The Illusion of Price Competitiveness

For obvious reasons, cost reduction has been the most common driver of offshore outsourcing. What is interesting to note, consequently, is how the industry still struggles to come up with a simple Total Cost of Outsourcing (TCO) model.  Typically, comparisons between outsourcing options have been predominantly based on hourly rates.  When the only option for offshoring was India, and if a company had already made the decision to outsource, it made some degree of sense to be satisfied with this hourly-rate comparison.  But now, when you have a variety of models and locations, each yielding different levels of productivity and delivering different degrees of value, the  hourly-rate comparison is a very poor measure for calculating cost savings.

I’d like to offer up a different, very simple measure, which has proven to be a little bit better than the dry, ineffective hourly-rate.  The measure I’m referring to is the blended rate.  When you develop a project in a farshore engagement, you normally need a larger onsite team for coordination and communication purposes.  In many cases, the onsite to offshore ratio can be as high as 30 percent, or even higher.

When you develop a project in a farshore engagement, you normally need a larger onsite team for coordination and communication purposes.

With the proximity of nearshore, however, you can reduce that figure to less than 10 percent.  For example, let’s use a figure of 8 percent, which is common in these scenarios.  Now, let’s say that the farshore rate is $30, while the nearshore rate is 40 percent more (yes, forty percent, just for the sake of this exercise), which equals $42.  And, just for argument’s sake, let’s say that the onsite rate is $80.  If you do the math, with these numbers you will get to a blended rate exactly equal for the farshore and nearshore option.  Notice that the nearshore rate in this case was 40 percent more, and yet the blended rate is the same!

Now I ask, how can people ignore this and still compare hourly rates, clearly the simplest and most ineffective way?!  The solution is so simple: just add the onsite:offshore ratio to the equation in order to get a more fair comparison.  After that, take into consideration the productivity gains that come from direct communication between the client and the development team, and your TCO model will look much, much more attractive.