Offshore IT and BPO services subsidiaries still popular

Companies prefer to set up subsidiaries for better control and innovation

Setting up offshore IT services and business services subsidiaries has once again become a preferred route for multinational companies wanting to tap talent in low-cost locations, analysts said. The subsidiaries are known in the outsourcing industry as "captive centers" because they meet the in-house services requirements of companies.

The focus of these centers has shifted from mere cost-cutting to innovative development and building deep business expertise which local outsourcers are not always able to provide, according to a report this week by Forrester Research. Companies are adopting a hybrid model for offshoring that combines captive centers with outsourcing to local service providers, it added.

Captive centers continue to be a key element of the global sourcing strategy of organizations, according to Everest Group. Some 62 new captive centers were set up and 70 existing facilities were expanded in 2010, up from 47 new centers and 67 expansions in 2009, Everest said. These centers came up mainly in Asia, it said.

When companies like Citigroup and UBS started selling off their BPO and IT services operations in India in 2008 and 2009, it appeared that companies were increasingly going to pull out of offshore IT and BPO operations, and outsource their work to third-party providers, as they focused on their core business.

In 2008 and 2009, 25 services subsidiaries were sold off, according to Everest.

Forrester said in a report in 2007 that the majority of the reasons firms cite for building their own facility offshore instead of outsourcing to a third party are flawed. As a result of lack of management support, spiraling costs, skyrocketing staff attrition, and a lack of integration, more than 60 percent of the captive centers in India alone were struggling, it added.

In 2007, the analyst predicted that some captive operations would close down or sell out, while others would enter into agreements with service providers to take over their staff in return for work. Some companies with captive centers would however look at a hybrid model that included both captive centers and outsourcing to third-party providers.

Interest in setting up captives had never decreased, and after the divestments in 2009, there were far fewer companies selling off their offshore subsidiaries, said Amneet Singh , vice president for global sourcing at Everest. Companies were looking to monetize their earlier investments in captive operations to raise cash during the economic recession, but they did not sell out all their captive operations, Singh said.

Companies that tried outsourcing to third-party outsourcers in the mid-2000s also found that outsourcers were spread too thin across vertical markets, and as a result their business expertise was still not deep enough to advise their clients on specific industry challenges, Forrester said in its report this week.

The vendor's leadership teams close to the customers' operations have been more focused on selling rather than on building deep relationships. As the vendor's onshore leadership teams aren't trusted advisors, customers won't reveal their key strategies and initiatives to them, Forrester said.

The new hybrid models that combine captive centers with outsourcing to third-party providers are now allowing for the best of both worlds, said Jan Erik Aase , principal analyst at Forrester, and a co-author of the new report on captive centers. People are now more willing and able to make captive centers work, he added.

The setting up of new captive centers, and expansion of existing ones, will happen in multiple markets and will often be driven by the opportunity for companies to push their products and services in those markets, Aase said. The captive center has the skills in-house to hire staff, and knowledge of the market it operates it, making it more suitable for launching domestic sales operations, Singh said.

Customers' need for control and confidentiality around their core IT platforms, algorithms, and business processes has also influenced their decision to have a hybrid model, Singh said. Offshore outsourcers tend to do work for a number of customers in the same industry, such as financial services, which tends to put off clients who want to do business critical work in offshore locations, he said.

As a result companies focus on core business processes and software development in their captive center, while outsourcing some of the work that is not considered critical such as call centers and software maintenance, Singh said. Having a captive center in the country also gives the company better control over the supplier, he added.

The nature of the captive center is also changing, according to Forrester. By positioning more senior technology leadership within the captive center, companies ensure better alignment with corporate headquarters and better control of technology initiatives within the captive center and at the offshore vendor's centers, it added.

John Ribeiro covers outsourcing and general technology breaking news from India for The IDG News Service. Follow John on Twitter at @Johnribeiro. John's e-mail address is john_ribeiro@idg.com

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