Don´t miss out on this incredible opportunity to ask your favorite personalities any question on your mind. Diversified celebrity and newsmaking personalities such as Meryl Streep, Daniel Radcliffe, Bill Keller, Robert Kiyosaki amongst others come together in a irresistible conjunction of wise thoughts and great facts. 

Please be sure not to miss these great words of wisdom…

Tweet This Post Plurk This Post Buzz This Post Delicious Digg This Post Ping This Post Reddit This Post Stumble This Post

Tweet This Post Plurk This Post Buzz This Post Delicious Digg This Post Ping This Post Reddit This Post Stumble This Post

As a professor of entrepreneurship, I am often asked about the survival rates of new businesses. Students, entrepreneurs, reporters and many other people want to know how many new businesses live and die.

Here are the facts: According to U.S. Census data, only 48.8 percent of the new establishments started between 1977 and 2000 were alive at age five.

The survival patterns are remarkably similar across different cohorts of start-ups. In the figure below, I have plotted the survival curves for the average of the 1977-1988 and the 1989-2000 cohorts of new establishments. Despite the remarkable differences in the United States economy over those two periods, the patterns are almost identical.

Source: created from data contained in the Longitudinal Business Database, U.S. Census. Five-year survival of the 1977-2000 cohorts of new establishments.

Lately, a lot of people have also been asking me if businesses started during recessions are more or less likely to fail than businesses started during expansions. As you can see from the figure below, the answer is “neither.” New establishments started during both periods have the same five-year survival rates.

Source: created from data contained in the Longitudinal Business Database, U.S. Census. Five-year survival of the recession and expansion cohorts of new establishments, 1977-2000.

With the caveat that the current recession might be different than the ones covered by the data, these numbers carry with them two messages:

1. Half of the businesses started in the United States live five years or less.
2. Starting in a recession won’t affect your business’s odds of survival.

Tweet This Post Plurk This Post Buzz This Post Delicious Digg This Post Ping This Post Reddit This Post Stumble This Post

Economists, particularly those of the ascendant Chicago school of free market enthusiasts, were in a triumphant mood at the beginning of this decade. Speaking at the annual meeting of the American Economic Association in 2003, Nobel Laureate Robert Lucas went so far as to say that macro-economics — with its focus on the stable maintenance of national economies — could safely be retired. “The central problem of depression prevention,” he said, “has been solved for all practical purposes.”

But if the technical challenge of depression prevention has rudely announced itself unsolved, the current crisis has also reawakened a long-obscured, but far more profound debate about the very nature of cyclical capitalism. That is: Are economic contractions, like the one we’re currently experiencing, a good thing?

You won’t hear this question asked in most mainstream political discussion of the crisis. It would be career suicide for any elected official to suggest that the widespread stress, misery and heartache being wreaked by the precipitous contraction were are a good thing. But scratch the surface a bit and you’ll find a surprisingly vibrant school of thought, one that reaches back all the way back to the Great Depression, that holds precisely this view.

Famed economist Joseph Schumpeter said that “a depression is for capitalism like a good, cold douche,” one that rinses off accumulated dysfunction. Robber baron Andrew Mellon (who served as Herbert Hoover’s treasury secretary) welcomed the Great Depression with these infamous words: “It will purge the rottenness out of the system. High costs of living and high living will come down. People will work harder, live a more moral life. Values will be adjusted, and enterprising people will pick up the wrecks from less competent people”

It’s not hard to find this same view among bankers, financiers and sundry Wall Streeters today. Recently a bond trader told me he hoped that the Fed would raise interest rates and plunge economy into a truly deep, painful (but he hoped, quick) depression. “I don’t think that would be good for you,” I said. “Oh, I’d be fine,” he responded. ( I meant politically: as in, there’ll be people with pitchforks at your door. We were talking past each other I suppose.)

