Tag: risk mitigation

Recognizing and Reducing Offshore Location Selection Risks | Sherpas in Blue Shirts

A recent article in BusinessWeek, Argentina Tries the Chavez Way, triggered my thinking about the increased role of geopolitical risk in location selection and overall risk mitigation. In the last decade, Argentina became the “darling” of global services given considerably lower resource prices than in neighboring Brazil, a stable society with deeply rooted democratic principles, etc. But the country’s geopolitical risk profile substantially changed recently. Its economy has stagnated from defaulting on its national debt, pseudo-populist movement groups are promising “quick and easy” fixes to the existing problems, and the trend of nationalizing privately owned businesses is expected to continue, given the views of the current political leadership. None of this yet puts Argentina’s geopolitical risk profile outside of the acceptable range. But we’ve seen from examples around the world that, in the absence of more efficient measures, it may be very tempting for a government to divert public attention from internal problems to some newly introduced external threat. For instance, consider what would happen to the country’s business environment if something similar to the almost forgotten conflict over the Falkland Islands suddenly escalated.

Now think about Colombia, whose geopolitical risk is moving in the opposite direction. While 15 years ago it couldn’t have bought a place on the global services location map, for the last two years its stock market gained an impressive ~50 percent due to various successful measures against FARC, drug cartels and other instability factors. Now, BPO and IT delivery centers are mushrooming in Colombia, driven by an abundance of relatively inexpensive but highly qualified labor resources. Given the large size of the young population in Colombia, as well as steady adherence to open market principles, it is believed the country will continue gaining attractiveness as a global services hub. And it is already considered the second largest IT services market in Latin America.

The point of this blog is not to discuss specific country’s risk profiles, but rather to remind readers that such wild swings must be factored into location analyses, similar to how attorneys approach terms and conditions from a worst-case scenario.

Although labor arbitrage was the primary driver – and continues to be important – in offshoring location decisions, typical global firms are becoming increasingly ready to exploit economies of scale. If a company’s offshore delivery is currently split among several locations – say, Argentina, Philippines, and Romania, each serving a respective region – it is quite tempting to consider some consolidation initiative through formation of a mega-large shared services center, and that’s where increased exposure to specific location risk kicks in as a decision factor.

Obviously, increased volatility in geopolitical risk is just one of many aspects an organization should factor into cost/benefit analysis, and the analysis must be tailored to each organization’s specific situation. That said, here are several general thoughts to consider:

  • There’s no question that it’s very difficult to walk away from an opportunity to reduce your annual cost by, say, US$20-50 million through aggressive optimization of your delivery footprint. But all those savings could get wiped out by billion dollar losses if something goes wrong and disruptions cascade throughout the entire value chain. Therefore, it makes sense to “hedge” such optimization opportunities by developing a customized risk mitigation framework that includes maintaining some “cold” and “warm” alternative sites, and a relocation strategy.
  • Level of acceptable location selection risk varies from company to company, and depends in part on whether the goal is just to achieve cost parity with industry peers, or if a lighter cost structure is expected to become the source of competitive advantage. But remember that any company implementing a low cost competitive strategy must take on some degree of risk.
  • You can reduce some of your risk by using a reputable third party service provider instead of building your offshore presence from scratch, as managing location risk is one of providers’ core competencies, and global providers operate multiple delivery centers across the globe. With properly structured terms and conditions, your outsourcing provider will monitor and proactively manage your risk exposure, including geopolitical concerns.

The Less than Great Divide: Onshoring Gaining Ground | Sherpas in Blue Shirts

When conducting outsourcing cost/benefit analyses for clients, a typical comparison includes the existing internal total cost of process ownership and the hypothetical future state cost structure, consisting of retained sub-processes, governance overlays, and externally provided services. The externally provided services often assume a certain offshore component, as labor arbitrage has historically been one of the most powerful cost optimization strategies. But this is no longer necessarily true. In fact, our clients are increasingly asking us to analyze domestic labor arbitrage opportunities, and there are cases in which we advise a client heavily leaning toward an offshore solution to take a closer look at onshoring or nearshoring options, as they may reveal healthy cost savings potential without any change in risk exposure.

