How India's executives see the world

Business leaders across India share an upbeat vision of the future while recognizing the obstacles ahead.
Erica J. Bever, Elizabeth Stephenson, and David W. Tanner
The McKinsey Quarterly, 2005 Special Edition: Fulfilling India's promise
By and large, executives in India1 think that the opening up of the global economy presents them with huge opportunities for growth. A McKinsey Quarterly survey, which polled more than 9,300 executives around the world, including 537 in India (Exhibit 1), shows that Indian business leaders are much more optimistic about the future than are their international peers. Yet rather surprisingly for a country with one of the world's largest labor pools, they see the high cost and low availability of talent as the single greatest constraint on their companies—a problem that worries them much more than it does their counterparts around the world.2


With a relatively young population of 1.1 billion people, India has a vast reserve of workers, but our Indian respondents say that finding the right ones will be difficult. Indeed, 81 percent of them (as compared with 73 percent of the global panel) told us that the cost and availability of talent will be a significant constraint on business over the next five years. Indian IT executives feel this kind of pressure more keenly than do their counterparts in other sectors: 91 percent of them say that it is a significant constraint on the growth of their companies (Exhibit 2). These views may reflect the rising cost of IT, engineering, and management employees in hotbeds of growth such as Bangalore, Hyderabad, and Mumbai (see "Ensuring India's offshoring future").

These concerns haven't darkened the overall outlook of Indian executives: 88 percent of them believe that continued economic liberalization is vital to the future of global business. Even more of them think that the by-products of liberalization—increasing affluence in emerging economies and the proliferation of low-cost manufacturing options—will be important global business trends. Geopolitical instability and growing environmental hazards rank lowest on the Indian executives' list of important trends, with only about half seeing them as important. Just one trend was much less important to Indian executives than to the global panel: the aging population and declining workforce of developed economies.

In general, Indian executives believe that the trends driving the world economy will be important for the profitability of the companies they run. Eighty-five percent of them (as compared with only 60 percent of the global panel) feel that a more open world economy will increase the profits of their own companies over the next five years. Some 80 percent of the Indian respondents expect that greater affluence, the more widespread use of low-cost manufacturing options, and increasing technological innovation will make their own companies more profitable.

Where's the growth?
Indian executives see their best growth prospects in the home market—58 percent of them expect India to provide most of their companies' sales growth during the next five years. Yet they are far more excited about global opportunities than are their Chinese counterparts, 85 percent of whom see China itself as the country offering the greatest potential for growth. Surprisingly, Indian business leaders don't seem to have much interest in China, and Chinese business leaders return the feeling. A quarter of the executives on our global panel regard China as the most important growth center—a close second to the United States—but only 4 percent of the Indian business leaders share that belief (Exhibit 3). Only 2 percent of the Chinese respondents see India as their major growth market, putting it behind both the United States (9 percent) and the United Kingdom (5 percent).


Companies around the world also seem to be slow in warming to India. Only 5 percent of the respondents on the global panel expect it to account for most of their companies' sales growth during the next five years—far behind the front-runners, the United States (27 percent) and China (25 percent). Of those executives who regard India as a major growth opportunity, 30 percent work for US companies and 31 percent for European ones. Most of their companies compete in the manufacturing, IT, and financial-services sectors. These executives, like their Indian counterparts, were most concerned about recruiting appropriate talent.

Twenty-six percent of our Indian respondents say that the United States will generate more sales growth for their companies than any other country will during the next five years, putting it second only to India. An even higher percentage of Indian IT executives—65 percent—view the United States as their most promising market, while only 18 percent of them think that India has the greatest potential. A subgroup of executives from our global panel, many of them in IT, underlined India's value as an offshoring venue (Exhibit 4): 65 percent said that they either had located or were planning to locate IT activities there. Except for R&D, where China was a close rival, India was the clear leader for a range of offshored functions.

As for the sector-by-sector findings of our survey, executives on the global panel view health care and energy as the top growth industries. But Indian executives, by a small margin, award that honor to the telecommunications industry (17 percent), followed closely by health care and high tech (with 16 percent each). The sectoral results for India show an interesting bias that generally wasn't shared by the global panel: Indian executives tend to see their own industries as the most promising of all. Twenty-nine percent of the Indian respondents in high tech, for instance, believe that it will enjoy the highest growth rate during the next five years. Similarly, financial-services and telecom executives view their own industries as the fastest-growing ones, while executives in consumer goods are split between that industry and high tech.

