Economics for Managers - BPO Industry in India

 

 

 

 

 

 

 

 

 

Economics for Managers

BPO Industry in India

 

 

 

 

 

 

 

 

 

 

Problem Statement

A major issue in the Business Process Outsourcing (BPO) industry of India is the high attrition rate. At least 60,000 of the 171,000 workforce change jobs every year for various reasons.  The attrition rates in industry increase the cost of service. An attrition cost can be calculated by adding Cost due to person leaving, Recruitment cost, Training Cost, Lost Productivity Cost, New Hire Cost, Lost Sales Cost.

 

Market Overview

·                    The growth rates of the Indian BPO industry have been 59%, 45.3% and 44.4% in years 2002-03, 03-04 and 2004-05. Currently the sector employs approximately 2,45,100 people and another 94,500 jobs are expected to be added in the current financial year.

·                    The industry currently employs 348,000 people, according to NASSCOM.

·                    The weighted average salary of a resource in Indian BPO is $7,500 per year (cost to company).

·                    The Indian BPO Industry is already worth $2.3 billion. At current growth rates, the 2.3 billion BPO industry is fast catching up with the much acclaimed IT industry. According to Nasscom-Mckinsey study, the IT-enabled services sector was due to employ 1.1 million people and earns $1 billion by 2008.

·                    According to market analysis firm “Gartner” the Global Outsourcing market in 2000 was approximately $119 bn and will touch $234 bn by the end of 2005. The market is expected to grow to about $310 bn by the end of 2008.

·                    Contribution from North American stands at 59% of the total market, with the European contribution at 27% and Asia-Pac region (including Japan) contributing the remaining portion of the market.

·                    Incidentally, Nasscom has measured attrition at numerous call centers in India, and the figures vary from a low of 10 percent to a high of 80 percent. Surprisingly, the companies with the lowest attrition were not necessarily good paymasters.

 

 

 

 

 

 

In the BPO industry, India is the success story of the moment; industry leaders are reporting high customer satisfaction with offshore operations there. The country's urban centers have large numbers of bright. English-speaking university graduates competing for jobs in call centers. Despite high infrastructure expenses and employee benefit packages that include transportation to and from work, meals, and sometimes financial assistance for advanced degrees, the cost of running a call center in India is roughly half that of operating one in the United States. In a recent study by Chicago-based global management consulting firm A.T. Kearney, India ranked as the most competitive country for locating an offshore business processing operation when factoring cost, environment and labor.  But costs in India are not remaining static; inflation is kicking in.  In fact, costs could go up close to 10 percent in India this year and India is not the only location being scouted by U.S. companies. Canada, Ireland and the United Kingdom already are popular locations because of language skills, cultural compatibility and tax incentives. In addition, the Philippines is picking up steam as a desired call center location for companies such as Delta Air Lines and America Online. South Africa is generating significant buzz because of its large English-speaking population and favorable dollar-to-rand exchange rate. Central America is home to Columbia House and Procter & Gamble for call center and shared services work. And Eastern Europe, notably the Czech Republic and Hungary, has begun to attract interest because it has well-educated populations with considerable language skills, both in English and in a variety of European languages. And the U.S. military's exodus from Panama several years ago left that country with a bilingual workforce attuned to the American work culture.  Overall, all these locations have a "shelf life", Right now; people are looking at the Philippines and Malaysia. Probably in 10 years' time, it will be China's turn.

The college graduates who are most attractive to employers have multiple offers from call centers, and therefore they see the employment environment very differently than their parents. Companies like GE and Convergys are hiring as many as 400 people every month to feed the growth in demand. GE even has a call center to handle all the job applications for their call center. In this more carefree world, college graduates with good English skills (many of them speak English at home) view their new job as a training ground before they move on to the many other opportunities that are available. As a result, attrition has become a key issue for call centers in India. Prior to India's opening up to the outside world in 1991, college graduates were thankful to have just about any job. This is no longer the case.

