Why Russia / Outsourcing Industry
Russia is one of the fastest growing destinations for quality offshore outsourcing, 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 start-ups 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 being used 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 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, inventory, customer and human resource management, or to otherwise 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 that allow them to effectively exploit the significant advantages of the country’s well-rounded educational system, and the legacy of the Russia’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, told Software Russia, “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 RUSSOFT, the Russian software outsourcing industry was worth $2 billion in 2012. Export of software development outsourcing services increased by 10 percent to $2.1 billion, which is in the middle of the range of $1.6 billion to $3 billion that various sources had predicted by 2011. Russoft has also seen industry-wide growth of 27 percent.
The growth of IT exports from Russia is expected to continue at a rate of about 15-20 per per year in 2013-2014. The growth of software development outsourcing services export, most likely, will remain at 2012 levels, or 15 to 17 percent.
Average Size and Major Players
Russian companies consistently place at the top of rankings of leading world service providers of software outsourcing services.
The IOAP 2013 Global Outsourcing 100 includes Artezio, Auriga, EPAM Systems, First Line Software, Luxoft, Reksoft, with most of the companies appearing on numerous sub-lists of the ranking as well as the main list.
The IAOP is a group of experts in international outsourcing, among whom are found representatives of General Electric, Sprint, Thomson Reuters, WMS Gaming as well as leading US business schools. They selected the winners based on a number of criteria, such as growth in turnover, staff size, customer references, management capabilities, balanced performance and demonstrated competencies, the companies on the lists are also seen as important industry players internationally in a sector that is increasingly becoming more strategic and used for higher skilled, knowledge-based activities.
Two years ago, only five Russian companies were included in the IAOP ranking, while three years ago only three Russian companies were represented. According to the IAOP committee, the increase in the presence of Russian companies in the ratings confirms that Russian service providers have successfully added an understanding of the market and increased business acumen to the already significant technical abilities of Russian engineers.
In 2013 MERA, a Russian software developer, was also included on one of the IAOP sublists. As a result, sever Russian companies were included on The 2013 Global Outsourcing 100. If Telecontact, which was included on the “rising star” list, is included the total rises to eight.
Many of these companies are incorporated outside of Russia but maintain strong development centers in the country. Artezio develops software for the telecom, aviation, and pharmaceutical industries; Auriga is Russia’s oldest software research and IT outsourcing service provider that has been operating development centers in Russia since 1990; EPAM is known for prototyping, software development and support services; Luxoft focuses on application development, performance engineering, software quality assurance and IT infrastructure management; Reksoft is a leader in the fields of energy, financial, hospitality and IT services; and Allied Testing is involved in intelligent manual testing and GUI-based automation. All of the companied 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 these cities prime nearshore outsourcing locations for Western Europe. According to RUSSOFT, the largest of them is EPAM with around 8700 employees (deployed globally) and annual revenue in excess of over $433.8 million. EPAM is followed by Luxoft, with in excess of 5900 employees worldwide and revenue around $271 million. The remainder of the top ten outsourcing companies by volume all employ between 250 and 1000 workers, with an average of 229 employees.
EPAM Systems was especially active in 2013. It followed the example of Mail.Ru and Yandex in launching a successful initial public offering on the New York Stock Exchange. EPAM Systems’ preparation for the IPO forced the company to increase turnover, which generated an additional $100 million to the service industry’s total exports.
Luxoft is another Russian company that has long been at the top of the ratings of leading Central and Eastern European service companies. During the last few years Luxoft’s annual growth rates have exceeded 20 percent which, alongside its top international ratings, was sufficient for an initial capitalization of up to $555 million — greater even than the capitalization of EPAM Systems’ during its IPO.
By the time of its IPO, Luxoft had already extended the geography of its development resources worldwide with its main development centers in Ukraine (3,000 employees), Russia (1,000 employees divided between Moscow and Omsk) as well as in Bulgaria, Romania, Vietnam, and even in the U.K., for a total of 18 centers worldwide.
Almost all of the largest service companies were founded before 2000 and their number has remained relatively stable since.
