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SPECIAL REPORT
OUTSOURCING AND OFFSHORING
January 19th 2013
Here, there and everywhere
SPECIAL REPORT
OUT SOURCING AND OFF SH OR I NG
Here, there and everywhere
After decades of sending work across the world, companies are
rethinking their oshoring strategies, says Tamzin Booth
ACKNOWLEDGMENTS
Many people helped in the preparation of this report. In addition to
those mentioned in the text, the
author would like to thank Jim
Aisner, Duncan Aitchison, Juan
Alcacer, Sudin Apte, Pradipta
Bagchi, Riccardo Barberis, Suzanne
Berger, Jagdish Bhagwati, Lincoln
Crawley, Sebastien Duchamp, Phil
Fersht, Fritz Foley, Jerey Heenan
Jalil, Jerey Joerres, Rosabeth Moss
Kanter, Arthur Langer, Stan Lepeak,
Simon Matthews, Gerry Mattios,
Vipin Nair, Gary Pisano, Jonas
Prising, Harsha Ramachandra, Willy
Shih, Mark Stanton, Brion Tingler,
Michael Zakkour and Britt Zarling.
The Economist January 19th 2013
EARLY NEXT MONTH local dignitaries will gather for a ribbon-cutting
CO N T E N T S
ceremony at a facility in Whitsett, North Carolina. A new production line
3 History
will start to roll and the seemingly impossible will happen: America will
The story so far
start making personal computers again. Mass-market computer production had been withering away for the past 30 years, and the vast majority
4 Reshoring
of laptops have always been made in Asia. Dell shut two big American
manufacturing
factories in 2008 and 2010 in a big shift to China, and HP now makes only
Coming home
a small number of business desktops at home.
5 Europe
The new manufacturing facility is being built not by an American
Staying put
company but by Lenovo, a highly successful Chinese technology group.
Founded in 1984 by 11 engineers
7 Home or abroad?
from the Chinese Academy of
Herd instinct
Sciences, it bought IBM’s Think8 India’s outsourcing
Pad personal-computer business
business
in 2005 and is now by some meaOn the turn
sures the world’s biggest PC-maker, just ahead of HP, and the fast10 Services
est-growing.
The next big thing
Lenovo’s move marks the
11 Robots
latest twist in a globalisation
Rise of the software
story that has been running since
machines
the 1980s. The original idea behind oshoring was that Western
12 What to do now
rms with high labour costs
Shape up
could make huge savings by
sending work to countries where
wages were much lower (see box
overleaf). Oshoring means
moving work and jobs outside
the country where a company is
based. It can also involve outsourcing, which means sending
work to outside contractors.
These can be either in the home
country or abroad, but in oshoring they are based overseas. For several decades that strategy worked, often brilliantly. But now companies are rethinking their global footprints.
The rst and most important reason is that the global labour arbitrage that sent companies rushing overseas is running out. Wages in China and India have been going up by 10-20% a year for the past decade,
whereas manufacturing pay in America and Europe has barely budged.
Other countries, including Vietnam, Indonesia and the Philippines, still
oer low wages, but not China’s scale, eciency and supply chains.
There are still big gaps between wages in dierent parts of the world, but
other factors such as transport costs increasingly oset them. Lenovo’s labour costs in North Carolina will still be higher than in its factories in China and Mexico, but the gap has narrowed substantially, so it is no longer a
clinching reason for manufacturing in emerging markets. With more
automation, says David Schmoock, Lenovo’s president for North America, labour’s share of total costs is shrinking anyway.
A list of sources is at
Second, many American rms now realise that they went too far in
Economist.com/specialreports
sending work abroad and need to bring some of it home again, a process
An audio interview with
inelegantly termed reshoring. Well-known companies such as Google,
the author is at
General Electric, Caterpillar and Ford Motor Company are bringing
Economist.com/audiovideo/
specialreports
some of their production back to America or adding new capacity there. 1
1
S P ECI A L R E PO R T
OU T SOU RC I N G A N D O FFS H O R IN G
2 In December Apple said it would start making a line of its Mac
computers in America later this year.
Choosing the right location for producing a good or a service is an inexact science, and many companies got it wrong. Michael Porter, Harvard Business School’s guru on competitive
strategy, says that just as companies pursued many unpromising
mergers and acquisitions until painful experience brought greater discipline to the eld, a lot of chief executives oshored too
quickly and too much. In Europe there was never as much enthusiasm for oshoring as in America in the rst place, and the small
number of companies that did it are in no rush to return.
Firms are now discovering all the disadvantages of distance. The cost of shipping heavy goods halfway around the
world by sea has been rising sharply, and goods spend weeks in
transit. They have also found that manufacturing somewhere
cheap and far away but keeping research and development at
home can have a negative eect on innovation. One answer to
this would be to move the R&D too, but that has other drawbacks: the threat of losing valuable intellectual property in faro places looms ever larger. And a succession of wars and natural disasters in the past decade has highlighted the risk that supply chains a long way from home may become disrupted.
Third, rms are rapidly moving away from the model of
manufacturing everything in one low-cost place to supply the
rest of the world. China is no longer seen as a cheap manufacturing base but as a huge new market. Increasingly, the main reason
for multinationals to move production is to be close to customers
in big new markets. This is not oshoring in the sense the word
has been used for the past three decades; instead, it is being onshore in new places. Peter Löscher, the chief executive of Siemens, a German engineering rm, recently commented that the
notion of oshoring is in any case an odd one for a truly international company. The home shore for Siemens, he said, is now
as much China and India as it is Germany or America.
Companies now want to be in, or close to, each of their big-
gest markets, making customised products and responding
quickly to changing local demand. Pierre Beaudoin, chief executive of Bombardier, a Canadian maker of aeroplanes and trains,
says the rm used to focus on cost savings made by sending jobs
abroad; now Bombardier is in China for the sake of China.
Lenovo, as a Chinese company, has its own factories in China. The reason it is moving some production to America is that it
will be able to customise its computers for American customers
and respond quickly to them. If it made them in China they
would spend six weeks on a ship, says Mr Schmoock.
Under this logic, America and Europe, with their big domestic markets, should be able to attract plenty of new investment as companies look for a bigger local presence in places
around the world. It is not just Western rms bringing some of
their production home; there is also a wave of emerging-market
champions such as Lenovo, or the Tata Group, which is making
Range Rover cars near Liverpool, that are coming to invest in
brands, capacity and workers in the West.
Such changes are happening not only in manufacturing but
increasingly in services too. Companies may either outsource IT 1
Manufacturing outsourcing cost index
Change in US jobs because of outsourcing
% of US cost
2000-10, ’000
100
China
Mexico
90
80
Paper and printing
70
Automotive
F O R E C A S T
60
06
07
08
09
10
11
12
13
14
+95
+50
Machinery
Metals and minerals
India
2005
0
Other transport equipment
-9
+13
+6
Wood and furniture
-18
15
+21
Food and beverages
Chemicals, plastics,
petroleum and coal
Textiles and clothing
-84
-284
Computers and
electronics
Other
-407
-70
Companies’ intentions to change manufacturing source, worldwide, % of capacity
2009-11
26%
2012-14
23%
16%
Offshore
24%
9%
Move between
low-cost countries
6%
19%
Move between
high-cost countries
Reshore
9%
Sources: AlixPartners; McKinsey; Hackett
2
The Economist January 19th 2013
SP EC IA L R EP O RT
OUT SOURCING AND OFFSH OR I NG
The story so far
Oshoring has brought huge economic benets, but at a heavy political price
2 and back-oce work to other companies,
which could be in the same country or
abroad, or oshore it to their own centres
overseas. Software programming, call
centres and data-centre management
were the rst tasks to move, followed by
more complex ones such as medical diagnoses and analytics for investment banks.
As in manufacturing, the labour-cost
arbitrage in services is rapidly eroding,
leaving rms with all the drawbacks of
distance and ever fewer cost savings to
make up for them. There has been widespread disappointment with outsourcing
information technology and the routine
back-oce tasks that used to be done inhouse. Some activities that used to be considered peripheral to a company’s prots,
such as data management, are now seen
as essential, so they are less likely to be entrusted to a third-party supplier thousands of miles away.