For example, here are a few of my recent client engagements:

Call center operations of a Canadian client – relocation of its operations from the Greater Toronto area to New Brunswick or Prince Edward Island may deliver as much as 20 percent savings on the basis of the fully loaded FTE cost.

IT applications maintenance and development – a risk-averse Chicago-based client can reduce its blended operating cost per FTE from ~$140,000 to $110,000 annually by relocating its IT support to Springfield, IL or Sioux Falls, SD. In these alternative locations it will still maintain access to a four-digit annual pool of college graduates with relevant degrees.

F&A functional support for the Brazilian operations of a large international conglomerate – offshoring of selective F&A functions from Sao Paolo to, say, Monterrey, Mexico, can generate 50 percent savings per fully loaded FTE cost. However, as the import of services in Brazil is subject to draconian duties, the entire cost savings potential is essentially eroded. However, relocation of its operations to low cost cities in northern Brazil, such as Belo Horizonte or Belem, can generate almost equal savings

I attribute all this increased interest in onshoring to a number of factors.

First, geopolitical/location risks have substantially increased in the last couple of years…think Arab Spring, drug trade-driven violence in Mexico, and numerous natural disasters in Latin America and Southeast Asia. Changed perceptions and realities require a more sophisticated risk mitigation strategy, which obviously adds to the governance cost in traditional offshore delivery models.

Second, most global firms have already addressed their secondary, non-critical processes via some outsourcing and/or offshoring frameworks. However, continuous cost pressures and increased levels of competition are forcing them to look at their retained cost components, which typically include more critical processes, and that’s where domestic labor arbitrage reveals its full potential.

Third, increased regulatory requirements in banking, healthcare, and other industries have imposed incremental solution constraints, making internal/domestic scenarios more attractive.

Fourth, fast growing economic centers are now facing talent pool shortages, with demand exceeding supply due to the extreme concentration of business activity in a single geography. As such, establishing a regional presence in such cities as Sao Paolo, Shanghai, or Moscow comes at a two to five times cost premium compared to other cities in their parent countries.

Finally, the overall slowdown of the world economy is positively contributing to domestic labor arbitrage trends. Offshoring to India or Philippines has been historically driven not only by ultra low cost opportunities but also by the abundance of local labor resources. And although there is interdependency between the cost of resources and their availability, increased unemployment rates have pushed the resource pools in various low cost domestic locations above the minimally required size, justifying a more detailed location analysis.

All in all, onshoring is evolving as a viable sourcing option, and along with traditional offshoring scenarios – externally sourced or captive – should be included in any location analysis.

Cost Savings: Does It Trump All other Outsourcing Considerations? | Sherpas in Blue Shirts

One of our clients recently asked our Location Optimization practice to validate its intention to relocate certain back-office support from one Latin American country to another. As the client’s primary driver was cost savings, we used that as the initial analysis point. Our preliminary analysis found that on the basis of the fully loaded operating cost per FTE, the relocation could result in as much as a 50 percent cost reduction. Further investigating into this issue we also found that the local currency in the outbound country appreciated almost 50 percent during the last decade, while the local currency in the inbound country depreciated by 50 percent within the same timeframe. While our complete assessment of this offshoring opportunity returned many additional pros and cons, the main conclusion was that the overall upside economics of this relocation could potentially erode or completely evaporate if the local currencies significantly shifted in the opposite direction over time, which of course is a distinct possibility in today’s globally disrupted economic environment.

This client engagement was atypical for a couple of reasons. First, when offshoring a labor-intensive back-office function within the same region, potential savings of such great magnitude are not very common and they typically come at the cost of increased geopolitical risk, e.g., when a Japanese company establishes a captive somewhere in Southeastern Asia. Second, while risk associated with local currency must always be an integral part of any location analysis, it typically is never the most important evaluation criterion. Traditionally, offshoring has been utilized for relocating operations from high cost, developed countries, which entails dealing with relatively stable currency at least for the outbound location. And despite the high probability of wild inbound location currency fluctuations, the overall economics of the deal are not threatened by this factor alone, because offshored cost is typically just a fraction of the initial cost.

Speaking about possible risk mitigation strategy, in our opinion, any currency hedging may help only in the short- to medium-term, while offshoring is typically targeting a longer timeline because it entails substantial transition cost, which can be recovered only over extended period. And as any type of measures related to relocation of operations are quite traumatic, including the risk of operational disruptions, they are therefore not something a company wants to do repeatedly.

