Why Russia / Outsourcing Industry
Russia is one of the fastest growing destinations for quality offshore outsourcing, and with a business environment that has matured to the point where it has come to be considered a credible location for software services and IT outsourcing. Russia is seen as a good place to solve complex technical problems because of its highly skilled talent pool. Relatively low labor costs compared to the US or Western Europe also make it attractive to smaller companies and startups seeking value for money. In addition to recognized excellence, Russia also provides a good nearshore location for Europe that can be reached by direct flights from most of the continent, with relatively small time differences compared to India and China.
As with the overall software industry in general, determining the volume of revenue generated by outsourcing providers poses significant obstacles. Many software outsourcing companies are privately held and have no obligation to disclose their financials. As a result the only available figures come from the companies’ own reports, which are also used by the majority of market analysts. The RUSSOFT survey is the main source of information about the Russian outsourcing industry and is quoted here, as well as by most major independent analysts.
Most Russian outsourcing focuses on niche development of tailor-made software and co-development of products with ISVs. These types of projects are custom designed to address a client’s specific needs and can accommodate that customer’s particular preferences and expectations. Companies commonly use IT outsourcing providers to develop custom software for critical functions, including content management, inventory management, customer management, human resource management, or otherwise to fill needs that existing software packages cannot.
Such solutions address a specific function within an organization and require the participation of marketing, engineering, research and development, and general management. Because of this, Russian outsourcers are particularly well-suited to such collaborative projects which allow them to effectively exploit the significant advantages of the country’s well-rounded educational system, and the legacy of the country’s scientific research experience during the Soviet period.
Compared to India, for example, Russian programmers are seen as better able to develop innovative and complex software projects because of their willingness to think outside the box. Whereas India often focuses on repetitive coding tasks, Russia is able to deploy the creativity, flexibility, and an ability to move forward with projects without having all the details specified in advance. Daniel Marovitz, Deutsche Bank’s COO of technology for global banking, has been quoted as saying, “Most Indian firms are very process-focused and, if something can be ‘template-ized’, then that’s very good. Things like Six Sigma and ISO are part of their DNA, but that doesn’t lend itself to innovation. For innovation, testing new ground with new software, Russia is a good place.”
According to the International Data Corporation (IDC), RUSSOFT and government statistics, the Russian outsourcing software development industry is currently valued at $1.2–1.4 billion. Analysts have consistently predicted a sustained increased volume for the industry. The numbers varied from $1.6 billion to $3 billion by the year 2011 but, considering the continued effect of the global economic downturn, the current rate will remain at the lower end of this range.
Comprehensive figures for 2010 are just beginning to be published, but the most recent RUSSOFT survey shows that Russian IT outsourcing service providers engaged in export earn nearly two-thirds of their income through the development of custom-designed software, which was valued at about $1 billion for 2009. The remaining one-third of the market is divided between infrastructure outsourcing, the development and deployment of software solutions, and the development of software products. A white paper from ECCS 2010 indicates a similar figure. IT service outsourcing (infrastructure support), software solutions and deployment, and box/licensed software products account for the remaining 25% of the market, which is estimated to be in the region $180 million for the same year.
Average Size and Major Players
Russian companies consistently place in the rankings of top leading world service providers of software outsourcing services. The IOAP 2012 Global Outsourcing 100 includes Artezio, Auriga, EPAM Systems, Exigen Services, First Line Software, Luxoft, MERA and Reksoft, with most of the companies appearing on numerouss sub-lists of the ranking as well as the main list. Judged on strong customer references, management capabilities, balanced performance and demonstrated competencies, the companies on the lists are also seen as important industry players internationally in an sector that is increasingly becoming more strategic and used for higher skilled knowledge-based activities. A shortlist in the same report, for example, names Artezio, Auriga, First Line and Reksoft as Rising Stars in Western Europe with Artezio and Auriga also appearing at the top of the list of Rising Stars in the US.
