SERVE FROM INDIASETTING UP AN OFFSHORE IT DELIVERY CENTER IN INDIA

Business Sweden 2015

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SETTING UP AN OFF-SHORE IT DELIVERY CENTER IN INDIAIndia remains a favoured destination for delivery of IT services, spanning from infrastructure to application development and UX design. No other market can offer an IT engineer talent pool like India. Today the services ecosystem is vast and quite mature. However, the path to setting up a first captive delivery center has bends and roadblocks. Learning from those that have done it before makes the process less cumbersome.

Size of IT-BPO market, 2013in USD billion

76

India

34

China

13

Philippines

Ranking, AT Kearney Global Services Index

Country Ranking Change since 2011

India 1 0

China 2 0

Philippines 7 +2

Vietnam 12 -4

Sri Lanka 16 +5

Independent assessments tend to put India high on the scale of attractiveness for companies to invest in IT delivery centers, and India has retained its lead over China in the total export value of services. Several Swedish companies have established IT backoffice operations of varying scales. Examples include large-scale companies like Volvo IT, Ericsson, and Trelleborg. Less known are the smaller setups such as Ipeer (now part of Cygate), Gislén Software, and Indpro. In our opinion, the market has matured over the

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last 10 years, and it is today easier to establish in India also for a smaller company. However, there are plenty of pitfalls that can derail the plans.

Assuming the head office has done the homework and concluded that India is the right place for your offshore delivery center, the key steps to setting up the operations can be summarized as:1. Decide the location in India2. Decide on your governance model3. Identify your office4. Set up a legal entity5. Appoint or recruit a Managing Director of

the local entity6. Recruit the delivery team7. Set up a way to handle the legal and financial

administration8. Integrate the offshore team with the onshore

units

Below, we will describe how to best go through each of the steps above.

Decide the location in IndiaMany would immediately think of Bangalore in conjunction with IT services in India, and that’s not without reason. Bangalore remains a power-house in India in the IT sector with more than 1,300 ICT companies and a local workforce of over 250,000 engineers1. It should be on the shortlist for most companies when looking at their first setup in India. However, as it has become harder to find space and costs have gone up, large anchor companies like IBM, Google, and Facebook, have increasingly looked at alternative cities. Chennai, Pune, and Hyderabad today have sizable IT cam-puses and a varied and competent talent supply. Call center and low-end processing services, used to a large extent by financial services firms, are expanding in lesser-known cities such as Surat, Lucknow and Bhubaneshwar. The challenge in these lesser-known locations is talent supply and to a certain extent knowledge of English.

Rent will be a considerable expense for the delivery center, especially before reaching full utilization of seats. These can vary significantly between locations. In In Bangalore, one can expect to pay 80–90 SEK/m2 in a central loca-tion, in Mumbai easily the double of that2. Less known locations can be 30–50% cheaper, which

1 Source: ”Cities are good for you”. Leo Hollis, 2014.2 Source: Cushman & Wakefield

is also true if setting up in the outskirts of a large city like Bangalore or Chennai.

Companies should carefully think through what dimensions are important for them in choosing a location. Common parameters evaluated include ▸ Talent supply & demand. This includes both

the availability of fresh graduates but equally important the availability senior leaders that can take on scaling up locally and securing quality interaction with the onshore unit.

▸ Rental costs ▸ Salary levels ▸ Access to international airports ▸ Stability of infrastructure – roads, power,

internet ▸ Security situation (law & order) ▸ Peer companies, which indicates a stronger

local “ecosystem”, including suppliers and experienced employees

▸ Quality of life (for Indian as well as expat employees)

▸ State Policy Regime : Stability, incentives, friendliness, Labor Policy, IT policy

While the exact method for doing the evaluation may vary between companies, it is important that it contains both independent data as well as own information gathered on the ground. India is different from all other countries, and it’s close to impossible to understand the opportunities and challenges without having visited in-person.

Identify your officeOnce you have decided a location (a city or, better, a part of a city), it’s important to understand what kind of office buildings are available in the location chosen. Standards can be considerably lower than in onshore locations, but still be con-sidered premium in India. There is a Catch-22 in the relationship between setting up a legal entity and signing a rental agreement, as the former requires the latter. Usually landlords are willing to give a lease agreement to an international entity, while the Indian entity is being registered. It is crucial to ensure that the landlord allows incorporating on the address of the office.

In some cities, there are Special Economic Zones for IT export activities. These can provide certain benefits in terms of time-limited exemption from taxes. Though, due to the nature of the benefits, these are in most cases only favourable when setting up a larger office (500+ seats). Still, these SEZ’s can be worth considering as they are

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typically well prepared for IT activities, including high-capacity gensets for 24/7 electricity supply and industrial-grade internet connections.We have seen several examples of underestimat-ing the planning and execution effort involved in the infrastructure setup. International deliveries take time to arrive and clear from customs, and purchasing processes in India can be lengthy, and based on cash transactions. Some contingency in the setup time plan is therefore advisable.

