The Next Big Wave

The ergonomic features of the Volvo S80 car, which includes a built-in GSM
phone, navigation system, climate control, upper and rear electronic module,
steering angle sensor, sunroof and light switch contains 30-microcontroller
integrated chips that were designed in Motorola's India center.

If the Ferrari F1 car that Michael Schumacher drives this season sports a
Tata logo, don't rub your eyes in disbelief. Tata Consultancy Services (TCS)
will provide IT and engineering services to Scuderia Ferrari for the development
of its F1 car, beginning March 2005

It's the latest wave in offshoring and outsourcing after IT and ITeS. And
this time, it is engineering technology services, primarily engineering design,
that's driving it. From captives, to some of the biggest IT companies, to
niche engineering design boutiques, to Indian OEMs-everyone is making a
beeline to capture a slice of this growing pie. The ambit of engineering
services typically spans mechanical engineering design, construction engineering
design, electrical engineering design, embedded systems and chip design,
instrumentation and controls design, manufacturing and tool design, industrial
design, PLM or product lifecycle management and software product engineering.
This entire market is estimated to reach a size of $60 bn by 2008 according to
IDC. Says Prashanth Chunduri, head, marketing and HR, Neilsoft, "India is
in a position to capture 4-5% of the $60 bn opportunity."

How big is the pie?

To gauge the opportunity, we need to check out the action in the Indian
market. Automotive companies like Ford, General Motors, Cummins, Johnson
Controls, Nissan, Toyota, BMW are all outsourcing engineering design to India,
either through captive centers or third-party service providers. Aerospace
majors and Tier I aerospace companies who are suppliers of systems, subsystems
and components are outsourcing design services. Notable among these are Boeing,
Airbus, Assystems, Pratt & Whitney, Goodrich, Ferrari and B/E Aerospace.
Offshoring of engineering design services is happening through captives like
Ford, Caterpillar, Emerson and Cummins; IT service providers like TCS, Infosys,
Satyam and Wipro; engineering design boutiques like Neilsoft, Plexion and Quest,
and Indian OEMs like TVS Motor and Hero Honda. TCS has a 2,500-member
engineering services team and expects revenues worth $1 bn from engineering
services; Satyam has seen both its revenue and team double in the last two
years, and Neilsoft has grown 100% last fiscal.

Engineering services can be classified into two parts, namely design of
products or product development and design of processes for a manufacturing
enterprise like plant design, automation engineering and enterprise asset
management. However, it is product development that is fuelling the outsourcing
engine in engineering design services. Says Ravi Gopinath, VP, engineering
services, TCS, "Engineering services provided out of India are primarily
centered around the discrete manufacturing industry with an emphasis on product
development services such as automotive engineering design."

Who's building the wave?

The global automotive industry, typically, has been extremely competitive,
innovative, cost conscious and, most importantly, proactive in setting trends.
Global automotive majors, not surprisingly, were one of the first companies to
outsource engineering services. Spends for a car program for a global auto major
runs into billions of dollars and a sizeable chunk of this spends is on
engineering services. Says Aravind S Melligeri, founder and president of
Bangalore-based Quest, an established player in the automotive domain, "The
automotive industry is always looking for opportunities to reduce cost."
Research puts current spends on automotive design in the range of $50 bn
annually. The automotive design services delivered out of India are expected to
touch $1 bn in the next two years. Areas where outsourcing is already happening
are concept design, design and validation, prototype testing, tools and dies,
design and facility planning. Says TCS' Gopinath, "Some of the potential
areas are component development and tool procurement."

The opportunity in aerospace is also significant. In 2001, Boeing and Airbus
saw orders for new aircrafts plummet by 40% and 28%, respectively. The aerospace
industry has highly cyclical revenue patterns; high fixed operating costs and
large capital expenditures. With the need for economizing air travel, aircraft
manufacturing companies are under tremendous pressure to reduce costs of
construction and improve operating efficiency of aircrafts. "Engineering
services has a significant bearing on both, " says Gopinath of TCS.
Outsourcing engineering design to low-cost destinations like India typically
means 25-30% reduction in cycle time; 30-45% reduction in cost; 20-30%
improvement in production efficiency and 15-20% reduction in equipment
maintenance costs.