However, this client engagement example demonstrates the emergence of a new class of short-term opportunities that can be exploited by cost-conscious companies, especially when these opportunities are limited to secondary, non-critical processes. An increasing number of external service providers are developing “instant capacity building” tools and offerings that are modular and discrete. Essentially, utilizing these “country in a box” type of solutions, a company can minimize the time/risk of getting in and out of a country while simultaneously achieving significant cost savings.

Granted, the short-term value of such an approach is appealing, but any decision on location optimization should not be driven solely by labor arbitrage considerations. Attractive economics should be complimented by various benefits beyond cost savings, be they access to the wider pool of resources, conversion of fixed to variable costs, a more sustainable delivery footprint requiring less governance effort, etc.

No Crystal Ball for Service Delivery Location Risk, so Plan for Your own Appetite | Sherpas in Blue Shirts

Rapid evolution of global sourcing has allowed multinational corporations to gain access to a much broader pool of resources and to maximize the benefits of service delivery from low-cost locations. However, these incremental benefits have come at certain intangible cost, as now the overall value chain for any global industry is much more vulnerable to a variety of global risks. As increased pressures for cost containment are forcing large corporations to accept the risks associated with delivery from low-cost offshore sites, the focus is shifting from risk avoidance to risk mitigation. Generally, global companies approach risk mitigation in three ways:

  • Rigorous location selection/optimization analyses are conducted simultaneously with the sourcing decision so the business case typically captures not only cost savings benefits but also the probability of various risk factors associated with each location option
  • Risk monitoring frameworks are constantly refined so that even a slight shift in risk exposure is identified very early on, ideally providing the opportunity for some proactive measures rather than reactive responses
  • Disaster recovery and business continuity plans are developed to minimize disruptive consequences if risk situations materialize

Given Fortune 1000 companies’ magnitude of global sourcing activity and the fact that a worst-case scenario may entail billion dollar losses, it is not surprising to see rising interest in development and use of risk monitoring tools. There is no doubt that this activity, if conducted properly, can add considerable value to the overall risk mitigation process. However, in the recent months I have seen multiple attempts and claims to push these measures to unrealistic levels of event forecasting based on some early indicators. To be fair, these attempts are primarily limited to political types of risk, as conventional science is not able to predict natural disasters such as earthquakes or tsunamis. However, even for political risks, some “experts” believe that proper interpretation of early signs of threat can allow global firms to relocate their delivery hubs to safer locations.

For example, these experts point to the “Jasmine Revolution” in Tunisia, which began in December 2010, and now in hindsight they claim it was obvious that the Tunisian revolution would trigger a chain reaction across the entire region. So, per these experts, only completely oblivious companies didn’t pull out from Egypt ahead of time. Really?! In the same mindset, all global firms should have pulled out of India and shut down their Indian captives in 2008 after the Mumbai bombing. Similarly, the 2009 spike in criminal activity on the Mexican border due to the drug wars should have led to an immediate assumption that the danger would spread throughout the country driving an immediate need to relocate operations to a safer location.

Tracking risk changes is quite feasible, but 100 percent accurate prediction of major political disruptions is a complete utopia, and I believe that such wishful thinking may work to an organization’s detriment by creating a false feeling of security in believing it possesses a universal prediction tool. The reality is that a reliable crystal ball has yet to be invented, a shift in risk distribution still leaves multiple scenarios possible, and all that can be done is perform an accurate probability analysis.

Then, as probability of risk is just an input, actual interpretation of and decisions made per that input must be based on each specific organization’s risk appetite. For example, one company may choose to ignore a very high probability of a catastrophic event because it views doing so as a “better off” scenario than the prohibitive cost of relocating a mission-critical process. On the other hand, even a slight increase in hypothetical risk exposure may force a risk-sensitive client to take some proactive measures. The right approach for every organization is the establishment of a comprehensive set of risk thresholds and predetermined measures. For example,  if the probability of major disruption reaches, say, 25 percent, the firm should keep passports and invitation letters ready for business continuity staff. If the probability of disruption increased to 75 percent, then the company must relocate 50 percent of its business continuity staff to the extraction location.

