Ephraim Shwartz of Infoworld has a great piece on offshoring and implications for IT shops in the US. I couldn’t agree with him more that while there are cost benefits there are also other factors to consider when moving development offsite. In the end, it will require IT shops and professionals to redefine their roles. While the number of coders may go down in an IT department, there will be ample opportunity for developers to move up the value chain into design, architecture, and product management. This is definitely what many of my companies that outsource development have experienced (see an earlier post). As an investor, I want to make sure that whatver my companies do, that we own the core IP. In my mind, this means we have the design, architecture, and specs laid out onshore, the core engine or secret sauce developed in-house, and any non-core items offshored to the extent possible. Rather than worry about losing jobs offshore, let’s assume it will happen and focus on how we can get better and further move up the value chain on product development. From my perspective it is a pretty nice place to be-to architect, design and own your core IP and at the same time get product out the door much faster or much cheaper.
I was at the TIE Tri-State annual event in New York yesterday and participated on a venture capital panel helping young companies refine their pitches and business strategies. There were some interesting software and BPO (Business Process Outsourcing)companies that presented. On the BPO side, it was quite fascinating to hear about the types of services that companies were willing to outsource-for example, in the finance sector, basic credit analysis and research, analytics, and even some financial modeling. In today’s NY Times (free site but need to register), there is an article about teleradiology-X-ray and M.R.I. analysis being outsourced to India.
For those of you that do not know, TIE (The Indus Entrepreneurs) is a wonderful group and stands for the Indus Entrepreneurs signifying the ethnic South Asian or Indus roots of the founders. TiE stands for Talent, Ideas and Enterprise. From speaking with some of the members, it was clear that there was alot more buzz and energy this year versus last year, especially due to the pickup in the economy. Speaking of economy, TIE was able to bring Chuck Prince, CEO of Citigroup, as a keynote speaker. Chuck did a great job as he was quite funny (he had the room in laughter a number of times) and also had some interesting things to say about the economy and entrepreneurship. Here are some relevant notes I took from his keynote discussion:
*Chuck outlined his bio in more detail and fleshed out how he came to be CEO of Citigroup. Basically, he ended up as General Counsel of Commercial Credit Corporation which was about to run out of money in 1986 when Sandy Weill swooped in and bought a large stake in the company and took it public. What Chuck learned about people over the years is that the great ones have intensity, passion, and a desire to win. He said that luck helps and even played a role in his career progression.
*Chuck has no doubt that the economy will perform well for the next 18 months. However, he strongly believes that the economy is susceptible to the election cycle. No existing President wants a recession in year 3 of a 4 year term as they are gearing up for a re-election. Of course, his big concern is what happens in January of 2005 when the President is faced with how to handle the budget deficit. If the economy does not pick up in a self-generating way, we could be faced with policy that could slow the liquidity-driven growth we are now experiencing.
*Longer-term, Chuck believes the world economies will segment into 3 distinct buckets of growth:
1. Dynamic growth characterized by young populations in India and China;
2. No growth characterized by homogeneous economies such as in Western Europe that are not open to immigration with aging populations, low growth rates, and a sagging economy;
3. Balanced growth economies like the US which is open to immigration and hetegenerous from a population perspective.
Unless Western Europe rethinks its immigration policies, it will not be able to sufficiently replace its aging population with young workers to drive growth. This could result in huge problems down the road.
*On offshore outsourcing, Chuck believes that is something that is just going to happen. Who would have guessed years ago that Toyota could make better cars in Japan and ship them to the US to put the auto industry at a competitive disadvantage? It happened. The same thing will happen in the service sector. Chuck believes it is inexorable. Therefore, companies should focus on services/products that need to be done locally, those that require a physical presence. Everything else that can be done offshore will be done offshore. Please see an earlier post if you want to read more about my thoughts on using offshore resources.
*If Chuck could give a young CEO advice (business related other than focus on family and ethics), he would tell that person that execution capability is the most important trait that a CEO can possess. One needs to move the ball and get things done. He has seen thousands of people who were smart, loyal, and dedicated but could not execute or get things done on a timely basis-they were all UNSUCCESSFUL. His advice is to write your issues down and check them off. Move the ball. I couldn’t agree more with Chuck on making sure you execute.