How to grow
Almost 50 percent of the executives on the global panel believe that innovation—either the improvement of current products or the emergence of new ones—will be the most important driver of growth during the next five years. A relatively high proportion of Indian executives in health care and telecommunications share this belief, but only 40 percent of all Indian executives do (Exhibit 5). Twenty percent of Indian executives, with a particular concentration in the IT and energy sectors, see acquisitions as the most important source of growth, as compared with 15 percent of the global panel. Geographic expansion and the development of better approaches to distribution are also concerns for Indian executives.

What's stopping them?

Business leaders throughout the world face similar constraints on growth, but Indian executives feel them more acutely (Exhibit 6). After the cost and availability of talent, the Indians see competition—an intensely competitive environment, increasingly sophisticated consumers, and innovation by rivals—as the greatest obstacle to their companies' growth. They also feel particularly pinched by the difficulty of operating in a fast-growing developing economy. Sixty percent of them regard an inadequate infrastructure as a significant or very significant constraint on growth, a view shared by only 23 percent of the global panel. Lack of access to capital, inadequate legal protection, excessive regulation, and vulnerability to the rising prices of natural resources also weigh more heavily on the minds of Indian executives than on executives generally. In fact, Indian executives—despite their optimism about the future and their growing role in the global economy—are more prone to believe that they face major obstacles than are their counterparts elsewhere.

About the Authors
Erica Bever is a consultant in McKinsey's North American Knowledge Center; Elizabeth Stephenson and Dave Tanner are consultants in the San Francisco office.
Notes
1In this article, the term "Indian executives" refers to executives of companies with headquarters in India. Most of these executives work in India itself, but a small percentage of them work elsewhere.
2For details on the broader results of the survey, see Steven D. Carden, Lenny T. Mendonca, and Tim Shavers, "What global executives think about growth and risk," The McKinsey Quarterly, 2005 Number 2, pp. 16–25.

Ensuring India's offshoring future

Ensuring India's offshoring future
The country must not only produce more top-quality engineers but also show the world the depth and quality of its talent in other fields—and in cities beyond Bangalore and Mumbai.

Diana Farrell, Noshir Kaka, and Sascha Stürze

The McKinsey Quarterly, 2005 Special Edition: Fulfilling India's promise


India's offshoring sector, the world's largest and fastest growing, is dominated by IT services, which play a major role in the country's overall economic growth. In 2004–05, the Indian offshore IT and business-process-outsourcing industry will generate approximately $17.3 billion in revenues and employ an estimated 695,000 people. By 2007–08, that workforce will consist of about 1,450,000 to 1,550,000 people, and the industry will account for 7 percent of India's GDP.1

Yet clouds are gathering on the offshore horizon. Research by the McKinsey Global Institute (MGI) shows that India's vast supply of graduates is smaller than it seems once their suitability for employment by multinational companies is considered (the full report, The Emerging Global Labor Market, is available free of charge online).2 In the country's most popular offshoring locations, such as Bangalore, rising wages and high turnover among engineers—the professionals most in demand for IT services—provide evidence that local constraints on the supply of talent already exist. And just as these bottlenecks are developing, other low-wage countries, such as China, Hungary, and the Philippines, are gearing up to challenge India's lead.

But the end of India's offshoring bonanza isn't necessarily at hand. India has other attractive qualities beyond low-wage professionals for companies that want to offshore their operations. In 15 years of offshoring, the country has developed a stable of world-class IT services vendors that can save foreign companies the trouble of setting up their own offshore centers. And it has a large supply of qualified talent in areas outside IT, such as R&D, finance and accounting, call centers, and back-office administration.

Still India's leaders have to ensure that a company hunting for an offshoring location doesn't turn to other countries: the government must not only adjust the country's educational policies to ward off the looming squeeze on talent but also invest more money in infrastructure. So far, offshoring has been largely a private-sector affair, and in some respects the lack of government involvement has been the secret of its success.3 But private-sector investment in air-conditioned offices, apartments, and shopping malls in offshoring centers has not been matched by public investment in airports, roads, and utilities—improvements necessary to enable the millions of people attracted to these locations to live and work more efficiently. From now on, government and business must work together if offshoring is to remain India's growth engine.

How deep is India's talent pool?
India's pool of young university graduates (those with seven years or less of work experience) is estimated at 14 million—the largest of all 28 countries MGI has studied. It is 1.5 times the size of China's and almost twice that of the United States. This huge number of young graduates is topped up by 2.5 million new ones every year. As in other low-wage countries, however, only a fraction of these people are suited for work in multinational companies.