Coming full circle
ONCE UPON A time the rich world’s manufacturing rms largely produced in the rich
world for the rich world, and most services
were produced close to where they were
consumed. Then Western rms started
sending manufacturing work abroad on a
large scale. By the 1980s this was well
established. The movement was overwhelmingly in one direction: away from rich countries to places where workers with adequate
skills were much cheaper.
Whether openly stated or not, lower
labour costs were almost always the chief
rationale. For many rms their very survival
was at stake, since new competitors were
undercutting them on price. This often
involved shutting capacity in America and
Europe as new factories were opened in
China, Mexico, Taiwan, Thailand, eastern
Europe or wherever oered the lowest costs.
The footloose, opportunistic philosophy of the time was best expressed by Jack
Welch, then chief executive of General
Electric, an American conglomerate. He said
the ideal strategy for a global company
would be to put every factory it owned on a
barge and oat it around the world, taking
advantage of short-term changes in economies and exchange rates.
The economic benets of oshoring
have been immense. For workers in low-cost
countries it has meant jobs and rapidly
rising standards of living. Rich-world workers have been able to leave the drudge work
to someone else. For companies lower
labour costs have brought higher prots.
Western consumers have enjoyed access to
more goods at far lower prices than if production had stayed at home.
But oshoring from West to East has
also contributed to job losses in rich countries, especially for the less skilled, yet
increasingly for the middle classes too. It
has become the aspect of globalisation that
workers in the developed world dislike and
fear the most. Around a decade ago rms
realised they could use the internet to
Even General Electric is reversing its
course in some important areas of its business. In the 1990s it had pioneered the oshoring of services, setting up one of the
very rst captive, or fully owned, oshore service centres in Gurgaon in 1997.
Up until last year around half of GE’s information-technology work was being
done outside the company, mostly in India, but the company found that it was
losing too much technical expertise and
that its IT department was not responding
quickly enough to changing technology
needs. It is now adding hundreds of IT engineers at a new centre in Van Buren
Township in Michigan.
This special report will examine the
changing economics of oshoring in the corporate world. It will
show that oshoring in its traditional sense, in search of cheaper
labour anywhere on the globe, is maturing, tailing o and to
some extent being reversed. Multinationals will certainly not become any less global as a result, but they will distribute their activities more evenly and selectively around the world, taking
heed of a far broader range of variables than labour costs alone.
That oers a huge opportunity for rich countries and their
workers to win back some of the industries and activities they
The Economist January 19th 2013
oshore information technology and backoce work to places such as India and the
Philippines. India’s outsourcing industry
took wing and is still growing.
How many jobs in manufacturing and
services have left rich countries is the
subject of debate, since denitions are
slippery and companies do not give out
numbers. If a factory shuts and another one
opens halfway round the world the eect is
clear, but if a French rm, say, keeps all its
workers at home and adds capacity in Morocco to sell into France, have jobs been
oshored? Estimates of the overall numbers
can vary by tens of millions, but Alan Blinder, an economics professor at Princeton
University, wrote in 2006 that sending
service jobs abroad could cause some 40m
American jobs to disappear to India and
other emerging countries.
Such dramatic forecasts caused widespread alarm. In a survey by NBC News and
the Wall Street Journal in 2010, 86% of
Americans polled said that oshoring of
jobs by local rms to low-wage locations
was a leading cause of their country’s economic problems. France’s new Socialist
government has appointed a minister,
Arnaud Montebourg, to resist delocalisation. Germany’s chancellor, Angela
Merkel, worries publicly about whether the
country will still make cars in 20 years’ time.
High levels of unemployment in
Western countries after the 2007-08 nancial crisis have made the public in many
countries so hostile towards oshoring that
many companies are now reluctant to engage in it. Public concern over the issue has
also encouraged politicians to bash companies that send their work abroad, compounding the eect. Barack Obama’s presidential campaign last year repeatedly
claimed that his rival, Mitt Romney, had
sent thousands of jobs overseas when he
was working in private equity. Mr Romney,
in turn, attacked Chrysler, a car rm, for
planning to make Jeeps in China.
have lost over the past few decades. Paradoxically, the narrowing
wage gap increases the pressure on politicians. With labour-cost
dierentials narrowing rapidly, it is no longer possible to point at
rock-bottom wages in emerging markets as the reason why the
rich world is losing out. Developed countries will have to compete hard on factors beyond labour costs. The most important of
these are world-class skills and training, along with exibility
and motivation of workers, extensive clusters of suppliers and
sensible regulation. 7
3
S P ECI A L R E PO R T
OU T SOU RC I N G A N D O FFS H O R IN G
Reshoring manufacturing
Coming home
A growing number of American companies are moving
their manufacturing back to the United States
IN 2005, A START-UP company from California called ET
Water Systems decided to move its manufacturing operations to China. At the time there was a general exodus to Asia in
search of lower costs, recalls Mark Coopersmith, the rm’s chief
executive. ET Water Systems, which builds sophisticated irrigation devices for businesses, quickly started losing money, not
least because it had so much capital tied up in big shipments of
goods which took weeks to cross the oceans. Innovation suered
from the distance between manufacturing and design, and quality became a problem too.
When ve years later Mr Coopersmith investigated the difference between the total cost of production in China and America, including the cost of shipping, customs duties and other fees,
he was amazed to nd that California was only about 10% more
expensive than China. And that was just on the immediate numbers, without allowing for the intangible benets of making the
devices almost next door. ET Water Systems’ new manufacturing
partner, General Electronics Assembly, is in San Jose. As it happens, the rm’s owner has a Chinese background and a large
portion of its employees are of South-East Asian origin.
The number of rms known to have reshored manufacturing to America is well under 100. Doubtless many more are
doing so quietly. Examples range from the tiny, such as ET Water
Systems, to the enormous, such as General Electric, which last
year moved manufacturing of washing machines, fridges and
heaters back from China to a factory in Kentucky which not long
ago had been expected to close. Google
has attracted a great deal of attention for
deciding to make its Nexus Q, a new media streamer, in San Jose.
The reshoring movement has to be
kept in proportion. Most of the multinationals involved are bringing back only
some of their production destined for the
American market. Much of what they
had moved over the past few decades remains overseas. And for many of the biggest rms the amount of work that they
are still sending abroad outweighs the
amount that they are bringing back onshore. Caterpillar, for example, is opening
a new factory in Texas to make excavators, but has also just announced that it
will expand its research and development activities in China.
According to a survey conducted by
Harvard Business School last year, many
rms are still deciding against basing activities in America. Professors Michael
Porter and Jan Rivkin asked HBS alumni
who were running businesses about their
choices of location and found that many
of them were deciding to leave because
they thought wages abroad were lower
than at home. Another important reason,
4
though, was to be near customers in big new markets, which this
report does not see as oshoring in the conventional sense.
Messrs Porter and Rivkin argue that rms are now ready to reconsider oshoring. They realise that in many cases they overdid
it, and are discovering hidden costs in moving production a long
way from home. But, the authors argue, America’s government
is not making the country’s business environment attractive
enough for companies to want to come back.
Given the political pressure, it is natural for companies to
want to publicise anything that looks like reshoring. Lenovo says
that its decision to bring back computer-making to North Carolina was a way of looking after the rm’s reputation as well as
bringing direct business benets. The Chinese rm’s global supply-chain chief, Gerry Smith, says he has received dozens of telephone calls from former university classmates to congratulate
him on the move.
But reshoring amounts to much more than public relations.
It is being driven by powerful forces and will only get stronger. In
a survey of American manufacturing companies by the Boston
Consulting Group (BCG) in April 2012, 37% of those with annual
sales above $1 billion said they were planning or actively considering shifting production facilities from China to America. Of the
very biggest rms, with sales above $10 billion, 48% came out as
reshorers. The most common reason given was higher Chinese
labour costs. The Massachusetts Institute of Technology looked
at 108 American manufacturing rms with multinational operations last summer. It found that 14% of them had rm plans to
bring some manufacturing back to America and one-third were
actively considering such a move. A study last year by the Hackett Group, a Florida-based rm that advises companies on oshoring and outsourcing, produced similar results. It expects the
outow of manufacturing from high- to low-cost countries to
slow over the next two years and the reshoring to double over
the previous two years. The oshoring of manufacturing is
now rapidly moving towards equilibrium [zero net oshoring],
1
says Michel Janssen, the rm’s head of research.
