The Effect Of The Financial Crisis On Outsourcing

Sep 01, 2010
Volume 22, Issue 9

The full version of this outsourcing feature can be read in the September issue of our digital magazine:

Jagdish Dalal
The economic crisis has affected outsourcing providers in several ways. First of all, as with all corporations, they are seeing their market value declining and access to capital is also becoming more difficult. As outsourcing providers are typically high capital consumers (since their income trails expenses), many of them are having to manage their expenses more carefully. This tight management usually leads to decisions, such as not fully staffing projects, restricting discretionary expenses, that adversely impact client satisfaction and client acquisition activities.

On the other hand, the tight economy and companies' desire to reduce operating expenses has led to a higher level of outsourcing activities. However, these outsourcing deals are shorter in contract length (since companies are not confident in their ability to predict the future of their business) and often demand higher value from the service providers. Because outsourcing is a very low margin business compared with most other industries, this has created a tremendous pressure on providers to further reduce their own costs.

Although large established offshore IT and IT-enabled services have done well in capturing a high market share, smaller and more niche offshore service providers are finding that business is slowing because of some of the restrictions being placed on companies who have received government economic stimulus funding. This is quite prevalent in the US and, to some extent, in some EEC countries. Outsourcing providers also face increasing competition from India and China, which are experiencing high economic growth. Combined, all these factors are pressurising other providers into offering economically viable value propositions.

Economic uncertainty and, to some extent, depressed market valuation of service companies, is leading to an increased number of industry mergers. As well as the high-profile acquisitions that have taken place in the pharma market, several large acquisitions have taken place in the IT industry in the last 12 months, such as HP acquiring EDS, Xerox acquiring ACS, and Dell acquiring Perot Systems. This consolidation of service providers and, more importantly, widening of the platform of offering, will change the landscape in coming years. For example, Xerox's acquisition may lead the company to create a document management and data processing product offering aimed at pharmaceutical companies. Meanwhile, Dell–Perot as well as HP–EDS may be able to offer a packaged solution of hardware, software and services in the healthcare industry.

The pharma industry's situation

Public information shows that, as a whole, the pharma industry seems to be following general industry trends of cost management and a higher level of outsourcing activities. At the same time, there is greater pressure on the pharma industry to compete effectively against generic drugs and patent expiries, which has led to stronger emphasis on effectively managing the research supply chain and outsourcing (or partnering) more activities. In particular, there has been an increase in the use of offshore outsourcing for drug testing because of the access to a larger patient base.

For many outsourcing activities, including pharmaceuticals, India and China are considered as destinations of choice. However, the strengthening of the economies in these countries, as well as rising costs of employee acquisition and retention, has led many companies to look for alternative outsourcing destinations, such as South America and Asia, as well as closer to home. For the pharma industry, Costa Rica is becoming an important destination, with Allergan, Eli Lilly, GlaxoSmithKline and Pfizer all using Costa Ricabased service providers, as well as having their own captive operations in this area. Eastern European countries are also becoming attractive locations and as EU membership expands to include many of these countries, it will make them even more attractive to both European and US companies. However, some more remote destinations, such as the Balkan countries, may not be considered for outsourcing because of privacy regulations and confidentiality concerns.

In the coming decade, I believe that many pharma companies will also explore opportunities for outsourcing in Central and South America, as well as in South Africa. These countries offer a growing educated workforce and an increasing market for pharmaceutical products. Consistency and availability of infrastructure, established educational programmes and government encouragement will be key factors in these countries becoming top outsourcing destinations in the future.

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