What is labor arbitrage

GICs in India - Reinventing and rejuvenating themselves in a changing global economic landscape

Captives, now referred to as Global In-house Centres (GICs), are an important component of the global services market today. While they were set up initially in the 1980s and 90s by global organisations, in low-cost locations to leverage labour arbitrage, they have expanded into significant entities that provide their principals more than just the price advantage.

A recent study on the ‘Cost Competitiveness of GICs’ by NASSCOM and the Everest Group reveals that the GIC model has been adopted across a wide range of industry verticals such as manufacturing, healthcare and functions like engineering services, R&D, etc. and that GICs have delivered largely on their mandate of providing meaningful cost savings and adding capacity to the parent organisation.

It is apparent, therefore, that GICs have come of age, growing in expertise and maturity and silencing critics who, until a few years ago, were talking about the decline of the GIC model and foretelling its demise.

Globally, GICs provide value addition through four areas:

  • Operational efficiency, where they deliver cost efficient operations with continuous productivity improvements
  • High skill capabilities that deliver end-to-end, high expertise that goes beyond back office skills
  • High revenue impact, including top line growth, by extending services and/or building new services
  • Total customer experience by focusing operations on end customer needs

Clearly, GICs are delivering significant Total Cost Ownership (TCO) savings as compared to costs in source locations and are now well-poised to realise the unique advantages of the in-house model.

India, the preferred investment location for GICs

India continues to enjoy an edge within the GIC domain, though other locations such as the Philippines, Eastern Europe and Latin America have also come up over the last few years. The GICs in fact, have been a compelling growth story in the Indian market, with their network emerging as the largest in the world.

“There is a move away from labour arbitrage benefits and focus on value additions. The expectations from the parent companies is for their Indian GIC to enhance benefits of scale. Increasingly, parent companies are exploring the idea of doing more high-end work from their India GIC and expect that the operation will support the local market/business,” comments Rajan Verma, Vice President, Thomson Reuters.

Research by NASSCOM supports this trend and indicates the following:

  • GICs contribute to around 21 per cent of the country’s IT-BPO export revenues and 20 per cent of employees
  • The industry will account for 1 per cent of India’s total GDP in FY2012 and is an integral part of the sector
  • Today, there are over 750 captives, 28 per cent of them with multiple locations in India
  • Over 200 captives within the engineering and R&D space, have established operations in the last four years alone

Another study, by McKinsey, on the current state of these offshore centres in India indicates that they are continuing to deliver strong performance, increasing customer satisfaction (even outperforming third-party providers on this parameter) and enhancing their offshoring scale and skill complexity.

At the same time, the research shows that the industry is witnessing a wide variation in performance, which means that while India is still the dominant choice for GIC operations, it is no longer the ‘automatic’ choice.

The Philippines in particular, is now the preferred destination for GICs wanting to set up voice operations. As in the past, cost, productivity and effectiveness of business outcomes remain the top priorities for onshore stakeholders. Finally, according to the McKinsey, while leading GICs excel consistently across parameters, performance variations across GICs can be as high as 50 per cent.

GICs at the Crossroads

Despite the fact that the GIC model has proved to be successful in India and is on an evolutionary curve, it is facing certain challenges and questions related to the value add that GICs must deliver going forward. organisations are asking themselves how they should evolve their operating models and governance, given their improving value proposition, increasing maturity, domain experience and diversified footprint. GICs are now examining their existing strategies – how they can deliver more with less, deliver world-class quality and how to benchmark their performance. Most organisations are focusing on how they can extend their cost arbitrage benefits, especially against the backdrop of continuing wage inflation.

Attracting and retaining highly skilled and employable talent is also emerging as a concern, as it develops an in-house pipeline of global leaders. Finally, they are also looking at putting in place a location strategy for a global footprint, that helps them manage their costs, services, and risks.

“Rising costs, war for talent, a diminishing headcount and the uncertain economic outlook are all impacting the growth and evolution of GICs in India,” comments Verma.