Many of these companies are incorporated outside of Russia but maintain strong development centers in the country. Artezio, which develops software for the telecom, aviation, and pharmaceutical industries; Auriga, Russia’s oldest software research and IT outsourcing service provider that has been operating development centers in Russia since 1990; EPAM, known for prototyping, software development and support services; Luxoft, known for application software development, performance engineering, software quality assurance, and IT infrastructure management; Reksoft, a leader in the fields of energy, financial, hospitality and IT services; and Allied Testing, which is involved in intelligent manual testing and GUI-based automation all depend on native Russian talent .
Most of the top ten Russian outsourcing companies by size and revenue are located in Moscow and St. Petersburg, making them prime nearshore outsourcing locations for Western Europe. According to RUSSOFT, the largest of them is EPAM with 6000+ employees (deployed globally) and annual revenue in excess of over $220 million. EPAM is followed by Luxoft, with 4800+ employees worldwide and revenue around $204 million. The remainder of the top ten outsourcing companies by volume all employ between 250 and 1000 workers.
According to IDC findings in their Competitive Profiles and Analysis of Leading IT Services Players in Russia 2011, IBS, CROC, Technoserv, LANIT and EPAM Systems remained the top five suppliers on the Russian managed outsourcing services market in 2010 (though not all are primarily engaged in software development), with a combined share of 25 percent of total market volume, which is slightly down from 2009.
As in IDC’s 2010 report, HP was the only foreign company to list among the top ten suppliers of IT services. Despite the fact that Russian IT service providers maintain a leading position on the domestic market, they are still dwarfed by foreign companies in terms of size. Until now, foreign companies have not made an effort to dominate the IT services market in Russia, but the authors of the IDC report speculate that with the development of new forms of delivery, that may all change. For the time being, the lack of serious competition from foreign players favors domestic suppliers.
An attrition rate reflect the degree of losses of personnel due to various causes within a specified period of time, and equals the number of employees who left in the year divided by the average number of employees during the year.
Attrition rates are important because they reflect the overall health of the industry with lower numbers being a sign of strength. A low attrition rate translates into significant cost savings for a client because the training of new hires to replace outgoing members of staff is costly in terms of both training fees and reduced output until new staff members reach full productivity. A low attrition rate also means that administrative costs are reduced.
For Russian IT software outsourcing companies, the average attrition rate is a low ten percent according to interviews conducted this year with leading Russian software development companies in Moscow and St. Petersburg. But an accurate, overall estimate is difficult to arrive at, since different companies measure attrition in different ways. Our expert interviews with company heads showed that in some organizations, people who leave within the first three months of employment are not considered to be attrition losses. In some cases, that period may extend for over a year. In addition, some companies include things like maternity leave, while others do not.
Compared to Russia, India suffers from devastating attrition rates. According to the Times of India, the attrition rate for IT project managers is a catastrophic forty percent. Indian infrastructure sectors have registered an attrition rate ranging between 45 to 50 percent according to The Outsourcing Blog. The most often sited reasons for the elevated attrition rates are a combination of extensive skill development combined with a rigidity within the workplace that does not allow employees to easily move between teams, limiting prospects for career advancement within the company hierarchy, and causing them to look elsewhere for new opportunities. In addition, a lack of adequate project management professionals results in lowered morale and motivation among team members. Russian outsourcing providers, by contrast, avoid many of these issues with strong project management skills and flexibility when it comes to retaining top talent.
According to RUSSOFT, in 2009 some exporters reduced the number of new hires compared to 2008, with 23 percent of small- to medium-sized Russian outsourcing companies declining to recruit new staff within the year. The number of companies that did not recruit any new staff increased not only as a result of the ongoing effects of the global economic downturn, but also due to the rising costs of software development in Russia caused by the elimination of many payroll tax exemptions that the sector had benefited from.
In 2009, more than fifty percent of companies dismissed at least one employee. However, this was usually related to personnel rotation rather than to any mass layoffs. Only five percent of RUSSOFT respondents reported significant (more than 30 percent) staff reductions. In addition to staff reduction, 5–10 percent of smaller offshore outsourcing providers ceased operations. As of a year ago, companies that derive most of their revenue from exports remained the most active on the labor market. Only 12 percent of such companies failed to recruit new staff in 2009. The figure for outsourcing services companies focused on the Russian market was 27 percent in 2009, and 10 percent in 2008.