There’s no question that economic contraction feels quite different to a bond trader and an unskilled worker. A spike in unemployment hits those on the margins of the labor market the hardest, while contractions also usher in deflation, which has a strong tendency to make the rich richer. But the faith in the salutary effects of economic misery also derives from a puritanical view of the economy, one that can manifest itself on both the left and right. Under this view contractions are collective punishment for our trespasses; we are sinners in the invisible hands of an angry God.

The stakes for this argument are very high: if steep economic contractions are like forest fires, a necessary part of the system’s self-calibration, we should more or less let them burn. If they are more like five-alarms raging through dense city neighborhoods, we should call in the fire department.

***

Newsweek and Washington Post columnist Robert Samuelson is perhaps the most prominent and outspoken Mellonist writing today, and his last manifesto The Great Inflation and Its Aftermath: The Past and Future of American Affluence is best understood as a brief for the particular form of deregulated global capitalism that emerged in the wake of the stagflation of the 1970s, accelerated triumphantly through the last three decades, and is now crashing down around our ears.

At its root, the book is a morality tale of hubris and comeuppance, the macro-economic version of Icarus’ flight. The story goes something like this: In the wake of the Great Depression, economists came under the sway of certain technocratic faith in the perfectability of the American economy. They believed business cycles were a thing of the past and that all downturns could be remedied with an injection of government spending.

The liberal technocrats of the Kennedy and Johnson administrations believed in the Phillips curve, an inverse relationship between inflation and full employment. And since the downsides of the unemployment were more obvious and immediate than those of inflation, they pushed the economy to maintain full employment as inflation crept upwards.

Samuelson calls this the “full employment obsession” and the effect, he claims was to spoil American workers beyond repair:

Booms and busts, recessions and depressions had long been considered and unavoidable aspects of industrial capitalism. But once people accepted the idea that the business cycle could be mastered, then the self-restraint that had silently kept prices and wages in check gradually crumbled.

We became, in Samuelson’s words, “progress junkies.” A wage-price spiral took hold in which higher prices pushed unions to bargain for higher wages, which in turn put more money in people’s pockets and sent prices upwards. Eventually as the public came to expect increased government spending and loose monetary policy, Samuelson contends, the positive effect on unemployment waned, having already been priced in, and the result was high inflation and stagnating growth.

It’s unclear however, whether the persistent inflation of the time was the result of the nature of the social contract, or a confluence of factors: a very long debt-financed war in Vietnam, combined with a loose monetary policy. And it is almost certainly true (and hardly controversial) that stable prices, while necessary for strong economic growth, are certainly not sufficient: George W Bush presided over one of the lowest average inflation rates of any post-war American president, yet his term left average wage earners worse off while precipitating the worst financial crisis in 80 years.

But for Samuelson, inflation is enemy number one, so much so that wringing it out of a system makes recessions look not so bad. “Recessions also have often-overlooked benefits,” he wrote in his Newsweek column last year, echoing, in an albeit softer tone, Mellon and Schumpeter. “They dampen inflation. In weak markets, companies can’t easily raise prices or workers’ wages. Similarly, recessions punish reckless financial speculation and poor corporate investments. Bad bets don’t pay off.”

With the unemployment sword of Damocles hanging over their heads, workers will think twice about asking for a raise, and all of this will lead to a robust kind of capitalism for the capitalists: one with low inflation, low interest rates and very high return to capital. If that sounds familiar, it’s an apt description of the economy of at least the last two decades, a kind of capitalism recently proven far less stable than it may have appeared, but one for which Samuelson is an unapologetic partisan: “The new economic order,” Samuelson writes, “is indeed inferior to the imagined and romanticized version of the old order. But it’s superior to the old order as it actually operated.”

***

Paul Krugman, to put it mildly, disagrees. In 1999 he published a book with the prescient title the The Return of Depression Economics. While folks like Samuelson and Robert Lucas were celebrating the fruits of neoliberalism, a strange thing was happening: Financial crises of larger and larger scale and scope were wreaking havoc on the global financial system. Mostly, as Krugman notes, we ignored the tremors.