Among the new market players that recently joined the ranks of the world leaders in the Global Services and IAOP are the Moscow-based Artezio, which has shown persistently high growth rates over the years and specializes in such vertical market segments as telecommunications and health care; and FirstLineSoftware from St. Petersburg, whose president Nikolay Puntikov has led three companies (Star Software, Exigen Services and FirstLine Software) into the Top 100 of the world’s leading providers of IT services over the past seven years.
It is also worth mentioning Auriga, which has appeared regularly in the global ranking of leading service companies for nearly 10 years. In 2011, the company was recognized as the world’s best engineering company in the field of IT by Data Monitor, having outstripped such giants as IBM, Dell, HP, HCL, Wipro and Siemens.
MERA from Nizhny Novgorod did not find itself on the 2012 IOAP rating for tactical reasons. It is one of the largest Russian service providers that maintains a labor force of about 2,000 employees in its original location. The company is expected to move from the “quickly developing” category to the category of “leaders” in the IOAP ratings.
Reksoft has gained a foothold in the rating of the world’s 100 leading service companies by focusing on the development of large e-government projects and on providing export software development services to customers in the telecom and banking sectors. By joining the TechnoServ Group, Reksoft gained access to Russian projects of a national scale that gives the company a chance to use its experience and financial leverage in Russia to participate in challenging foreign tenders.
A serious candidate for joining the ranks of the world’s leading outsourcing companies is ICL-KME CS from Kazan, which has begun heavily promoting its services on the market and increased staff numbers to 1200 in the past 3 years.
DataArt and Lanit-Tercom are also expected to enter the world’s 100 leading outsourcing companies. Earlier, they were both included in various world rankings and have successfully developed their offerings of software development services for banks and technology-driven developments, respectively.
Attrition rates reflect the degree of personnel losses due to various causes within a specified period of time, and equals the number of employees who left during the year divided by the average number of employees. 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 staff is costly in terms of both training fees and reduced output until new staff members reach full productivity.
A low attrition rate means that administrative costs are also reduced. For Russian IT software outsourcing companies, the average attrition rate is a low 10 percent according to interviews Software Russia conducted with leading 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 interviews 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.
Lower attrition rates are a significant advantage for Russia as a software development destination. India, one of Russia’s major competitors in the outsourcing market, suffers from devastating attrition rates. According to an ASA&Associates report from Aug. 2012, India saw an attrition rate of 23 percent, the highest in the IT industry. That figure is confirmed by research by LiveMint and The Wall Street Journal conducted among entrepreneurs and executives at emerging start-ups who said attrition rates in India are expected to reach 20-25 percent annually, making it difficult for such producers to hire and retain top talent.
The most often sited reasons for the elevated attrition rates are a combination of extensive skills 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, recruitment numbers were up for 2012 with the share of respondents that hired an engineer rising 13 percent on a year earlier. A slight increase from 1.16 to 1.73 percent was also seen in the average number of recruitments for specialized positions.
Increased staff turnover — from 4.5 percent to 6 percent — indicates growth in competition on the labor market and reflects increased headhunting activity. At the same time, this figure remains relatively low in comparison to other countries, which reflects another competitive advantage for Russia. To meet their needs, Russian companies did not entice employees from one another but rather turned to recent university graduates and increased staff numbers at their foreign development centers.
The overall number of personnel at the companies surveyed increased by 4.1 percent in 2012. Due to the recruitment of recent graduates, the number of new hires for 2012 reached pre-crisis levels. That Moscow and St. Petersburg are home to a higher concentration of larger companies that continued to recruit during the crisis provides a possible explanation for the activity gap on the labor market.
Traditionally, the St. Petersburg labor market is the most competitive and has been characterized by the highest staff turnover rate in the country for the past several years. Companies located in the northern capital are among those Russian companies that continue to employ new staff regularly. The city also stands out in terms of the employment of recent university graduates, who comprise 8.4 percent of all staff at the surveyed companies. This is compared to an average of 6 percent for Russia as a whole.
To address staffing needs, at least 15,000 people are due to be trained in a new three-year public-private partnership program that will be implemented by the Russian Ministry of Education and Science. The Ministry has expressed a willingness to finance up to 50 percent of employers’ expenses in the training of new engineers, with $6–11 million due to be allocated annually for this purpose from the federal budget. This program will provide professional development opportunities within Russia as well training abroad. Similar support mechanisms are also being put in place at the regional level.
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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.
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