General Electric recently divested a 60% stake in General Electric Capital International Services (GECIS), its global business-process-outsourcing operation, to two venture-capital companies, General Atlantic Partners and Oak Hill Capital Partners, for $500 million.

Why did GE auction off part of its profitable back-office captive center? Was India beginning to lose its economic allure? Did GE’s management anticipate that the country’s rising costs and management attrition would make offshore outsourcing less of a competitive advantage in the future?

The actions of GE illustrate an interesting point: The changing market dynamics in various offshore markets require a rapid adjustment in ROI and value-management techniques. Without such an adjustment, companies that have recently begun offshore-outsourcing initiatives will realize a less-than-expected return from their investments.

The ROI of offshore outsourcing evolves constantly, causing headaches for managers attempting to justify initiatives. Accelerating offshore business complexity has rendered conventional “snapshot” ROI estimations obsolete. Increasingly, companies have to manage and monitor their offshore ROI due to several reasons:

Salary-Sensitive ROI

Cost, quality, and productivity are the three reasons companies commonly cite for offshore outsourcing. Of these, cost savings ranks first. Despite platitudes about quality or productivity, cost is the variable that has the most impact on the decision to go and stay offshore.

Employee salaries tend to be the largest and most prominent cost component of an offshore project. Any change in employee salaries due to competitive increases or attrition tends to ripple throughout the ROI models. To quantify this issue, Table 1 lists the salary ranges in India for entry-level graduates and middle management.

Table 1: The Cost of IT Employees in First-Tier and Second-Tier Cities in India Data: E-Business Strategies

Table 1 also illustrates the difference in salaries paid to employees located in India’s first-tier cities (Bangalore, Mumbai, Hyderabad, Delhi, Pune, Kolkata, and Chennai) and second-tier cities (Jaipur, Ahmedabad, Kochi, Chandigarh, and Visakhapatnam). It’s important to note that within a category, top performers expect to be paid double the salaries of average performers, and good managers are extremely hard to find and expect to be compensated accordingly.

How much have salaries increased since companies like SAP, IBM, Hewlett-Packard, and Accenture began sending work offshore? One 2004 study conducted by the human-resources and outsourcing firm Hewitt found that Indian professionals working in software development enjoyed average salary increases of almost 13.7%, while those employed by the IT-enabled services industry (call centers, back-office operations, and medical-transcription companies) saw their compensation rise by 13.8%.

The same study projects that salaries on average will jump again in India by between 9.7% and 13.4% in 2004. In Bangalore, the Silicon Valley of India, the increases have tended to be much higher, given the frenzied pace of hiring by new entrants. If you couple these statistics with U.S. Bureau of Labor Statistics data that found the wages and salaries of workers within U.S. private industry rose by a comparatively low 2.5% between the fourth quarter of 2002 and the fourth quarter of 2003, it’s not hard to see why the onshore-offshore wage gap is closing slowly but surely.

Constantly rising salaries place great pressure on managers in the midst of offshore projects. If they match the market rates, then they have to do so for everyone across the board, an action that reduces their overall ROI. Not matching market rates means risking the loss of top performers in the middle of projects, which also can have a devastating impact on the success and ROI of the offshore project. Managers face a true conundrum that defies attempts to put a tight lid on expenses.