Captive outsourcing

The recent sale of General Electric's BPO arm appears to have revitalised the sector.

On Monday, Jeffrey R Immelt, chairman of the board and chief executive officer (CEO) of American conglomerate General Electric, dashed off a letter to all his employees globally.

He was informing them about selling GE's 60 per cent stake of its seven-year-old back office operations in India "" GE Capital International Services (GECIS) "" to General Atlantic and Oak Hill Capital Partners for $500 million.

"While GECIS was established primarily as a way to lower GE's own costs, it has evolved and is now a growth enterprise in its own right, with the scope, capabilities and ambition to serve customers besides GE around the world. After significant study, we determined that GECIS' long-term growth might be limited were it to remain a part of GE. The best way for GECIS to achieve its new ambitions is to strike out on its own under a different ownership structure," the letter read.

Also, for some time now, the American technology-focused private equity firm "" TH Lee Putnam Ventures "" has been showing keen interest in purchasing American Express' call centre business in Gurgaon, India. Both GE and American Express were one of the first to use offshore outsourcing as a strategic tool.

Three years ago, global airline major British Airways sold off its captive business process outsourcing (BPO) arm in India "" WNS Global Services. Today, WNS with 6,000 employees, has leading private equity investor Warbury Pincus as its main investor with both British Airways and the management holding a stake in the operations.

Even so, captives dominate the growing Indian BPO landscape, according to a global BPO industry survey. Today, captives account for almost 65-70 per cent of the existing BPO capacity. Two years ago, the global BPO market was around $773 billion. By 2006, it is likely to touch $1 trillion.

Already, capacities are increasing. In the year ending March 2003, the number of seats were 1,40,000. By the end of last fiscal, they had gone up to 2,10,000, taking the total number of Indians working in the sector to 3,50,000. No wonder captives of all hues are holding closed door negotiations with prospective buyers.

What does all this frenetic activity signify?

According to industry experts, the summary of Immelt's letter was simple. They say that GESCIS, which is considered to be one of the largest BPO operations in the country, and was set up to service GE's captive clientiele in the information technology-enabled sector (ITES) , had now reached a size which had become too unwieldy for GE to handle. And what began as a cost-effective operation wasn't so now.

Says John McCarthy, vice president-research at Forrester Research Inc, a US IT research and consulting firm: "This is part of the evolution of the market. The captives will eventually realise that the centre may not be as cost effective. Initially, there may be labour savings but they will eventually realise that it may not be as cost effective as that which can be provided by a third party."

So is it the end of the road for captive BPO arms? Are the market dynamics changing for the Indian BPO industry?

"In an evolving market, what was best for the business yesterday may not hold good for it today," says a consultant. That's why, over the last decade, the IT industry saw a change in strategy of global corporations like Citigroup and The D&B Corporation.

The latter's captive software arm Cognizant Technologies was later spun off as a stand-alone entity. According to Saurabh Shah, vice president India, investment banking at Citigroup, who brokered both the GE deal as well as Wipro Technologies' acquisition of Spectramind in July 2002, his company continues to have its captive outfit "" e-Serve "" which focuses on the core central processes for the bank.

According to studies by the National Association of Software and Services Companies (Nasscom), last fiscal, the Indian BPO sector galloped ahead at 54 per cent growth rate over the previous year. And it continues to be the key driver of the overall software and ITES boom out of India.

And just like in any other businesses, 20 per cent of the vendors account for 80 per cent of services. With the industry maturing with more than 500 BPO outfits operating in India, there would be more outsourcing to third-party providers. But increasingly, captive outfits are becoming a niggling issue for the parent.

Neeraj Bhargav, group CEO of WNS Global Services, feels that once a captive stabilises, there is not much growth for the parent. "The question is, how much more can it grow," he says.

That was the question that confronted British Airways a couple of years ago. WNS began as a captive and gradually went on to do third party work. "But there was just so much growth that we could have attained," he reveals.

Earlier, for large organisations like British Airways, American Express or GE, the scale and size of growth could be achieved only by a captive.

Explains Ranjan Biswas, partner, Ernst & Young, "They paved the way in this growing industry, proving time and again India's ability. Which is also why there have been captive centres mushrooming all over India."

But this is no longer the case. The third-party vendors are likely to grow faster than their captive counterparts. Bhargava refers to third-party providers like his own company WNS, which has "shown great skill and potential for acquiring large, complex accounts".

For all this, the GECIS transaction appears to have infused large doses of oxygen into an industry whose long term potential is being questioned, more so with other global geographies sprucing up their act. In a way, the GECIS transaction, according to Biswas, "has reinstitutionalised India's value proposition to the outsourcing community".

It is all about size and as a stand-alone entity, GECIS is expected to be even more competitive in the market. More than this, the transaction has come at a time when valuations of ITES companies have been sliding down. It also means it is not only possible to build and grow a business that creates immense value, but to have something that can be monetised.

"This has brought even more comfort towards the offshore perspective, bringing a new dimension to the market dynamics," adds Biswas. There are many who believe that 80 per cent of GECIS' delivery will be out of India with the balance coming from other centres across the globe.

Also, it has come at a time when many were beginning to question the long-term potential of the Indian BPO sector, and the GE transaction is set to accelerate the deal flow to India, feels the Aditya Birla group's BPO arm, Transworks' chief executive officer (CEO) Prakash Gurbaxani.

"It would work as a model for successful Indian BPO companies to follow in terms of near shore, off-shore and best shore presence," he says.

Moreover, captives have their own niche. They are just as wary about giving out sensitive proprietary processes to third party vendors. So they will continue to remain.

Explains R Chandrasekaran, managing director of Cognizant, the captive BPO units of large corporations are the ones handling high-end, business-critical, transaction-intensive, vertical BPO businesses.

Much of the low-end, voice-based call centre type of work and horizontal BPO work is what is outsourced to third-party provi-ders. "With the recent development, we believe that vertical BPO would move to third-party providers sooner than later," he says.

That's because many consider third-party vendors as being more efficient. Ananda Mukerji, managing director & CEO of ICICI Bank's BPO arm claims that captives will continue to thrive until such time as credible third-party providers do not develop.

"Third parties are necessarily more custom responsive and the compulsions of their business model is that they have to constantly innovate, add value and strive for greater and greater efficiencies," he adds.

But it isn't that they score on every front. When captives turn to outsourcing, like in the case of WNS or GECIS, they come to the market with niche advantages.

"Having worked as an extension of the parent organisation, these companies have better domain knowledge and ability to easily align with the business of the customers. More importantly, their delivery capability and process maturity are better honed, as during their formative insourcing years their entire focus is more on delivery excellence and less on sales and marketing because of a certain degree of committed business," says Congnizant's Chandrasekaran.

Then, there is the sheer legacy of the captives that they can draw on. For instance, they can effectively leverage the brand equity to acquire new customers, and the financial muscle of the parent to sustain the business during challenging times.

It also reiterates the importance of size. There will be more polarisation with the bigger vendors getting the lion's share of the deals. But what's becoming critical here is value addition. President and CEO of US-based V-customer, Sanjay Kumar says, "The third-party businesses will grow and will have to move up to the value chain."

In recent times, Daksh was bought out by IBM. Wipro picked up Spectramind. And Citi acquired the majority in e-Serve.

So far, Sujoy Chohan, vice president and research director of Gartner, says that captives have been largely operating in the financial and insurance sectors. "For the third-party providers to undertake that work, core expertise has to be built in," he says.

And that's what many of them are doing. As Joseph Sigelman, co-CEO of global resource service provider OfficeTiger puts it, "This is the turning point for companies who thought that the captive model was fashionable and easy."