Coming out of the recession of the early 1990’s, new technologies began changing the application development areas of large U.S. based companies. Instead of continuing to develop large applications on mainframe platforms, companies purchased client server based software and hardware to deliver on the promise of quicker and cheaper development cycles.
As the decade progressed, UNIX platforms became increasingly popular, as did large-scale enterprise software implementations (ERP & CRM). These larger systems demanded very specialized, high dollar talent to develop and customize applications to fit the organization’s needs. This phenomenon, combined with the “Dot Com” explosion and the need to deal with “Y2K”, created the “Perfect Storm” for the labor market. The labor shortage for IT professionals, on both the applications and operations sides, resulted in salaries and benefits spiraling out of control. This forced many IT departments to hire less skilled/experienced workers at higher than market salaries. Senior executives felt they were being “held hostage” to the demands of IT workers, setting up a backlash still felt today.
To deal with the acute labor shortage, companies commonly employed H1-B resources. During this period, thousands of H1-B knowledge workers were deployed in the U.S. As a rule, these resources were less expensive than their American colleagues, but price was not the driving factor. Meeting hard deadlines (Y2K) and being “First to Market” were the overriding concerns of the day.
As the stock market continued to rise, the demand for skilled IT workers, especially with skills in the newer technologies (Web, Java, Etc.), seemed insatiable. Experienced workers demanded and received large increases in pay and benefit packages. College graduates were courted and paid starting salaries never before seen in Corporate America. By 1998, the media had declared an end to the “Business Cycle”, as companies competed furiously for available talent. This seller’s market caused the IT resources to develop a “no fear” mentality – they were quick to change jobs if they felt they were not treated properly or if they felt they were underpaid. Because of this fearless mindset, IT executives felt they had no choice but to cater to this trend and the accompanying attitudes that seemed to come with it.
In retrospect, the stock market reversal in March of 2000 was the beginning of the end of the hiring trends of the late 1990’s. Beginning in the telecommunications sector, thousands of IT technology workers began to receive pink slips. Since the telecom sector had been a catalyst for growth for many IT companies, this began a domino effect, which quickly spread throughout the Silicon Valley and beyond. Companies were unable to sustain growth projections; this led to more lay-offs. Many of the “Dot Com” companies, dependent upon the success of their large clients and Venture Capital funding, watched as the money well ran dry. Most went out of business, adding to the already large unemployment lines. This continued against the backdrop of corporate scandals and the 9/11 disaster. As the stock market continued to lose value, unemployment in the technology sector continued to increase.
The CEO’s Revenge
As the predicted recoveries failed to materialize, top line revenues stagnated. CEO’s shifted their attention from increased market share to massive cost cutting. This led to intense scrutiny of IT budgets that had massively increased during the boom years of the 1990’s. The CEO’s and senior business executives began to question the ROI from their IT initiatives, and demanded higher accountability from their IT managers. CIO’s were asked to significantly slash their budgets. Many high profile projects were delayed or cancelled. To increase accountability, many organizations began to roll IT budgets into the business units. As this activity increased, many business executives began to raise concerns about the salaries paid to IT resources. Senior executives in other business units believed that the salaries being paid to the IT staff were disproportionately high compared to workers of similar skills and tenure in other areas. Even though salaries and contract rates were dropping, companies could no longer afford to pay current market rates for IT talent and still maintain bottom line stability or growth.
Budgets and Workloads Heading In Opposite Directions
During the budget cycle of 2003, CIO’s and IT executives faced a challenging dilemma: Drastically cut budgets for a third consecutive year. This was indeed a challenge, since the “fat” had been cut in the previous two budget cycles and workloads continued to grow.
To make matters worse, even though salary increases had slowed significantly, burden costs (Healthcare, Worker’s Compensation Insurance, and Unemployment Insurance) began escalating beyond the rate of inflation, further impacting costs. Budget reduction options considered included: 1. staff layoffs – ensuring project delays, or 2. cutting salaries – an unpalatable option due to its impact on morale and potentially productivity.
The dilemma: how to remain competitive, when the companies could no longer afford to pay current market salaries.
The Solution: Offshore Outsourcing
The solution that many large- and mid-size companies engaged to reduce costs is offshore outsourcing (Global Delivery Model). The Global Delivery Model is currently considered the solution to bridge the gap between shrinking budgets and growing IT backlogs. Since companies employed many H1-B workers in the 1990’s, IT executives maintained a comfort level that an overseas labor force would perform well. The offshore companies promised U.S. companies labor savings of 50% or more, with very little or no appreciable loss of quality. Work could be done around the clock, and the resources were readily available. Many companies responded to the vision. According to a recent report by Gartner Inc., the world’s largest high-tech forecasting firm, 500,000 of the 10.3 million U.S. technology jobs could move within the years 2003 and 2004. The forecasted numbers beyond 2004 are in the millions.