Decide on your governance modelHaving a delivery or support team in India is only useful if they actually have value-adding work to do. Unfortunately, we have seen examples of offshore entities were set up without a clear mechanism to allocate work to it. This tends to work out still in a growth phase of the company, where the lack of resources onshore automatically pushes work offshore. However, the fortune of companies may turn quickly. In the absence of a clear mechanism for allocating work to the offshore location, onshore managers may refrain from giving work to the offshore team, pushing down the utilization in the offshore team while increasing the blended cost of delivery. Some companies have clients that expect to see an onshore-offshore mix when bidding for work. In the absence of such clients, the company must itself secure that the right onshore-offshore mix is maintained for the benefit of optimized cost of delivery.

Connected to this, companies tend to underes-timate the commitment required from different departments, such as finance, legal, HR, and IT. If the Swedish company has prior experience in setting up foreign offices, this risk is lower. How-ever, if this is the first attempt, the company should form a “task force” with senior representatives from at least all the functions mentioned, in order to make sure the timeline for setup doesn’t slip.

Set up a legal entityA legal entity is necessary to operate in India. Without one, there’s no (legal) way of employing staff or making financial transactions. The most common form is a Private Limited Company, roughtly the equivalent of a Swedish “Aktiebolag”. However, for certain activities, a branch office might also work out and has some advantages in form of limited administration required.

Certain preconditions are important when starting a Private Limited. The top-3 for early consideration are: ▸ Minimum two shareholders in the company

(these can be legal entities and can be inter-nally related (e.g. one being the subsidiary of another))

▸ Minimum of two directors in the board, whereof at least one is a resident in India.

▸ Minimum paid-up capital is as low as INR 100,000 (approximately SEK 14,000). However, as fixed assets typically have to be funded with equity, most companies bring in consireably more capital than the minimum limit.

Even though the legal and statutory regulations have been greatly reduced in India in recent years, it’s still more cumbersome and lengthy than in a typical western country. As the process typically takes at least 4–6 months, this often becomes a bottleneck for the subsidiary setup unless that’s properly planned for.

Appoint or recruit a Managing DirectorThe most important person in the early days of the delivery centre is the Managing Director (or equivalent). There are two basic options for this, expatriating an existing employee or hire a local person with experience in the business. We have seen both can work, although each has their own obvious challenges. With the required introduced in 2014 of having a resident3 in the board of directors for the local entity (if setting up as a Private Limited), the option of hiring a local person as Managing Director has become increasingly attractive and common among Swedish companies.

Recruiting in India can be a daunting experience when one does it for the first time. The talent base in the IT sector is certainly there, but finding the right candidate that also fits the corporate culture is another issue. Expect to sift through a lot of CV’s and interview 2–3 times as many candidates as you would normally do. We do see that compa-nies often underestimate the dynamics involved in the hiring process and take a long time to hire the core team.

3 To be classified as a “resident” of India in any given year, one has to spend 182 days in India during the preceding fiscal year

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In either case (expat or local), our experience is that some attributes are critical to become a well-functioning manager of a captive offshore entity

▸ Experience from working in international companies, preferably European ones, to minimize the cultural challenges between Sweden and India

▸ A well-rounded understanding of how business and practical things work, given that he/she will initially have to manage everything from legal to contracting of cleaning services

▸ Strong personal and professional network in the sector in the region to facilitate recruiting in the senior layers

▸ Experience in the core technologies of the operation

Recruit the delivery teamThe first task of the country manager should be to recruit his “top team” – i.e. the next level of people under him that will largely drive the day-to-day operations and the core support functions.If the country manager is an expat, the first person to recruit should be a local HR director. This for the sole purpose of the complexities involved in the HR policies in development centres of India. Trying to impose the “global standards” exactly from day one rarely succeeds, as the cultural mismatches will in most cases be enormous.

One should keep in mind that the personnel turnover in the IT sector in India is pretty high. Even companies with strong brand names expe-rience 20% unmanaged attrition. In order not to be too dependent on a few people, it is wise to take on a few more than what is in the immediate requirements plan, and keep a few juniors on growth positions to effectively manage succession

Whatever holds true for the process of recruiting of country managers in also true for recruiting the senior delivery team. Hence, expect a lot of time to be consumed by recruiting in the early days of the entity. That said, the notice periods in India are often short, 1–3 months, making it possible to get a team in place with short lead times

Set up a way to handle the legal and financial administrationThe Indian legal system is originally inherited

from the times as a British colony and has evolved in a sprawling fashion since (and it is still evolving). The bureaucracy is also sometimes experienced as less than helpful towards corporates. Hence, it is important to have a firm understanding on the applicable legal space, and also know whom to turn to when doubts or problems arise.

There will be a lot of operational things to get right for the country manager and his senior team in the beginning. Therefore, many compa-nies choose to outsource book keeping, statutory compliances, and other non-core matters in the startup phase. Once the operation is stable, and the management team has time to focus on func-tional matters, these activities can be insourced to lower external costs and increase control.