We interviewed 83 human-resources managers at multinationals that look for talent in the emerging world. Those with experience in India praise the cultural fit and work ethic of their Indian employees but would still, on average, consider employing only 10 to 25 percent of the country's graduates—a higher proportion of suitable graduates than China produces but only half that of Central Europe. The proportion of suitable graduates also varies by field of study: just 10 percent of the Indian students with generalist degrees in the arts and humanities are suitable, for example, compared with 25 percent of all Indian engineering graduates.4 Nonetheless, the proportion of suitable engineers in Central Europe is twice as high.

Why is the average level of suitability so low? The answer, largely, is that the quality of India's universities varies a great deal. Graduates of the top schools, such as the seven Indian Institutes of Technology (IITs) and the six Indian Institutes of Management (IIMs), are world class, but elsewhere the level of quality declines steeply.

One problem is poor English. Although it is an official language in India, not every graduate speaks it well enough to work for the multinationals or for the Indian vendors that serve them. Graduates from certain regions appear to be handicapped by strong local accents that don't lend themselves to jobs in call centers and other workplaces requiring interaction with foreigners. Some companies have relocated call centers from India to the Philippines (where people tend to speak English with an accent closer to that of the US population) because customers complained that they couldn't understand the operators. Even HR managers in software and IT services firms rank language problems as one of the top three handicaps of engineering applicants.

High rates of emigration among graduates of the top schools further depress local supplies of suitable talent. An estimated 40,000 IIT graduates, for example, have gone to work in the United States, though India's buoyant IT services sector is now said to be attracting many of them back.5 Another hitch is the fact that the country's domestic economy is still largely shielded from global competition, so few older graduates or middle managers have the international experience to switch to the multinationals.

A looming shortage of talent
In India only 1.2 million people hold engineering degrees—4 percent of the total university-educated workforce, as compared with 20 percent in Germany and 33 percent in China. Combined with the generally low level of suitability among Indian graduates, this means that India could face an overall shortage of engineers in the next few years, with a particular squeeze in certain cities. Wages for India's graduate software engineers have already risen steeply in the most popular offshoring destinations, such as Bangalore and Mumbai.

The country does have a growing number of people who hold engineering diplomas (degrees from three-year rather than four-year programs): 1.75 million in 2003–04, increasing by 130,000 people a year. Diploma holders are not as highly trained as graduates but can fill gaps at the less creative end of the IT value chain. Yet even they will not be sufficiently numerous to alleviate the coming shortages. Our forecasts show that demand for India's young professional engineers is likely to exceed supply by 2008 if current rates of growth in demand (especially from the United Kingdom and the United States) persist. Significant shortfalls of talent are also expected in the field of business process offshoring, driven by the likelihood that demand and job growth will increase much faster in this industry than they will in IT services over the next three to five years.

The talent squeeze is already beginning to affect the top cities in India, and Hyderabad's recent history shows how fast hot spots can become overheated. The city became a hub for software and IT in the 1990s, when large IT- outsourcing services firms, such as Satyam and Tata Consultancy Services, established themselves there. At least 20 major Indian and US software vendors have set up large engineering centers in Hyderabad since 1998. Activity ballooned after 2002: six new centers, with a total of about 5,000 employees, were established in 2004 alone. Local supplies of suitable candidates for most occupations are ample. But universities and colleges in the Hyderabad region graduate 25,000 engineers a year, which will not be enough to satisfy the demand at current growth rates if only 25 percent are suitable for employment in multinationals. As early as 2006, the demand for suitable engineers will surpass the local supply; by 2008, we reckon, demand will hit 138 percent of supply.

Even so, India's graduates are highly mobile compared with those from other emerging markets. Companies may therefore find that they can easily attract suitable engineers to Hyderabad (in the state of Andra Pradesh) from the country's other cities. Andra Pradesh has been expanding its tertiary-education system unusually quickly since 2001, and the fruits of that expansion have only just begun to reach the labor market. Furthermore, both the state government and local companies are working to improve the suitability and quantity of local graduates and diploma holders. Taking all this into account, Hyderabad may have enough suitable engineers to put off the labor squeeze for a few years beyond 2008. All the same, five years ago no one expected Bangalore and Mumbai to experience the talent shortages they face now. Hyderabad's authorities and companies are right to focus on stepping up the local supply of suitable engineers.

