Wednesday, May 29, 2024

Rising Costs Threaten India’s Hold on Offshore IT

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The increasing costs of offshoring IT work to India will have many U.S.

companies checking out alternative low-cost, skilled labor sources like

China and The Philippines — as early as later this year, according to

industry analysts.

Salary levels for IT workers in India have gone up 10 percent to 15

percent just over a year ago, say observers. Companies that have opened

IT shops and offices in India already are feeling the pinch of the price

increase, while companies that are offshoring their work through

third-party service vendors in India will begin to feel the difference in

their wallets by later this year.

The price differential between IT workers in the United States and their

counterparts in India is five fold today, says Frances Karamouzis, a
research director with Gartner, Inc., a major industry analyst firm based

in Stamford, Conn. Within four or five years, she says that differential

will have dropped to three fold, or maybe even as low as two fold.

And if the huge cost savings in IT labor is taken out of the equation,

could India, now an offshoring powerhouse, lose its premier standing in

the global software development market? And how will this affect U.S.

businesses that are having IT work done there?

”India is still a very competitive price structure today,” says

Karamouzis. ”Are prices going to continue to go up and will that [labor

cost] gap close? Absolutely. People are going to have to justify their

use of India beyond the cost to make it a worthwhile endeavor… A lot of

companies have looked at other countries but it’s been more for an

evaluation process. They’re not confirming with their pocketbooks yet,

but they will.”

SAP AG, a giant in the business software market, is one of the companies that will be looking for alternative sources

of cheap and experienced programmers.

Just last week, Henning Kagermann, chief executive officer of SAP, which is based in Germany,

reportedly told the German edition of the Financial Times that rising

personnel costs in India are forcing him to start looking to other

countries. ”India is slowly getting expensive,” he is quoted as saying.

”We have decided to hire a certain number there, and then start looking

at other locations.”

SAP spokespeople did not return several calls but reportedly have said

they are likely to cast an eye to doing work in China and Eastern Europe.

They might have less competition for skilled high-tech workers there. In

India, on the other hand, the company has to compete with Microsoft Corp.

and IBM, along with major India-based IT service companies, like Tata

InfoTech, Infosys Technologies, Ltd. and Wipro Technologies.

Dell, the world’s largest computer maker, is undeterred by the

competition or the rising cost of doing business in India. The company

announced last week that it is setting up its fourth call center, and

executives are looking for land to build a manufacturing plant there, as

well. Dell, which also has software developed in India, already employs

10,000 workers there.

”We still continue to see a very, very big uptake in India,” says

Karamouzis. ”The pipelines are very robust. We actually do polling every

three or four months and ask people if they’re going to increase their

level of spending there. [They tell us] there are plans to increase it

anywhere from 10 percent to 30 percent this year.”

India Remains Strong

There are several reasons why that kind of money is still flowing into

India’s IT sector.

One factor is that Indian IT service providers are sucking up the higher

labor costs and not passing it along yet to their customers, says

Karamouzis. ”It’s a high-growth market and they’re much more interested

in revenue and market share so they are willing to forgo a small amount

of profitability to grow their brands and their client base,” she


Brian Rogan, a senior vice president at Sierra Atlantic, an outsourcing

company based in Fremont, Calif., says their rates for work done in India

have remained flat over the last three years. ”There has been an

increase in wages,” he says. ”It’s been for more highly skilled

workers. We counter that by hiring new recruits out of university. One

almost offsets the other. It’s specifically aligned to our clients’

needs, but it also does keep the salaries at a consistent rate.”

And Patni Computer Systems, Ltd., an IT services company based in Mumbai,

India, also is trying to hold prices steady for its outsourcing

customers, despite the rising labor costs. Tony Viola, director of

business strategy for Patni, says a junior-level programmer with no

specialty would have earned $12 to $15 an hour several years ago. Today,

the same level of programmer would earn $15 to $18 an hour.

Viola, though, says the higher costs are offset by the increasingly

mature skill base that India is able to offer.

