2006 China IT Summit

Friday, December 1, 2006 - 00:00

Julia R. Dillon

The Metropolitan Corporate Counsel

This is a review of some of the highlights of a seminar held at New York's Pennsylvania Hotel on November 2 and 3. Wilson Lu, Chairman of the International Executive Association, one of the sponsoring organizations, introduced the sessions. Other sponsors were SIM (Society for Information Management) and Chinese Association for Science and Technology, USA, GNY (CAST-USA GNY). Conference Co-Chair was Tsvi Gal, Chief Technology Officer, Deutsche Bank Asset Management. The following were among the speakers and major topics discussed.

Global Sourcing

Jim Noble, President, Society for Information Management, Chairman, World BPO (Business Process Outsourcing) Forum, and Chief Information Officer, Altria Group, Inc.

Jim Noble commented on the changing role of the Chief Information Officer, whom he sees as "a lead indicator for sourcing strategy" because IT has a history of leading business process change, especially in the global practices of shared services, outsourcing and offshoring, in which it leads other business departments by a margin of about five years.

He added that while some in the global business community believe that IT has become commoditized and that its presence in-house no longer provides competitive advantage, he sees that IT will clearly play a huge role in innovation and value creation in the future.

According to Noble, the CIO needs to get out of the back office and into the market. CIOs have already learned what, how, when and where to outsource, because CIOs have already done so extensively with such services as help desks and server administration and are beginning to do so with such services as asset management and network management. Many U.S. companies already have plans afoot to outsource data center management and asset procurement.

Noble notes the importance of knowing how to outsource in phases and to recognize when to do so. The optimal path for Information Technology Outsourcing (ITO) and Business Process Outsourcing (BPO) is to move the processes most needed on a demand basis where scale and cost are most variable, and to do so in a linear fashion.

Not surprisingly India remains the best choice for outsourcing currently. The reason is that Indian outsourcing offers good price, high quality, scalability and process excellence. Meanwhile, sourcing providers have seen large margins and high growth, making for a win/win proposition. As a result, India has witnessed a rapid build-up by global services players and massive investment by both software and hardware companies.

However, serious challenges lie ahead for India. First and foremost, India's infrastructure is inadequate. In addition, labor shortages are mounting, particularly in the area of highly skilled workers. Meanwhile, the grounds of competition are shifting, as is the geography of delivery as new regions are developed for growing industry.

Looking at China, Noble discussed its current status as an outsourcing player. First, according to the research organization A.T. Kearney, China's foreign direct investment (FDI) is actually twelve times that of India. However, if one were to break down their respective FDIs by business function, China's percentage of IT-specific FDI is only 40% greater than India's. Moreover, capital-intensive functions account for about 65% of foreign direct investment in China, with manufacturing at 48%. In contrast, capital-intensive functions - distribution and logistics, manufacturing, and knowledge management - account for approximately15% of India's foreign direct investment, while the remaining 85% goes into business processes (including human resources, finance and accounting), contact centers (call centers and web centers) and IT (design, support and services). It is said that India designs while China manufactures.

Noble listed what he sees as risks to China's growth as an outsourcing destination. Re-regulation ranks as a high internal risk, followed by the moderately high risks of abrupt economic slowdown, major corruption cases and unmanageable natural or health disasters.

What started as IT staff augmentation has become BPO, and we will soon see outsourcing become knowledge work. What started in India has moved to the Philippines, Eastern Europe, Brazil, China and other countries. While for the most part only large cap companies have overcome the fear factor involved in embarking upon an outsourcing plan, mid caps have not - yet. In the meantime, for companies who are engaged in outsourcing, process excellence and flexibility have surpassed cost as the main incentive to outsource.

Setting a Solid Foundation For Strategic Partnering: An Innovative Approach to Contracting With Chinese IT

David Barrett, Global Head of IT & Outsourcing, Simmons & Simmons

Barrett began his talk by noting that there are more "cross-cultural" dimensions in outsourcing relationships than the obvious ethno-cultural one. For one, there is a cross-industry relationship in which communication about the product manufactured or service provided must be clear on both sides. In addition there is the supplier/customer relationship, in which honesty about expectations is paramount. Barrett noted that there is a tendency among suppliers in general to promise more than can be delivered on-time and on-budget.

Barrett then placed outsourcing in today's context, distinguishing it from "offshoring:" (Most outsourcing in North America and other European countries is either on-shore or near-shore, while much offshoring is really the traditional function of "out-tasking," a term which more accurately describes much of the activity in the current Indian model.) Outsourcing, as distinct from "out-tasking," implies the transfer of risk and responsibility. The offshore services industry is a new industry both for source states and for host states, especially China.

Outsourcing (and particularly offshore outsourcing) is growing enormously, but it is a sector with a "serious reputation problem" because outsourcing contracts can be problematic at best.

Many outsourcing contracts do ultimately fail. Why? Barrett observed that while the goods or services actually contracted for may be delivered, there lie expectations below the surface, usually on the customers' part.

Barrett pointed out that in actuality, there is no evidence that offshore outsourcing is any more problematic than other forms. However, when faced with the problems of outsourcing, offshoring affects people strongly, and their worries about cultural differences compound their fears.

