Offshore strategy is not just about near-term operating savings. The truth is there are a number of factors at play, and these must be considered when crafting a successful offshoring strategy.

Wage arbitrage

The wage for a specialized web developer in India is a fraction of what it would cost to acquire those same skills in the U.S. The ratio of wage rates between the United States and mainland China for product engineers is about ten to one, while for software engineers in India it’s about twelve to one. Labor is less expensive in developing economies, including in skilled job categories. Yet stopping there is severely limiting.

Lots of skilled people

One of the key advantages of going global is the unprecedented access to people. China and India are the first and second most populous countries in the world, with over a third of the world’s population combined. The skilled labor force in these countries is growing at a clip and, especially in India, there is wide availability of highly-educated and fluent English-speaking workers. Many specialized skills are available in greater numbers elsewhere than in the United States. China today graduates 350,000 engineers a year, compared with 90,000 for the United States.

Access to higher expertise

The dynamics of population and economy makes for some compelling situations, even for local firms. Since also local firms can access higher skills at lower rates, they’re more likely to hire those people, and therefore maintain a higher expertise. The leading Indian IT outsourcing firms operate at the highest level of expertise (5) on the Capability Maturity Model (CMM), while most internal IT departments in the United States operate lower (2 or 3).

Access to distinctive skills

Many of the skills in developing countries are very distinctive. While the United States tends to be more concerned about pushing the envelope in terms of features and product performance, China focuses on improved manufacturability and better integrating existing functionality. China is also developing world-class design expertise in specific technology areas, boasting some of the world’s best designers for semiconductors and consumer electronics such as cell phones. Many of these companies are developing deep expertise in select components, and are continuing to refine their manufacturing processes for cost savings and quality control.

Positive cultural differences

While cultural differences can sometimes hamper operations, they can be positive when harnessed correctly. The social networks and deep personal relationships that play an important role in Asian cultures can bridge more formal boundaries to facilitate effective knowledge sharing and collaboration. This translates into the disparate elements of a manufacturing process working closely together, resulting in increased efficiency. Many of these companies often exchange staff, and have shared past work experience. In another example, the Philippines has become a prime destination for call center outsourcing due to the Filipino culture of hospitality and service.

Accelerated capability building

Offshoring to developing countries allows for approaches to accelerating capability building that are just not economically feasible in developed countries.

Lower manager to staff ratio

More qualified people can be hired and retained, and jobs are in demand that are just not attractive elsewhere. Companies exploit this advantage by maintaining lower manager to staff ratios which, when combined with a higher caliber staff from the start, translates into an unbeatable advantage over developed countries like the United States.

With this heavier ratio of managers, offshore companies often stress a manager’s effectiveness in building capability and enhancing performance. Formal training programs are provided for skill building, as well as coaching and more intimate performance monitoring. In one example, Chinese assembly line managers working closely with their staff helped identify a novel way to reduce the lead time and cost of equipment setup.

Compressed work cycles

The advantage of wage differentials in developing countries allows for more people and therefore shortened work cycles, even while seeing reduced costs relative to developed countries. Projects can go on in parallel, accelerating time to market when this is a critical factor, such as when bringing a product to multiple national markets. Further, the time difference supports a continuous work cycle; in one example, Chinese engineers handled component placement and circuit layout of a motherboard, then forwarded the design to a U.S. team to handle signal integrity checking and simulation while they slept.

More flexible supplier relationships

Offshore locations tend to be more flexible than traditional enterprises such as those found in the United States. While U.S. companies are tightening their supplier relationships, offshore companies remain fluid. This is partly to foster competition, exploit rapidly evolving specialization, and to cope with dynamic and often uncertain business conditions. They seek to minimize their dependence on any one supplier, and as a result are more adept at managing pools of suppliers, which are often organized into process networks with each supplier performing a highly-specialized role.

Specialized ecosystems

As the service industries in relevant offshoring destinations grow, specialized business ecosystems have emerged. Like the high-tech businesses that call Silicon Valley their home or the financial firms of Wall Street, specialized local ecosystems have sprung up in places like Bangalore in India and Taipei in Taiwan. These ecosystems are increasingly closely tied to the relevant ecosystems found in the United States and elsewhere. These local business ecosystems foster even more collaboration and specialized capability building.

The bottom line

Viewing offshoring simply as a form of wage arbitrage severely underestimates its potential value. Rather, offshoring should be seen as a powerful vehicle to accelerate capability building. In fact, offshoring is a key component of a successful and sustainable business strategy.

Paraphrased from The Only Sustainable Edge: Why Business Strategy Depends on Productive Friction and Dynamic Specialization, by John Hagel III and John Seely Brown (Harvard Business School Press).