ANN ARBOR – Companies can save thousands of dollars by outsourcing the development of custom-software projects to low-cost, offshore locations such as India and China, but those savings can quickly be eaten up when the contractual regime is changed, contends a new study by the University of Michigan Business School and the University of Pennsylvania’s Wharton School.
The study estimates the average annual decline in quality-adjusted price for software projects developed offshore is about 14 percent, or $56,000 per project. . However, there are tradeoffs between the low prices customers enjoy and the potential for increased dissatisfaction due to greater uncertainties associated with distributed development.
A lot of these cost savings are a function of learning in a contractual regime, said Sendil Ethiraj, assistant professor of corporate strategy at the U-M Business School, and a co author of the study. When regimes change, costs savings are surrendered. If you change the contractual regime, your expectations of the same results may not materialize.
The study was done with one of the leading software companies in India, Ethiraj said. So it would be harder to generalize what results you might get working with smaller firms in India and China, he said.
The study examined 160 projects executed by this large India-based custom-software vendor for 73 different clients between 1999 and 2002. The study found as the potential for further cost savings declines over time, reducing other sources of client dissatisfaction becomes more salient. In addition to estimating the cost savings accruing to U.S.-based clients, their study explored potential sources of customer dissatisfaction and how offshore vendors might address them.
For example, more experienced development team members command higher wages and raise project-execution costs, so vendors have an incentive to staff projects with less-experienced members who are paid lower wages. Although this helps to reduce costs, it also may increase quality problems and, consequently, customer dissatisfaction, the researchers say.
“The problems of contracting in custom software are compounded when the development moves offshore,” Krishnan said. “While offshore locations such as India are a fertile source of low-cost labor, the cheaper labor available locally can also create incentives for the vendor to staff the project with less-qualified employees, which potentially can increase defects and schedule spillovers and may lead to significant opportunity costs for customers.
“Hence, some of the offshore locations such as India can also be a source of high variance in quality as local firms compete to bid the lowest price for overseas projects. Therefore, as global companies attempt to benefit from access to offshore resources, it is important to assess the process capabilities and the quality of training infrastructure of their offshore partners,” said M.S. Krishnan, U-M associate professor of business information technology, another study co author.