The Economist January 19th 2013
SP EC IA L R EP O RT
OUT SOURCING AND OFFSH OR I NG
2
The crucial change that has taken place over the past decade or so is that wages in low-cost countries have soared. According to the International Labour Organisation, real wages in
Asia between 2000 and 2008 rose by 7.1-7.8% a year. Pay for senior management in several emerging markets, such as China,
Turkey and Brazil, now either matches or exceeds pay in America
and Europe, according to a recent study by the Hay Group, a consulting rm. Pay in advanced economies, on the other hand, rose
by just 0.5% to 0.9% a year between 2000 and 2008, says the
McKinsey Global Institute. In manufacturing, the nancial crisis
actually reduced pay: real wages in American manufacturing
have declined by 2.2% since 2005.
By contrast, pay and benets for the average Chinese factory worker rose by 10% a year between 2000 and 2005 and
speeded up to 19% a year between 2005 and 2010, according to
BCG. The Chinese government has set a target for annual increases in the minimum wage of 13% until 2015. Strikes are be-
for workers, including the right to a permanent contract after a
year of employment, and workers are more aware of their rights.
One consultant jokes that it is getting as hard to re people in China as in France.
China’s labour market is so overstretched that all the highquality labour has been exhausted, you have to hire people with
lesser qualications, and then quality becomes a problem, says
Alain Deurwaerder, who until recently
ran a factory in Thailand for Ducati, an
Italian motorbike-maker. Another European chief executive complains about the
ightiness of his Chinese workforce: If
someone on the other side of the road offers 5% more pay, they go.
Lorne Schaefer, the owner of Jenlo
Apparel Manufacturing, a Canadianowned clothing company, opened a factory in Liuzhou in southern China in
2008 because he could no longer nd
Pay for senior management in several emerging
workers at home; second-generation Chinese and Vietnamese immigrants in Monmarkets, such as China, Turkey and Brazil, now either
treal, he says, no longer want to work in
matches or exceeds pay in America and Europe
the industry. Now he is having similar
problems in China. The latest generation
of workers, thin on the ground because of
coming more frequent, and when they happen, says one executhe country’s one-child policy, are not keen to toil in factories,
tive, the government often tells the plant manager to meet
nor do they want to work for companies that make goods for exworkers’ demands immediately. Following labour unrest, wages
port, since the quality standards are far higher than for domestic
at some factories have gone up steeply. Honda, a Japanese carconsumption. So even in a labour-intensive industry such as texmaker, gave its Chinese workers a 47% pay rise after strikes in
tiles, the cost benet that China oers is quickly eroding.
2010. Foxconn Technology Group, a subsidiary of Hon Hai PreciHigher labour costs alone are not enough to prompt com- 1
sion Industries, a Taiwanese rm that
does a lot of manufacturing for Apple and
other big technology rms, doubled pay
at its factory complex in Shenzhen after a
series of suicides. Its labour troubles are
still continuing.
Staying put
The pushmi
BCG used to argue that companies
unwilling to send their manufacturing to
lower-cost countries were putting their
very future in jeopardy. Now it says that
companies will bring manufacturing
back to America from China. As soon as
2015, says Hal Sirkin, a consultant at the
rm, it will cost about the same to manufacture goods for the American market in
certain parts of America as in China in
many industries, including computers
and electronics, machinery, appliances,
electrical equipment and furniture. That
calculation takes into account a wide variety of direct costs, including labour, property and transport, as well as indirect
ones such as supply-chain risk.
After decades of complaining about
American and European workers’ high
pay, cushy conditions and unreasonable
expectations, businesspeople now increasingly moan about Chinese workers.
Their aspirations are rising and they are
less willing to work long hours in boring
factory jobs. A new labour law introduced in 2008 brought in more protection
The Economist January 19th 2013
European jobs are not coming back because few of them went in the rst place
RESHORING IS LARGELY an American
phenomenon. Although the migration of
jobs to Asia has caused plenty of angst in
parts of Europe too, the continent has
little hope of wooing back many of the jobs
it has lost. There are some signs that in
Britain rms are starting to look for local
suppliers in order to simplify their supply
chains. But China’s importance as a lowcost supplier to continental Europe will
continue to rise, for several reasons.
First, Europe’s labour markets are
still fairly inexible and costly, so even if
conditions in China and elsewhere are
becoming less favourable there is still a
substantial labour arbitrage to be had.
Second, European rms had been oshoring less in the rst place. Cultural
factors are partly responsible; Germany’s
Mittelstand of mid-sized family rms, for
instance, sell their products globally but
are more inclined to make things in their
own backyard, says Hans Leentjes, head
for northern Europe of Manpower, an
employment agency. Europe has a high
concentration of family companies, and
families tend to be more loyal to their
countries of origin.
Companies in northern Europe are the
most inclined to oshore, whereas French,
Spanish and Italian rms have been held
back by political and social pressures.
Restrictive rules on ring employees mean
that it is dicult and expensive to shut
down capacity at home. So for the time
being European rms, if anything, want to
oshore more. Indian outsourcing rms
hope that Europe will provide them with
their next decade of growth.
Many European rms have exported
jobs to countries in eastern Europe. German
rms have sent work to a place even closer
to home: former East Germany, where pay is
still lower than in the country’s west. France
Inc often looks towards Morocco and Romania. This near-shoring avoids some of the
transport cost and cultural diculties of
sending production to places a long way
from home, as many Anglo-Saxon companies have done.
5
S P ECI A L R E PO R T
OU T SOU RC I N G A N D O FFS H O R IN G
2 panies to leave China. The country has the world’s best supply
chains of components for industry and its infrastructure works
well. Firms have already invested heavily in being there. And
companies that initially came for the low labour costs now want
to stay because it has become a huge market in its own right.
Nonetheless, the incremental decision to invest in new production capacity in China has become tricky, says Gordon Orr, Asia
chairman for McKinsey.
One answer is to invest in other low-cost countries, of
which there is no shortage. Myanmar, for instance, is attracting
interest now that the West is lifting economic sanctions. But the
scale, skill and productivity of the labour force there, and in
countries such as Vietnam and Cambodia, nowhere near matches China’s, argues Mr Sirkin. And workers in those countries, too,
are demanding better pay and rights.
Mexico, which has the huge advantage of bordering the
United States, is increasingly attracting production destined for
the Americas that would formerly have gone to China. Average
pay for Mexican manufacturing workers is now only slightly
higher than for Chinese ones, and the time it takes for goods to
travel to North America is measured in days not months. Some
rms, such as Chrysler, a car company, are even using Mexico as
a base to supply the Chinese market. The country has become an
important production hub for the aerospace industry. But Mexico’s poor infrastructure and highly publicised drugs-related violence may deter some rms.
Even as pay is rising rapidly in China, costs in America are
falling. The successful extraction of natural gas from shale has
dramatically lowered the price of energy. PricewaterhouseCoopers, an accountancy rm, reckons that these lower American energy prices could result in 1m more manufacturing jobs as rms
build new factories. Companies such as Dow Chemical, a speciality chemicals rm, and Vallourec, a French steel-tubes rm,
have announced new investments in America to take advantage
of low gas prices and to supply extraction equipment.
and the pullyu
Not only have American wages declined or are rising only
slightly, BCG points out, but the dollar has been weakening. The
workforce is becoming more exible and productivity continues
to rise. High unemployment has brought a willingness to work
for lower pay, especially in southern states. These are mostly
right to work states where individuals are free to decide whether to give nancial support to a trade union, so unions are less
powerful there. The very threat that jobs will be outsourced will
also have played a role in keeping wages down.
Alabama, one such state, received a big boost last year
when Airbus, a European aeroplane manufacturer, said it would
open a big new factory. Airbus also plans to expand its production in Asia beyond its main factory in Tianjin, China, to be close
to fast-growing new markets. Fabrice Brégier, the rm’s chief executive, says that for skilled workers, China is no longer a lowcost country.