While the steady supply of new recruits has helped fuel the growth of call centers in India, attrition has held the industry back. Attrition has had a major impact on Indian call centers because of the expense involved in recruiting agents and training new people. In addition, the seat that each agent occupies is expensive (the real estate alone costs $18 per square foot per year, including air conditioning, security and maintenance), so an agent who is not yet up to the learning curve is a drag on profits. One of PSi's clients was growing so fast that its training costs pushed it into the red. After making such a massive investment in training (accent neutralization, etc.), it's painful when people leave in large numbers.

To put a lid on attrition, Indian call centers pamper their employees. They've not only increased pay, but also offer door-to-door transportation services - to the delight to Toyota, whose SUVs are a favorite vehicle for this purpose. Despite these efforts, the attrition in some of the call centers studied by PSi is as high as 80 percent (i.e., the total number of agents leaving the company during the year divided by the average headcount for the year equals 0.80).

Industry Risk

Indian BPO Industry have following risk:

• Transition Risk : As a part of internal risks, transition risks have been cited to be the most severe. These risks include errors in estimating overall time for migration, intensity of efforts involved and costs that shall accrue. To mitigate these risks, clients are adopting sophisticated approaches for identifying the critical path for successful transition and understanding the level of risk associated with realizing each key benefit area. Sensitivity analyses are also conducted to assess the probability and impact of any delay and reduction of benefit levels due to uncertainties or inter-dependencies with other projects, operations or functions during planned transition.

• Data Security Risk : Global customers consider network security, physical security, customer privacy and information protection to be critical. Industry researchf reveals that 83% of Indian BPO companies faced a security breach over the past year, significantly higher than the global average of 64%. In addition, 42% serviceproviders faced a security breach more than thrice during the same period. A few respondents state that the criticality of data security is more concentrated in the areas of voice-based offshoring, with employees often gaining access to customer id’s, pin  codes and other confidential data.
• Loss of Control :  Loss of control on offshored operations is an area that clients have traditionally been concerned of in light of the cultural, administrative and geographic distance between the client and the  service-provider. Although SLA’s encompass all areas of client and service-provider rights and responsibilities, the expected quality of the  service and the evaluation criteria for measuring the service delivery is the one of the most critical aspects of the contract.
• Brand Damange : Brand risk is another area of concern for clients, stemming from poor service by serviceproviders resulting in end-customer dissatisfaction or service-provider practices not being in line with stated practices (ethical or otherwise) of the regulated entity. The magnitude of reputational risk is amplified with the political overtones of offshoring for which clients have begun to develop proactive external communication plans.
• Hidden cost:  In the financial domain, risks that clients are becoming wary of include hidden costs – not foreseen in initial stages of projects. Respondents cite examples of the costs of evaluating vendors, managing major contracts, travelling to offshore sites, enhancing security, and paying severance for laid-off workers as instances of hidden costs. Exit costs are another hidden risk, as ending an arrangement prematurely exposes both buyer and provider to litigation.

 

Analysis of Market Structure

The India BPO industry has following characteristics:

• Large  Number of small and big firm
• Firm produce a homognous product
• Price is derived by market
• No barriers to entry level/exit level

 

Supply Demand Curve for existing market and firm

                       

In existing market supply of resource is less than demand. In current market

Supply (X_s) = 348,000

Demand (X_D) = 413,500

Price (P₀) = $ 7,500 per annum

·        Supply S_x is Less than Demand D_x

·        Price is P₀

·        Output is X₀

·        At X₀ AR > ATC; i.e. firm gets economic profit

Given Shortage of supply, price increase until the prices reached at which quantity demands equals to quantity supplied.

Short Run Analysis

In short run the increase in price (in other words increase in wages rate) will force the small firm to exit from market. The exit of a firm will increase the supply of resources. The existing firm will not take any new project due to current shortage of resource. i.e. demand remain constant.

