POVERTY THE WORLD BANK REDUCTION AND ECONOMIC MANAGEMENT NETWORK (PREM) Economic Premise OCTOBER 2010 · Number 35 JUNE 2010 · Number 18 57150 Trade and an African Offshoring Industry--The Case of Nigeria Developingthe Competitiveness Agenda Ismail Radwan and Nicholas Strychacz José Guilherme Reis and Thomas Farole The purpose of this note1 is to raise awareness of Nigeria's potential as an African offshoring hub, and it is aimed primarily The global economic potential forced a major rethinking of the respective roles of governments and following toward policy makers, crisis hasprivate sector investors, and development partners. This note addresses themarkets in the processes of trade and growth. Indeed, industrial the benefits of global trade fashion--or, at least, talking brand it is. questions: what can Nigeria do to take advantage of policy seems to be back inin services; how can the country about itself But aoffshoring destination by government in the trade and growth agendapolicies aremean a return to old-style as an renewed "activism" for international investors; and what government need not required to ensure that Nigeria policies of in the substitution and "picking winners." Instead, it may mean a stronger focus on competitiveness by plays a roleimportgrowing ICT offshoring sector. unlocking the constraints to private sector­led growth. This note discusses the renewed role of government in trade and growth policy from the competitiveness angle, and it suggests some priorities for the new competitiveness agenda. Nigeria's economic potential is vast. The country's considerable Services offshoring has become a popular strategy for firms resource endowment, strategic coastal location, and large inter- looking to streamline costs, improve customer service, and en- nal market should allow it to become an economic powerhouse hance their core competencies. Services offshoring encompass- Export-Led Growth, the Crisis, and the End pacts of the crisis on the policy environment regarding trade for Africa. Yet Nigeria has not yet realized this potential. Like es a wide variety of export-oriented services that span the entire of an Era and growth were becoming more apparent. Indeed, in addi- most African countries, to begin on a path of rapid and sustain- value chain. In 2010, the global offshoring market was estimat- tion to raising concerns over the global commitment to trade able development, Nigeria will have to support private sector ed to be around $90 billion (Global Services Media 2010), and The dramatic expansion in global trade over recent decades liberalization, the crisis has also led to some serious rethink- growth and look for opportunities to diversify the economy the market is likely to grow rapidly as technology and countries' has contributed significantly to diversification, growth, and ing of some of the conventional wisdom regarding the away from the oil sector. One attractive way to do this could be capabilities improve. poverty reduction in many developing countries. This period growth agenda--the most important result of which is the to develop the nascent offshoring information communica- of rapid export growth has been enabled by two critical How Can Services Offshoring Reduce likelihood that governments will play a much more activist tions technology (ICT) sector. Countries around the world that structural changes in global trade: (1) the vertical and spatial Poverty? role in the coming years. There are three principal reasons are investing in high value-added sectors such as ICT, in partic- fragmentation of manufacturing into highly integrated why governments are likely to be more actively involved in ular countries such as India, South Korea, and the Philippines, Services trade can be an engine for growth and catalyze poverty "global production networks," and (2) the rise of services industrial and trade policy in the coming years. are reaping the benefits of adapting their economies to be more reduction. In countries that have grown quickly and that have trade and the growth of "offshoring." Both of these, in turn, First, the crisis has undone faith in markets and discred- competitive in global services trade. been able to sustain high growth over long periods, the service were made possible by major technological revolutions; and ited laissez-faire approaches that rely simply on trade policy sectors have been responsible for much of that growth, gener- they were supported by What Is Offshoring? multilateral trade policy reforms liberalization. Instead, governments and local markets have ally growing much faster than other sectors of the economy (see and broad liberalizations in domestic trade and investment been "rediscovered." In this sense, the demand for activist Outsourcing occurs when one company delegates responsibili- figure 1). Indeed, engaging in services trade enables countries environments worldwide. government is likely to go well beyond financial markets and ty for performing a function or series of tasks to another com- to potentially bypass the industrial development stage and en- The global economic crisis came crashing into the middle regulation, and it will affect the policy environment in which pany. When the second company is based in another country, gage directly in high value-added sectors (Ghani 2010). In Ni- of this long-running export-led growth party during 2008 trade and industrial strategies are designed. outsourcing becomes offshoring. Recent improvements in in- geria, for example, mobile phone subscribers greatly outnum- and 2009. Between the last quarter of 2007 and the second Second, the crisis has highlighted the critical importance formation technology (IT) and lower costs of data transmission ber those with landlines, which has made investment in costly quarter of 2009, global trade contracted by 36 percent. But of diversification (of sectors, products, and trading partners) have extended the concept of offshoring to tradable services. fixed-line infrastructure unnecessary. as the recovery started to strengthen in 2010 (at least until in reducing the risks of growth volatility. The recent era of the clouds began to form over Europe), the longer-term im- globalization contributed to substantial specialization of 1 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK www.worldbank.org/economicpremise 1 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK www.worldbank.org/economicpremise Figure 1. High-Income Countries Have Large Service Sectors encourage further learning (ILO 2003, 13). This can take 80 sectoral contribution to country GDP, 2006 place at all levels, from entry-level workers to the managerial level. In this way, developing countries can acquire experi- 70 ence and put in place the conditions necessary to foster local 60 entrepreneurship. 