Big unions in America have sometimes been willing to let
wages fall to keep jobs at home. In 2007 the United Auto Workers
union (UAW) accepted a two-tier wage structure under which
some new blue-collar workers are paid only half as much as longer-serving ones. In 2011, after the government had bailed out
part of the motor industry, the Big Three carmakers employed
more second-tier workers, reducing their overall labour costs.
Ford has brought back production from China and Mexico to
Ohio and Michigan, thanks to a new agreement with the UAW.
As the example of ET Water Systems showed, transport
costs are playing a big part in reshoring. Rising shipping, rail and
road costs are most damaging for companies that make goods
6
with relatively low value-density, such as consumer goods,
appliances and furniture, according to a recent McKinsey report
on global manufacturing. That makes reshoring or nearshoring
more attractive. Emerson, an electrical-equipment maker, has
moved factories from Asia to Mexico and North America to be
closer to its customers. IKEA, a Swedish rm that makes products
for the home, has opened its rst factory in North America as a
way to cut delivery costs, and Desa, a power-tools rm, has returned production from China to America because savings on
transport and raw materials oset the higher labour costs.
In the longer term reshoring will be boosted by the use of
advanced manufacturing techniques that promise to alter the
economics of production, making it a far less labour-intensive
process. 3-D printing, a process in which individual machines
build products by depositing layer upon layer of material, is already being used in research departments and factories. Disney
is developing 3-D printed lighting for interactive toys, and says
that in future the interactive devices inside such toys may be
printed rather than assembled by hand. Additive manufacturing
machines can be left alone to print day and night. For now they
are used mainly for prototyping and for complex parts, but in future they will increasingly make nal products too.
Robots are already making a dierence to the share of labour in total costs. Cheaper, more user-friendly and more dextrous robots are currently spreading into factories around the
world, and they cost just the same in America as they do in China. Relative to the cost of labour, average robot prices since 1990
have fallen by 40-50% in many advanced economies, according
to McKinsey. Baxter, a new generation of robot made by Rethink
Robotics, an American rm, costs $22,000 apiece and is so safe
and simple that it can be taught by an unskilled worker and operate right next to real people.
Baxter and his ilk may mean there will be fewer manufacturing jobs overall, but those that remain can stay close to a rm’s
domestic headquarters. And even if the manufacturing activity
itself does not employ many people, the supply chains that
spring up around it will create new work. 7
The Economist January 19th 2013
SP EC IA L R EP O RT
OUT SOURCING AND OFFSH OR I NG
Home or abroad?
Herd instinct
Companies need to think more carefully about how
they oshore and outsource
the conglomerate, owning everything it could, was all the rage,
but for the past few decades rms have been outsourcing ever
more of their operations, in the belief that as long as they kept
the core of their business in-house, the rest could safely be sent
anywhere in the world.
That belief has not always turned out to be justied. After
Boeing, an aeroplane-maker, outsourced 70% of the development and production work on its new 787 Dreamliner to around
50 suppliers, it suered huge delays because its outsourcing partners failed to produce parts on time. In 2005 Deloitte Consulting
looked at 25 big companies that had outsourced operations and
found that a quarter of them soon brought them back in-house
because they could do the work themselves better and cheaper.
But most companies outsource to
save money, so doing more of it has increasingly meant sending work to cheaper countries. In 2003, according to TPI, a
company that advises on outsourcing,
about 40% of all outsourcing contracts entered into by American and European
rms involved oshore workers; that gure has since risen to 67%. In turn, compa-
WHAT AND HOW much of its production to oshore to
other countries is one of the most important choices a company can make. France’s two big carmakers illustrate the point.
PSA Peugeot Citroën, the younger of the two, has tried over time
to nd cheaper places than around Paris to make its cars; in the
1950s and 60s Citroën opened a factory in Brittany and started
manufacturing in Spain and Portugal, the China and Vietnam of
their time for oshoring. Nowadays it makes cars cheaply in Slovakia and in the Czech Republic. But two-fths of its global production is still in France, where it has seven expensive factories.
One reason is that the company is family-owned, and families
tend to be particularly loyal to their countries of origin.
Renault, on the other hand, has determinedly pursued a
low-cost strategy, setting up factories in
Morocco, Slovenia, Turkey and Romania,
and now makes only a quarter of its cars Moving production a long way o and separating it
at home. Unsurprisingly, it is Peugeot that from research and development risks harming a rm’s
is now in dire nancial straits. Last autumn, amidst a erce political storm, the long-term ability to innovate
company announced plans to stop car
nies that decide to oshore production often have little choice
production at one of its biggest French factories, at Aulnay-sousbut to outsource as well. Local rms are often in a better position
Bois, just outside Paris. But that may be too little, too late.
to operate in a particular environment, and they may control
Yet there are also examples of highly successful companies
supply chains. Most of America’s and Europe’s textile industry,
that choose not to oshore to any great extent, even in labour-infor instance, subcontracts work to outside rms in China, Viettensive industries. Zara, the main clothing brand of Inditex, a
nam and Bangladesh. Production of consumer electronics is
Spanish textile rm, is famous for making its high-fashion
largely outsourced to huge contract manufacturers such as Taiclothes in Spain itself and in nearby Portugal and Morocco. This
wan’s Foxconn and Quanta. This report concentrates on work
costs more than it would in China, but a short, exible supply
that is done overseas, either inside the rm but in an oshore lochain allows the rm to respond quickly to changes in customer
cation or outsourced to foreign contractors, because this part of
tastes. It sells the vast majority of its outts at full price rather
corporate globalisation has caused the most controversy.
than at a discount. Its decision to stay close to home has become
Most rms do not give enough thought to choosing where
its main source of competitive advantage.
to produce. To an alarming degree, says McKinsey, companies
The practice of outsourcing is as old as business itself. A
continue to indulge in herd behaviour when deciding where to
19th-century manufacturing company might have had its own
base their operations and how to arrange their supply chains.
machines but not its own eet of horse-drawn drays to distribute
Many of them, says the consulting rm, simply follow each othits wares. The fashion for what to subcontract and what to keep
er around to low-cost countries or allow themselves to be drawn
inside the rm has ebbed back and forth over time. At one time
in by governments waving wads of cash and other incentives.
David Arkless, head of government and corporate aairs
1
It still makes sense
for Manpower, which advises large companies on their locaShare of American and European companies’ outsourcing contracts*
tions, recalls the story of two rival technology rms from Idaho
with an offshore element, %
some years ago. One of them moved its production to the state of
70
Penang in Malaysia. The other, having seen its foe reduce its labour costs by half and slash prices by 15%, pursued it to exactly
60
the same place, he says. The pair quickly started competing for
labour with each other and local wages soared. Mr Arkless has
50
seen whole clusters of industries move to Shenzhen in tandem.
Within a year or so the labour costs go up to near the level of the
40
original place, he says. Manpower advises Western rms that if
labour makes up 15% or less of their product’s total cost, they
30
would do better not to oshore. And even if the share is higher,
there is usually scope for improvement at home. Going some†
2003
04
05
06
07
08
09
10
11
12
where else for the sake of cheaper labour is usually a quick x
*Advised on by Information Services Group (ISG), an outsourcing
and avoids the real problems, says Mr Arkless.
consultancy, which covers about half the total
†Year to date
Source: ISG
Companies rarely analyse past location decisions to see 1
The Economist January 19th 2013
7
S P ECI A L R E PO R T
OU T SOU RC I N G A N D O FFS H O R IN G
2
Decisions, decisions
Reshoring, selection of companies
Company
What and where
Why
Chesapeake
Bay Candle
Production was shifted from China to
Maryland in 2011. The company will
export to China from there
Rising labour costs in China;
wanting to respond more
quickly to customers
Ford Motor
Company
Production of medium-duty trucks is
moving from Mexico to Ohio, saving
2,000 jobs. Adding extra capacity to
a Michigan plant will save another
1,200
Thanks to an agreement with
the trade union, the firm can
now hire new workers at $14
an hour
Otis Elevator
A factory is being moved from Mexico To keep R&D closer to
to South Carolina
manufacturing and reduce
logistics costs
General
Electric
Production of large household
appliances (eg, water heaters,
fridges) is being shifted from China
and Mexico to Kentucky
Having manufacturing, design
and development close
together; being more
responsive to customers
Sleek Audio
Production of high-end earphones
has moved from Dongguan in China
back to Florida
Quality problems in China
Sources: Boston Consulting Group; PricewaterhouseCoopers; press reports; The Economist
2 whether they have proved right, note Michael Porter and Jan Riv-
kin of Harvard Business School in a paper, Choosing the United
States, published last year. One reason why companies rush
into oshoring may be that they are looking for a quick solution
to existing troubles. According to The Handbook of Global Outsourcing and Oshoring, by Leslie Willcocks, Julia Kotlarsky
and Ilan Oshri, companies are most likely to consider oshoring
their operations when their prots are already falling.
