Services in Europe's Backyard

When Deutsche Bank, the Germany-based global investment-banking powerhouse, needed to replace its legacy customer-relationship management system with a new one in March this year, it turned not to what would been an obvious choice to many, one of the global IT services giants like Capgemini or IBM, or an Indian outsourcing service provider. Instead, Deutsche Bank turned to a Russian boutique IT provider called Luxoft that has a total staff strength of about 1,000 professionals.
"We talked about Canada , Ireland and low-cost locations in the U.K. But it really came down to India and Russia ," says Dan Marovitz, Managing Director, Deutsche Bank. "But every time we went over to India and we tried to get things going and do a little pilot, we found it difficult to get traction. We spent time knocking around India at all the big companies. It was hard to get them to focus on something that would be pretty cutting edge, but would start very small, and where the forward roadmap was very much a work in progress."
"In Russia ," adds Marovitz "we found people who think on their feet, which is what innovative projects like ours needed. And in Luxoft, we found experts ready to grill us with tough questions; just what one needs for complex projects."
Marovitz may be pardoned for being partial to Luxoft, and Russia as an outsourcing destination, because after all Deutsche Bank still continues to outsource a major part of its IT work to India , and the bank is not a Russia or Europe aficionado.

Bangalores in Europe 's Backyard

Even as most American companies turn to India — and also to China and the Philippines — to fill many of their IT and back-office outsourcing jobs, over the last few years a growing number of large as well as smaller outsourcing services seekers from Western Europe has found Bangalores in their own backyard; countries in the Central and Eastern European (CEE) region, particularly Czech Republic, Hungary, Poland, Russia, Ukraine and Belarus.

Although the IT services outsourcing market of this region is still tiny — about one percent of the nearly $386 billion global outsourcing market — imports of IT-based services from the CEE into the European Union (EU) is rising fast. Between 1992 and 2004 the region's IT imports to the EU rose by an average of 13% per year compared to imports from India, which increased only slightly faster during the same period at 14% per year. And, according to a recent Gartner report, the IT outsourcing services market in the region could expand by 30% by 2010, compared with 25% for the global market in the next four years.

For that matter American companies, too, are cashing in, as global giants like IBM, Dell, Capgemini and Morgan Stanley, among others, have started seeking as well as providing outsourcing services to and from this region. "We have over 5,500 employees in our two offices in Brno (Czech Republic) and Budapest (Hungary), supporting 500 global clients," says Fernand Sanchez, VP, Global Delivery Operations, Europe, IBM, "Part of our $40 billion in global spend for supply chain procurement is sourced in Budapest and Sofia."

Expensive, Yet Attractive

Following the unification of Germany and the collapse of the Soviet Union , as this region's economy tries to quickly integrate with its more affluent Western neighbors, many of its countries are trying to become not only the extended workbenches of companies from high-cost countries, but also their backoffices.

"This trend started about three years back with the large Western European companies with large-scale transaction processing, tapping the outsourcing potential of the CEE," says Rebecca Scholl, an ex-Gartner outsourcing expert, who is now the VP of Business Development at U.S.-based IT and BPO service provider, Affiliated Computer Services (ACS). "But increasingly this concept is catching up with many other companies as well."

What is unusual about this trend is that even as cost in CEE countries is high and availability of human resources is still low compared to their Asian counterparts, something other than cost savings is driving companies to this region. "The main reason we went to Russia is that we needed high quality people for our work. We are not looking for hundreds of people; we need just tens of them but we want high-quality," says Robert D. Miningham, President and CEO of U.S.-based Miningham & Oellerich that too preferred Luxoft after dealing with an Indian company for a "pretty long time."

The biggest attraction of this region for the new breed of outsourcing seekers is proximity; and this refers to both physical distance and cultural closeness. The time difference, particularly with Western European, is almost non-existent, while the CEE countries have close geographical and cultural ties with the markets of Western Europe and the U.S. Typically, nearshoring locations score high marks because of their lower costs for communication between the purchaser and the provider of the nearshoring service.

Proximity has other advantages as well. First, personal contact that enables solutions of complex problems face to face. Next comes the benefit of a common language — even though official languages may differ, nearshoring locations often have people who are proficient in the language of their client. This is followed by cultural understanding. Nearshore service providers almost always offer a better knowledge and understanding of the cultural background of their clients than their counterparts in far-shore locations.

Studies reveal that CEE is particularly interesting for German companies since nearly 40% of schoolchildren in the new EU member states learn German. The proportion is particularly high in those countries bordering Germany and although this does not mean that German is spoken fluently, it does signify that at least there is a basic level of proficiency that can be built upon. Similarly, Romania is interesting for French companies as 85% of schoolchildren there learn French.

"There is great affinity between the CEE nations and the West [ern part of the world]," says Nick Puntikov, Chairman, Programming Committee, Russoft, the official lobby of the Russian IT outsourcing industry. Puntikov is also the President Eastern Europe, Exigen Services, an IT service provider in the CEE that has a strong presence in the U.S. He adds that his U.S. clients too "have observed numerous times that the psychology, mindset and work ethic that CEE nations have is a very good fit with the U.S. and the EU culture."

Along with proximity many Western companies perceive the stable workforce and relatively big wage difference between Western Europe and the U.S. as other key determinants of the appeal of this region. "Unlike the global average attrition of about 25% in the outsourcing industry, the CEE boasts an average personnel attrition rate of only about eight percent," says Puntikov. "This is a strong incentive for clients to put work there, because it means time and money saved on the hiring and training of new staff to replace the team members lost to attrition," he adds.

As for cost effectiveness, although the labor and other costs are much higher in the CEE nations than the world's most favorite outsourcing destinations, India and China , they are still much lower than Western Europe and the U.S. In the new EU member states the average labor costs for non public services are around one-fifth of those in Germany ; in Romania and Bulgaria labor costs are less than 10% of those in Germany, according to a Deutsche Bank research.

Where and What in CEE

While the general perception is that Russia is good for IT outsourcing and Central Europe is ideal for back office, many offer diverse views. Scholl of ACS, for instance, says that Central Europe is only suitable