 

 

·        Supply increase from S_x to S_x’

·        Demand remain constant

·        Price increase from P₀ to P₁

·        Output increase from X₀ to X₁

·        At X₁ AR’ > ATC; i.e. firm gets economic profit

Long Run Analysis

In long run due to absence of barrier new firms will enter in the industry and increase the demand of resource. The growth of supply of resources is not too high. In long run the growth of demand will be higher than growth of supply that led to shortage of resource.

 

 

·        Supply increase from S_x’ to S_x’’

·        Demand increase from D_x to D_x’’

·        The increase is demand is more than increase in Supply

·        Considering Price remain constant, the market become instable due to shortage in supply.

 

Effect Of Attrition

 

Decrease in Productivity

 

 The attrition rates in industry increase the cost of service.  An attrition cost can be calculated by adding Cost due to person leaving, Recruitment cost, Training Cost, Lost Productivity Cost, New Hire Cost, Lost Sales Cost.  Considering Cost to company for a service is X and if X’ is the cost of attrition then the total cost to company for service will be X’.  The increment in cost decreases the overall productivity of firm.

 

Let

 

C = Firm’s Budget

W=Wage rate of Labor (considering no attrition)

L = Quantity of labor employed

R= rental rate of Capital

K=Quantity of Capital employed

 

C = W * L + R * K

K = - (W / R) * L + (C / R)

 

 

 

 

Assume: Below shown curve as an Isoquant curve for a firm in Indian BPO Industry.

 

 

• Along an Isoquant curve, output is constant.
• Firm may employ (K_A,L_A) or (K_B,L_B) to product the level of output associated with I.

 

 

 

 

 

 

 

 

 

 

 

 

 

Initial Optimal Mix of inputs will be as below:

 

(K_A , L_A)  identifies the output maximizing combination of K and L given the firm’s budget.

At the point of tangency (at point A):

 

MP_L / W = MP_K /R

 

The attrition rate increases the wage rate of labor. That is W (Wage rate of Labor) changes to W’. Here W’ > W

 

i.e

 

• Labor decreases from L_A to L_B
• Capital Increase from K_A to K_B
• Output level decrease form I₀ to I₁

 

 

 

 

Reason Of Attrition

 

Shortage Of Resource

One of the main reasons for this high attrition rate is the shortage of available resources, as the shortage of resources increases the cost of talented people. In today's Indian marketplace, companies are ready to pay a high cost to obtain talented individuals. This "price war" increases the competition between companies and provides more opportunity for skilled job seekers. India’s BPO industry is likely to face a workforce shortage of 262,000 employees by 2009, as per India’s planning commission. This expectation has not been met, specifically for educated recruits with excellent English speaking skills, even though more than 2.5 million college students graduate each year.

Compensation

The current compensation package for a BPO resource is much less than other IT industry. An IT employee get average rate of $ 14,000 per year whereas a BPO employee get $ 7,500 per year. The statistic shows that only 5% of its own employees look at it, as a preferred employer while none of the respondents would like to join the company. More than 30% of its employees would leave for a 20% hike, while the least number of people (44%) were proud about working for the company. Only 16% of the employees felt they are paid enough for their work, and only 13% believe their compensation package is on par with industry standards. To top it all, only 19% are happy with their salary hikes and 16% with the perks and benefits. Only 16% believed the company lived up to the promises it made in its advertisements, while just 15% felt the job was not stressful.

 Absence of Entry/ Exit Barrier

The startup cost of a BPO firm is low and firms can easily enter and exit the market. The non-existence of a barrier provides opportunity into market for a new firm, which can enter for a short period and increase the demand. These increments in demand create shortage of resource and a vast majority of the 310 start-ups are headed for a dead-end, according to Nasscom. Many of these companies converted their empty basements and warehouses into BPO units. These companies have driven down prices of project and increased the cost of resource to control part of the market share.