When Outsourcing Goes Bust: Bringing It Back Home

By Robert McGarvey

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There were no TV cameras and Lou Dobbs was not on hand to cover the story last year when Kana Software of Menlo Park, CA announced it was pulling the plug on an outsourcing strategy that had sent some 100 jobs to India. The irony is that Dobbs had covered the original announcement (it merited a small mention in his catalog of lost jobs), said Marchai Bruchey, Kana’s CMO, but the bigger, more surprising irony is that by bringing the jobs home—mainly software engineers—Kana now said it is delivering better, more reliable and timely quality at no increase in cost.

In the bargain, Kana also brought home a couple dozen customer support jobs and, it said, happier customers justify the economics (“[E]xpenses went up but not enough to make it a big issue,” said Bruchey). Now listen up to the unexpected: Kana’s reversal of course just may be a harbinger of many more contract terminations, say the experts, who explain that increasingly problems with offshore labor forces are prompting a hard re-think of outsourcing strategies.

A confluence of issues are changing the terrain. The rupee, India’s currency, has risen over the past year against the anemic dollar from 46 to $1 to 39 to $1 and that is pressuring costs. As more outsourcing contracts flow in, worker skills continue to struggle to match the work and skilled labor shortages are beginning to surface offshore. And, importantly, employee turnover is at extraordinary levels.

Kana, for instance, parceled out work to three different outsourcers and, said Bruchey, turnover was around 40% per year. “We found ourselves spending an enormous amount of time on knowledge transfer,” that is, U.S. staff had to be dragooned into bringing offshore staff up to speed and that happened again and again.

This is not just a Kana issue. “We are seeing both offshored and outsourced initiatives coming back,” said Scott Lever, a managing consultant in PA Consulting Group's IT Consulting practice. In the UK, for instance, big, failed outsourcing deals have involved retailer Sainsbury (which scrapped a huge deal with Accenture) and Cable & Wireless (which dumped a $1.8 billion deal with IBM).

In the U.S., J P Morgan terminated a $5 billion deal (also with IBM). Does this make for a trend? Some consultants believe it does. Over at consulting firm Compass, North American managing director Max Staines said “there now is more likelihood than we have seen in 10 years of work being insourced,” that is, returned to base and he pinpoints the cause as “unfulfilled dreams.”

Cost savings, for instance, are by now known to rarely reach the expectations companies had going into an outsourcing deal. Definitely, labor arbitrage produces savings. No doubt about it: engineers in Bangalore are cheaper than in Silicon Valley or Cambridge, England. But then there are the higher costs of augmented management-supervision, huge expenses for T1 lines, and wear and tear on managers who suddenly find themselves forced to frequently rotate into Mumbai or Kiev or Manila to check on work in progress. Nobody had factored any of that in and, staring this reality in the face, more companies are joining Kana and asking: Are we getting the deal we thought?

The Thorny Rose

But the problems may go deeper still. Michael Janssen, chief research officer at Hackett Group, said a thorny problem that is stressing many outsourcing relationships is “a lack of innovation.” Contracts tend to be set in stone and, even if there are significant innovations that would impact how work proceeds under normal, inhouse situations, outsourcers may resist change, simply because “it’s not in the contract.”

“When the outsourcing partner stops driving process improvement, that is a warning sign that the relationship is in trouble,” adds PA’s Lever. He ticks off a couple more warning signs of an outsourcing relationship that is in danger:

  • “When they stop sending their best people, that is a sure warning sign.”
  • “When the provider stops spending on technology, that is a bad sign.”
  • Many companies, it turns out, are beginning to see such signs. Does this herald an end to outsourcing as we know it? Don’t believe it. Labor arbitrage over a global delivery system will continue to drive long-range hunts for solutions. But, said Graham Pascoe, an outsourcing expert with PwC in London, one-fourth to one-third of companies surveyed by PwC are thinking about bringing back at least some outsourced work.

    Nagging complaints about quality, coupled with frustration about rising costs, are fueling this, said Pascoe. But at the same time some companies are rethinking what they are outsourcing and are deciding to keep core processes—work that is strategic, that is more closely allied with the business’s central objectives—home where it can be more closely stewarded and nurtured.

    Bottom-line: “It is still relatively rare to see whole, big outsourcing functions return home,” said Pascoe, but a 2008 trend just may be the return of smaller, discrete, high-value functions that are better performed within arm’s reach. “We are seeing a lot more maturity about outsourcing,” said Pascoe. “That’s what is driving this.”