In the country as a whole, middle managers are also becoming scarce. Although India has more of them than other offshoring destinations do, the country also has higher demand because the offshoring sector has grown so fast: over the past decade, the number of middle managers it employs has expanded by more than 20 percent a year, and even more briskly in some cities. New entrants often lure qualified managers from existing businesses instead of training their own. Sometimes they poach across borders as well—Russian entrepreneurs, for example, have hired middle managers from India. Rapidly rising remuneration is evidence of their scarcity. Annual wages for project managers in India's export-oriented IT sector, for instance, have increased, on average, by 23 percent annually over the past four years, while the salaries of programmers have risen by 13 percent (Exhibit 1).

Improving India's offshoring prospects
How can India stay on top of the offshoring ladder? A number of longer-term policy actions must be taken if the country is to remain attractive to companies that want to move their operations offshore—and fixing those aspects of its notoriously weak infrastructure that can hamper a company's efficiency is just one. But in the short term, the priorities for Indian policy makers and for senior managers at companies seeking to offshore operations to India are the squeeze on IT and business-process-outsourcing talent in the offshoring hot spots and the looming general shortage of engineering talent.

Raise the quality of university education
To preempt the impending shortage of talent and to increase the supply of graduates suitable for offshoring in general, India must bring more of its fast-growing multitude of graduates up to the level of quality that multinational employers require. Raising the mediocre universities to the standard of the very best will be a tough and lengthy job. Private providers, such as the university-affiliated software-engineering schools of Oracle and Satyam, have driven an explosion in the number of graduates in IT-related disciplines; both private providers and government-funded institutions have contributed to the increasing number of potential candidates for business process jobs.

The central government's policy makers can play an important part in raising standards, by defining curriculums that reflect current and future demand in employment. India's state authorities can help by developing better certification procedures and promoting higher standards of quality for colleges. Both tiers of government could support the expansion of top-quality private schools.

Companies too can play a role. Private initiatives and joint efforts by companies and universities have helped raise the quality of talent elsewhere in the developing world. In Russia, for instance, associations of software businesses have provided practical management education for engineering students. A recent report from India's National Association of Software and Service Companies (Nasscom) proposed an agenda for improving the suitability of the country's graduates. The agenda included strengthening the collaboration between industry and educational institutions in defining curriculums as well as establishing an IIT in every Indian state.

The vast majority of India's estimated 14 million young university graduates hold generalist degrees, the least attractive ones for multinational employers. Offering grants to study the disciplines—especially engineering—that these companies most covet could also help to raise the proportion of suitable graduates.

Move beyond offshoring hot spots
Wage inflation and high attrition rates in key offshoring locations are understandably making companies nervous about India's supply of talent. But these problems are confined to specific occupations and cities. To some extent, moreover, offshoring companies have created difficulties for themselves by crowding into the same places. Although clustering creates advantages at first, they soon dissipate if demand for talent overwhelms the supply and if infrastructure investments don't keep pace.

Policy makers should encourage companies to look for talent in cities that haven't been touched by the offshoring bandwagon, where cheap supply may well exceed demand. India has huge numbers of skilled graduates in disciplines other than engineering. What's more, MGI research shows that it has the lowest labor cost for university-educated employees of the 16 potential offshore countries we studied (roughly 12 percent of the US cost, on an hourly basis). India's graduates also work the longest hours—on average, 2,350 a year, as compared with 1,900 in the United States and 1,700 in Germany.

Although India's graduates are more mobile than those elsewhere, our estimates show that one-fifth of them still aren't easily accessible to multinationals or Indian service vendors. Indeed, roughly half of the country's graduates study in cities with no international airport. Inaccessibility is a genuine threat to India's offshoring supremacy; our study of supply conditions in 28 low-wage countries shows that many smaller ones have much larger pools of suitable graduates than the size of their populations would suggest (Exhibit 2).6 India's policy makers must make a priority of helping companies to avail themselves of the country's untapped pockets of supply before too many more of them discover the charms of other offshoring locations. The government may, for instance, have to build airports in less well-known cities and help them with their marketing. Companies exploring these second-tier cities could consider telecommuting as a way of gaining access to additional employees or offer housing deals to get more graduates to move.