The original edition of Krugman’s book offered a tour of a series of financial crises that rocked the world in the late 1990s (Japan, Mexico, South East Asia, Russia), and the new edition includes expanded treatment of some that came after the publication date (like Argentina in 2001) before getting the to the main event: our present troubles.

These crises tended to have a few things in common, but at the heart of many were central banks, governments and international lending institutions that had learned the lessons glossed in Samuelson too well. Low inflation became a central obsession of the so called “Washington Consensus,” the term given for the uniform prescription of stiff free-market medicine — balanced budgets, privatization of government services, and tight monetary policy — that dominated global economic policy in the 1980s and 1990s.

What animated much of this advice was not just a rigid and dogmatic economic consensus, but also the puritanical normative assessment that a wicked economy must now pay its penance. (Of course said penance was never paid by those who caused the crisis: It was paid out of the pockets of the starving, the poor and working class.)

It’s exactly this notion that Krugman seeks, above all, to dispel. To do so he repeatedly returns to the true story of a baby-sitting co-op in Washington, D.C.’s Capitol Hill neighborhood. The co-op allowed couples with young children to have babysitters for nights out in return. In order to track people’s credits, the co-op issued scrip: a coupon good for one night out. But a funny thing started to happen. People wanted maximal flexibility and so started hoarding their coupons, meaning there were too many people wanting to supply baby-sitting, and not enough who wanted to use the service. The co-op ground to a halt.

Why, Krugman, asks did this happen?

It was not because the members of the co-op were doing a bad job of baby-sitting … It wasn’t because the co-op suffered from “Capitol Hill values” or engaged in “crony baby-sittingism” or had failed to adjust to changing baby-sitting technology as well as its competitors. The problem was not with the co-op’s ability to produce, but simply a lack of “effective demand…The lesson for the real world is that your vulnerability to the business cycle may have little or nothing to do with your more fundamental economic strengths and weaknesses.

“[B]ad things,” Krugman concludes, “can happen to good economies.”

In the developing world in particular, a neighboring country’s crisis can quickly become your own for no rational reason. Even in places where crises are caused by a panoply of deep structural problems (like, for instance, here), the initial shock is easily magnified through a positive feedback loop: People panic so they start selling their assets, which depreciates the price further, which causes more people to panic, who then try to sell, etc … These are the “animal spirits” that Keynes famously invoked, people’s hopeful optimism about the future of their dark fears both of which often become self-fulfilling prophesies.

More broadly, Krugman’s point is that, contra Samuelson, recessions, and depressions and assorted downturns are not useful, cleansing opportunities to “purge the rottenness out of the system,” but more often vicious cycles, auto-catalytic processes that result in massive amounts of human suffering, and waste human capital and an economy’s productive capacity. More like the forest fire caused by a careless camper than the natural cleansings produced by mother nature.

The technical implication of this view for crisis management is that when an economy is stuck in a deep recession, like the one in which we are now mired, normal bromides of Chicago-style economics, those to which Samuelson clings so closely, cease to apply. Milton Friedman famously wrote “there’s no such thing as free lunch,” but when an economy slips into “depression economics” this is no longer the case.

Here, then, is where we hit the heart of the conflict. Equilibrium, with its sparkling promise of calm, is the promise of functioning markets. In Samuelson’s view, that equilibrium can be counted on so long as the government doesn’t interfere, artificially pushing government money. Indeed, under this view recession, perhaps even depression, are crucially part of that equilibrium. That is to say, suffering is necessary for a functioning capitalist economy. Krugman sees economic equilibrium as tenuous and elusive. And precisely since it is so hard to come by, deft and active management is necessary. Suffering is no badge or courage, but a sign of failure.