As the U.S. emerges from the most recent recession, companies are now creating hundreds of thousands of jobs to handle the pent up demand for modernized applications; however, almost none of them are being created in the U.S., further extending the “jobless recovery”. Currently, overseas workers are displacing many American workers, with some being asked to train their foreign replacements. To insure quality work, offshore firms rely on project managers onshore to act as liaisons to the client firm. The hourly rates being charged are below the salaries that firms would be paying their U.S. counterparts. Companies are saving money; however, there are mitigating factors.
Thus far, realizing the promise of quality work for cheap pay has been hit or miss. The effects of language, culture and time zone differences tend to be under estimated by U.S. firms. Many companies are not prepared for the level of detail that must be contained in their specifications. While the large offshore vendors are being certified as “CMM Level 5” compliant, many of U.S. client firms are not. In fact, many U.S. companies seem to lack the internal processes necessary to ensure a smooth transition to the offshore vendors. This gap can result in the necessity of “rework”, adding to the cost of the project. Furthermore, U.S. companies may lack the negotiation expertise on critical items such as Service Level Agreements, which may result in a degradation of timely deliverables to the business units.
In addition, the costs of “on-site” project managers, and their corresponding travel and expense costs can significantly impact projected savings. Another concern may also be lack of business experience. U.S. based knowledge workers (Legacy systems) with upwards of 15 years business experience are being displaced by workers whose average age is 26.
With the majority of the offshore outsourcing projects going to India, Indian vendors are experiencing the beginnings of a labor market that bears a striking resemblance to the U.S. IT market of the late 1990’s. To deal with the lack of experienced IT workers, Indian offshore vendors are “pirating” staff from other vendors. The turnover this causes will ultimately manifest itself into disruptions of project work, as well as a steady increase in salaries. The results of this, combined with the inability of offshore companies to significantly raise rates, may result in the financial insolvency of some of the weaker players, severely impacting their clients’ quality of work, project time lines and actual cost savings.
Finally, with the majority of offshore outsourcing moving to developing nations, the fragile infrastructure and sometimes volatile political climate may also impact the bottom line. Problems with the electrical grids, poor roads, and underdeveloped telecommunications may lead to service interruptions. While, political instability in countries like India poses an ever-present threat, and may warrant firms to purposely diversify their offshore development centers creating additional management challenges.
The Quiet Evolution
Because of the severe cost cutting and the lack of capital spending since 2000, combined with the lack of jobs being created in the U.S., a significant “downdraft” of salaries and consultant rates has begun to emerge. In addition, drastic differences in regional costs of living within the U.S. are becoming more pronounced. The same technology (broadband internet) that allows firms to take advantage of lower cost economies across oceans can also be employed to take advantage of lower cost regions throughout the U.S.
The effects of the Global Delivery Model have directly impacted much of the labor pool, and the knowledge workers are keenly aware of the economics driving it. Realizing that they must now compete on a global playing field, many IT professionals are willing and able to adjust to the new realities of the market place.
Therefore, companies now have an opportunity to leverage the business experience of highly skilled U.S. based workers at rates competitive with offshore vendors.
The Alternative: Homeland Onshore Model
The Homeland Onshore Model (HOM) allows participating firms to take advantage of highly trained and experienced U.S. labor pools utilizing lower cost jurisdictions throughout the United States via high-speed telecommunications vehicles. On the supply side, our research indicates that, in many cases, U.S. based resources can be delivered to the client for “out the door” costs that are 25% to 40% less than current employees total cost (salary + burden).
For example, mainframe Telework developers (COBOL, IMS DB/DC, CICS, DB2, and IDMS) with upwards of 15 years or more business experience can be delivered to the client for $39.00/hr. This rate is extremely competitive with current offshore pricing, but delivers significantly more experienced resources to the client.
Savings are realized by the elimination of all employee overhead and burden. Infrastructure and real estate costs are transferred to the knowledge worker.
In addition to the advantages listed above, language, time zone and cultural issues are greatly reduced or eliminated all together. Managers maintain control of their projects and resources, and service levels can be more tightly controlled.
In short, firms can still realize the benefits of the Global Delivery Model while significantly reducing hidden costs and mitigating risk. We believe that decision makers in most organizations will realize that as long as the work is being done well, it does not matter where the workers are that do it.
From a marketing perspective, making an effort to keep jobs “onshore” may also result in recognition of “good will” in the market place.
Considering the Future
Continuing to utilize U.S. based knowledge workers whenever possible as a general corporate policy may become more a matter of practicality than politics. Demographic studies paint a much different picture of the U.S. labor market in the near future. The upcoming retirement of the baby boom generation, coupled with the lack of skilled workers (both in numbers and in skills) will create an acute labor shortage that may greatly overshadow the shortage of the late 1990’s. Furthermore, emerging nations may not be able to supply enough skilled knowledge workers to make up the losses. This scenario may have an adverse effect on productivity and GDP, as well as inhibiting technological advances. Firms that engender loyalty now may be better positioned for growth in the future.
Questions or Comments?
Synergroup Systems, Inc
Copyright 2004 Synergroup Systems Inc.