Two sets of strategic problems can arise from oshoring
production to another part of the world, especially if it is poorly
thought out. The rst of these concerns the logistics of supply.
The more that rms spread their operations around the globe,
the more vulnerable they become to disruption from unexpected events such as natural disasters or political unrest. The second
strikes at the heart of what companies try to do: sell more and
better widgets to customers than their rivals down the road. Often, the more a rm oshores and outsources, the worse it will be
at responding to customers quickly.
their own factories overseas, but they seldom outsource.
Many companies are now rethinking the outsourcing of
ever more important functions. Lenovo wants to own more of its
capacity in China and elsewhere; it gets better results from its
own facilities than from its outside contractors, says Gerry
Smith, the rm’s global head of supply chain. That often means
taking the work back home.
The most prominent current example of the opportunities
and risks of oshoring is the relationship between Apple and
Foxconn. From a strategic point of view the partnership could
not be more successful. In 2010 Foxconn took a huge chance by
investing billions of dollars in building enough capacity in China to manufacture Apple’s iPhone on the scale required. It built a
uniquely exible and responsive supply chain for the American
rm. On one recent occasion, according to a report in the New
York Times, Apple redesigned the iPhone’s screen at the last minute and Foxconn woke up its workers in the middle of the night
to get the job done in time. The reason Apple is what it is today is
Foxconn, says a consultant in Taipei who prefers not to be
named. The two companies, he says, are inextricably bound to
each other.
But Apple may be wishing it was not quite so dependent on
Foxconn. After a spate of reports of poor working conditions for
the rm’s employees (including excessive hours), Apple’s chief
executive, Tim Cook, ordered an investigation, and Foxconn is
making a number of changes. Even so, the bad news has not
stopped. In September Foxconn had to close a factory for a while
when a brawl among employees turned into a full-scale riot. In
October the rm admitted that it had employed interns as
young as 14 in its factories. In December Mr Cook announced
that Apple would bring some production of Mac computers
back from China to America. He said the main aim was to create
jobs in America, but the move may also appease critics of Apple’s partnership with Foxconn. The Taiwanese rm said that it,
too, would expand its operations in America, explaining that important customers wanted more work done there. 7
India’s outsourcing business
On the turn
Ideas factory
Over the past few decades it became conventional wisdom
that factory jobs could be done cheaply in some far-ung corner
of the world but more important innovation work should stay
in-house in high-cost countries. Manufacturing was seen as just
a cost centre, so it was often oshored. Now many companies
reckon that production makes a big contribution to the success of
research and development, and that innovation is more likely to
happen when R&D and manufacturing are in the same place, so
increasingly they want to bring manufacturing back in-house.
Foreign suppliers of parts not infrequently turn into competitors, and for many companies the risk of losing intellectual
property either through theft or imitation in China and elsewhere remains high. Indeed, says Richard Dobbs of the McKinsey Global Institute in Seoul, big South Korean groups reckon
that American and European companies are making a mistake in
outsourcing as much manufacturing as they do, because this allows other rms a great deal of insight into their processes. They
should know: Samsung, an electronics giant, was once an outsourcing partner for several Japanese rms but now dwarfs its
former customers. South Korean rms oshore production to
8
India is no longer the automatic choice for IT services
and back-oce work
IF TATA CONSULTANCY SERVICES (TCS), an Indian outsourcing rm, wanted to impress its customers with its dedication, it could do no better than take them to its engineeringservices division in Bangalore’s Electronics City. In one room sit
rows of young men working on computer simulations of crashing and accelerating cars. Next door is a laboratory full of engines and parts from TCS’s client, a big Detroit carmaker. It is festooned with garlands of bright orange marigolds to celebrate
Dussehra, a Hindu festival. Next to one car engine is a shrine to
Durga, a many-armed goddess. Celebrating everyday tools is
part of the festival. We worship the car engines, explains one
of TCS’s engineers. He sends photographs of the ceremony back
to Detroit each year. The American car bosses, he says, are a little
surprised but delighted to see their engines being prayed to.
However, they like to keep quiet about the work that gets
done in India. TCS is not allowed to name its customer (clue:
Bruce Springsteen, Prince and Don McLean have all written 1
The Economist January 19th 2013
SP EC IA L R EP O RT
OUT SOURCING AND OFFSH OR I NG
2 songs about its cars). Ten years ago TCS, part of the Tata Group,
which includes Tata Motors and Tata Steel, did only very basic
work for the car rm. Now it tests thousands of engine components, using computer models, and suggests improvements for
their design.
For the oshoring of manufacturing China is by far the
most important destination, but in services most of the work has
gone to India. Of the ten leading cities for oshoring, according
to The Handbook of Global Outsourcing and Oshoring, six
are Indian. In 2008 India claimed 65% of all oshored IT work
and 43% of oshored business-process work. Brazil, Russia and
China are also important, and by 2011 as many as 125 oshore locations were oering IT and BPO services, but no other oshoring destination has come close to India, with its huge supply of
IT and engineering graduates and its English-language skills.
Indian ingenuity
The painstaking work of Indian programmers has gone
into innumerable Western products, from cars to Disney cartoons to Microsoft’s Windows range of software. In 2004 Indian
engineers in Mumbai created a virtual Oscar gure for that year’s
Academy Awards which melted away like the liquid metal
machine in Terminator 2: Judgment Day. Nielsen, a ratings
rm on which America’s media industry depends, in turn relies
heavily on TCS for its data.
The killer application for the Indian bodyshops, as they
were originally known, was providing labour to perform simple
IT tasks at a very low cost. One of their rst tasks was to check
that the so-called millennium bug would not cause chaos in millions of computer systems at the end of 1999. Indian rms also
saw rapid growth in business-process outsourcing (BPO), dened as the export of routine work such as customer care or insurance-claims processing, though IT services still have much
the biggest share. Now, as demonstrated by TCS and the car
giant, India’s outsourcing vendors are taking on far more dicult
tasks for multinationals in many elds, such as testing new products, design and complex analysis.
The panic about Western jobs arose because whereas the
traditional Western outsourcing providers, such as HP or Logica,
used to employ mainly locals, the young Indian companies took
the work oshore. The big Western rms themselves then
rushed to hire in India; IBM is now India’s second-largest privatesector employer, just after TCS. Companies can choose to oThe Economist January 19th 2013
shore IT and back-oce services either directly to a rm headquartered in India or under the covers via a Western rm with
a big oshore presence, explains one consultant.
Hackett, a Florida-based rm that advises companies on
outsourcing, estimates that over the period from 2002 to 2016 oshoring is likely to claim a total of 2.1m business-services jobs (including IT, human resources, procurement and nance) at big
American and European companies. Still more jobs will have
been lost in business processes, including call centres and claims
processing. Hackett says that about 150,000 business-services
jobs a year are still being shifted from Europe and America; the
oshoring of services remains in full swing. But the rm also predicts that the migration of services to India and to other oshore
locations such as China and Brazil will slow down after 2014 and
stop entirely by 2022.
The main reason for this startling prediction is that most of
the easily oshorable jobs have already gone. Pralay Das, an
equity analyst with Elara Capital in Mumbai, estimates that
American and European banks and nancial-services rms
have already oshored about 80% of what they can reasonably
send to India and other oshore locations.