The intellectual tension here, though, runs parallel to a political one. Much of economic management, outside of avoiding obvious folly, is a political question: one of distribution and trade-offs. The economy of Keynes was very good for the (white) middle class, and perfectly fine for the rich. The economy of Friedman was bad for the middle class, but very good for the upper class and corporations. And the hybrid Greenspanism was an orgy for the rich and now is a disaster for all of us.

As Krugman persuasively argues, economies need management and policy to maintain some kind of equilibrium. If we agree they need to be saved from their own tendency to spiral into disaster, to cycle through booms and busts, then it will be politics, not technical expertise, which provides the principles and rules that regulate. Samuelson and those of the Mellonist school have an innate distrust of politics; meddlesome and vulgar and prone to demagoguery. Lately the political system as seemed to be working over-time to confirm their worst fears.

But ultimately there is not economics without politics, and as terrifying as this may be, economists can’t save us from this crisis. Only politicians can.

Tweet This Post Plurk This Post Buzz This Post Delicious Digg This Post Ping This Post Reddit This Post Stumble This Post

Budgets continue to be slashed. Brands are disappearing. Media is getting more fragmented. The only thing getting bigger is our federal deficit. So as a marketer, how do you capitalize on a world that is getting smaller in so many respects?

You could ignore it and keep doing things the same way — reaching wide and hoping for the best. Or you can face the fact that the world is changing and figure out how to benefit from it.

There are growth opportunities out there for those brave enough and diligent enough to dive into the data right in front of them: customer databases, profiling and enhancement data, real-time research, predictive modeling. You name it, readily available sources of information about your customers and prospective customers are voluminous. To date, brands from Yahoo to Coca-Cola have used transaction and behavior data to sort out their best consumers, targeting specific types of messages via specific channels of communication.

What marketers are starting to discover is that the target universe is smaller than originally thought. So small, in fact, that 4% of a brand’s consumer base is driving most of the business. This deeper dive into audience targeting is what I call the 4% Factor. Simply stated, it is another level down from the typical 80/20 rule of prioritizing (80% drive, 20% of the business) because, well, everything is getting smaller.

Four is the significant digit because it is this relative number that seems to rise to the surface every time a study is conducted or a program is measured, proving that those impacting your brand (typically characterized as volume, margin or advocacy) tend to be a relatively small number of the whole customer universe.

Examples as to the success of using this strategy are becoming more prevalent. For instance, Catalina Marketing, with its Checkout Coupon system, recently identified that 1% of Iams’ pet-food buyers accounted for 80% of the annual volume of the brand’s sales via the supermarket channel. And other marketers have experienced similar results, such as LaRosa’s Pizzeria chain, in which a small percentage of pizza consumers account for significant portions of various menu items (for example, 4% purchase 65% of calzones).

So what do you do about it? Embrace it. Start thinking about ways to employ addressable media, digital media, one-to-one marketing and, of course, social media to reach that core 4% of consumers who have the greatest propensity to identify and recruit others to your brand franchise.

The 4% Factor goes well beyond a loyalty strategy — it is a penetration strategy — designed as a competitive approach to protecting and growing your business. Simply put, start smaller to get bigger faster. It also tends to be a much more sustainable approach than traditional strategies of casting a really wide net, going through trial and then hoping to retain a percentage of new customers.

If you want to grow a business or product line that can react and adapt more quickly to future opportunities, consider these specific steps:

• Find: Discover and define your main source of volume, margin or advocacy by tapping into existing customer data. Combine that with outside resources such as enhancement data (information that can be appended to consumer profiles to shed additional insight about their demographics, psychographics and potential purchase behaviors) and details gathered via social media and other research tools.

• Filter: Sift through the data and intelligence by segmenting, profiling and using predictive modeling to develop a pool of target segments and markets.

• Magnify: Examine, select and prioritize the top three to five target groups. Test and refine through methods, such those found at iModerate, a company with research technologies that allow moderators of online conversations to dig deeper and go beyond the standard questions to gather detailed insights, as well as other primary interactions.