I do believe there is significant benefit in tracking risk, performing scenario analyses and constantly refining your mitigation approach, but accurate prediction of the future is impossible. Think about it this way: had there been a reliable framework to forecast the wave of revolutions around the Arab world, I am sure that all dictators would have identified this risk at the very early stage and attempted to preempt it.

Eyes Wide Open – What Are the Risks of Global Services? | Sherpas in Blue Shirts

Over the last decade, we have been witness to a world that is logically shrinking in size and expanding in its ability to provide options in global services. The phenomenon is being driven by the increased integration of technology and the sudden emergence of service delivery capabilities in new geographies, thus allowing organizations to tap into global resources at a rapidly increasing rate.

The utilization of a global services delivery model is allowing organizations, regardless of their size, to:

  • Realize cost savings through labour arbitrage
  • Access skill sets and capabilities on a more dynamic level
  • Manage a continuous 24-hour service and support model
  • Adapt cost structures to facilitate focus on core businesses

Sounds great, so what’s the catch?

The catch is that organizations with global and diverse service delivery models face new and ever changing risks. Some of the triggers of global risk include socio-geo political tension, pandemic crisis, financial events, terrorist events, natural disasters, civil turbulence, and infrastructure disruptions.

When risks manifest into reality for an organization that is using a global delivery model, they can occur at significant speeds and at magnitudes of impact that have not been seen before. This is because most global delivery models are heavily intertwined and have interdependencies that are often overlooked. The ripple effect of a risk event and the complexities of demand on resources for recovery are often not realized until it is too late.

Organizations with a global delivery model require a disciplined approach to successfully manage global risk triggers. To do so, they can implement a comprehensive risk framework to proactively monitor and mitigate perils in their global environment. Two key components of the risk framework are:

Risk monitoring by location

  • Develop a baseline risk profile for all targeted cities/countries as part of the decision-making process on delivery centre locations
  • Monitor all selected locations on an ongoing basis to assess the change in risk levels
  • Develop risk profiles for each city/country that contain location dashboards of key risk indicators to allow for a quick assessment of the change in risk levels from the baseline risk profile against the current risk profile
  • Examples of location risk indicators include:
    • Strategic risks that assess the city/country risk, including the likelihood of political, social, and economic inefficiencies and stability, inadequate legal system or regulatory pressures, and natural disasters, etc.
    • Tactical risks that reflect market-related changes and dynamics, cost of inflation, flexibility of the labour market, availability and quality of the infrastructure, and medical/health events

City-Down and Country-Down analyses

  • Identify and understand the impact to the organization and its network of services as a result of a city-wide or country-wide service disruption
  • Understand the changing requirements of the organization’s recovery plans by continually monitoring and assessing the impact and the conflict in recovery activities, e.g., competition for infrastructure and labour resources among the organization and all of its service providers that impacts the organization’s service recovery capabilities

The nature of the risk events that are monitored, managed, and prepared for vary greatly. Most naturally occurring events have very little, if any, lead-time. However, there are planned risk events that provide a much greater window into the timing of their occurrence. When an organization is properly monitoring and managing its risks, it should not only have the necessary processes in place to address all types of risk events but also to minimize the impact of each. A few recent examples of risk events are listed in the table below:

Risk Events

 

As we embrace global service delivery models with open arms, how well prepared is your organization to manage and mitigate the risks in this new and highly integrated world?

Anticipating the Unexpected: Implications of the Egypt and Tunisia Crises on Global Sourcing | Sherpas in Blue Shirts

After spending most of Sunday evening watching the ongoing Egyptian crisis unfold on TV, our mailboxes were flooded with analyst perspectives and journalist queries on the impact it will have on Egypt’s information and communications technology (ICT) industry. While the recent turn of events is likely to hamper the brisk progress Egypt and Tunisia were making in global services, it may be too early to predict the impact on the future state of these outsourcing/offshoring destinations. As market participants in these countries try to weather the storm, and the concerned global sourcing community looks on, global investors and IT-BPO sector countries and industry organizations stand to learn important lessons from this situation.

