KPO: The New Value Proposition

A firm, outsourcing work to India, can benefit by a cost reduction of 40-70%.
This saving in costs results in 'value creation' for the client of a KPO
firm-along with better quality and wider coverage

India
emerged as one of the fastest growing economies in the world during the 1990s.
This can be attributed mainly to the rapid growth of its service sector, which
grew at the rate of 8.15% per annum between 1993 and 2003, against 6.7% per
annum between 1983 and 1993. The sector, as a percent of its GDP, has increased
from 28% in 1950 to about 51% in 2003. It is expected to grow by 12.6% per annum
(nominal rate of growth) from $306 bn in 2003 to $622 bn in 2009.

Phenomenal
developments in India's IT software and IT-enabled services (ITeS) sector are
one of the major components of the growth of the Indian service sector. The
country's IT-ITeS industry can be broadly categorized into IT services,
ITeS-BPO, and the hardware segments. The industry achieved revenues $21.5 bn in
FY 2003, which constituted around 1.6% of the global IT-ITeS market. The
contribution of this segment to the Indian service sector was 7% in FY 2003. The
IT-ITeS segment is estimated to touch revenues of around $92.4 bn at a
compounded annual growth rate (CAGR) of 27.5% with the share of the service
sector reaching 14.9% in 2009.

The key drivers of
growth in the sector include an exponential increase in IT outsourcing and a
rapid expansion in the scale and breadth of the ITeS-BPO offerings of Indian
vendors. About $13.3 bn, ie 62% of the revenue from IT-ITeS came from the export
market.

India has placed
itself in a leading position in outsourcing in the last few years. The major
reasons for the phenomenal growth of the outsourcing segment of the Indian
service sector can be attributed to the 'location advantage' and 'people
attractiveness' factors. India scores very high on both these counts.

The Value Chain

Growing competition has resulted in shorter time-to-market cycles, and
customers are becoming more and more demanding in terms of quality. This has
forced enterprises to adopt systems and business models that provide operational
efficiency and add strategic value to their products and services.

KPO services can
enable enterprises to reduce design-to-market lead times; manage critical
hardware efficiently; provide research on markets, competition, products and
services; enhance organizational effectiveness in business administration; and
help in dealing with rapidly evolving business scenarios. Finally, outsourcing
solutions for high-end processes are usually customized and value-based. It is
often this customization that enhances the value proposition of KPO.

A firm, outsourcing
work to India, can benefit by a cost reduction of 40-70%. This saving in costs
results in 'value creation' for a client of a KPO firm. Assuming that the
client's profit margins remain the same, there is still around 32% of
revenues, which can be deployed by the client to enhance its competitiveness.

According to
Evalueserve analysis, the maximum share of the value creation enabled by KPO
goes to clients. This is in the form of lower costs, better quality and wider
coverage, which, in turn, increases competition. India has one of the largest
pools of knowledge workers. The supply of skilled labor in the country has been
increasing at a steady pace. As of March 2002, it had 840 business schools,
which churned out 65,000 MBAs per year. In terms of skilled IT workers, while
just over 5,000 IT graduates enter the labor market in Germany, and 25,000 in
the US, 120,000 enter the labor force in India each year.            

Outsourcing non-core
activities to specialized firms that are better, faster and more efficient at
managing these processes can accelerate process cycles and reduce the turnaround
time of these services. The client can launch a product faster and get to the
market more quickly. The ramp-up time is reduced for the client, since the BPO
service provider already has trained manpower and an infrastructure in place. An
organization can also significantly reduce the complexities involved in managing
and continuously building knowledge in a large pool of human resources.

Small and medium
enterprises (SMEs) benefit the most from jobs being outsourced to third-party
vendors. SMEs generally have very small setups, and their overhead costs are
very high since they cannot take full advantage of economies of scale.
Offshoring can have a beneficial effect on the bottom line of a small
enterprise, just by controlling costs.

The second chunk of
the value creation pie goes to KPO vendors and employees working in these KPO
firms. The KPO industry presents a significant opportunity for India, in terms
of employment generation and wealth creation. This will result in an increase in
the number of jobs in the KPO space, from the current 25,000 to more than
250,000 by 2010. Revenues per unit are also higher in the KPO industry than in
BPO. This is reflected in higher average salaries in the KPO industry, as
compared to BPO. According to an Evalueserve analysis, salaries amount to
approximately $8,800 per annum in a KPO, as compared to $6,000 per annum in a
BPO. The KPO boom also has an indirect, but positive impact on the economy of
the offshore location.

High incomes and
associated investment in KPO translates into revenue for the allied sectors,
resulting in a multiplier effect for profit and employment generation. In
addition, a good portion of the increased salaries of employees, and large
profits from KPO, also goes into the revenues of allied sectors, such as
retailing, real estate, education and infrastructure, creating a larger
multiplier effect for the economy as a whole.

Imperatives for the Future

Cost arbitrage has been the major driving factor for outsourcing work to
offshore vendors. Apart from the cost differential, factors such as quality
improvement and high productivity will be some of the major reasons for firms
offshoring work in the future. Certain factors, such as breadth of coverage,
domain expertise, location advantage, sales and marketing capabilities,
compliance with regulatory standards, and risk management will help KPO vendors
to differentiate themselves and sustain a competitive advantage in the future.
These factors will weed out the laggards from the leaders in the long run.

Rapid globalization of
the service economy will result in an increased need for integrated solution
providers. These integrated KPO vendors will be able to provide a wide range of
high-end services, such as intellectual property research, equity and financial
research, analytics and data mining, business and market research, etc., across
various industries such as telecom, pharmaceuticals, automotive, financial
services, etc. They have multi-lingual capabilities and a global presence, which
will provide them with a significant competitive advantage. Compared to a local
KPO vendor, these integrated KPO vendors will be in a better position to serve
an organization that service clients across the globe. Hence, a telecom solution
provider who wants to carry out a market survey in 10 countries would prefer to
go to an integrated vendor, instead of local vendors, in these 10 countries.
This will also result in the emergence of more non-captive service providers,
since a captive unit will have limited service offerings, catering mainly to its
parent unit. Moreover, an integrated KPO vendor will also need to have its sales
and marketing capabilities spread across the globe, in order to service the
client at its site. Client executives will act as a point-of-contact between the
client and the KPO vendor, and will enable seamless integration between them.

In terms of global
certifications and standards, Indian BPOs are at par with BPOs worldwide.
Certain Indian BPO companies are certified BS 7799 and ISO 17799, but they still
need to catch up on the regulations front. International regulations, such as
the Sarbanes-Oxley Act, the Healthcare Insurance Portability and Accountability
Act (HIPAA), the UK Data Protection Act, etc, can affect Indian vendors in the
future. However, the client transfers considerable risk when work is outsourced
to an offshore vendor. Contracting to third-party vendors reduces business risk
in the following ways:

• Using
  already existing teams with proven processes or procedures

• Transferring
  large upfront fixed costs to incremental variable costs; and

• Using
  management teams with local experience and the expertise to manage and scale
  activities.

Clients, however, are
still exposed to certain risks, such as compliance, as well as regulatory and
lawsuit risks, and it will not be long before Indian BPO/KPO firms have to gear
up as far as these issues are concerned.

The
author is COO and country head (India), Evalueserve