Wage inflation sinks offshoring for one startup

The outsourcing and offshoring of software development work has become such an ingrained part of the technology industry in the United States that stories about it no longer rouse the public's interest as they did even a few years ago. That means the only way to gauge the growth of the phenomenon is by watching the bottom line of outsourcing giants such as India's Wipro, which recently reported a 41 percent jump in revenue in its latest fiscal year, and the heated debate in Washington over the number of H-1B high-tech visas that the federal government grants.

But the runaway growth of offshoring has created its own problems in countries such as India, where a substandard infrastructure and stiff competition for talented workers has changed the economics of setting up shop outside the United States.

The decision to hire a staff in India "wasn't even a second thought" when Munjal Shah, CEO of Riya, was laying the groundwork for his visual search startup back in 2004. (Riya is part of InfoWorld’s Month of Enterprise Startups feature.)

"At 30 percent wage rates [the ratio of an Indian salary to a U.S. salary], it still was worth the communication overhead, the travel, and the late-night conference calls," Shah recalls.

Those were the good old days. Today, wages in India have risen so much that maintaining development operations in Silicon Valley and India no longer made sense, forcing Riya to make what seems like an unusual decision: In April, the company nixed its Bangalore operations and consolidated operations back in the company's Silicon Valley headquarters.

In the end, the cost advantages of lower Indian wages did not outweigh the efficiency losses that came from maintaining some 35 employees in two offices, 12 hours apart, Shah said. 

Indian software development shops have been the workhorse for countless high-tech firms and U.S. enterprises for more than a decade. But steady demand for development talent is erasing some of the cost advantages that offshore development outfits have enjoyed, according to a report by Gartner. In fact, the wage rates for Indian software engineers will reach between 40 to 50 percent of Silicon Valley wages by 2008 with the gap continuing to narrow after that. 

Wage increases for Indian engineers averaged 15 percent from 2005 to 2006, compared with a 3 percent average increase for U.S. engineers, according to a recent Gartner report. That's not to say that things will be even-steven any time soon, though. "Even if Indian salaries continue to grow at 15 percent annually, it would take 16 years for Indian software engineers to catch their U.S. counterparts," the report says.