Nearshore IT Outsourcing – Simply explained in 5 minutes
Are you currently considering whether IT outsourcing is right for your company? And are you faced with the question of which regions to outsource to, whether nearshoring is an option?
Then you will find everything important you need to know about nearshoring in this blog. We explain which basic considerations stand at the beginning.
IT specialists wanted
There are usually two main reasons why companies deal with the topic of outsourcing and come across the concept of nearshoring:
- Companies are looking for IT specialists in their region. However, without success: The positions cannot be filled despite intensive recruiting. There is a shortage of skilled workers.
- IT specialists can be found locally. However, the salaries are not affordable for companies, i.e. the IT specialists are too expensive.
Whether it’s the shortage of skilled workers or high salaries that are putting companies under pressure, the result is the same. To remain competitive and continue to run your business successfully, you start looking for alternatives.
This is often the beginning of thinking about outsourcing. Services are no longer provided within the company itself but are outsourced. To other providers, to other locations, to other countries.
Onshoring, nearshoring, offshoring – What’s the difference?
The topic of outsourcing is quite comprehensive, and there are some basic relationships that decision-makers need to be aware of. An important distinction is made by the terms onshoring, nearshoring, and offshoring.
Onshore is when the work is done in the same country where the company is located. For a German company, this would be another branch office in Germany or a cooperation with a service provider based in Germany.
If the distance between the outsourcing country and Germany is more than 3 hours by plane, we are talking about offshoring. We are talking about countries such as India, the Far East, South America, etc.
We speak of nearshore when 1-2 flight hours are required to reach the destination country. This means Eastern Europe, Southern Europe, or North Africa.
This distinction is important because different time zones and time differences, cultural differences, costs, and language skills are associated with different regions.
The further away a country is, the greater the cultural differences become, for example, and the more difficult it is to meet in person. If the cultural differences are too great, this can easily lead to problems of understanding – even if the language skills on both sides are good. Because it is often important to understand what is meant between the lines. Communication always takes place in a cultural context.
A time difference can also have a massive impact on productivity because the team in Germany cannot exchange information ad hoc with the team in Southeast Asia.
Freelancer, outsourcing provider, or own legal entity?
Another factor to consider is the project duration. Is it a project of a few weeks or a few months, or is a team needed indefinitely?
If a project only lasts a few weeks or months, then it may make sense to look for a freelancer – for example, on appropriate portals such as Upwork.
However, if the project takes longer and a team rather than an individual is needed, then it is advisable to invest more time and effort in the right choice of outsourcing and to bring an outsourcing provider on board who, for example, has local knowledge or provides the infrastructure such as rooms and IT.
And if there is even a whole pipeline of projects or a product to be developed, then there is a greater tendency to have one’s own software development team or subsidiary abroad. Intellectual property (IP) considerations also play an important role here.
Models of cooperation in nearshoring
Once a company has decided to work with an outsourcing provider, the next thing to consider is how the contract will be structured. In Germany, we usually know two standard models of cooperation:
- the service contract in which a service is owed and
- the contract for work and services, where the output, the work, in our case the software is owed.
Both models also involve important social security and labor law issues.
The analogy of the “white box” vs. the “black box” is often used. In the white box, we can see the inside, while in the black box we can only see the outer shell.
Let’s elaborate on what is meant here.
Black Box – The Contract for Work
A black box is a classic contract for work. The client describes the final product, and the contractor specifies a price, a delivery date, and is ultimately responsible for delivering the product.
In software development, this looks like this:
- A specification is prepared by the client, which may be very long.
- A fixed price is agreed upon, which is to be paid by the client when the software is delivered, i.e. the service is rendered.
- The outsourcing partner provides ongoing information on the status and progress of the project.
In practice, however, this often looks quite different. The following problems are quite common in software development:
- The requirements are often changed by the client and the price must be adjusted accordingly.
- Both the client and the contractor discover in the middle of the project that the specification is incomplete. However, these gaps have a massive impact on the price, because additional development time must be spent, or additional resources are required to close them. This is where a great potential for conflict is hidden.
- In addition, providers often make different assumptions based on the specification. It is therefore not necessarily sensible to choose the cheapest provider when comparing prices between different outsourcing providers, because the low-cost service provider may still have overlooked these gaps to a far greater extent than the more expensive provider.
- The client has no insight into or decision-making power over who is working on the software and whether the software is being developed efficiently.
From our experience, at least 30% of these projects go wrong in the software industry because either the budget, the quality, or the deadlines are not met.
White Box – The Service Contract
With a white box solution in outsourcing, an agreement is made for a service. This looks like this in detail:
- The outsourcing partner introduces suitable specialists to the client. The client decides which IT experts he wants to work with.
- No fixed price is agreed, but an hourly rate per employee.
- The client gives tasks to the team members. He is constantly in close contact with the team and leads it.
- In addition, it defines which methods and processes are to be used (Kanban, Scrum, etc.).
- Since the client is close to the process and the team, he can very flexibly adjust the requirements to get to the goal faster. He also receives quick feedback from the team.
The advantage here is that costs can be saved, and more flexible product development takes place. Since there are no rigid specifications, the product is developed incrementally from the prototype to the final product in an agile manner.
Such collaboration can be short-term, working with freelancers, or longer-term, with an in-house development team.
What is the practical implementation?
For longer-term and larger projects, it is advantageous to choose an individual solution, because both forms (white or black box) are often not the ideal solutions. By combining parts of both contract forms, the individual needs of both contracting parties can be represented very well.
For example, a dedicated team can be located at an outsourcing provider. The team members work exclusively and 100% for the client. The team is put together specifically for the client. Recruiting is handled by the outsourcing provider – the final decision as to who the client wants to work with, on the other hand, is made by the client.
Of course, it is also possible to set up a local subsidiary. However, this requires having already gained some experience in outsourcing and nearshoring. In addition, very good knowledge of the respective labor market, language, culture, wage levels, labor law, corporate law, etc. must be available.
Very often, you can reach your goal faster if you make use of the existing knowledge of an outsourcing provider because they have this necessary knowledge. This means that the client can then draw on the provider’s experience in the local market in the target country. Furthermore, the provider’s office space can be used, and back-office and administrative activities can be handed over to him.
It is well worth considering agreeing to a “buy-out clause” with the outsourcing partner: A fee per IT consultant is agreed upon. This is particularly interesting for startups that want to represent more personnel on their own payroll to their investors. In our experience, such considerations make sense once a certain team size has been reached.
Conclusion
It is worth taking a closer look at the topic of nearshoring. Fundamental questions need to be clarified in advance.
The advantages of the white box solution are obvious. However, we must point out one very important point: You can only use this solution with all its benefits if you have the necessary experience in managing teams at a distance and if the software development process in your own company is designed accordingly. Remote working and remote work should already be lived.
Without this prerequisite, nearshoring projects are doomed to fail. Therefore, it is important to examine whether you are “Nearshore Ready“. What it takes to do this can be found in our blog post “Nearshore Readiness Check”.
