Watch Out Nearshore IT, Augusta, Columbus and Other Cities Like It Want to Eat Your Lunch

Prolonged economic sluggishness may be strengthening  America’s labor competitiveness relative to offshore markets, particularly when it comes to complex agile IT development projects. That’s according to Paul Pinto Vice President of Sylvan Advisory LLC, who says that when all cost factors are accounted for, offshoring this kind of work is making less and less sense.  Attrition is low and there’s a lot of pent up supply in America’s IT talent base, even in fourth-tier cities like Augusta and Columbus, Georgia where vendors can easily scale to a 250-person operation within months, according to Pinto..  With this in mind, Latin American outsourcers might take note as they compete for U.S. contracts on both quality and cost.

Jobs Shortage Driving U.S. Competitiveness

Certain trends suggest that the American economy has begun rebounding.  Home foreclosure rates are falling, consumer confidence is strong, and, for better or worse, Obama’s re-election has instilled some sense that Congress will cross party lines to deal with the debt debacle.  But despite a growing sense of cautious optimism, the U.S. job market still has a long road before bouncing back to pre-recession levels.  The national unemployment rate barely fell below 8 percent for the first time in September, after hovering above 8 percent for 43 consecutive months, according to a recent Bloomberg report.

Persistently high unemployment means that people tend to hold on to their jobs, significantly reducing outsourcing vendor recruitment, training, and compensation costs.  “Wages [in the U.S.] have not gone up and attrition rates are practically nil in this very tight job market”, stated Pinto.  Likewise, American workers are honing their technical skill-sets in order to remain competitive.

While expensive, America’s higher education system with its extensive network of public and private universities, community colleges, and specialty schools is among the most accessible and comprehensive.  In a recent report by Universitas, a global network of research universities, the United States’ higher education system ranked the best in the world.

Pinto of Sylvan also pointed to pent up supply of IT talent as a result of mass layoffs in cities like Detroit.  Referring to GM’s recent decision to source back 10,000 jobs into Detroit, Pinto believes that GM will have no problem from a scalability perspective.  Job prospects in Detroit are also bleak at the moment which means wage rates will remain competitive for GM, particularly as people prefer to stay close to family, rather than moving elsewhere for job opportunities.

Even small cities like Augusta, Georgia with no more that 150,000 inhabitants can scale rapidly, according to Pinto. “We recently helped a client scale 250 IT jobs [three years average experience] inside of three months in Augusta.”

Government Incentives

Government tax breaks are yet another piece to the U.S. competitiveness puzzle.  Individual states are becoming very competitive and creative when it comes to designing incentive programs like transferable tax credits, which allow companies with otherwise no tax obligations to sell their credits on the open market.  The Online Incentives Exchange (OIX) program in Louisiana is one example of how state governments are getting creative to entice companies to relocate.

Pinto of Sylvan also agrees that when all costs are accounted for, state, county, and local incentives can easily push the competitiveness scale over to favor the U.S.  “We look at travel time, infrastructure, size of workforce, cost of living, cost of housing, quality of life, taxation, travel expenses – when you weigh these and consider the amount of rework required and the higher levels of attrition offshore, costs come out to be about the same between onshore and offshore.  When you include government incentives the question becomes a matter of quality not cost”.  Pinto noted that incentives can off-set the cost of an individual worker by as much as $4,000 dollars annually, for a ten year period.

Impacts to the Nearshore

As Latin America’s domestic vendors grow into the U.S. market, they should look to expand their delivery capability in the United States, and not just basic sales offices.  A more balanced sourcing model with both onshore and nearshore capability will make LatAm mid-market vendors more competitive.  The LatAm outsourcing community should also leverage the attractiveness of the region’s high-growth local markets, as a way to reel in new multinational outsourcing contracts, new third-party vendors, and new captives.  This will eventually lead to lucrative exports to the United States.

Two additional trends to watch are 1) a slowdown in large enterprise sourcing activity and 2) a pick-up in outsourcing activity in the U.S. Small-to-Medium enterprise segment.  The most recent Market Vista Briefing from the Everest Group pointed to a significant slowdown in both outsourcing transaction volume and global in-house center (captives) market activity since Q2 of 2011.  Eric Simonson, Partner at Everest Group, attributed the slowdown partly to the increasing maturity of the outsourcing industry.  “Companies are now focusing more on optimization and on strengthening existing outsourcing relationships, rather than reworking their country location strategy”, stated Simonson during a webinar.  As latecomers to the outsourcing game, LatAm markets and vendors will have to do more to attract new business.

Pinto of Sylvan also confirmed an overall slowdown in global outsourcing volumes, but mostly within the large enterprise space.  He noted a pick-up in outsourcing activity in the mid-market segment.  “Instead of the multi-billion dollar deals, we’re seeing more and more one million dollar deals.”  The SME segment should present strong opportunities for Latin American outsourcers as multinationals fill their hands chasing after and catering to big blue-chip clientele.

Nevertheless, America’s increased competitiveness relative to offshore markets will mean that LatAm (and Indian) vendors must compete on a more equal playing field.   This will likely require a build-out of capabilities in the United States in cost-competitive regions – perhaps even in Augusta, Georgia.