Tunisia and, particularly, Egypt are among the emerging offshore services delivery locations that have in recent years significantly invested in growing their IT-BPO industries as they recognized this sector as a key driver of economic growth. Both countries have achieved considerable offshore scale (more than 8,000 in Tunisia, and 20,000+ in Egypt), and both have successfully attracted marquee companies including Vodafone, Stream, Teleperformance, Wipro, and Microsoft, to source services from these locations to fulfill language skills, cultural affinity, cost savings and geographic proximity needs. And until the last two weeks, both countries were considered relatively stable locations demonstrating rapid progress in embracing reforms and FDI inflows (endorsed by UNCTAD, and World Bank/IFC.)

This all raises two critical questions: did location decision makers misread the developments in these countries, or fall short in anticipating these scenarios? To some extent, as such incidents are unprecedented and almost impossible to predict, they would not result in a “no-go” decision in a location selection exercise. At the same time, this is not the first instance of a partial disruption or complete shutdown of offshore support operations in a country. Episodes in the recent past (e.g., the typhoons in the Philippines, the military coup in Thailand, the earthquakes in Chile, the Mumbai attacks, and the swine flu pandemic in Mexico) have unquestionably affected operations in global delivery locations. Thus, it is important to “anticipate the unexpected” in location selection decisions by planning ahead, and putting in place investments and robust blueprints to manage such risks. In well-prepared organizations, these types of events trigger implementation of well-crafted disaster recovery/business continuity plans.  For example, Infosys has a disaster recovery site in Mauritius where business critical processes can be swiftly migrated, and critical resources enabled to travel at immediate notice via a blanket visa agreement with the Mauritian government.

Amidst the crises in Egypt and Tunisia, single location sourcing buyers are undoubtedly hurting more than users of global delivery networks-based models, as global delivery portfolios built on a ‘plus one’ principle ensure redundancy. In building a global sourcing portfolio, a role-based delivery network designed to meet aggregate demand, and scenario-based work placement to fulfill business needs, provides flexibility and ensures talent sustainability while optimizing costs and minimizing risks. For example, most leading global financial services companies have a headcount cap in each location, and route overflows to alternative sites in their portfolio.

Such moments of crisis also provide an opportunity to revisit the frameworks governing location selection decisions. Mature users of global services approach location selection as a risk-reward tradeoff on a relative basis. And as potential investors assess locations across parameters of talent pool, cost structures and structural risks, this episode underscores the importance of adopting a risk-adjusted view to cost savings approach, and allocating higher weights to geo-political and macro-economic risk. For example, while Egypt offers 70 percent cost savings on support services compared to Tier-2 locations in the U.K. and the U.S., in a situation in which country stability indicators are no longer favorable, the risk-weighted cost savings are less attractive.

These are clearly trying times for IT-BPO investment promotion agencies and country/industry associations in these countries. Due to the Internet blackout in Egypt, their ability to communicate with the external world has been hampered. While the immediate objective is to sustain engagement with existing investors, and extend support to help them cope with the situation at hand, it is important to keep channels of communication open with potential investors and key influencers to ensure accurate information dissemination. The underlying theme here is the need for a disaster management and communication plan for country/industry organizations. Once the situation stabilizes, these countries will need to engage in a public relations initiative to restore confidence within the international global sourcing community. A country rebranding exercise may also be necessary, if investor perceptions about Egypt and Tunisia change dramatically.

While there’s no denying these events impact the investment/stability ratings of these countries in the immediate-term, the political and macro-economic developments will need to be closely monitored with a longer-term view. Things to watch out for include endorsement of political leadership from both internal and international quarters, recast country ratings/indicators from the likes of World Bank and WEF, country administration reiterating its commitment to the services industry (specifically the ICT sector), ability to maintain investment-friendly policies (e.g., tax breaks, incentives, foreign investment practices), and the collective response of global IT-BPO companies operating in these countries.

As close watchers and proponents of global services, we remain cautiously optimistic about the prospects of the IT-BPO sectors in Egypt and Tunisia. Only time will tell how the situation pans out, and how the global sourcing community responds to the now imminent damage control exercise expected from the country/industry associations. The learning for the location decision maker from this crisis is more pronounced: Anticipate the Unexpected.

How can we engage?

Please let us know how we can help you on your journey.

Contact Us

"*" indicates required fields

Please review our Privacy Notice and check the box below to consent to the use of Personal Data that you provide.