*As an aside, he also encouraged us to read Robert Rubin’s new book titled “In an Uncertain World.” He said that Bob is a fascinating man, and that he enjoys working with him at Citigroup.
A number of my portfolio companies outsource development to India and other locales. When offshoring it is important to think about what can and cannot be offshored, whether management can handle it, and whether or not you open your own office with your own infrastructure or outsource completely. Given that an increasing number of companies that I come across either currently utilize offshore resources or plan on using offshore resources, I thought it would be beneficial to share some of my thoughts and experience related to this matter. Most of us end up using offshore development to work on non-core technology. For example, if you are going to offshore development for management software you may want to have maintenance of agents developed externally or a port from one operating system to another outsourced. When it comes to core architecture and design you are going to want to keep that in headquarters. Some companies make the mistake of trying to own it all and build their own team and own infrastructure from the start-if not done with the right personnel, this could be a disaster. Generally speaking, you may be able to outsource more than non-core development. In addition, for most companies, I recommend that you initially hire offshore development firms rather than build your own in-house staff to develop product. If it works well, you should have an option to eventually buy your partner out and turn your consultants into employees. If it does not work out, you can always end the relationship without incurring any upfront cost.
When accounting for the total cost, you want to make sure that you have your offshore development managed appropriately. Make sure you have the right project lead offshore, preferably one that your management team has worked with before. In addition, make sure your onshore management team can stay on top of the process as well. This will mean someone in headquarters whose prime responsibility is managing the offshore project. Offshore outsourcing will also require some face-to-face time every quarter. The big difference in doing it yourself versus using offshore consultants comes down to managing risks, speed to market and upfront costs. Doing it yourself will take more time and requires an upfront investment to set up an offshore subsidiary, open an office, hire talent, pay for infrastructure and equipment like computers, phones and T1 lines, and pay for benefits. While the monthly difference for making the upfront capital commitment is about $2k per employee (a big difference when you are talking about $1.8-2k in-house vs. $3-3.5k with partners), most companies cannot properly build their own offshore team. In the cases that I have seen work, my fund’s companies ended up sending over a core team of developers that wanted to move back to India. This gave us instant critical mass and the all important transfer of corporate DNA and culture. In general, I am not in favor of having an early stage company open their own offshore office without a number of existing employees making the move or without significant experience from the team in managing offshore relationships. Over time, as you build experience and successfully develop product with your offshore partner, you can think about moving this personnel in-house. Even if you do not have your own offshore resources, make sure that your offshore partner spends significant time at company headquarters (usually a couple of months) to gel with your team and understand your business, technology, and culture.
While the logical resource to offshore is either non-core technology or customer support, some of my fund’s companies have begun to experiment with offshoring pre-sales and back office finance. During the last 3 years, I have had the opportunity to watch one of the fund’s portfolio companies headcount go from 100% US to 70% India/30% US. In addition, I have been able to watch higher value added functions get outsourced. For example, when it comes down to presales, it does not matter where you are if you understand the product and can articulate the need for it. At $6-8k a person versus $40-50k a person here, you can drive substantially more call volume and qualified leads offshore than you can onshore. It may not make sense if the offshore team is not your own as one of the big problems facing companies in India is employee churn. The more educated and higher quality resources that can speak excellent English are also the ones that are most hirable to other companies.
These are just my two cents and will continue to get refined over the next few years. I am curious to hear your thoughts about offshore outsourcing and whether or not you are offshoring more than customer service and technology or if you have any unique model for this process. In the end, it is very clear to me that venture-backed companies that can properly leverage and manage offshore resources will have an incredible advantage moving forward. As more companies take advantage of offshore development over time, this competitive edge will diminish and simply become a necessary way of doing business.
Having met with a number of NYC entrepreneurs recently, I am refreshed to see that many of them are utilizing offshore resources to develop their products. Yes, this is not a new phenomenon, but in a city that lacks hard core developers willing to work for options instead of cash like the Wall Streeters, it is significant. New York has always been known as a strong new media capital and not known for development of real hard core software. New York is also known to have one of the greatest customer bases in the world. Combine access to customers with an ability to manage and use offshore resources effectively and you really get a good opportunity to build some interesting companies in New York.