By Robert L. Scheier
Among the good news in Everest Group’s most recent quarterly Market Vista Report was the rapid growth in captive delivery centers – those serving only the parent company rather than multiple customers. The analyst firm recorded 61 new captive announcements in the first quarter of 2011, with no divestitures.
While most of these new captives are in Asia, Eastern Europe and Africa, David Rutchik from outsourcing advisory firm Pace Harmon says the time zone and language advantages of Latin America will make it a major source of captive activity. He outlined his forecast recently for Luke Bujarski from our sister site Nearshore Americas.
Everest Group recently declared that “captives are not dead, but evolving”. Do you agree?
David Rutchik: Yes, captives are definitely evolving, but this isn’t a one size fits all choice. Many people have underestimated the cost and difficulty in building an internal captive center and managing it. When it’s not conducive to managing peaks and valleys of a business cycle, captives don’t make as much sense, but the model is appropriate in many cases depending on the situation.
What about in Latin America? Will it be the Softteks, Stefaninis, and Genpacts in Mexico, Argentina, and Brazil, or shared service centers in Panama and Costa Rica?
David Rutchik: Both outsourced engagements and shared services centers are going to happen, but there will be more shared services centers in Latin America—particularly in Panama or Costa Rica— because of benefits such as time zone efficiencies, close proximity to the U.S., language capabilities and others. As such, it makes more sense for captives to handle those regions. Latin America will have a higher ratio of captives to outsourcing engagements versus other geographies such as India.
Are there any particular verticals that favor the captive model over third-party?
David Rutchik: It isn’t so much about verticals, but more about the type of business that is being handled in a captive model or through outsourcing. If the type of work is differentiating or competitive, e.g., product development, then it may make more sense to go the captive route in order to have more control over the environment and to remove incremental risk of a third-party partner working with a competitor or having that provider use the produced work for their own benefit. High-tech companies often fall into this category.
How about in Latin America? What would you say is the overall state of health of LatAm’s captives? Have they been managed well?
David Rutchik: There are shared services centers that have been created and run well across multiple companies in places like Panama and Costa Rica, where there is a lower cost of living, high literacy levels, time zone benefits, etc. The reason outsourcing doesn’t always make sense in these regions is that they often have efficient shared services centers.
For multinationals, are captives in Latin America purely a cost arbitrage play, or are they using them to service the domestic market as well?
David Rutchik: Yes, captives are primarily beneficial for cost arbitrage, but as the need becomes greater to service the areas in which they operate, is can absolutely be beneficial for local markets as well. As a caveat, it doesn’t always make sense to serve a particular Latin American market within which you operate, unless it aligns with a strategy pointing to specific, tangible benefits. While Latin America is a big market, it is not monolithic, so serving the local market in each country must be thoroughly evaluated on an individual basis.
The ability to ramp up and down resources is one value component to a captive center. Can you talk a little about labor law differences in Latin American countries compared to India? In which markets is it easier to be agile?
David Rutchik: The opposite premise is actually true – the ability to scale resources is a benefit of working with a third-party outsourcer. Many of these countries have local employment laws and restrictions that should be acknowledged before hiring. For example, there is often a 90-day probationary period, after which employees are heavily unionized and more difficult to terminate without incurring significant costs. There are also policies such as for every year employed, the employee receives one month of severance pay. These types of labor laws may cause companies to shy away from a captive arrangement.
Everyone knows that cartel-related violence has created negative perceptions of Mexico. Do you think Mexico’s drug war has also swayed US companies’ decisions to either go captive or third-party?
David Rutchik: In general, the violence in Mexico is making companies more open to third-party engagements. Some companies think the violence is a major issue whereas others think it is overblown regarding business impact. However, if the violence continues and/or escalates, some companies may not want to invest in facilities and an on-the-ground presence if they don’t already have it. As such, establishing a presence through an outsourcing arrangement may be more attractive to these companies.