A few months ago, I was interviewed for a research study on IT outsourcing from Danish financial sector, whose union commissioned a research company named Oxford research for this task. The report from that research will be released soon. I am going to share the excerpts from my interview for that research here. The interview excerpts contain only my views on the IT outsourcing, especially software development offshore outsourcing in general. I’ll be very glad to see the views and commons of others on this important topic in the context of global software engineering.
What do you know about the IT outsourcing by the Danish financial sector?
I know about the IT outsourcing paradigm in a general sense – not specifically the Danish financial sector. The finance sector (not the Danish in particular, but in general) has very specific needs. Some of the financial companies today have very old systems in old programming languages for which many Western Universities have stopped giving education, e.g., mainframes. The backend systems are still running on mainframes, while the frontends are very sophisticated Internet based systems. These systems need to be maintained, and if they do not find the skilled labour locally, they are likely to outsource the maintenance and/or new development somewhere offshore.
The finance industry also faces the same challenges as other industries: Shortage of skilled staff. I think banks (globally) are not very much concerned about the cost, because the money may not their first concerns when it comes to their IT infrastructure. They will be looking for specialized skills and new technology first and the foremost. And at the same time, they will be interested in maintaining and modernizing their systems – “legacy systems”. However, I will not rule out the significance of cost, but for the banks in general, the quality will be more important than the cost.
So banks would be likely to outsource their maintenance and perhaps the development. Outsourcing can also happen when some vendors are specialized in building systems for one particular market, e.g. the US. The financial sector is very general, but some parts of it are very specific for example when it comes to legal requirements, social requirements. But if we talk about more general banking (e.g. credit cards) some vendors might be specialized in these systems, and they can sell it to several banks, for example software for leasing cars.
Over the past 10 years, have we seen an increased tendency to offshore?
Sure. By the end of 2011, offshoring is going to be almost 200 billion US dollar market – Worldwide.
I gather that in the Western World including Europe, some politicians say that they are against offshoring, but there are some natural factors that cannot be controlled, e.g., aging population. So it doesn’t matter what politically sounds right, the ground realities can dedicate the economic and strategic policies of businesses. The youth is growing in India, China, Vietnam etc. They have a huge population below the 40s. And one way of thinking may be how to capitalize on the increasingly young and highly skilled workforce in the emerging economies for the benefits of the local population.
However, the nature of outsourcing is going to change. It’s going to be more standardized, towards business process outsourcing. If the bank wants to get the backend operations processed overnight e.g. check and bill clearances, then they will have a standardized solution provided to them.
Outsourcing is one phenomena – it is very close to something else we call offshoring or global software engineering (GSE): rather than having a fixed contract, you have collaboration, partnership, either you own the whole company offshore or part of it. I believe that global software development has a lot of potential – it hasn’t started playing out to its fullest potential yet.
What are the requirements to engage in an offshore setup since it’s only the big banks doing it so far? What will it take for small and medium sized banks?
I think all of Europe is going to have several kinds of challenges when it comes to Global Software Engineering (GSE). GSE for Europe is not easy for various reasons: 1) Europe is very diverse. 2) Europe has many SMEs. Way too many – which is its strength but also a significant weakness. In some countries up to 90% of the companies may have less than 10 staff. If I’m a vendor in India, I do not have the resources to learn both Danish, Swedish, German, Italian, Greek etc… it’s much easier to just focus on the one language, which I am likely to have been taught in school. And the population speaking this language in one region can be more than 350 million, i.e., North America.
I recently organized a panel called “unique European challenges of global software engineering”. Europe needs GSE but cannot easily capitalize on this phenomena because of the abovementioned reasons.
For instance, if I’m an Indian vendor I need a life time to understand different cultural differences, decision making patterns, and languages in different European countries; for example, there is a difference of decision making between Sweden and Denmark. You just cross a bridge, and the decision making changes. In the requirements (which you gather before building the system) there is a lot of prioritization and negotiation going on to finalize a contract. When you have two countries very close to each other… I need someone very smart who can master the skill of dealing with two different decision making processes. Taking this to small and medium sized banks is going to be quite a lot of challenges.
Another thing is, many European project managers, especially in Scandinavia, do not have exposure to and a good understanding of the cultural, history, language, and customs of the countries where the off-shore software development is being done, e.g., Philippines, Vietnam, India, Malaysia. They are very much more inward centered, so if an Indian or Pilipino wants a pay raise and they don’t get it, they are likely to move on to another company. Scandinavians coming from a social support system don’t understand this, they do not take one hard fact from those societies into account that mum and dad’s hard earned lifesaving is invested in the qualifications of these Indian, Philipino, or Vietnamese workers. They have an obligation to look after their families, and thus they are going to leave the job even for one hundred dollar more a month, because this is a lot of money in Vietnam for example. If the European managers don’t get how to structure the incentive systems in those countries, they will suffer. And they already do. They are still living in their own little shell and wondering “why are these people leaving the company? Why do they want to become manager?”. You need to understand the society. It’s a dilemma: If you make them manager, you lose the technical skills and have wasted two years of training. If you don’t make them manager, you lose them anyway. So they need to figure it out. Companies which have a good understanding of the culture, they are able to retain their staff for 15-20 years even in those countries.