It's a growing pie

Typically, 75% of the design work for a car is mechanical content and that's
where the moolah is. Outsourcing in this area has been happening for nearly 10
years now. What has been picking up in the last couple of years is outsourcing
the electronic content. Almost all major systems like engines, transmission,
powertrain, braking systems are controlled through chips. This involves embedded
design and engineering. Today, 80-85% of outsourcing happens in traditional
design services. Says TCS' Gopinath, "We expect electronic content to
touch 40% in three years time."

There's no doubt whatsoever that automotive and aerospace are driving the
outsourcing wave in engineering design. However, verticals that are coming up
strongly are construction, industrial machinery and heavy and precision
engineering. Says Chunduri of Neilsoft, "We are very bullish on
construction engineering design and have developed strong domain expertise to
capture the opportunity." Adds Gopinath of TCS, "Plant design services
and automation systems integration have started to acquire increasing momentum
and is expected to constitute 50% of the services from India in a
three-to-four-year period." TCS estimates that the global market size of
engineering services will be to the tune of $220 bn by 2010, if you combine
product development and process design: that's considering plant design,
automation engineering and enterprise asset management.

Challenges unlimited

Most of the engineering design services that are being outsourced to
third-party service providers are low-end work. Says Neilsoft's Chunduri,
"Core R&D and high-end work tends to be done more in captive
models." Low-end work typically commands a price of $12 per hour, while
high-end work is around $35 an hour. Adds Chunduri, "Engineering companies
are traditionally conservative and prefer to outsource low-risk." However,
a change is in the air, with high-end work, especially in automotive,coming to
companies like Quest and TCS.

Lack of adequate domain expertise is another key concern. Let's take
automotive. Ideally, an engineer should work with an automotive company to get
the right domain knowledge and then move to engineering design: an unwritten
rule most engineering companies in the West abide by. This is definitely not the
practice here. Secondly, industries like aerospace are nearly dormant in India.
Says Melligeri of Quest, "While we have started producing indigenous cars
only in the recent past, we have never developed an aero engine or an aeroplane."
Adds MK Padmanabhan, president of Bangalore-based Plexion Technologies, "It
is nearly impossible for us to replace an engineer in the US with 20 years of
industry experience."

Manpower, or the lack of it, is also an issue with engineering design and
services companies. Thanks to the globalization wave and the boom of IT services
companies, most engineers prefer to join the likes of Infosys and Wipro, which
lure them with big buck dreams. Says Chunduri of Neilsoft, "An awareness
needs to be created on the emerging opportunity in engineering design and
services."

The cost arbitrage and the labor arbitrage could also seize to be an
advantage in future. Quest's Melligeri feels that this problem could be
addressed only if total product development shifts to India.

Fast forward

The industry is all set to go on the fast track in the next five years. An
emerging area in engineering design is industrial design. Industrial design,
typically, deals with the aesthetics part of the design. It is commonly referred
to as 'transportation design' in automotive and aerospace design. Says TCS'
Gopinath, "There is an opportunity in styling not only in the automotive
space, but also in heavy engineering." Tata Elxsi is one of the few
companies to identify the emerging opportunity. Says Nitin Pai, head of design,
Tata Elxsi, "We have bagged a deal in early 2004 to support a US-based
automotive OEM with Alias styling from India." The company, which has over
30 designers in addition to 100 engineers, has recently started work an OEM,
based in Europe, to deliver styling support. Pai expects industrial design to
pick up in the next two years.

The coming years are also likely to see a lot of consolidation. Says Gopinath,
"The biggest challenge today is to drive a strong verticalization."
Most engineering boutiques are immersed in certain domains and only scale
players are in a position to create deep domain competencies across verticals.
The industry could well see scale players going on an acquisition spree in the
domestic market. Scale players could go shopping offshore. This makes sense as
most global majors want the local flavour in the design work. He sums up by
saying: "Acquisition is the only way to go up the value chain."

Bhaswati Chakravorty
in New Delhi