The recession that succeeded the great ‘Dot Com Bust’ of 2000 may have led the emergence of Outsourced Product Development (OPD) but the present economic downturn has unfolded a new story for the OPD segment in India. With most independent software vendors (ISVs) taking a hard look at their expenses and rethinking the idea of outsourcing their work to third parties, OPD players have been the worst hit in the IT industry.

“Q1 and Q2 had been a lean period for most OPD players with no new business coming in and the existing players moving into a period of hibernation, waiting for the tough times to tide over,” says Amitav Roy, COO, Symphony Services. Though most service providers have taken stringent efforts to cut costs like laying off resources, most have realized the need to take more serious steps to revive the dwindling revenues.

Finding a New Way
It is often said that recession is nothing but a time to look at finding new opportunities. With the business being meager over the past few months, the service providers in India are now taking a stern look at their business and innovating new methodologies in an effort to revive it.

With the growing technical expertise in India, the service providers are now pitching for end-to-end development work from their partners. Companies are handling more core research and development (R&D) projects, unlike a few years back where they were handling more of ‘D’ without any ‘R’. “Having developed enough domain expertise over the years and with highly skilled resources, we are at a position where we can offer complete product lifecycle development for our partners, allowing them to focus only on marketing and sales. This is an idea we have offered a lot of our customers and many are already working on it,” explains Munish Gupta - Vice President, India Operations, GlobalLogic.

For many service providers, startups have proved to be risky customers since many were forced to wrap up their businesses in the wake of recession. Despite this, Compassites Software Solutions believes in continuing to work with startups and young organizations. The Bangalore based firm is primarily engaged with entrepreneurs and enterprises in innovation and intellectual property development. While most players in the OPD realm focus on developing products for other product companies, Compassites targets ideas and believes in walking the entire stretch, translating the idea into a business reality. In a recent engagement with iCharts, a German startup that helps build interactive online charts, Compassites saw tremendous potential in the idea. It not only engaged with iCharts in terms of partnering for technology but also brought the company to the U.S. market where TechCrunch recognized it as one of the 50 best startups last year. “The OPD space is undergoing a massive change. With the service providers today guiding the way right from conceptualization to the end product, ideation is emerging to be the new business model in this space,” says Naveen Lakkur, CEO, Compassites.

Working on the same lines is Persistant Systems, which sports a clientele in Fortune 500 companies. With a majority of its clients revising their budgets, the company has decided to find newer ways to drive revenue. Now, every time it proposes a solution to one of its customers, it gets to keep the upside from the sales. Having started end-to-end product development, Persistent is also allowed to own the IP and use it to provide customized solutions to its other customers as well.

But despite its large clientele, Persistent often finds itself at a tight spot when a customer approaches it with a product idea in a domain that Persistent has no expertise in. To avoid a customer returning empty handed, it has now come up with a different approach.

“There are many promising Indian startup firms that have expertise in different domains, but larger companies either do not know them or are reluctant to approach them. When we are unable to help our customer with a product requirement we introduce them to these startups because we can vouch for both, and provide the long-term support. Also we often get paid for it,” explains Anand Deshpande, CEO, Persistent Systems. For example, if the bigger company has to build a product from scratch, it might cost them about $100. But a small company would do it for $30. Persistent gets $15 for its integration efforts, and the larger company still saves money. “Not only does a startup gain recognition amongst the large players, we also get a chance to reinforce our mutual loyalty with our customers. It is a win-win situation for us anyways,” he adds. Over the past six months, Deshpande has formed more than 25 partnerships between customers. GlobalLogic too has started working this way with startups.

One of the well-known players in OPD, Symphony services has scripted an all-new approach to OPD with its ‘outcome based business model’. “Usually, any company spends 15-20 percent of its revenue on R&D. When it develops a product it is usually for a particular market, and then based on its success the company improvises it for other markets. Till now, ISVs have usually been engaged only to help provide updated versions of the original product. But we at Symphony in the past two years have started engaging with our partners so closely that we work on a product idea right from scratch, i.e. right from gap assessments, observing its value add to the company’s existing portfolio, and more. Then with the best in class talent, tools, technologies, and methodologies we do the complete product development and help bring predictability to cost and project completion schedules, thereby reducing the total R&D cost by 6-7 percent. Once the entire work gets over, we get paid based on our performance,” explains Roy.