The activities of companies on the labor market are directly related to their size, with larger companies reaping the benefits of economies of scale by growing faster and reducing costs. IT Outsourcing service providers outside of Moscow (representing 23 percent of the industry) and St. Petersburg (representing 19 percent of the industry) did without new hires more frequently. 31 percent of companies located in Siberia did not recruit any new staff, while in other cities this amount was 24 percent. That Moscow and St. Petersburg are home to a higher concentration of larger companies that continued to recruit during the crisis can provide a possible explanation for the activity gap on the labor market.
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A comprehensive picture of the Russian outsourcing business environment remains elusive, as the necessary, reliable information is difficult to find. That the industry has grown so much in such a short amount of time explains this lag in information, but also points to a robust industry that is maturing rapidly and offering obvious competitive advantages to many American and European businesses.
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Russia’s “Sourcing Roadblock”
With the growing shortage of quality software developers in India, a significant pickup in outsourcing to Russia should be in evidence. Yet despite Russian software developers being known for the high quality of their output, the numerous programming competitions that have been won by Russian teams and individuals, and the various white papers that have been written by Russian authors, this explosion of growth is nowhere to be found. As a result, I do not believe that the roadblock to this growth is a lack of information about Russia and its talent. Nor is it the immaturity of Russian service providers. And it is most definitely not due to an anti-Russian attitude among US businesses. This roadblock is much more trivial, and can be traced to the standard sourcing process employed by US-based enterprise.
Some of the most important goals of a sourcing organization are a consistency in internal nomenclatures and transparency in spending. A typical sourcing organization strives to achieve consistent job roles with well-defined job descriptions and prices, documented in pre-negotiated rate cards. In other words, the same resource (for example a Senior Java Developer) must be understood the same way by all the service providers and have the same (or similar) price across all the service providers.
Indian companies, who source their talent largely from the same pool, are usually happy to comply. But this is where Russian outsourcing service providers immediately run into trouble. The problem for Russia is that a Senior Java Developer from a Russian service provider is actually different. We have heard from many clients that Russian resources tend to have a higher degree of architecture knowledge, hence are capable of challenging suboptimal designs and producing higher quality code, etc. This creates an obvious misalignment, where a Russian company’s price for “the same” resource ends up being significantly higher.
In our research and consulting work we have seen various Russian service providers adopt the unproductive strategy of trying to prove to their clients that their costs are higher, in order to justify a higher rate. The obvious response that they predictably receive from the clients is: “if your costs are higher, you should reduce them.” Instead, the key to justifying higher prices is to demonstrate the quality and productivity differential of Russian software developers.
A portfolio approach and the clear definition of skills is a good starting point. For example, if a Russian Senior Java Developer shows good architecture skills, why not calling him a Junior Architect? While this might sound like simple relabeling, it is actually a great way to comply with the goals and nomenclatures of enterprise sourcing departments. To enable this analysis, Everest developed a methodology called Skill Portfolio Rationalization that many of our clients have successfully adopted. The key result of applying this methodology is the transparency of skills and capabilities across various global resources. This transparency can remove the “sourcing roadblock” facing Russian service providers and ensure fair competition for them in a global marketplace.
Vice President of Research
Ross Tisnovsky, Vice President, ITO Research, has specialized in developing and implementing IT-enabled business performance improvement at Fortune 500 companies for more than a decade. As head of the Institute’s ITO research, he leads a team of analysts in developing leading-edge thinking on market trends in the outsourcing industry and best practices in IT outsourcing. His strength in research stems from in-depth understanding of technology from the point of view of key market constituents, i.e., business users of IT services and technology providers, along with knowledge of fundamentals of high tech products, various technologies, and industry trends.
Ross’ previous positions include Project Executive, Enterprise Transformation, IBM; Engagement Manager, McKinsey & Company; and Sales Representative, IBM Ukraine and IBM Africa. Ross holds an MBA, Operations and Information Technology from The Wharton School, University of Pennsylvania and a MS/BS, Engineering from the National Technical University, Kiev, Ukraine.