The indirect tax system is often lamented by Swedish subsidiaries in India. As a service company, the worst aspects of the tax systems are not applicable, since they mainly deal with transaction of physical goods. However, transfer pricing is a dear topic for service companies, not least in the IT sector. A Transfer Pricing Study is mandatory to undertake during the first year of operation, and is worth giving due attention to from the mother company.

Finally, it is difficult to fully identify and forecast all the different cost components for setting up and running a development centre in India as a foreigner. This often results in inaccurate budget projections for the Indian subsidiary. The estab-lishment budget should recognize this challenge, and provide a contingency budget for unforeseen expenses.

Integrate the offshore team with the onshore unitsMaking the onshore/offshore collaboration work is the final critical step in the setup process that should not be overlooked. Without a good working relation between the units, the work environment deteriorates and customers may suffer from poor handovers and communications

Onshore employees will naturally be worried over their job security once the decision becomes known. It is therefore critical that management has a well-prepared, honest, and credible “change story” prepared (preferably well in advance, if information would start leaking).

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It is inherently easier to manage the sentiment in the onshore workforce if the company is in a growth phase and is already having a hard time recruiting onshore. In those situations, onshore employees might even welcome the offloading opportunities that come with an offshore delivery centre.

Often, the change is triggered by a longer-term need to stay cost-competitive, where the addition of offshore resources serves to achieve a lower blended cost of the delivery to customers. In those situations, addition of an offshore centre is rather a way to safeguard existing jobs onshore, rather than substituting onshore resources with offshore ones.

In general, companies should be careful in offshoring too fast. Even large-scale forerunners in the field have recently scaled up on-shore resources close to the end customers simply because in times of trouble and complexity, noth-ing beats a personal contact in the local language and the same time zone.

Once the offshore team is in place, it is important to make them an integrated and valued part of the organization. Although they will often provide services on the lower end of the value-scale, the team needs to feel that they are contributing to the greater good of the company. There are also often cultural challenges in the early phases of the onshore-offshore setup. The local business culture can only be changed to a certain extent, and a lot of the friction can be overcome through enabling people to understand each other’s ways of working and personal/professional priorities. Formal training programs can be of help in these situations, preferably deployed proactively and not as a reaction when the collaborative environment has already deteriorated.

How Business Sweden can helpWe established our first office in India in 1996, in the capital New Delhi. In 2007, we opened up our second office in Bangalore, the IT hub of India. Over the years we have supported Swedish companies in setting up delivery centers of vari-ous forms and sizes. Some of these today employ thousands of people, other remain at around 20 seats and doing well. Others have been shut down, partly due to failure to consider some of the critical points above.

Concretely, we can support Swedish companies in ▸ Analyzing and evaluating alternative locations

(in India, or across Asia) ▸ Planning the setup and ramp-up ▸ Finding a suitable office ▸ Recruiting the local leadership ▸ Establishing a legal entity ▸ Scale-up services, e.g. incubation office space,

temporary employment solutions, and finan-cial administration

▸ Cultural training programs – teaching Indians about Swedes and vice versa

ConclusionTo conclude, a delivery center in India does present an attractive opportunity for Swedish companies to gain access to talent, support a steep growth plan, and keep the blended cost of delivery in check. The effort of establishing the operation and the surrounding structures should not underestimated, and we’ve tried to outline the common pitfalls based on our experience working with Swedish companies in these kinds of projects. Still, it is a fully feasible initiative also for small- and medium-sized companies, as is best proven by the dozens of these subsidiaries of Swedish companies that have already set it up. We are at the service of Swedish companies that would like to explore further or execute on this opportunity.

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About the authors

Gustav Wennerblom is the Manager of Business Sweden in Bangalore gustav.wennerblom@business-sweden.se

Amrit Hinduja is a Project Manager in the Bangalore office amrit.hinduja@business-sweden.se

Vineet Garg is an Investment Adviser specialized on Information and Communication Technologies in the Delhi office vineet.garg@business-sweden.se

BUSINESS SWEDEN Box 240, SE-101 24 Stockholm, Sweden World Trade Center, Klarabergsviadukten 70 T +46 8 588 660 00 F +46 8 588 661 90 info@business-sweden.se www.business-sweden.se

SWEDISH TRADE COUNCIL, BANGALORE Kheny Chambers, 4/2, Cunningham Road Bangalore – 560 052 T +91 80 4152 9100 F +91 80 4152 9110 www.swedishtrade.se bangalore@swedishtrade.se

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Business Sweden has 55 offices in 49 countries and constantly works to make Swedish companies successful on international markets. We established in India in 1996. Today we are 25 consultants covering India from our offices in Delhi and Banga-lore. Feel free to contact us for any questions on doing business in India (details below), or visit our web page on www.business-sweden.se/Export/Marknader/ Asien-och-Mellanostern/Indien/