”I would say that five or six years ago, you probably couldn’t find that

many skilled specialists in India,” adds Viola. ”First of all, a lot of

that work was still being done locally. The offshore model at that time

was still unsophisticated… It’s another thing to understand today how

to Web enable [an application], how to connect it to middleware and how

to make it work with legacy applications.”

Ashutosh Sheshabalaya, a former journalist and technology consultant who

heads Allilon, an IT services firm in Europe, says the rising personnel

costs in India are only to be expected.

”First, everyone went to India for cost. Then they went for value,”

says Sheshabalaya, who, in 2004, authored Rising Elephant a book

about offshoring U.S. IT jobs. ”Now the shift is towards quality, to

integrate into the frontiers of high quality, and you pay a price for

this, especially given the sheer pervasiveness of India in the world IT


While prices may continue to rise in India, Sheshabalaya says he doesn’t

believe there will be a spike in cost. He bases part of that belief on

the amount of inter-state competition in the country. He notes that as

pay scales rise in hubs like Bangalore and Hyderabad, other regions have

entered the IT services market, bringing more lower-wage jobs to the

table. And he adds there simply is a great influx of new IT workers

hitting the Indian market. In 2005, India had 250,000 engineering

graduates, according to Sheshabalaya. Last year, 450,000 students

enrolled in four-year engineering courses, so that means by 2009, there

will be a near doubling of newly available engineers.

Read on to find out what the alternatives are for companies looking to offshore elsewhere.

Considering Alternatives

While India remains a source for increasingly skilled workers who earn a

fraction of what their Western counterparts take home, many companies

will see the rising wages there as good reason to look elsewhere for IT


Some analysts say wage increases will become more apparent in companies’

wallets later this year, forcing them to consider alternatives for

offshoring. Eugene Zakharov, director of professional services for

Technology Business Research, Inc., a firm based in Hampton, N.H., says

that shift already has started to happen.

”It’s making many companies look at other locations,” says Zakharov,

who adds that companies may set up new deals or open new offices in other

countries, but he doesn’t see many companies pulling out of India in one

fell swoop. ”India is not the only offshore possibility. There’s The

Philippines, and China is one of the more popular locations for offshore

developing and engineering work.”

But other countries have their own hurdles for foreign companies to climb


A number of companies are checking out China, with its large labor pool

and educated workers, as a growing source of offshored work. Peter Ryan,

an outsourcing and offshoring analyst with Datamonitor, an analyst house

based in London, says some IT executives are approaching China cautiously

because of its lack of intellectual property rights, its problems with

software piracy, and its smaller base of workers who speak English.

”Are they at a point where they need to be with their Western language

skills?” asks Ryan. ”I’m not sure they are. And China, to a very large

degree, has not yet absorbed Western business practices like they have in

India… It can be very trying to work with the government.”

But Ryan also is quick to add that China is still worth a good hard look.

”I’d say China’s pros outweigh the cons,” he says. ”The pros are a

scalable labor force, a strong emphasis on engineering and information

technology, and there’s a desire there to develop outsourcing as a sector

and work with Western companies.”

Ryan says companies also might consider doing work in South Africa, which

has a ‘high degree of commercial sophistication’ and a strong

understanding of Western business practices.

However a surprise player in the offshoring market just might be Egypt,

according to Ryan. ”Keep your eye out for Egypt, which has come on

strong in the last few years,” he adds. ”I went down there and was

thoroughly impressed with what I saw. They have 200,000 university

graduates coming out every year and 80,000 have engineering or IT


In terms of players in the offshoring market, though, India remains the

big dog on the block.

”I mean, really, in terms of IT, what’s happening is people will still

look at India because of the resources on the ground — the labor force,

the ability to set up shop quickly and the real estate market, which is

still fairly fluid,” says Ryan. ”You’re still taking on a huge cost

savings there. It’s compelling enough still for U.S. companies to look at

India as a serious option. The U.S. dollar has dropped over the last few

years and Indian wages have increased, but we’re still looking at a

pretty wide gap.”

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