• Expand: Build out the selected communities via holistic communications strategies ranging from broadcast to social media in order to establish dialogue and grow the universe of new entrants and new advocates.

Today, brands are built by communities of like-minded individuals who share their brand experiences with others and those with whom they have some connection. Pinpoint those communities — or markets of business opportunity — and find creative ways to get them to help recruit your next customers.

This concept might not sound new, but this way of thinking used to be categorized with “below the line” strategies. It needs to become “above the line” to enable social media, mobile marketing, proximity marketing and other one-to-one approaches to be viewed as critical to brand and business building, as broadcast and print used to be. Call it a reordering and rethinking of the marketing-tool hierarchy. That is what I would call a smarter and faster way to grow, particularly in these economic times.

Tweet This Post Plurk This Post Buzz This Post Delicious Digg This Post Ping This Post Reddit This Post Stumble This Post

What was Clayton Christopher’s worst decision about making tea? The decision to make tea. “We should have outsourced production a lot sooner,” says Christopher, whose company, Sweet Leaf Tea, brewed its own for four years. “We would have been three times the size we are now.” Perhaps. But such a practical course would have deprived this start-up tale of its folksy moonshiner charm.

The son of a serial entrepreneur, Christopher worked for three years in his father’s medical-supply company in Beaumont, Texas, then lit out for Florida, where he captained a charter boat. During his travels, he met a tea merchant who regaled him with tales of the glories of the industry. Tea, decided Christopher, was the business for him. “There are so many channels you can go into: supermarkets, convenience stores, restaurants,” he says.

With just $15,000 in savings and a $10,000 investment from his family, Christopher had resourcefulness thrust upon him. Obeying the Texas health department’s demand that production take place in an enclosed area, he built an 800-square-foot wooden “tea hut” inside his father’s warehouse and installed drains, a water line, and a carbon filter cartridge to extract the chlorine from treated city water. Then he furnished the hut with state-of-the-scrap-yard equipment. A used air-conditioning unit cooled the water inside 50-gallon crawfish pots. King-size pillowcases served as industrial-strength tea bags. Christopher filled the bottles himself — two at a time — using a couple of garden hoses. To screw on the bottle caps, he used a Black & Decker drill.

If production was jury-rigged, the product itself was carefully crafted. Christopher spent five months sourcing tea leaves from all over the world. He tried 500 individual teas and another 500 blends before settling on a combination of 60 percent Hunan province and 40 percent Indian. Choosing a brewing process was easier. He used his granny’s. “She would brew a really strong tea for not more than five minutes,” says Christopher. “Then pour it over ice to stop the brewing process and lock in the flavor.”

As for market research: “It was just running around stores and buying different flavors of Snapple, Lipton, AriZona, Nestea,” says Christopher. “I knew they spent lots of money on market research and probably knew a thing or two.”

Flavor was Sweet Leaf’s competitive advantage — its only one. Christopher, who had taken on his boyhood friend David Smith as a partner, could not afford the fees markets charge for placement on store shelves. They were lucky to get their bottles, dressed in unattractive labels designed on Microsoft Word, onto the bottom shelves of convenience stores. “I’d dust off the cobwebs, set up the bottles, come back a week later, and one had sold,” he recalls. A breakthrough finally happened when Christopher persuaded 10 stores to let him place metal washtubs filled with ice and bottles of his tea near the checkout area. People started to notice — and buy.

Sweet Leaf’s first major customer was the Texas-based Market Basket chain. “They didn’t see a whole lot of products from Beaumont,” says Christopher. Other supermarkets followed, though it would be five years before Christopher and Smith nailed Whole Foods, which put Sweet Leaf on the map. “We called Whole Foods for about a year and sent samples but never heard from them,” says Christopher. “Finally, David got a postcard. You could tell the buyers had stacks of them in their drawers. It said, ‘Thank you. We are…’ then there was a line, and someone had written ‘NOT…interested in your product at this time.’ David was like, ‘Look! We got something from them.’ We laughed and slapped high-fives. At least they knew we existed.”