A second reason is that a lot of the jobs that might have
been oshored by Western rms in the coming years have already been wiped out by productivity improvements. New jobs
in Western economies tend to be of a more demanding, higherlevel kind and are less likely to be sent abroad.
All this has sent the Indian IT and BPO industry into a funk.
There are fears that it will either stop growing or be forced to accept much lower prot margins as demand for its services falls. It
is clear that for Indian IT vendors, demand for traditional outsourcing, meaning routine software and application development and maintenance, is already levelling o, says Pankaj Kapoor, an equity analyst at Standard Chartered Bank in Mumbai.
The work used to roll in at you, explains an executive at one large
Indian vendor; now you have to go out and search for it.
It is not only that the oshoring of jobs is reaching saturation point, but also that Western companies, after a decade of experience, are changing their attitude to the practice. KPMG, a global consulting rm, even announced The Death of
Outsourcing in a research paper last year. After all, oshoring
important tasks to an outside provider is quite a risky thing to do
and carries signicant hidden costs. Companies in services as
well as manufacturing are now far more aware of the pitfalls. 1
9
S P ECI A L R E PO R T
OU T SOU RC I N G A N D O FFS H O R IN G
2 Until recently the most important reason for companies to send
large chunks of important business functions abroad was to
drive down costs. A decade ago wages in emerging markets were
a tenth of their level in the rich world, an opportunity too good
to miss. During the recession of 2008-09, says Cli Justice,
KPMG’s leading expert on outsourcing and oshoring, the race
oshore accelerated, and more higher-value and complex work
was sent overseas too.
But now many companies are nding that they lost their
connection with important business functions, says Mr Justice.
At the same time the cost advantage that drew rms oshore in
the rst place is disappearing. Salaries for software engineers are
going up rapidly and ination is high. For IBM, says Bundeep
Rangar, chief executive of IndusView, an advisory rm, the total
cost of its employees in India used to be about 80% less than in
America; now the gap is 30-40% and narrowing fast.
The industry also continues to have a huge labour turnover
(see chart 3), which can mean quality problems. That is chiey
because the vast majority of the work being oshored is repetitive and dull, and often well below the qualication levels of the
people doing it. Increasingly, local industries such as retail, insurance and banking are oering more interesting jobs with better
career prospects than much of what is on oer in IT and business-process outsourcing.
To be sure, much of the work that has gone to India in recent
years is more demanding, but in that part of the market the cost
of labour has soared. Good analysts and product developers in
India and China are few and far between, so pay for such jobs
has been rising by up to 30% a year. According to Mr Justice, pay
for workers with such skills in India and China can be even higher than in America or Europe, with all the disadvantages of being
several time zones away from head oce.
Reasons why not
When outsourcing abroad was still relatively new in the
1990s, the idea was that outside partners would be better than insiders at IT and back-oce work because they were specialists.
And even if they were no better at it, at least they were a lot
cheaper. This line of thinking is known inside the industry as
your mess for less. It has now become clear that outside rms
usually cannot do boring back-oce work any better and often
do it worse. Many oshore outsourcing relationships have
proved disappointing and some have ended in lawsuits.
Some chief executives found that outsourcing relationships turned sour after a few years. The boss of one global European engineering rm points out that outsourcing partners are
3
Revolving door
Labour turnover in Indian outsourcing firms
% of total employment in those firms
25
HCL
Technologies
Wipro (voluntary)
Wipro
20
Infosys
15
10
Tata Consulting Services*
5
2006
07
08
09
10
11
12
0
Financial years ending March
Source: Company reports
10
*Worldwide
mainly concerned with their own prots. They give you a good
deal for two to three years and then they suck your blood, he
says. A rm that outsources a lot of IT also risks losing its expertise in a key area and can get trapped in legacy systems, he adds.
Some American rms that have outsourced a lot to India
and elsewhere are building shadow capability in services in
their home countries, says KPMG’s Mr Justice. Using unocial
budgets, he says, some chief information ocers are hiring people back home to do the same kind of work that their oshore
teams do, just to have them next door. Only a small number of
rms have gone to such extremes, yet the fact that it happens at
all indicates the value that rms place on proximity, says Mr Justice. And some of the biggest original pioneers of outsourcing,
including General Electric and General Motors, have already taken the plunge and brought their IT work home. 7
Services
The next big thing
Developed countries are beginning to take back
service-industry jobs too
HARLEY DAVIDSON, A motorcycle-maker, had a dicult
time after the nancial crisis and nearly took the road out of
Milwaukee, Wisconsin, its home town since 1901, to go in search
of cheaper labour. It stayed in the end, but had to prune other
costs. Last summer it announced it would outsource 70 information-technology and other back-oce jobs to India’s Infosys.
Just more and more of our great motorcycle company being
done by other countries, lamented one hog-owner from Pennsylvania in an online forum on hearing the news. In fact, Infosys
will be serving Harley and other rms from a new oce full of
Americans in Milwaukee.
This is the 18th new oce Infosys has opened in America in
recent years. The company will hire a total of around 2,000 locals in the year to March 2013, up on last year’s 1,200. Other big
rms are hiring at a similar level. According to NASSCOM, the
trade body for India’s IT sector, the industry has doubled the
number of locals it has hired in America in the past ve years. It
now employs 280,000 people there and is planning to recruit
many more in the next few years.
So far companies are not reshoring services even on the
modest scale seen in manufacturing. That is partly because information goes down the wire, so rising transport costs do not
play a role. But as the previous section has shown, the oshoring
of services is slowing down because most of the work that can
be done remotely has already gone, and because rms are becoming more aware of the disadvantages of sending work to the
other side of the world. More and more companies want IT and
business-process tasks to be done locally, especially when the
work is complex and strategic. Indian oshoring rms are responding by hiring in developed markets.
A survey of outsourcing executives by HfS Research in Boston last summer found that America is seen as the world’s most
desirable region for expanding IT and business-services centres
in the next two years. India now comes second, despite its lower
labour costs. Chief information ocers once rushed to send
their software-development work oshore, said CIO magazine
last year, but now they want to keep it nearby. The magazine
cited the example of Standard & Poor’s, a credit-rating agency, 1
The Economist January 19th 2013
SP EC IA L R EP O RT
OUT SOURCING AND OFFSH OR I NG
4
Fading advantage
Indian programmer’s
Extra costs*,
average salary, $’000
$’000
US programmer's average salary, $’000
Labour
arbitrage, %
120
FORECAST
100
30
25
80
20
60
15
40
10
20
5
0
0
2001
03
05
07
09
Source: Offshore Insights Research
11
13
15
*Management and logistics
2 which used to oshore much of its IT work but now wants to
send it no farther away than three hours from Manhattan.
You do not have to go far outside the big cities to nd that
costs come right down. In a study of job-creation in America
McKinsey found that workers for high-level IT support in the
cheaper parts of the country cost less than in Brazil or eastern Europe and just 24% more than in India. In a paper, IT Services: The
new Allure of Onshore Locales, McKinsey’s consultants show
that labour costs in dierent parts of America can vary by as
much as 30%, with similar dierentials between, say, the cost of
skilled IT workers in Paris and northern France, or eastern and
western Germany.
Hiring locals certainly helps to placate public opinion, but
the business argument for it is even more important. Since most
routine tasks have already been sent oshore, low-cost vendors
are now trying to win higher-value work, such as managing human resources and complex, multi-faceted projects. But to get
that kind of business they have to be near their clients. For example, one outsourcing vendor, Cognizant, with a CEO of Indian
origin and a big Indian workforce but headquarters in New Jersey, is currently taking market share from rivals such as Infosys.
The Indian component of its workforce makes up about 60% of
the total, compared with around 80-90% for TCS and others. A
typical recent deal, says Malcolm Frank, the rm’s head of strategy, was one it did in 2012 with the American arm of ING, a
Dutch bank, under which Cognizant will take over business processes for insurance. Instead of sending the work to India, the
rm will open new centres in Iowa and North Dakota and take
on ING’s existing employees. The client wanted local voices answering the telephones, says Mr Frank, and the economics of
that part of the US means that the numbers work for us.
Some big rms which originally led the way in the oshoring of services are now taking work back in-house and onshore.