50 Developed countries provide the majority of demand for offshore business services. The McKinsey Global Institute (Far- percent 40 rell and others 2005, 28) estimates that approximately 225,000 30 jobs--or 1­2 percent of total jobs created in the United States-- 20 will be offshored on average per year, and that in total up to 11 percent of worldwide service employment could be performed 10 remotely, suggesting that up to 18 million jobs are likely to go offshore. low-income middle-income high-income On the supply side, India has emerged as the leader in the countries countries countries international offshoring, with as much as 65 percent of the agriculture industry services market. However, as a larger number of firms look to diversify Source: World Bank, World Development Indicators (2006). their service sources to prevent dependence on a single pro- vider, more countries are competing to gain a share of the ex- panding market. It was estimated by the consulting firm A.T. In addition to the economic logic behind developing an off- Kearney (2004) in its Making Offshore Decisions report that shoring sector, the wider context of global demand for services more than 4,000 companies in 150 countries were then com- also shows the benefits of engaging in services trade. The global peting to provide offshored services to a handful of wealthy market for offshoring has been growing at 30 percent annually nations, and that number has likely increased since the re- between 2003 and 2010, far outpacing the growth rate of port's publication. A more recent report from A.T. Kearney goods trade and even other services trade (Farrell and others (2009) argued that Africa has the potential to redraw the 2005, 19). Similarly, the percentage of the total workforce en- global offshoring map by attracting more foreign firms than gaged in services is expanding at a rapid pace, which demon- other regions. strates the job-creating nature of services sectors. Furthermore, since many service sector jobs are relatively well paid, it is esti- Nigeria and the Drivers for Services mated by the United Nations Conference on Trade and Devel- Offshoring Growth opment (UNCTAD 2003) that each new position generates a Companies engage in offshoring activities for a variety of rea- further three jobs in the rest of the economy. sons, the most important of which is that offshoring can often Beyond job creation, offshoring creates positive spillover ef- reduce labor costs. Since salaries comprise a significant portion fects that can further benefit the economy as a whole. Among of variable costs, offshoring business processes can provide size- these benefits are: able savings to firms in developed countries. In addition to cut- ·. Incentives are created for education. While manufacturing ting costs, firms can use offshoring to increase their productiv- outsourcing relies on a cheap, low-skilled workforce, servic- ity and competitiveness. Offshoring generic business processes es outsourcing relies on a well-educated and skilled work- allows firms to focus on their core competencies and increase force. The employment of a relatively skilled labor force in innovation initiatives, which often enables firms to expand services trade increases the returns to education, and in this their operations and broaden their customer base. In addition, way creates incentives to acquire skills that are marketable in in some instances offshoring can present an opportunity for the global economy. better risk management and diversification, which can reduce a ·. Technology and knowledge are transferred. Repeated and fre- firm's liabilities and direct responsibilities. By offshoring cer- quent interactions with foreign firms increase knowledge tain business services, therefore, multinational and foreign transfers. This is not limited just to technical knowledge, companies can accelerate the delivery of work products, im- but also includes the business standards and managerial prove customer satisfaction, and reduce costs. know-how that feature prominently in the long-run growth There are several key factors that determine whether a par- trend for any developing country. ticular region would be an attractive offshoring operation. The ·. Human capital is improved. Export-oriented zones have been Offshore Location Attractiveness Index (Kearney 2004, 2009) shown to improve the quality of human capital and the pro- can be used to evaluate different locations around the world in ductivity of the local workforce in domestic economies as terms of their attractiveness for offshoring activities. The index long as foreign investors help to train the local workforce and consists of three major categories including financial structure, 2 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK www.worldbank.org/economicpremise Table 1. Offshoring Attractiveness Index Category Subcategory Key factors Financial structure (40%) Compensation costs Average wates and median compensation costs for relevant Infrastructure costs positions Real estate costs Electricity and telecommunications costs Regulatory costs Office rents per square meter Corporate tax rate and quantification of other regulatory costs People skills and availability (30%) Workforce availability Population and total workforce Labor force quality Literacy rates and English-speaking ability Proporation of population pursuing tertiary education Education expenditure as a percentage of GDP Availability of information skills Reputation Existing IT and business process outsourcing market size Quality rankings Business environment (30%) Infrastructure Connectivity, availability of telecommunications, electricity, and transportation Regulatory policies Security of intellectual property and piracy rates Barriers to doing business Economic stability Fluctuation of exchange rates Political stability Corruption and governance Source: Adapted from Kearney (2004, 2009). people skills and availability, and business environment (see ta- higher costs or less reliable services. Important factors to con- ble 1 for details of the key elements). Financial structure is giv- sider are: en 40 percent of the total weight because cost advantage was ·. Labor costs: Labor costs in Nigeria are relatively low, making determined to be the primary driver of offshoring activities, Nigeria attractive in terms of average monthly and annual while people skills and business environment each account for labor costs. 30 percent of the remaining weight. ·. Infrastructure: Infrastructure in Nigeria is relatively poor, Nigeria is a good role model for Africa as a potential destina- making Nigeria unattractive in terms of possessing cheap tion for foreign firms because it has a mix of strengths and and reliable infrastructure. weaknesses for these indicators. Its framework could be useful ·. Telecommunications and Internet: Nigeria is relatively unat- for other African countries that are interested in attracting for- tractive in comparison to its competitors in terms of tele- eign firms. The Offshore Location Attractiveness Index results phony costs (which are high) and access to reliable Internet are summarized in table 2, and the remainder of this section and broadband services (which are low). examines in more detail how Nigeria scores in each of its key ·. Electricity: Developing a reliable source of energy for Nigeria categories. is a key challenge. The high cost and low reliability of elec- