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How might generative AI impact outsourcing as buyers look for value realization over labor arbitrage?

Cath Everett Profile picture for user catheverett October 20, 2023
The outsourcing industry is in a state of flux, initially brought about by digital transformation activity during the pandemic and accelerated by the advent of generative AI.


In an outsourcing sector where value realization is starting to replace labor arbitrage as the dominant model, many providers will need to radically rethink the way they operate to survive.

The shift first began during the COVID pandemic, when digital transformation and automation became vital to help organizations weather the storm and keep the business running. But it has only accelerated since then, leading to a “massive surge” in tech and business optimization projects, says John Sheridan, Head of the Sourcing Consultancy team within the Hackett Group’s European Business Transformation practice.

This scenario has also given a new lease of life to the outsourcing industry too. Sheridan explains:

People are looking for partners to bring talent, technology expertise and knowhow, with the aim of coming up with different ways of doing things more cost-effectively, more quickly and more efficiently than before. So rather than the digital transformation model killing off BPO [Business Process Outsourcing], it’s brought it to life. In fact, I think it’s one of the most exciting times I’ve seen for the whole services and solutions marketplace. 

One of the outcomes of this situation so far is the increasing tech enablement of transaction-based processes, such as data entry, which will progressively be automated out. This move will have major repercussions for the wider sector, believes Sheridan:

It changes one of the initial tenets of the outsourcing industry. Huge volumes of transactions being processed in low-cost locations and labour arbitrage were the foundation of the sector, and technology is taking that away. So BPO is having to move up the value curve and invest in higher value opportunities that provide businesses with insight and help improve their decision-making. This means roles that would have been staffed by lower skilled junior operators are being fundamentally removed through automation. 

David Morton, Chief Revenue and Chief Customer Officer at BPO provider HGS UK, is seeing similar dynamics, although he does not necessarily expect high levels of redundancies to be the result:

In the transactional call center market, for example, there’s very high churn in terms of the labor pool. Services have traditionally been delivered by people between 18 and 25 who stay in the role for a limited period. They use it as a springboard to other things or develop the skills to move up the value chain into management or other areas. So, there’s a natural fallout of people leaving. On the one hand, we can manage that carefully and sympathetically. On the other, we can have conversations with employees on the shift in skills requirements to see who might be interested in training. I certainly don’t see us turning off the labor supply to contact centers overnight.

Shifting outsourcing industry dynamics

Moreover, says Sheridan, the labor arbitrage model is unlikely to disappear anytime soon:

Clients still want to take cost out and many are not at the necessary level of maturity to fully benefit from a depth of technology. They also often can’t find the talent they need and don’t have the necessary investment portfolio for disruptive programs. But it is the direction of travel to move from labor arbitrage to value realization. That’s not just about taking cost out but also about bringing value based on insight to help improve forecasting analysis, make better decisions, and manage finances more effectively. 

Another shift that increased levels of automation is likely to bring about is a growing trend towards onshoring, believes Morton. He explains:

In the past if customers wanted cost and efficiency savings, one answer was to offshore. But with increasing automation levels, we can now deliver onshore and many customers prefer it. There’s an inherent risk in working in a different time zone, but there’s also the matter of possible currency fluctuations and geo-political issues. So, if you can achieve the same efficiency and cost savings via digital transformation and automation and keep things onshore, customers like it.

Over time, Morton also expects the entire fabric of deals to shift. Deal sizes will drop, leading to overall revenue declines for outsourcers but better margins due to the highly skilled nature of the services being offered. As a result, he says:

If outsourcing providers don’t get their heads around the situation pretty immediately, they’re going to struggle. Customers already want to hear you’ve got a strategy for next generation technology. You may not have the full capability today, but they need to see you can take them on that journey. As a trend, we’re in the midst of it now, so if you’re not embracing technology either as an outsourcer or customer, you’re already behind. 

Sheridan, meanwhile, believes the industry is likely to move increasingly from today’s resource unit-based pricing approach towards a ‘gain share’ contract model. Despite being available for years as an option, it has yet to become commonplace. 

AI impact on the outsourcing sector today

As for the likely impact of AI on the outsourcing sector, views are mixed, although major providers such as Accenture and the Indian giants are enthusiastic. Vladimir Petreski, Hackett Group’s Director of Technology Transformation, suggests:

It’s still early in the maturity curve and AI models still require a lot of training before they make a big impact on services. It’s also going to take multiple years for corporates to get the full benefits of AI in their own environment due to the nuances of each business. So, the potential is grand, but it’ll be a long journey - and processes that involve insights and value-add will take the longest to change. Outsourcers need to understand that cultural fit is becoming more important if they want to make a real impact. So, they’re going to have to understand customer processes in more depth than ever before.

Maxim Ivanov, co-founder and CEO of Ukrainian software development outsourcer Aimprosoft, agrees that, in his sector at least, AI has yet to make much of a mark:

We know we have to take it into account, but we’re not feeling any impact right now. Generative AI can help speed the development process and the writing of simple code, so our developers are using it for routine work, such as converting code from one language to another. It can help here but you do have to spend a lot of time on testing to check it works properly. So, it won’t be replacing developers any time soon. It’s more likely to make the industry more cost-effective, and if we can spend less on the development process, it’s a win-win for everybody.

AI impact on the outsourcing sector tomorrow 

Over time though, Sheridan believes AI will “significantly impact the outsourcing industry”. Many, although not all, processes will end up being fully automated from end-to-end, while the “more mature providers” will start building domain-specific processes and Large Language Models focused on specific industries. 

Morton is another who believes the sector is in for major change. For example, he says, the number of tech suppliers that outsourcers work with will fall significantly due to the complexity involved in dealing with the technology. This, in turn, could lead to vendor consolidation:

AI is pretty complex and you have to invest in great people to implement and manage it in a client environment. You can’t do that if you work with 20 vendors – it’s unsustainable. You can only really invest in one or two. So, outsourcers will rationalize the number of vendors they work with as it’s too expensive otherwise. This means customers will need to move to our preferred suppliers. But with AI, customers are less interested in who makes the kit and more interested in outcomes anyway. So, it’ll 100% change the landscape for tech vendors, and if I were them, I’d be investing heavily in developing relationships with outsourcing providers.

Morton also believes the outsourcing sector is likely to experience more consolidation too, particularly among the big players. He cites the $4.8 billion merger between Concentrix and Webhelp in March and Teleperformance’s acquisition of Majorel in April as examples of such dynamics. But he also sees AI’s promise of change potentially becoming a self-fulfilling prophecy:

AI and generative AI are part of the mix in terms of digital transformation but they’re also the straw that broke the camel’s back. They’re on the worry list of every CTO these days as they’re all being asked what they’re doing about it and how it’s going to change the market and the business. So, AI solutions 100% have to be part of the tech stack or roadmap now. This means AI will have a significant impact on the industry, even though it’s only one of a number of digital transformation solutions. The fear around ChatGPT has absolutely accelerated the fear, thoughts and activities around what to do about digital transformation. So, AI has been a real ‘moment in time’ phenomenon.

My take

The outsourcing sector is in a state of technology-inspired flux. And as ever with these major changes, providers of all stripes need to embrace these key market shifts or face oblivion. You just have to ask former employees of DEC or Netscape to find out what happens if they don’t. 


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