I think small and medium sized banks are more likely to offshore through vendors. I think that is the right strategy for the small banks to do it through vendors rather than opening up their own offshore software development centres. Or another possibility is to have some kind of consortium to set up and run the software development centre. Then they would build an expertise in understanding the culture, and then other banks can capitalize on that learning by pooling the resources together. Otherwise it’s going to be hard for the small and medium sized.
How do you as a company mitigate the job turnover then?
You don’t keep people by paying them money. You structure your incentive system so that it’s closer to their culture than your own. Have you read the book called Fordlandia? This is an interesting story to learn from. In order to make tyres Henry Ford decided to have his own rubber plantation. So he acquired 10, 000 km2 land from the Brazilian government, and made a plantation of rubber. And he hired Brazilians and doubled their salary but he asked the workers: Don’t drink alcohol, eat hamburgers and live in American-Style housing. But it flopped. It didn’t work then, it doesn’t work now – going against the local cultural norms and customs.
So if you go to a foreign country and tell them how the salary structure should be, it won’t work. What is right (or works) for a Danish Bank or any other company, may not be right (or work) at a foreign land. You need to understand the culture really well. You need to have some locals and some people here who are very open and eager to learn and willing to spend quite a lot of time there. In 6 months you only scratch the surface.
The US companies had quite an easy time, because the Indians, Chinese and other Asians have been going to the US for ages, as students and migrants. A large proportion of the staff in an average American US university is likely to have an Asian background. So for the American companies, it wasn’t so difficult to do outsourcing to India.
So the consequence of not understanding the culture would be high job turnover?
Job turnover, delayed project or even project failure.
People who deal with Asia they tell me that they have to talk their way of talking rather than the Danish way. So they have to say ‘thank you’ and ‘please’ many times. A direct way of talking can hurt them, because they have a very fragile self respect. These are some important factors that you need to learn.
How mature are the Danish companies for this?
I’m afraid they are not. I don’t deal with them a lot, but they need to do a lot of work in improving their software engineering processes and practices. However, if I’m a Danish software developer or manager, I wouldn’t be concerned about too many jobs leaving the country because of outsourcing because there are so many barriers to outsourcing software development from Denmark. For example, having to have the requirements and technical instructions translated into English is demanding… it might be the same cost in the end as hiring a Danish company to develop the product. So for Denmark, Sweden etc. it’s not about the cost. It is the shortage of skilled labour fource that will force them to offshore.
Are the any ‘sub-types’ of IT jobs or functions that are more likely to be subject to outsourcing in the future?
Yes, for example in Scandinavia, the software development companies don’t have large testing teams, because the testers and developers are paid the same salary, whereas in the offshore countries the testers are paid less than the developers. This means that the jobs (e.g. testers) with relatively low complexity are more subject to offshoring/outsourcing than jobs with high complexity. Further, jobs that require high domain knowledge are even more unlikely to be outsourced. A Danish example of an area that requires high domain knowledge could be the development of the NEM-ID.
Another reason why we don’t see outsourcing increasing so much here is the fear of losing jobs. 1) If you are scared, you do not pass all the required knowledge to your overseas colleague. 2) The fear makes you build the perception that things coming from overseas are of low quality. And this perception is completely unfounded as long as you compare the output based on the level of experience. Of course an inexperienced developer hired on a low wage in a developing country can’t match a Danish worker with 10 years of experience. In fact, the Danish managers tell me that the quality in India is much higher when you compare the same level of experience. Vendors are likely to hire such cheap labour, but banks wouldn’t usually do it.
This is not the responsibility of the bank, but of the education system. In the West you need to focus on higher valuated activities. In the USA most of the outsourcing is en-to-end development, that means the whole lifecycle of development from requirements to testing. But in Europe it’s different.
You mentioned earlier the possibility of a consortium for SMEs – do you have examples of from other sectors?
When I was doing research in Vietnam (2005), I saw a partnership between a company and one of the well known vendors. The arrangement was that the vendor provided the people and the infrastructure and built the first system. After that they leased them. Yes, there are examples, but it is a very domain specific kind of arrangement.
In Denmark there are three datacenters that are owned by the small and medium sized banks…
Yes, I’m aware, and that kind of arrangement will be a possibility in terms of offshoring as well, because in the datacenter you have the concept of multitenancy. In a vendor, the banks do not have stakes. That’s the relationship of a vendor / outsourcer. But if you see the development centre as a datacenter kind of arrangement owned by the combination of the banks, then they can maintain the privacy and confidentiality of the different systems being developed in each bank, but they can still pool the resources and take advantage of the knowledge about the culture that is being built up. So the banks could take this initiative on their own and not involve the vendors.
Do you have any idea how common it is for Danish banks to import foreign workers for a limited period?
I think that would be an advantage. Because if you don’t bring people here, they don’t really understand the culture. It should not only be the Danish manager learning about the culture over there. There is a number of good things about this culture that Asia can learn from, e.g. being more efficient, more productive, flexibility, work family balance. I also think that Denmark and other European countries need to improve support system for integrating the expat knowledge workers in the society, for instance by offering language training at an earlier stage. These knowledge workers can be important bridge builders for their companies and society with the external World.
Excerpts from an Interview on IT outsourcing from Denmark
Interviewer: Oxford Research, Denmark
Expert: M. Ali Babar, Associate Professor, ITU, Copenhagen, Denmark