Turning Indian Outsourcing Units into Cash

Companies from British Airways to GE have spun off their Indian outsourcing units in favor of using outside contractors. Is HP next?

Earlier this decade, one of the biggest fads in global management was to set up offshore business processing outsourcing (or "BPO" in industry jargon) in India to handle a myriad of tasks, from payroll and in-house technical support to sourcing procurement, in the name of saving cash. Along the way, big multinationals built up sizable and profitable units. Now there's a new fad: A number of them are divesting their outsourcing units, cashing out while maintaining their outsourcing relationships or hooking up with bigger firms in the field.

British Airways (BAB) might have been the first to do it in 2002 when it spun off its Indian outsourcing unit, today known as WNS Holdings (WNS). The company offers comprehensive data, voice, and analytical services, and its stock is listed on the New York Stock Exchange. Two years ago, General Electric (GE) sold off its Indian outsourcing operation to two private equity firms for $500 million.

Investment bankers see more deals in the offing. And the names being touted range from Hewlett-Packard's (HPQ) Global e-Business to German publisher Springer Science + Business Media's outsourcing operation. There is even talk of ICICI Bank divesting ICICI One Source. "Everybody is finding that they have an asset that they can monetize," says Raman Roy, the father of BPO operations in India, who sold his Spectramind BPO to Wipro (WIP) two years ago. Roy now says that he is talking to a host of captive BPOs for a possible buyout.
Scale is Everything

What's clear is that BPO has emerged into a huge business. A report by McKinsey and Indian trade association Nasscom says India's BPO export revenues will surge 37% by 2010, to touch $25 billion, from the current $7.5 billion. According to Sourabh Kaushal, who leads the ICT Practice at research firm Frost & Sullivan, of the 600 BPO companies in India, 65% are captive and 35% are third-party vendors.

One incentive for multinationals to sell is that there are big global outsourcing firms that can now easily handle their needs, so maintaining an in-house unit makes little business sense. "Businesses are looking to the scale, scope, and experience of global BPO providers, rather than operating as in-house units," says Baru Rao, chief executive officer of Capgemini India, the French computer service and outsourcing provider.

Last July Capgemini bought out Unilever's majority stake in Indigo, a captive finance and accounting services BPO, for an undisclosed sum. And on Oct. 27 it bought out a pure-play IT services outfit called Kanbay for $1.25 billion, in one of the largest deals to date in India.
Tough to Retain Talent

Why are captives increasingly being put on the block? The offshore delivery model pioneered by Roy in India in the 1980s was taken forward by British Airways and General Electric. "First and foremost, captives were set up at a time when there were no third-party service providers," says Neeraj Bhargava, group CEO of WNS Holdings.

His travel and financial services company evolved from a third-party provider to a successful, publicly traded company in July. An outgrowth of British Airways, WNS was set up as a captive in 1996 and has since upgraded to knowledge-process outsourcing. In 2002, private-equity firm Warburg Pincus picked up a majority stake. "As captives evolve, you have a hard time holding on to people," adds Bhargava.

With no exciting growth opportunities, these captive service-providers are increasingly finding it tough to retain talent, particularly top management.

Attrition rates run from 60% to 80%, and third-party providers are growing faster (over 25%) than captive ones.
General Electric Spin-off

Take the case of Genpact, another captive turned third-party company, which is sprucing itself up for a possible U.S. listing. Set up by General Electric at Gurgaon outside New Delhi, it was divested in December, 2004. Today, GE owns a 33% stake, with private equity firms General Atlantic and Oakhill holding 30% each, while Wachovia (WB) has a 7% interest.

So how has life changed for Genpact? "As a standalone company, we can now pursue third-party business, make acquisitions, build products and services, and expand our geographical presence faster than we were doing earlier," says Pramod Bhasin, CEO of Genpact. He claims that as India moves up the value chain the "outflow of knowledge vested in the top-level professionals will have to be retained."

Computer maker Hewlett-Packard set up its captive BPO Global e-Business Operations in Bangalore three years ago. With 60% of its revenues from captive business, it began transforming into a high-value provider of outsourcing services some 15 months ago. Today, despite market speculation, those close to the company deny a spin off is being considered. Instead, they say, HP is ramping up headcount from the current 6,000 to 8,000 in the next 18 months.

The Future of Captives

So is it the end of the road for Indian BPOs? Not really. "It is an acknowledgement of the maturity of the industry," says Sunil Mehta, vice-president of Nasscom. Even as many captives are being spun off, other sectors like insurance and publishing are setting up in-house outsourcing units. Frost & Sullivan's Kaushal says that more than 30 companies including Fidelity, Reuters (RTRSF), AIG (AIG), and Prudential (PRU), have set up captive centers in India since 2003.

Moreover, captives abound in the banking and financial services sector. "When the growth of the bank is robust, you need to scale up and cater to internal demands," says Sreeram Iyer, CEO of Scope International, Standard Chartered Bank's (SCBFF) BPO. With 5,000 people on its payroll, it added 1,000 more slots this year. But Iyer is realistic about the fact that the model could become challenging in the coming years. "The business will depend less on people and more on efficiency and scale," he says.