For most of the past decade, General Electric had been aiming to
outsource the vast majority of its global IT jobs, with most of
that outsourced work going to India. When Charlene Begley, the
rm’s chief information-technology ocer, recently re-evaluated its global balance of labour, she found that half the IT work
was being done by outside providers and the rm was losing
some of the skills it needed. With the rise of mobile devices and
iPads, GE wanted to be able to develop new applications for customers far more quickly. Now the rm is hiring 1,100 IT engineers
for a centre it opened in Michigan in 2009. The company has said
that the new American employees will not replace GE’s oshore 1
Rise of the software machines
The attractions of employing robots
ELIZA DOOLITTLE ENTERS the stage unkempt and talking in a strong Cockney
accent, but by the end of George Bernard
Shaw’s play Pygmalion she speaks in a
much more ladylike fashion. Another Eliza
was invented by Joseph Weizenbaum, a
scientist from the Massachusetts Institute
of Technology, in the early 1960s. His
computer program was named after Shaw’s
character because it learned to speak more
clearly over time. It played the role of a
psychotherapist, sometimes well enough
to convince patients that it was human.
Now a third Eliza, named after Mr
Weizenbaum’s invention, is set to turn the
oshoring business upside down. IPsoft is
a young company started by Chetan Dube,
a former mathematics professor at New
York University. He reckons that articial
intelligence can take over most of the
routine information-technology and
business-process tasks currently performed by workers in oshore locations.
The last decade was about replacing
labour with cheaper labour, says Mr Dube.
The Economist January 19th 2013
The coming decade will be about replacing
cheaper labour with autonomics.
IPsoft’s Eliza, a virtual service-desk
employee that learns on the job and can
reply to e-mail, answer phone calls and hold
conversations, is being tested by several
multinationals. At one American media
giant she is answering 62,000 calls a month
from the rm’s information-technology
sta. She is able to solve two out of three of
the problems without human help. At
IPsoft’s media-industry customer Eliza has
replaced India’s Tata Consulting Services.
Mr Dube is sorry to see so much of
India’s intellectual capital being expended
on mundane, repetitive tasks. Much of the
work that is oshored is boring, which helps
to explain the industry’s huge labour turnover (see chart, previous page). A small
British start-up, Blue Prism, has developed
a software-development toolkit that allows
people within a company to create their own
software robots to automate business
processes. Greetings from Robotistan,
outsourcing’s cheapest new destination,
wrote HfS Research, an outsourcing blog.
The economics of Robotistan are
certainly compelling. An onshore information-technology worker may cost
$80,000 a year and an oshore one
perhaps $30,000, wrote James Slaby,
HfS’s research director, in a recent report.
But Blue Prism’s robots cost at most
$15,000 a year. They can perform only
routine, rules-driven tasks, but there are
plenty of those about. One telecoms
company, says HfS, replaced 45 oshore
employees, costing a total of $1.35m a
year, with ten of Blue Prism’s software
robots, costing $100,000. The telecoms
rm then spent its savings of $1.25m on
hiring 12 new people to do more innovative work locally at its headquarters.
But nationality still plays a part.
Because Indians often speak strongly
accented English, the country lost a lot of
call-centre business to the Philippines.
Mr Dube’s Eliza will have a slight American twang, modelled on a Filipino callcentre operator.
11
S P ECI A L R E PO R T
OU T SOU RC I N G A N D O FFS H O R IN G
5
Keep it going
Shape up
European companies’ outsourcing* by department, %
March 2009
March 2011
0
10
20
30
40
50
60
IT infrastructure and
data management
For oshored jobs to return, rich countries must
prove that they have what it takes
IT and technology consultancy
ERP†: maintenance, upgrades,
implementations
Finance and admin, HR,
call centres, sales, marketing
Software testing/
quality assurance
Solutions design and systems
architecture
CRM‡: master data/customer
experience management
Data warehousing and business
intelligence systems
Source: “The Handbook of Global
Outsourcing and Offshoring” by Ilan
Oshri, Julia Kotlavsky, Leslie Willcocks
What to do now
*Mostly offshored
†Enterprise resource planning
‡Customer relationship management
2 workforce, but the move is seen in the industry as an important
sign of the times. GE was one of the rms that made it respectable to outsource, so its decision to bring some of the IT work
home is expected to prompt other companies to follow.
The most prominent reshorer of services has been General
Motors. Like GE, GM has had plenty of experience with outsourcing. Between 1984 and 1996 it owned EDS, a company
founded by Ross Perot that pretty much invented the outsourcing industry. In July 2012 GM announced that it was reversing its
rule of outsourcing 90% of its IT work to other rms. In a few
years’ time it hopes to be doing 90% of the work inside the rm.
In the process it will be reshoring many of those jobs.
GM’s reasons for doing this may well apply to many other
rms too. IT has become more pervasive in our business and
we now consider it a big source of competitive advantage, says
Randy Mott, GM’s chief information ocer, who has been responsible for the reversal of the outsourcing strategy. While the
work was being done by outsiders, he said, most of the resources
that GM was devoting to IT were spent on keeping things going
as they were rather than on thinking up new ways of doing
them. The company reckons that having its IT work done mostly
in-house and nearby will give it more exibility and speed and
encourage more innovation.
THE WEST HAS become so obsessed with losing vast numbers of jobs to globalisation that its anxiety is now the butt
of jokes. The Onion, a satirical website, recently reported that
parents are outsourcing child care to India and Sri Lanka, using
cardboard boxes to ship their ospring across the oceans.
A country’s overall level of employment is determined by
macroeconomic forces; trade and oshoring aect the mix of
employment and wages. Within particular industries, outsourcing and oshoring have been among globalisation’s most disruptive consequences. The threat of losing jobs to developing
countries has helped to depress middle-class pay in the rich
world. But despite all the scares about job losses in the West, the
trend is already slowing and may soon start to tail o. The main
fear in recent years has been the migration of white-collar work,
which makes up the majority of jobs in rich countries. Yet oshoring has destroyed far fewer service jobs than originally
feared, and in manufacturing, where blue-collar jobs in industries such as computers, cars and textiles have been on the wane
for decades, reshoring could even bring a revival.
Mr Blinder of Princeton University was among the most
prominent economists to give early warning about the impact of
sending services abroad. In an article in Foreign Aairs in 2006
he said that up to 42m American services jobs could eventually
be lost; the shift could add up to a third industrial revolution.
It has now become clear that the worst fears have not been 1
Don’t call us
Of all the back-oce work that has been outsourced, the
call-centre business is the one that has made the most abrupt exit
from India. With information technology, outsourcing rms
such as TCS and Wipro are dealing with global companies, but
with call centres they are dealing with customers. We just can’t
get the accents right, sighs one Mumbai-based outsourcing executive. They tried hard to get workers in Bombay and Bangalore to
enunciate their vowels just so. One recent web sketch showed
operators imitating Sean Connery, a Scottish actor, for the Scottish market. But many customers had trouble understanding
them and were infuriated.
For India, the call-centre business is on its deathbed, says
Mr Kapoor. The Philippines has won a lot of work, thanks to its
cultural anity with America. And many rms, especially in nancial services, have brought call centres back to America, Britain and Europe, often with the twist that to speak to someone in
your own country you have to pay extra. 7
12
The Economist January 19th 2013
SP EC IA L R EP O RT
OUT SOURCING AND OFFSH OR I NG
2 realised. Nobody knows exactly what oshoring has done to
American employment since 2006, but estimates by specialist
consulting rms such as the Hackett Group, based on condential data from corporate clients, come up with relatively low gures. According to Hackett, the net number of business-services
jobs in big American and European companies lost between
2002 and 2016 is likely to be around 3.7m, and only 2.1m of those
will have been due to oshoring. That works out at a loss from
that cause of just 150,000 jobs a year. .
The rm’s current estimate of how much has been lost and
what is still to come is much closer to a forecast by Forrester Research back in 2004 that 3.4m American services jobs would
move oshore by 2015, or about 300,000 jobs a year. McKinsey
has also been far more sanguine than Mr Blinder; it said in 2006
that 11% of service jobs around the world could in theory be carried out remotely. In practice, it thought, only about 650,000
jobs a year would be aected. So far the optimists have been
proved right.