Concern about rising wages is somewhat misplaced, however: as a result of local wage inflation, some offshoring companies worry that Indian rates will soon reach US levels. Our projections show that average wages for young professionals in service jobs in India probably won't exceed 30 percent of US levels, because of competitive pressures: when average Indian wages reach that threshold, companies will try to employ graduates from countries with lower or comparable wages. Supply from these countries will satisfy all likely demand for the foreseeable future. We therefore do not think that average wages for graduates employed in any of the low-wage countries involved in offshoring, India included, will rise any higher than 30 percent of current wages for young professionals in the United States—about what young professionals in Mexico earn today.

Improve the infrastructure
Our interviews with the multinationals' senior managers show that they rank India's infrastructure as the country's most serious flaw. On a scale of 1 to 5 (good to bad), China rates 2.5 for its infrastructure; India and Russia, each at 3.3, jointly hold last place among the 16 countries we assessed. More direct flights now link Europe with India's offshoring centers, but their poor roads and rudimentary traffic management make local commuting arduous. In 2004 India spent $2 billion on its road network; China spent $30 billion.7 And despite improvements, India's telecom network still suffers from quality issues.

To stay at the cutting edge of offshoring, India must invest a lot more in its infrastructure—and a lot faster. Government neglect of offshoring may arguably have been benign up to now, but continued neglect of the infrastructure would be a mistake. Only the state can mobilize funds for the airports, communications networks, and utilities that the whole economy requires for healthy future growth (see Diana Farrell and Susan Lund, "Reforming India's financial system," available on mckinseyquarterly.com in mid-September).

Move beyond IT and software
India's leaders should start trumpeting its advantages as an offshore location not only for IT but also for industrial R&D and medical research and for back-office functions. This year, the country recognized full product patents on pharmaceuticals. That should reassure international pharma companies, which had feared that any intellectual property they developed in India might not be protected sufficiently. In these new fields, where India offers the requisite talent but is far from having the dominance it enjoys in IT (Exhibit 3), it would do well to target global companies in the United Kingdom and the United States, which have so far been the pioneers in offshoring.

But in research, India faces stiff competition from China, Russia, and the United States, as R&D often gravitates to countries with large domestic markets for the resulting products. India enjoyed annual GDP growth of 6 percent from 2001 to 2004, for a total GDP of around $600 billion, but that isn't enough to offset China's advantage. India also suffers by comparison because of its income distribution. China's wealthy elite is small compared with its large, fast-growing middle class; India's elite is relatively larger, but in 2002 some 74 percent of the country's households earned less than $2,000,8 which weakens the domestic market's overall purchasing power.

For back-office activities such as finance, HR, analytic and modeling services, and call centers, our projections indicate that India will have enough suitable labor to meet projected demand over the next five years. But the supply of suitable call-center employees will become tighter in some popular locations unless the hiring companies are encouraged to consider other cities. If companies go on crowding into the same few locations made popular by IT services, local wage inflation and high attrition rates will develop even in these new occupations. Policy makers really must try to disperse demand.

Thanks to the dynamism of India's IT services, the country is the world's preeminent offshoring destination. But other low-wage nations are now broadcasting their potential as offshore locations, and demand will quickly exceed India's supply of talent suitable for international companies. To stay on top, India must not only produce more top-quality engineers but also improve the suitability of other graduates. Finally, it has to show companies the depth and quality of its talent in areas other than IT—especially R&D and back-office work in industries such as finance and accounting.

About the Authors
Diana Farrell is director of the McKinsey Global Institute, Noshir Kaka is a principal in McKinsey's Mumbai office, and Sascha Stürze is a consultant in the Berlin office.

Notes
1Strategic Review 2005, National Association of Software and Service Companies (Nasscom).

2See Diana Farrell, Martha A. Laboissière, and Jaeson Rosenfeld, "Sizing the emerging global labor market," The McKinsey Quarterly, 2005 Number 3, pp. 92–103.

3Diana Farrell and Adil S. Zainulbhai, "A richer future for India," The McKinsey Quarterly, 2004 special edition: What global executives think, pp. 26–35.

4Graduates in all engineering disciplines except civil and agricultural engineering.

5Oliver Ryan, "India's top export: Headed back home?" Fortune, June 13, 2005.

6Diana Farrell, Martha A. Laboissière, and Jaeson Rosenfeld, "Sizing the emerging global labor market," The McKinsey Quarterly, 2005 Number 3, pp. 92–103.

7Edward Luce, "India to dip into forex reserves to build roads," Financial Times, October 16, 2004.

8"The insidious charm of foreign investment," Economist, March 3, 2005.