The partners hired college students to brew and bottle while they made deliveries in a refrigerated Otis Spunkmeyer van with 280,000 miles on it. They spent weekends in grocery stores, talking tea to shoppers and passing out samples. “At least 90 percent of our marketing went to free samples,” says Christopher. “You’ve got to get the product past people’s lips.”

But the partners’ homegrown plant couldn’t manufacture a shelf-stable product, which prevented Sweet Leaf from contracting with a beverage distributor. Instead, the two were forced to work through egg and milk distributors, who know their way around perishable goods but not around competitive, branded products. In 2002, the pair finally shut down their plant and signed up with a bottling company that pasteurized the tea, extending its shelf life.

Though Sweet Leaf is national now, some things haven’t changed. Free samples — at live music events as well as stores — remain the chief mode of marketing. The company spends about 8 percent of sales on freebies. And the Sweet Leaf staff still creates all the flavors. “Lots of beverage companies outsource their R&D,” says Christopher. “But the flavor is the most important part of the equation. No one cares more about your flavor than you do.”

Tweet This Post Plurk This Post Buzz This Post Delicious Digg This Post Ping This Post Reddit This Post Stumble This Post

Former General Electric Co. Chief Executive Jack Welch has some blunt words for women climbing the corporate ladder: you may have to choose between taking time off to raise children and reaching the corner office.

“There’s no such thing as work-life balance,” Mr. Welch told the Society for Human Resource Management’s annual conference in New Orleans on June 28. “There are work-life choices, and you make them, and they have consequences.”

Mr. Welch said those who take time off for family could be passed over for promotions if “you’re not there in the clutch.”

To continue reading subscribe to The Wall Street Journal and check out the link of this article…

Tweet This Post Plurk This Post Buzz This Post Delicious Digg This Post Ping This Post Reddit This Post Stumble This Post

“…keeping you great”

HEADLINES:

Best Advice I Ever Got — Fortune magazine produced a wonderful series featuring the best advice people like Tiger Woods ever received in their life. For Eric Schmidt, CEO of Google, it was to “hire a coach.” He at first resisted the idea since he had been CEO of several successful firms, but John Dorr, the VC behind Google, insisted Schmidt meet Bill Campbell (also Steve Jobs coach) and it proved to be the best advice Schmidt at ever received. Take 60 seconds to read the role of Schmidt’s coach (http://money.cnn.com/galleries/2009/fortune/0906/gallery.best_advice_i_ever_got2.fortune/14.html) and possibly peruse some of the other Best Advice features. And thanks to Matt Heinz, Heinz Marketing (http://www.heinzmarketing.com) for bringing this to my attention.

Guarded Advice — I’m just returning from leading a workshop for an EO Forum and their executives in Bogota, Columbia. According to the EO members that hosted me (and my limited observations), Columbia is on the mend. Kidnappings are down from several hundred per year to just 40, and those were limited to the jungles. The present President is cracking down on the guerillas, security is visible everywhere (vs. sitting inside like before), and you could see people biking and enjoying what is one of the more beautiful (and clean) cities around the world. And with the challenges of nationalization of businesses in Venezuela and Ecuador, many major firms are setting up shop in Bogota. Its airport is also the largest cargo hub in Latin America. With a 48 hour work week (fun fact), they also seem serious about business. Anyway, my views of Columbia were moderated on this visit.

