The bete noire of U.S. political rhetoric — offshoring, is helping to create a new set of entrepreneurs who are able to live out their pipe dreams by sending out the most complex part of their enterprise offshore. Offshore Research and Development (R&D) is picking up among Small and Medium sized Enterprises (SME) like never before.

For years, companies have been offshoring low-end work to leverage on the labor arbitrage, and they have kept high-end R&D work — which was viewed as proprietary and core to a company’s competitive edge — in-house. But the difference for this set of enterprises is that offshore outsourcing is central to their existence. They are offshoring to enhance productivity and to engage in activities that were hitherto viewed as strategic differentiators.

In an ongoing research by the Fuqua School of Business, Duke University, which studied the offshoring initiatives of 377 companies, growth and productivity figured as the predominant drivers for moving operations offshore. While 73% of respondents cited growth as the major reason for offshoring, 71% mentioned access to qualified personnel.

The study found product innovation and design, R&D and engineering services as key offshoring initiatives of customers.

“A lot of startup companies have come up post 2002 after the offshoring model has been proved. While earlier it was low-end routine and transactional work that was offshored, startups are offshoring R&D, which is core to their business. This is a new trend among small enterprises,” Jeff Russell, Project Manager, Center for International Business Education and Research.

This new breed of entrepreneurs is upfront about its offshoring activities since there is no legacy and hence, there is nothing to hide.

ESP Systems, a startup company based in Charlotte, North Carolina, offshored its design and development work to Flextronics to launch its product within a year. The company offers a wireless product that enables restaurant patrons to place orders directly, cutting down the time to place orders and increasing staff productivity tremendously.

ESP Systems could not afford the luxury of the long gestation that traditional in-house designing would have involved. Nor could it afford to stand in queue and wait for local design outsource companies to take up their job.

“With Flextronics, we had the project going instantly,” says Devin Green, one of the founders of the company. “We had a concept, and the time to market was critical in the success of our product. Speed was of essence, which we could get with offshore outsourcing.”

For Green, who used to run a venture capital fund once, offshoring was a proven model. “Offshore designing was central to the business plan. We were a startup with limited resources,” he adds.

ESP Systems approached Flextronics in 2004 with the product prototype to commercialize it. Flextronics used a collaborative model leveraging on their centers of excellence in different geographic location. A team of Flextronics engineers at Sweden improved upon the antenna to increase the coverage area of its radio frequency, while another team at Shenzhen re-designed to make its clock waterproof.

Initial manufacturing was done in China, but now manufacturing has moved to North Carolina in the U.S.A. The company was immediately able to slash R&D costs by half, leverage on Flextronics best sourcing model and reduce time to market, while maintaining its competitive edge.

But did a startup company feel dwarfed doing business with the $16 billion Flextronics? Actually, the companies like Flextronics, which do a lot of contract manufacturing for the cell phone vendors, have realized the potential in SMEs, and have setup special business units to address the segment. Plus the presence of Flextronics’ executives in the U.S.A. helped greatly in project management.

Not Just Cost, but Convenient, Too

Offshoring design is not just about cost and speed, but also convenience rolled into one.

SignalOne Safety, which started in June 2003, offers fire-alarm systems whose in-house design engineers built the prototype in the U.S.A., and got the project completed by an outsourcing firm in China. “We managed with a really small team, and were able to focus our energies on marketing the product in the U.S.A. Since we had planned to manufacture in China, it was good to have the product design completed there so that everything could be from the same location. It was very convenient for us,” says Bruce Black, CFO, SignalOne Safety.

For a VC-funded startup, keeping the costs low was one of the priorities of the company. The company is gung-ho with its first experience, and is now planning to expand its product. The company’s executives are scouting outsourcing providers firms in Hong Kong to help them get started.

Convenience being the name of the offshoring game, consider Colosa, based out of an unlikely place: Little known strife-torn Bolivia. Why Bolivia? Because Brian Reale, one of the founders of the company, was running an ISP there. Reale knew the country really well, and he found that software engineers in Bolivia were just as capable as U.S. engineers to write codes for a product he wanted to make along with his graduate school friend Bobby Vernon. The product called Process Maker, is a business-process management tool targeted at SMEs. The product has found acceptance among a large base of customers in the U.S.A., and the company is profitable.

As Colosa treads the path to success, it is seeking out traditional offshoring locations to do business. Reale says he is talking to offshore software developers in Hyderabad and Bangalore, India to get some work done there.