Small Firms Find That Outsourcing Cuts Both Ways in Fortune Small Business

Fortune Small Business - April 2004

By Jeremy Kahn

"Many small U.S. companies are losing business to low-wage foreign competitors, but others are nimbly turning global trends to their advantage."

As U.S. firms export more jobs in manufacturing, and even in professional services such as tax accounting, small businesses—which employ most Americans—are in the thick of the action and are finding both danger and opportunity. Craig Schroer, president of Unitech, a tool and die manufacturer in Lee's Summit, Mo., until recently had 16 workers and generated annual sales of $2 million. But his largest customer, a U.S. truckmaker, decided to purchase less expensive parts from a Chinese manufacturer instead, slashing Unitech's revenues by half almost overnight. "One month they were talking to us about doubling their orders," laments Schroer, 52. "The next month they were gone."

Victims such as Unitech are easy to find amid today's tumultuous growth in international commerce. They tend to be concentrated in particular industries and regions, so they attract attention from both the news media and politicians. And they deserve sympathy and help. Economists' assurances about the broad efficiencies and benefits of global commerce can ring hollow to someone who has spent his life learning and building and fine-tuning a company only to see its prospects disappear. But at a time when everyone from John Kerry to Lou Dobbs is beating the protectionist drum, it's important to remember that the opportunities offered by global commerce—lower prices, more spending power for consumers, enhanced opportunities for exports—while diffuse and difficult to measure, are huge. And on that side of the ledger, too, smart small businesses are assuming a lead role.

Job Exodus
Percentage of jobs lost since 2001 in heavily outsourced sectors

One example can be found in Morgan Hill, Calif., at a firm called American Predator, a manufacturer of computerized control systems for industrial and medical equipment. For years the 45-employee firm spent millions of dollars hiring U.S. contractors to solder components onto motherboards. But now it sends the manufacturing work to a Mexican company, which charges 30% less, enabling American Predator to focus on its higher-margin software-design business. "We are able to offer more services without increasing overhead," says CEO Ed Travis.

For many U.S. entrepreneurs facing intense competition from imports, moving at least some of their work overseas and seeking foreign suppliers are essential if they want to keep their business growing—or even just keep it going. Other small businesses are taking the offensive, finding new markets in developing countries such as Brazil, China, India, and Mexico, where outsourcing from the U.S. and other high-wage economies is creating a middle class with money to spend.

For Xpitax, a 50-employee company in Braintree, Mass., outsourcing isn't just a boon to business—it is the business. Taking advantage of what economists call "wage arbitrage," Xpitax helps small accounting firms transfer the laborious work of preparing clients' tax forms to a team of chartered accountants in India. Trained by Xpitax in the nuances of U.S. tax law, the accountants are paid $110 a day—about what an American CPA earns in an hour—and can usually prepare a return in 12 to 24 hours. "If you give me your tax information now, I can put it in the [Xpitax] service, and India, which is ten hours ahead of us, will work on it while we sleep," says Robert Goodman, who runs a small accounting firm in Chestnut Hill, Mass., and used Xpitax's service for the first time last tax season. "Any question they have will be posted by morning." Xpitax's business is exploding. It processed 5,000 returns in 2002—and 40,000 last year. And it expects to handle several hundred thousand this year from 54 accounting firms.

Most of those who hire Mr. Excel Consulting, based in Hartville, Ohio, for spreadsheet and data solutions have no idea that a technician in Colombia, China, India, or Turkey is handling the job. All they know is that they get a step-by-step answer via e-mail in minutes to hours—a lot faster and cheaper than if they hired a consultant on-site or tried to get anything beyond a generic answer at a software company's tech-support phone line. Owner Bill Jelen says his service "is very convenient, especially when clients come up with a request at the end of the day, and we can get the work done before they show up to work the next day because we have people working overnight." Since Jelen began outsourcing in 2001, his firm's revenues have tripled to just north of $1 million.

A recent study of outsourcing's impact on the U.S. economy found that American companies' sending computer systems work overseas led to higher productivity and created 90,000 jobs last year. The report, conducted by the consulting firm Global Insight for the trade group Information Technology Association of America, estimates that twice the number of U.S. jobs were created than were lost in sectors ranging from manufacturing to financial services (higher profits leave businesses with more money to expand, creating new jobs).

But make no mistake: Even if the U.S. gains net jobs through trade and outsourcing, many businesses and their workers face a painful adjustment. Of 2.3 million U.S. jobs that have vanished since January 2001, about 10% have moved abroad, according to a study by McKinsey Consulting. The outsourcing trend is accelerating, and by 2015 more than 3.3 million jobs are expected to leave the country. Metal workers, call-center operators, software programmers, X-ray technicians, and accountants will be hardest hit. Experts estimate that about 11% of all U.S. workers, or 14 million, are at risk of losing their jobs to outsourcing. "We're dying out here, and no one is responding," says Matthew Coffey, president of the National Tooling and Machining Association. The group's membership has shrunk to 1,700 companies from 3,200 over the past three years as many have gone bankrupt.

Some of those jobs may never come back. But others will take their place—created, as usual, by small companies. As William Poole, president of the Federal Reserve Bank of St. Louis recently said, "I'm an optimist about the long-run economic performance of the United States because of the superb entrepreneurial environment in this country." The answer is to encourage that culture, not to shut it off from the world.

Copyright 2003 by Fortune Small Business