The number one job-killer in America in recent years has
been the recession, says Mr Blinder: Only a trivial percentage of
jobs has been claimed by oshoring. He thinks that the move to
reshore some manufacturing jobs is important, even though the
scale of it is still small, but that a wave of services oshoring
could yet hit Western countries. The main reason is advances in
information and communications technology that could allow
more and more senior and skilled jobs to be sent abroad. But it
would take big cost savings to justify having such sophisticated,
high-touch services done at a distance, and those savings are
gradually disappearing, as this report has shown. Pay for highly
skilled, English-speaking workers in developing countries who
could oer such services is rising rapidly. And companies are becoming increasingly concerned that oshoring services may do
longer-term damage.
The best argument for locating activities overseas nowadays is to be close to fast-growing new markets, and it will only
6
The limits to reshoring
US companies, 2011, % of respondents
In which employee segments have skill shortages hindered your
company’s ability to expand or improve productivity?
0
10
20
30
40
50
60
70
80
Skilled production
(machine operators, technicians)
Production support
(industrial engineers, planners)
Unskilled production
Sales and marketing
Scientists and design engineers
Management and administration
(HR, IT, finance)
Customer service
(including call centres)
Source: Deloitte, The Manufacturing Institute
become stronger. McKinsey estimates that by 2025 developing
economies will account for nearly 70% of demand for manufactured goods. Whereas in the past rms treated such markets as
sources of cheap labour, they are now looking for a deep local
presence. ABB, for instance, has gone from having what it calls a
cost arbitrage strategy for countries such as China to taking an
in country for country approach, meaning that it wants not
only manufacturing but also functions such as product management and R&D to be based there.
Strong growth in emerging countries will also prompt their
own new multinationals to set themselves up as local in the
West. The Rhodium Group, a consulting rm, says that Chinese
investment in America has already created nearly 30,000 jobs
there, and that by the end of the decade Chinese rms will employ up to 400,000 Americans.
Will reshoring and the move of emerging-country multinationals into Western markets generate lots of new jobs in the rich
world? The Boston Consulting Group thinks that reshoring
alone could generate 2m-3m jobs in manufacturing by 2020, up
to 1m of which would come direct from factory work and the rest
from support services such as construction, transport and retail.
A trickle, not a ood
But it is important not to overestimate the impact of reshoring on jobs. Manufacturing work will often come back only
when it has been partly automated, so the number of jobs returning will be smaller than the number lost in the rst place.
Most companies that have recently built new facilities or expanded existing ones in America have brought in more automation, says BCG’s Mr Sirkin. NatLabs, for instance, a Florida-based
manufacturer of dental implants, reshored much of its production from China because it was able to automate a large part of it.
The best that can be hoped for, says Michel Janssen of Hackett, is
not that millions of high-paying jobs will return and things will
be as they were before, but that the leak of jobs out of America
will be largely stopped.
Governments around the world have used generous nancial incentives in an eort to attract companies to move to their
countries. These range from hard cash and corporate-tax holidays to cheap loans. For instance, back in 2005 Dell was promised incentives worth up to $280m by the state of North Carolina
and the city of Winston-Salem to open a factory there. When
Dell pulled out in 2009 it had to pay back much of the $24m it
had already received. In 2007 North Carolina oered Google a
$260m package to expand a server farm near the Blue Ridge 1
The Economist January 19th 2013
13
S P ECI A L R E PO R T
OU T SOU RC I N G A N D O FFS H O R I N G
2 Mountainswhich the internet giant eventually declined.
night shifts at its factory near
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Mittal, an Indian steel tycoon,
Future special reports
In a recent report on global manufacturing, McKinsey said
that he was not wanted in
The Nordics February 2nd
that in the near future the world is likely to have too few highFrance after his struggling comOshore nance February 16th
skilled workers and not enough jobs for low-skilled workers.
pany, ArcelorMittal, tried to
Emerging Africa March 2nd
Companies’ decisions on where to locate will increasingly be
shut down blast furnaces.
The United States March 16th
driven by where they can nd the skilled workers they need. In
And where rms are able
Previous special reports and a list of
2011 a survey of 2,000 American compato keep production onshore, it is
forthcoming ones can be found online:
nies found that 43% of manufacturing
often thanks to immigrant
economist.com/specialreports
rms took longer than six months to ll
workers. Jenlo Apparel Manusome of their vacancies. The United
facturing relied on workers of
States has a particular problem because it
Chinese and Vietnamese origin in Montreal, and ET Water Sysis producing too few college graduates
tems reshored to a San Jose-based contractor employing workers
and too many high-school dropouts. In
of South-East Asian origin. An important element of the lowJapan, four-fths of companies have procost tier of American labour is immigration, both legal and illeblems nding technicians and engineers.
gal, from Mexico. The more that free movement of people is alAs a result, many rms will be unable to
lowed between countries, the less companies need to oshore,
reshore because they cannot nd workers
says Darryl Green, one of Manpower’s presidents.
with the right skills.
Agencies providing temporary sta, such as Manpower,
Another big problem is labour exiplay their part, allowing rms to treat workers as a exible rebility, which still varies greatly from counsource not a xed cost. It is no accident that Manpower’s biggest
market is France. In Japan the labour market is also rigid. Back in 2007 Fujio Mitarai,
Companies’ decisions on where to locate will
chief executive of Canon, a maker of optiincreasingly be driven by where they can nd the skilled cal products, said that temporary agencies had helped manufacturing rms
workers they need
avoid the hollowing out of industry. But
now the government has restricted the
try to country. In Britain, says Hans Leentjes, president for northuse of temporary workers. Along with the appreciation of the
ern Europe at Manpower, an employee can be red by following
yen, that is prompting more oshoring by Japanese rms, says
due process and paying a week’s severance money for each year
Manpower’s Hiroyuki Izutsu.
worked. In Germany, by contrast, companies have to negotiate a
Lenovo’s North Carolina headquarters, inherited from
settlement and pay between one and two months’ salary for
IBM, sits at the heart of the state’s Research Triangle Park, a reeach year worked. The German employee can still go to court
gional cluster of universities and hi-tech businesses. It is an exand the company may have to reinstate him. In a global econample of the sort of business ecosystem that is capable of drawomy where rms can go where they want, these dierences have
ing corporate investment from around the world. The area
an eect, says Mr Leentjes.
boasts competitive costs, highly skilled workers, a close partnerThere are signs that labour in rich countries is becoming
ship with local universities and a business-friendly environmore exible at the same time as workers in Asia are slowly acment. Unlike Dell, Lenovo is taking no money at all from the state
quiring more rights. Multinationals now recognise America’s
government for starting to manufacture at Whitsett.
low-cost, exible workforce as an important attraction. Spurred
Internally the rm’s factories compete hard with each othby the euro crisis, Spain and Italy have both introduced big laer on cost, productivity and quality. It will quickly become clear
bour-market reforms. Another sign of the times is that Western
if Made in America is a luxury or whether it creates sustained
carworkers are willing to work night shifts again. In August last
value for the Chinese rm. Tony Pulice, the rm’s factory managyear Jaguar Land Rover, owned by Tata, announced the return of
er in North Carolina, is ready to show what his country can do. 7
Companies are becoming more sceptical about short-term
enticements, and governments would do much better to work
on the most useful and durable sort of incentive: the business environment they oer. In recent years policymakers have been
able to point to the global labour arbitrage as the obvious and
overwhelming reason why rms oshore. When Harvard Business School surveyed companies that were moving activities
outside America, it found that lower wage rates were the main
attraction for 70% of them. But a third also said that they were
moving out to get better access to skilled labour.
As the gap in worldwide wage rates narrows further, it will
become more obvious that other factors, such as skills, labour
law, clusters of industries, infrastructure, tax and regulation are
playing an ever more important role when companies decide
where to put their production. Now that many rms are taking
another look at their outsourcing and oshoring policies, governments need to give them every reason to come back. If companies are oshoring because of xable policy problems at
home, says Mr Porter, that is unforgivable.
14
The Economist January 19th 2013

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