Transformation Outsourcing: An Old Hype and the New Reality

“Transformational Outsourcing” is the new buzzword, a small twist on the old “lift and shift” strategy. Lift the plant out of Ohio and plunk it down in China. Packaged in the buzzword are the usual promises of U.S. job creation and the stark reality of our Brave New World.

For a consulting company advising companies about to offshoring, it means thinking beyond labor arbitrage, offshoring not just to cut labor costs. Instead, a CEO should think of how offshoring will transform the company, offering him opportunities to restructure profitably.

In a report entitled Why Settle for Less, Deloitte, a consulting firm, said transformational outsourcing :

can be used as a tool to improve the company’s competitiveness and performance across finance, marketing, customer satisfaction, R&D, and other critical areas.
One global media company used outsourcing with a major vendor as a way to reengineer its finance and accounting processes to create a single shared financial system, consolidating 11 stand-alone systems. As a result, it was able to slash internal trading volumes by 75% and reduce financial management costs by 50%.

The Deloitte pitch is worth the read, containing an interesting survey of some 300 executives of large and mid-size firms.

Business Week has an interesting article on “transformational outsourcing” in which it claims it is not only a job killer but a job creator. The lead and only example of this new paradigm–destroyer but creator of jobs–is in the first few paragraphs.

Our hero is a packaging plant in Wisconsin.

Two years ago, one of its biggest customers told it “to slash its machinery prices by 40% and urged it to move production to China.” Last year, a holding company, Barry-Wehmiller Cos, bought the plant, cut the workers and nonunion pay.

By this time, the 900 of the 2000 jobs had been lost; sales had shrunk 40%. Clearly, the packaging plant should have moved production to China.

But the writer of the article has good news, even though some offshoring is necessary:

Barry-Wehmiller plans to shift some design work to its 160-engineer center in Chennai, India. By having U.S. and Indian designers collaborate 24/7, explains Vasant Bennett, president of Barry-Wehmiller’s engineering services unit, PCMC hopes to slash development costs and time, win orders it often missed due to engineering constraints — and keep production in Green Bay. Barry-Wehmiller says the strategy already has boosted profits at some of the 32 other midsize U.S. machinery makers it has bought. “We can compete and create great American jobs,” vows CEO Robert Chapman. “But not without offshoring.”Come again? Ever since the offshore shift of skilled work sparked widespread debate and a political firestorm three years ago, it has been portrayed as the killer of good-paying American jobs.

Has the writer been paying attention to his own example? Has he asked the right questions?

Had the Wisconsin company’s competitors already moved to China before the holding company bought it? or to some other developing country where labor is cheap?

And what about the final solution? Offshoring some of the design work to India? What good paying jobs were created in this process? Wages were cut; then some jobs were offshored.

Barry-Wehmiller says that it has boosted profits in some of the 32 other midsize machinery makers it bought.

What precisely happened at the those other plants? Did it first cut “workers and nonunion pay?” as it did with the Wisconsin company? Holding companies can be merciless.

But the writer has told us that this process is a job creator. The lie has been inserted. It will continue through the article as we are told the brutal reality of what is occuring.

Workers’ fears have some grounding in fact. The prime motive of most corporate bean counters jumping on the offshoring bandwagon has been to take advantage of such “labor arbitrage” — the huge wage gap between industrialized and developing nations. And without doubt, big layoffs often accompany big outsourcing deals.The changes can be harsh and deep. But a more enlightened, strategic view of global sourcing is starting to emerge as managers get a better fix on its potential. The new buzzword is “transformational outsourcing.” Many executives are discovering offshoring is really about corporate growth, making better use of skilled U.S. staff, and even job creation in the U.S., not just cheap wages abroad.

The rest of the article is a tour de force of how offshoring is changing the face of every industry:

The new attitude is emerging in corporations across the U.S. and Europe in virtually every industry. Ask executives at Penske Truck Leasing why the company outsources dozens of business processes to Mexico and India, and they cite greater efficiency and customer service. Ask managers at U.S.-Dutch professional publishing giant Wolters Kluwer why they’re racing to shift software development and editorial work to India and the Philippines, and they will say it’s about being able to pump out a greater variety of books, journals, and Web-based content more rapidly. Ask Wachovia Corp., the Charlotte (N.C.)-based bank, why it just inked a $1.1 billion deal with India’s Genpact to outsource finance and accounting jobs and why it handed over administration of its human-resources programs to Lincolnshire (Ill.)-based Hewitt Associates.

But as companies work out such kinks, the rise of the offshore option is dramatically changing the economics of reengineering. With millions of low-cost engineers, financial analysts, consumer marketers, and architects now readily available via the Web, CEOs can see a quicker payoff. “It used to be that companies struggled for a few years to show a 5% or 10% increase in productivity from outsourcing,” says Pramod Bhasin, CEO of Genpact, the 19,000-employee back-office-processing unit spun off by GE last year. “But by offshoring work, they can see savings of 30% to 40% in the first year” in labor costs. Then the efficiency gains kick in. A $10 billion company might initially only shave a few million dollars in wages after transferring back-office procurement or bill collection overseas. But better management of these processes could free up hundreds of millions in cash flow annually.

Check the job list; you might be on it. Editorial work to India? Hey, I need an editor.

The last paragraph states the final promise…and problem for those who use labor arbitrage:

The management challenges will grow more urgent as rising global salaries dissipate the easy cost gains from offshore outsourcing. The winning companies of the future will be those most adept at leveraging global talent to transform themselves and their industries, creating better jobs for everyone.

“Better jobs for everyone” means “better jobs” for India and China. The writer has switched gears on us. Better jobs are not coming to the U.S. They are going to India and China.

The only problem for companies will be when wages become more uniform, after the “glorious rush to the bottom,” when labor arbitrage is not such a delicious meal. How long do we have to wait for wages to even out? What happens in the interim?

The trouble with all this is that consumers are workers. Right now, globalization seems dependent on the American consumer. That may be ending. If we offshore to workers who are not paid consumer salaries and the American consumer is tapped out, who then can afford the products? Will there be enough consumers, discounting, of course, those who consume multi-mega-mansions and 500′ yachts.

Paul Krugman once said: “To have a middle class society, you need a strong labor movement.” Globalization is eviscerating our middle class…and the middle class is the great consumer.

I do not see a strong labor movement in China. In fact, is there a labor movement there?

And what about the labor movement here? Is it still here? Have we done anything in our trade deals or in the WTO to protect it?

Are we ready to insist that all our trading partners have strong labor movements?