Typically, clients pay Symphony a percentage of the contract upfront but withhold a percentage based on the outcome. This usually means delivering the promised product in addition to other results such as improved efficiency, profits, and margins. As an incentive for the vendor to deliver the product on time, on target, and with the promised effect, the partners might share the financial benefits, such as savings or profits, after the project is completed. Like the majority of info-tech companies, Symphony Services emphasizes on innovation, but its outcome-based business model really forces it to deliver the goods. Today, about 20 percent of Symphony's engagements are outcome or output-based with another 40 percent utilizing other performance-based mechanisms like revenue sharing, fixed margin, and service level agreements (SLAs).

But experts at Forrester Research do not see the adoption of outcome-based contracts in the mainstream for a long term. Managing outcome-based deals is far from simple and requires a labyrinthine system of metrics. One of the challenges in software development is that there is no real set of measures that is simple and sensible.

Most companies are not resourced to effectively manage the risk. There is still a demand for partnerships to become strategic, as clients look for more value from outsourcers.

It's hard to track the metrics that matter and so is changing the way the employees think about their work to align with delivering outcomes. But most of all it is hard to change the risk profile that a company is used to when taking on these commitments.

So far the model seems to be working well for Symphony Services. The revenues grew by 39 percent in 2008 to just under $200 million, with about one-fifth of the contracts based on outcome. In the past 18 months, clients have accepted 2,000 ideas ? ranging from improving processes to creating IP ? and have implemented 500 of them, while 33 ideas have been patented.

What is Next?
Most analysts and industry people see a bright future for the OPD market in India. “The amount of work being outsourced today is just about 15-20 percent and that too only in certain domains. I believe that companies that outsource almost 50-60 percent of their work are emerging in the OPD scenario,” says Gupta. According to NASSCOM estimates, the OPD industry in India is expected to grow by 30 percent to reach $8-10 billion by 2010.

According to Roy, the market had seen only 6-7 percent growth last year but he sees it bouncing back to 18-20 percent by the end of this year. “Most OPD players have about 65 percent of clients from the U.S. and 30 percent from Europe. But the recession has forced them to explore newer geographies, especially in Europe,” he says.

There are also newer domains that are waiting to be explored in terms of OPD. Some of the most promising areas that companies are betting on are Telecom (especially mobile based applications), Healthcare, Insurance, and Manufacturing. The last is especially promising because the Indian government has stringent rules for companies in the manufacturing sector. Any company that has its manufacturing hub in India needs to invest back a minimum of 30 percent in the country. This opens up a very good opportunity for OPDs to provide services in terms of developing design and architecture.

But before venturing into new areas, it is mandatory to organize the OPD market in India. With too many players (the already existing and many newly mushrooming ones) the Indian OPD market has become quite chaotic. Also, many ITeS players have begun to foray into the OPD space to cash in on this growing segment. With too many players in the game, the competition has increased and from the customer’s point of view, a big question arises on the quality of service. “The market needs to be consolidated with small players aligning themselves with the large ones, thereby increasing efficiency and quality. Such a model not only helps large players to experiment with new business domains but also helps startups and small firms to survive during an economic crisis,” says Gupta.

With the growing R&D expertise and their newer business models, the worst seems to be over for these players but it is time they looked at the domestic market instead of wandering about in other geographies for new businesses. Most MNCs, like IBM, have already ventured into the Indian market and even large ITeS players like TCS, Wipro, and Infosys have taken notice (though belatedly) and signed multi-million dollar deals. For the OPD players, this is a much greater opportunity to set up R&D centers to develop IP based products for India from India. Increased presence in domestic market is also a shield in turbulent times like the recent economic slowdown that had a maximum impact in the U.S. and Europe.