What to do? Barrett suggested that people need to build better partnerships, rather than supplier/customer one-point relationships. Faith in contracts must be restored, as the contracting process can serve as the engine for the formation of better partnerships. A good partnership contract must be comprehensive and contain mechanisms which allow for evolution and possible change. It must reflect good practices and be tailored to both sides' expectations, extending all the way to the most senior level of the contracting parties. It must be thoroughly understood by the key players and negotiated fairly, and it must reflect the wisdom of models and precedents, yet not be enslaved to them. Contracts should not be regarded just as a process of administration but a system of balance, heading off problems and working together. To that end, Barrett added, a contract's long-term success will depend on its governance, which itself should be clearly defined within the contract.

Partnership-facilitating provisions within a good contract must include a clear delineation of customer and supplier roles and responsibilities beyond the goods and services ordered so that disappointment on either side of the relationship can be avoided. Likewise, the consequences of process and deliverables must be firmly established. Governance provisions should include benchmarking, pricing granularity and pricing and service reviews. A good contract will contain balanced and open change control to head off unstructured scope creep. Liabilities must be balanced. Termination and re-competition rights should also be included.

Barrett characterized the "win/win contracting mindset" for customer and supplier as follows. First, he emphasized the importance of finding the right partner for one's own business to begin with. The customer must be willing to negotiate. His attitude should be one of seeking balance, and he must understand the need for fair return. Finally, he needs to have his deal reflect accurately the deal sought by top executives at his firm.

The supplier, meanwhile, needs to consider himself an equal in the dealings. He stressed that contracts are far from being an admission of failure, as they are sometimes regarded in China: China must reach out to the Western model. The supplier must deploy a proper negotiating team that is empowered to negotiate. It should be prepared to explain constraints and price options, and it, too, must be willing to negotiate, being careful not to accept what he cannot deliver or can ill afford. Deal-making is highly important for offshore suppliers, who need to understand that outsourcing is a relationship, not simply a price-defined sell/buy proposition. Finally, they should understand the differences in U.S. and European/Asian marketplaces.

IT and the East

Jamie Popkin, Gartner Research

Jamie Popkin of Gartner Research focused largely on China's entrance into the outsourcing industry in relation to India's already strong presence in that arena. In spite of the old canards about China's being a backward, corrupt state, one needs to get a clearer picture: that China is re-emerging; that the notion of "guanxi" (the Chinese term for knowing where another is "coming from," in literal, familial and spiritual terms) is essential in business dealings; that maintaining social order is important; that areas of the country are experiencing an urbanization explosion. The perception that the government is heavily involved in the economy is true, but it remains to be seen to what extent that will continue.

Popkin compared India's and China's domestic marketplaces overall, in particular demand and supply within their information communication and technology (ICT) sector. China's domestic ICT industry boasts the world's largest mobile handset market as well as the second largest number of Internet users. Overshadowing this demand are the facts that the government continues to monitor e-mail and text messages. In addition, piracy and IP protection issues persist, but at the same time the level of domestic IP generation is growing which could become a counterfoil to piracy.

Popkin also pointed out that there is a "digital divide" between rich and poor, between urban and rural dwellers and between inhabitants of coast and of inland regions. In terms of ICT industry supply, there are many small vendors, especially in software offshoring and IT services. At the same time, foreign vendors dominate operating systems, software infrastructure and business applications. Not surprisingly IT services vendors dominate the domestic market where China has strength in domestic telecommunications and networking. On the whole, the Chinese ITC industry thus far has demonstrated a limited understanding of international marketing and capital requirements. And while there already exist a very strong industrial backbone and lots of investment in research and development, statistics on key patents and innovation continue to lag behind.

India has become more of a known quantity in recent years, yet some misperceptions persist. While we may have a different perspective, IT spending is a relatively small percentage of the economy. In addition, India is beginning to experience a skilled IT labor shortage due to its IT services export industry. Within India, IT services and outsourcing are relatively expensive to obtain. Piracy and IP protection issues persist; India is still in the early stages of domestic IP generation. There exists a "digital chasm" between rich and poor, and urban and rural regions.

Within India's domestic ICT industry supply, there is an almost exclusive focus on the offshore IT services industry. As in China, foreign vendors dominate OS, software infrastructure and business applications, and foreign IT services vendors dominate the domestic market. At the same time, liberalization of FDI limits is boosting domestic telecom services and networking availability.

In terms of international branding and innovation India has succeeded in developing very high international brand recognition by IT services and outsourcing companies. India has demonstrated a strong understanding of international marketing and of the capital requirements among large and midsize exporters. The organization NASSCOM (National Association of Software and Service Companies), itself evidence of India's understanding of international marketing, continues to enhance India's domination of the outsourcing industry. Links between academia and industry are beginning to emerge.

Popkin then pointed out that what India and China really possess are very complementary skill sets. If the two were to work in concert, the "Chindia" that emerged would be very powerful in the global market. He concluded that the 21st century will increasingly be the "Asian" - more specifically Chinese and Indian - century. However, the quality of information, research and advice on how to make key decisions related to China and India and their impact on the global market is uneven. Therefore, executives and managers would be wise to build a comprehensive view, not only for understanding China and India individually, but in tandem as well.

Julia R. Dillon is an Associate Editor of The Metropolitan Corporate Counsel.