Worst Advice — FSB Story Request (July 10 deadline) — Megan Erickson is working on a story examining the downside to receiving external funding (on a state or federal level–small business grants, commercialization awards, government contracts or stimulus money, etc.) for small businesses and would like to interview small business owners who had negative experiences or setbacks that they attribute to having received grants, awards, and other external funding–as well as if/how they overcame them. Please only respond if you or a small business owner you know fits these exact specifications. Email Megan_Erickson@timeinc.com

Stimulus Package Advice — take three more minutes and read pages 11 — 13 of this eBook entitled “The Stimulus Package: What it Means for Growing Businesses“. (http://www.score.org/pdf/StimulusPackageeBook.pdf) Of particular note:

Produced by MyVenturepad in cooperation with SCORE and sponsored by SAP, the eBook (http://www.score.org/pdf/StimulusPackageeBook.pdf) explains what the Stimulus means to small and midsize businesses, including an analysis of the tax implications of the stimulus package by small business and tax expert Barbara Weltman.

Parenting Advice — Two Lies That Will Destroy Your Family — and Scott Nash, CEO of MOMs Organic Market (http://www.momsorganicmarket.com), sent along a July 4th copy of a newsletter to which he subscribes entitled “Celebrate Calm” which describes the two big lies that can destroy families and all relationships: Lie #1: If you were a good parent/spouse, family life wouldn’t be such a struggle and Lie #2: “It’s too late.” Click here (http://www.gazelles.com/Celebrate_Calm_2_Destructive_Lies.doc) to read. And I particularly identified with (and continue to experience) author Kirk Martin’s final point:

HUGE FINAL THOUGHT: The truth is that I made relationships difficult because of my own anxiety, internal tension, stress and rigidity. Plus I just never had tools to communicate differently and understand my family. It’s funny how everyone and every circumstance seemed much easier once I changed!

Tweet This Post Plurk This Post Buzz This Post Delicious Digg This Post Ping This Post Reddit This Post Stumble This Post

– Stephanie Overby, CIO

July 09, 2009

There are many matters to consider when setting up an offshore outsourcing deal—scope, location, roles and responsibilities, service levels, governance plans and price, just to name a few.

The effect of foreign exchange rates on the transaction tends to fall pretty far down the priority list at the negotiating table, if the outsourcing customer considers the issue at all.

But ignoring the currency exchange considerations associated with offshore outsourcing transactions can be a multi-million dollar mistake, say analysts. Unanticipated swings in currency valuation can increase a company's exposure to financial risk and drastically minimize savings.

[ For more stories on the impact of currency fluctuations on offshore outsourcing deals, see The Rupee's Rise, the Dollar's Demise and You: Managing Currency Risk in Offshore Outsourcing and The Weak Dollar: What, Me Worry? ]

"Many clients do not spend adequate time building a financial hypothesis of what [problems] currency fluctuations could cause in the short and long term," explains Sandeep Karoor, managing director of offshore outsourcing consultancy neoIT. "At best, loose terms and conditions get agreed upon."

Most U.S. companies think in terms of U.S. dollars. That's understandable; everything from budgets to their day-to-day business is doled out in greenbacks. And during the golden age of offshore outsourcing, the savings reaped from labor arbitrage alone were significant enough that any additional money left on the table from a lack of currency arbitrage was pocket change by comparison.

But that scenario is changing. "Today, with many companies entering into second- and third-generation offshore deals, the low-hanging fruit is already gone," explains David Rutchik, a partner with outsourcing consultancy Pace Harmon. "Companies need to look at currency implications as a way to drive down costs."

How Offshore Outsourcing Providers Profit from Falling Exchange Rates

Typically, an outsourcing buyer pays in its own currency to the offshore vendor—in the case of an American customer, the almighty dollar. Meanwhile, the provider pays for its offshore resources in its local currency. As the value of that local (offshore) currency drops, the providers' costs go down and the customer ends up paying more in dollars for the services provided than the services actually cost in the foreign currency.

For example, during 2008, the Indian rupee fell 23.3 percent against the U.S. dollar. A company with a $10 million IT services contract that would normally cost the offshore provider $8 million to provide (pocketing a 20 percent profit margin) would have actually cost the vendor less than $6 million, landing the provider a windfall of an extra $2 million.