The Road Ahead

According to McKinsey, in order to drive higher order benefits in the future, GICs will need to rethink their operating model. The NASSCOM-McKinsey study shows that the GIC industry is witnessing fundamental

shifts in the operating structure, driven by higher expectations from onshore stakeholders. In order to win and maintain their edge in the years ahead, McKinsey believe that GICs must improve their efficiencies and business outcomes, to truly drive value additions to customers.

NASSCOM believes there are tremendous opportunities for GICs to add value beyond the traditional cost and productivity parameters, even though they continue to be important and remain a core expectation from onshore stakeholders. There is significant momentum, for instance, on building high skill capabilities, rolling out product/service innovation and impacting business outcomes. Business leaders must consider how GICs can contribute not just to the bottom line, but also the top line.

Sustaining India’s cost arbitrage benefits

The good news, according to the NASSCOM-Everest Group study is that GICs in India are likely to sustain their cost arbitrage benefits for at least another 12-15 years (in reality, the arbitrage may sustain for 17-20 years, compared to the US). Everest’s analysis indicates that:

  • The GIC model continues to deliver typically 45-75 per cent savings over source costs, on an operating cost comparison
  • The savings from a TCO perspective are around 40-70 per cent
  • Wage inflation is not likely to wipe out GIC cost savings in the near term and the impact of inflation on their wage bills will be lower than perceived
  • The high pace of growth and attrition levels of many GICs allows them to pro-actively manage the pyramid and keep their costs down by recruiting large numbers of lower cost, entry level talent to back fill promotees and job leavers
  • Net wage inflation experienced by GICs is closer to 6-8 per cent per annum

Mature GICs must also realise that they can harness the platform they have built to deliver significant business value to the parent organisations, which in turn will have to make investments in their engagement and delivery models to reorient towards this goal.

According to Rajan Verma, GICs can survive and thrive in the years ahead by focusing on operational efficiency, labour arbitrage benefits at scale, continuously improving their processes, building process transformation/standardisation and high skill capabilities and developing new capabilities for local markets. “At the same time, they must measure customer experience and adapt their processes to address changing customer needs. Finally, they need to deliver existing services to new segments and come up with new services/products for local markets,” he says.

Thomson Reuters, a GIC in India, is providing several benefits to its parent organisation, including process improvements through benchmarking and delivering more with less (in terms of headcount), developing local markets and opening new revenue streams. It is also providing insights into customer and business data to enhance decision making and generate better results. It is additionally developing and exporting talent for business needs internationally and locally and enabling inorganic growth of the organisation by integrating new acquisitions into the business model.

KPMG, a global network of professional firms providing audit, advisory and tax services, believes that in the future, the GIC model will not only sustain, but evolve and emerge. According to KPMG, GICs are expected to establish a niche for themselves in mission-critical applications and processes where an organisation cannot risk involving a third-party. However, this will happen when each and every phase in the GIC strategy is executed with utmost care and most importantly, the right location is selected for the GIC.

The location decision can have a two-pronged impact on the overall business of the GIC, as it can not only help the organisation in sourcing the right talent at the right cost to stay lean and maximise operational efficiency, but also help the same in entering new markets and win new business by acting as an extended arm of the enterprise.

In addition to this, once a GIC attains a significant level of maturity, it can be transitioned to the monetisation phase, wherein it starts generating revenue by having its own third-party client base. Considering this, the location selection becomes all the more strategic as it may have implications on the future of the enterprise as well, KPMG says.

Clearly, GICs cannot rest easy. They need to keep pushing hard on sustaining operational excellence to potentially improve their cost and productivity benefits. They also need to develop a next generation of leaders, who are entrepreneurial and business-oriented and can help take them to the next level of growth.

According to McKinsey, there are five imperatives for GICs — steps they must take in order to stay ahead. They are:

  • Play the role of an operations network manager, going beyond managing individual sites
  • Tangibly measure business outcomes to truly drive value additions to the business at a larger scale
  • Increase focus on cost and productivity to ensure long-term sustenance of the ‘low-cost’ advantage
  • Adopt multiple governance models within the network (a service factory approach for transactional work versus extended enterprise for analytical processes)
  • Own and optimise end-to-end process value chain beyond driving productivity siloed within sites

Source: www.nasscom.in

Category: Forex

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