Satyam's U.S. Clients Face Tough Choices

Details of the stunning fraud at Indian outsourcing giant Satyam are still trickling out. On Friday, Jan. 9, former Chairman Ramalinga Raju was arrested, the company's stock was delisted, and its board of directors was liquidated. It's unclear whether the $2.1 billion-a-year company will survive. But worried as they are, Satyam's current customers cannot abandon the company overnight; in the tech-services business, the operations of the client and service provider can be deeply intertwined.

Now companies like General Electric (GE) and NestlÉ are hard at work assessing their exposure to risks if Satyam goes under. No. 1 on the priority list is determining how much of their business' knowledge has been documented and can easily be handed over to another outfit—and how much is locked up in the heads of Satyam's staff.

The original intent of shifting IT work like programming and database management to outfits like Satyam was to save on labor costs. The savings for many companies has been 15%-20% on their IT budgets. But for Satyam clients, a potentially expensive and complex process of disentanglement is beginning.

Intellectual Property

Figuring out the knowledge-transfer process "is not for the faint of heart," says John McCarthy, an analyst for Forrester Research (FORR) in Cambridge, Mass. "In the best case, they can transfer the documentation [to another firm], but if not, they have to look to the [employees] of Satyam." And once the firm gathers its intellectual property, it has to decide where else to entrust it.

Satyam has about 550 to 600 clients; those contacted for this article did not want to talk about their business with Satyam. About 237 accounts spend more than $1 million annually with the company and 52 accounts spend more than $10 million. About 23% of its revenues come from the manufacturing sector; 21% from telecom, information technology, and media companies; 10.5% from retail; and 7% from health care and pharmaceuticals, says McCarthy.

Lifeblood Issues

How much trouble these clients are in for, though, depends not on their particular industries but the types of operations they have outsourced to Satyam. Firms in the greatest danger are those who have contracted with Satyam for running "mission critical" systems and services —meaning IT operations core to the company's functioning, says Peter Bendor-Samuel, chief executive of the Everest Group, a Dallas outsourcing consultancy.

These systems include managing critical SAS and Oracle (ORCL) databases that control, for example, a company's accounts payable and receivables. "These are lifeblood issues to a company," says Bendor-Samuel. "They're pretty complicated and scary things to manage. [Satyam clients] are sweating every minute of every day to get it done."

Some companies are in better shape to handle the process than others, says Steve Martin, a partner and co-owner of Pace Harmon, a Vienna (Va.)-based outsourcing advisory firm serving Fortune 500 companies. "Best-practices companies do a good job documenting" business knowledge, says Martin. "Those who don't won't have an orderly or efficient transfer."

Hungry Competitors

Whether they've kept good records or not, Satyam clients are looking to other providers, many of whom they already use for other services. The recession has hit the outsourcing sector hard, especially as demand from financial-services firms has declined. That means competitors are hungry for business, and are working furiously to figure out how to take over Satyam clients. The tech-services field includes U.S. companies such as IBM (IBM) and Accenture (ACN), as well as India-based firms like Infosys (INFY), Tata (TCS.NS), and Wipro (WIT).

Patni Computer Systems (PTI), an Indian rival, is seizing this sudden opportunity by offering to help Satyam clients transfer operations smoothly to their firm.

"[Satyam clients] are watching the company closely…asking 'What can we do?" says Surjeet Singh, chief operational officer and chief financial officer of Patni. "We're telling them we can put together a business continuity program." Under such plans, Patni would help the client disengage from Satyam and transfer its contract to Patni without interrupting business.

Tarnished Reputations

Other competitors such as Infosys say they aren't yet making the pitch to Satyam clients, but are preparing to do so. "I think it's premature to talk about new business because it takes a considerable amount of time for companies to undo the work that one vendor is doing and switch to another," says Infosys spokesman Peter McLaughlin.

Of course, these India-based competitors will only succeed if the Satyam scandal doesn't also tarnish their reputations.

"The question is, is Satyam a one-off situation of poor mangement and judgment? Or is there something systematically wrong with auditing and controls in India?" asks Martin. "If it's a case of poor controls, I think you have the chance for a massive reorientation of the outsourcing market." With wages on the rise and increased competition from countries like China and the Philippines, the Indian IT market had already been losing some of its appeal.

In-house IT?

Besides switching to another outsourcer, Satyam clients may also consider bringing key functions back in-house, or even hiring Satyam staff who have worked on their projects. But those options don't come without complications. Companies may have to spend considerably more money to develop and maintain in-house IT functions. And bringing Satyam staff to the U.S.—whether now or in the event that the company collapses—would entail lengthy work-visa processes.

"It's not a trivial event to hire for work previously outsourced," says Martin. "It causes a lot of people trepidation."

Martin says he foresees more companies using a mix of outsourcers so they don't become too dependent on any single firm. He also suggests that companies adopt contingency plans, as other crisis situations will likely arise.

"You have to anticipate events like these will happen again," says Martin. "Companies [that outsource] need to keep good documentation to protect themselves."

Before it's here, it's on the Bloomberg Terminal.