"We have seen these margins translate into literally millions of dollars annually," Rutchik explains.

That's no mere pocket change in today's economic climate.

Offshore outsourcing providers—and multinational vendors with offshore subsidiaries—understand the impact that the complexity and unpredictability of currency markets can have on their business. Smart vendors have hedging strategies in place to deal with currency fluctuations that may prove unfavorable to them.

"In most contracts that have language around currency fluctuations, the terms tend to be service provider friendly, not client-friendly," explains neoIT's Karoor.

But a savvy offshore outsourcing client can negotiate terms that provide some protection for their half of the deal.

Next: Strategies for Mitigating Currency Risk

Methods for Mitigating the Risk of Currency Fluctuations

1. Ask the provider to bear the brunt of the risk of currency fluctuations.
Clients can negotiate to have the provider absorb the majority of exchange rate risk because the vendor generally has better capabilities for absorbing currency shifts, according to Forrester principal analyst Dr. Paul Roehrig.

In such an arrangement, the outsourcer bears the risk of currency fluctuations up to an agreed upon percent above or below a baseline exchange rate. This is usually referred to as "banding." If the exchange rate rises above the "band," the client pays more. If it sinks below the "band," the client pays less. To make this work, customer and provider must agree on the indices for tracking the currency, the frequency of monitoring fluctuations and the process for handling variances, says Karoor.

2. Pay in dollars tied to foreign currencies.
In this kind of deal, the customer pays in dollars, but the amount of the payment varies based on the movement of the currency where services are being provided. If that local currency tends to devalue against the dollar, the customer will wind up paying less and that savings may help to cover other financial risks like inflation, says Pace Harmon's Rutchik. The approach also tends to stabilize profit margins for the provider, so when the outsourcer is on the wrong side of the exchange rate, it isn't scrambling to cover those losses by cutting service.

3. Hedge against fluctuations in exchange rates.
Offshore outsourcing customers can, in theory, use the same hedging strategies that their IT service providers do. However, creating a dedicated team of financial analysts to develop and execute a hedging strategy would be a costly option for the casual outsourcing client—and extraordinarily risky if the analysts bet the wrong way on the future movement of the currency markets.

4. Pay for services in the provider's local currency.
Some customers, especially those with longer-term deals, prefer to pay in the local currency of the offshore provider—the Mexican peso or the Chinese yuan or the Estonian kroon. After all, the U.S. dollar trends higher against emerging market currencies over the long term.

But short term, the movements of the currency markets are more sporadic. There are periods where the dollar loses value against these currencies, so simply paying in local legal tender can end up costing during these phases. However, paying in the local currency can be cumbersome for clients who don't already do other business in the market, notes Rutchik.

5. Apply a "look-back" average to future payments going forward.
With this approach, the customer pays in dollars tied to local currency fluctuations but not in real time. Customer and vendor take the average currency fluctuation "looking back" over a certain period—say, the last six months. They then apply that average fluctuation against the dollar to a forward looking period of payments—say, the next year. This is repeated each year over the course of the contract term. This provides some stability for both parties each year, except in cases where the "look back" period involves some wild fluctuation in exchange rates, which is certainly possible.

Some offshore outsourcing customers ultimately may decide it's simpler to pay for IT services in fixed U.S. dollars even if that means some loss of savings.

But it's important to at least consider the options for mitigating currency risk, even for customers well into their offshoring contracts.

Says Rutchik, "Service providers are willing to renegotiate because they often have experienced significant margin expansion due to the currency benefits they have gained at the expense of the customer."

Tweet This Post Plurk This Post Buzz This Post Delicious Digg This Post Ping This Post Reddit This Post Stumble This Post

Tweet This Post Plurk This Post Buzz This Post Delicious Digg This Post Ping This Post Reddit This Post Stumble This Post