for the industry.6) Software vendor consent fees, or the additional licensing fees your existingsoftware partners may legally require in order to allow Offshore consultants workunder your existing licenses. Unless the eventuality of Offshore is specificallyreferenced in your existing license, third party software vendors may viewOffshore as a “revenue opportunity” and request additional fees that may besignificant. If they do so, in general the legal rights to do so are completely ontheir side.7) Costs related to Visa delays. While Offshore personnel are not staying longterm in this country, for the knowledge transfer portion of the effort, they must begranted a travel Visa.8) Training, severance and other employee-based costs. Ideally mostemployees will have another place to go within the firm, but some will or cannotmake the shift to a different role, and will need (and deserve for their loyalservice) a soft landing.9) Corporate-wide cultural programs. Unfortunately, it is hard to over-estimatethe lack of knowledge that most of the U.S. workforce has regarding othercultures outside of the United States. Other than the bits and pieces we pick uphere and there, few of us have any formal education or even much in-depthreading on the world at large. A light-hearted sharing of cultural norms, includinga movie of the main workplace of the Offshore vendors, can be a serious support16

to the effort, and also serve as a formal welcome and acknowledgement of theOffshore team.10) Business process re-engineering across many functional areas such as riskmanagement, disaster recovery, vendor management and enterprisearchitecture. Offshore Outsourcing often requires a restructuring of theseprocesses across many levels, in order to establish an underlying discipline thatsimply isn't needed when everyone doing the work live within overlapping or thesame time zone.11) Global, high-performance retained layer / program management. Thisnormally requires an investment in more robust, centralized reporting toolscapable of integrating meaningful performance data across diverse geographiesand vendors. It also usually requires upgrades in both process and organization(for example, most Offshore firms have a global centralized testing capability withstandardized roles and responsibilities, not yet achieved by their US customercounterparts. This impacts methodology as well as execution and measurement,including SLA’s, metrics, stage gates, etc.).E. How do we avoid the pitfalls typically associated with Offshore Outsourcing?Critical Success Factors for Offshore Outsourcing1) Up front strategic staffing, especially regarding employee impact.While Offshore Outsourcing will benefit the entire IT organization by bringing overallcosts down, and therefore lowering the always present threat of complete TraditionalOutsourcing, it is almost guaranteed that even the mention of Offshore will bring fear andtrepidation into the hearts of the IT staff. Know that half the battle winning Offshore is todeal upfront with the tough people questions. All of your employees will be watching howthose loyal hard workers are treated now that there are cheaper and more efficient labor17

sources available. Acquit yourselves with heart as well as intelligence by anticipatingand executing an orderly transition so that your impacted employees don’t walk out withjust a way to pay the bills for a short time, but have the opportunity to create alternativejobs or careers.2) Organized and fine-tuned communications.Botched communications can create a situation in which you lose your best people dueto misunderstandings and fear. Handled well, Offshore can be understood to be theboon it potentially could be, or at the very least, have a neutral impact. As organizationsgo down the path of Offshore, the initial fear is often replaced with a more realistic viewof the benefit to the organization as a whole. The extent of Offshore Outsourcing alsohas a natural limit for security reasons. The companies that are willing and or able toallow remote access directly into their systems handling sensitive customer data are fewto none. Deployed correctly, Offshore Outsourcing is usually held to roughly 30% of theoverall IT organization, frequently less. So, the fears that most jobs will evaporate areusually overstated, and it is not unusual for there to develop, over time, a broadunderstanding that the shift to Offshore has a boon to the IT organization as a whole.This is because the program allows IT to provide more value with less investment / cost,and supports the career and skills growth of its members. However, there is a long roadto travel before these firms reach that level of understanding. The way thatcommunications regarding Offshore is handled can either be a calming or escalatingfactor in the perceived fear of the initiative.3) Maintain a realistic view of up-front costs.As referenced above, up front costs often include significant investment in networksecurity, risk management, knowledge transfer (training the Offshore team in theapplications they will be either developing or maintaining), software vendor consents18

(obtaining the ok from software vendors that the existing licenses apply to externalconsultants acting upon the firms’ behalf) and retained layer establishment.While the costs of entry into Offshore can be relatively high, the return on those costs isusually so staggeringly positive that these concerns tend to evaporate over time. Theopportunity costs of staff time to conduct knowledge transfer, and the investment in anetwork security architecture, are usually overshadowed by the fact that once thesehurdles are overcome, the year-over-year savings that Offshore enables is very, veryhigh and usually only increases with time as the relationship become more fine tunedand efficient.3a) Cost: Network security architecture development.Most Fortune 100 network security teams will new to the issues and challenges ofOffshore. It is wise to anticipate both a learning curve and the legitimate need for a newarchitecture, as well as new equipment such as firewalls, to support that newarchitecture. A former colleague, a poet as well as an outstanding network architect,describes most organizations as possessing a “donut” with a hard outer crust and a“soft, chewy center.” In other words, it’s hard to get inside the network from outside, butonce you are in, it’s easy to go anywhere. Not a good design for Offshore, whichrequires the ability of the network to make a distinction between native and externalconsultants as they float about in the ether of the network. It is often critical to ensurethat external Offshore consultants get nowhere near sensitive customer data, with allthat entails.3b) Cost: Knowledge transfer.As referenced above, knowledge transfer refers to the learning “shadow” period which isrequired when Offshore personnel come to the US to train on the applications orsystems they will be enhancing and supporting. Newcomers may underestimate the timerequired to get Offshore personnel fully ready to execute their function. Most19

experienced firms require Offshore vendors to keep knowledge transfer costs to acontractual fixed cost. .3c) Cost: Software vendor consent management.Consents are required for Offshore personnel to obtain permission to access the systemunder your firm’s original software licensing agreements. Policy varies by vendor andmost are cooperative, but many consider Offshore Outsourcing a “revenue opportunity”and obtaining access for your Offshore consultants may become a time consuming andsometimes expensive process.4) Funding the appropriate level of on-going Offshore program office oversight(retained layer).It is tempting for newcomers to declare early victory and assume that the more strategicOffshore vendors do not require the additional financial burden of a consistent,centralized program level support and oversight. This can rapidly cause the firm to“snatch defeat from the jaws of victory.” Even if the program office is left intact, all toooften they are downsized in terms of visibility and focus after the initial flush of start-up.All vendor partners require constant, long-term oversight and management support—noexception with Offshore service providers.As mentioned earlier, the retained layer or Offshore Program Office provides centralizedrisk management, vendor negotiations, performance monitoring and reporting services.Mature program offices provide an internal marketing (promoting internal adoption) andcenter of excellence (methodology and best practices support) for Offshore.5) Top-down executive support.Almost a cliché, it is true nonetheless that Offshore will be dangerous to your careerhealth without unambiguous support from the top. The initiative will have enoughchallenges from everyone else without having to run interference up above as well.20

Spend the time upfront to get executive support and backing – if it is not forthcomingthen let it go.6) Risk management.Offshore usually requires all components of the firms oversight function – legal, risk,compliance, security – to work together to find solutions. Creativity and flexibility, whilemaintaining fealty to the requirements of their discipline, will be required of all teammembers.21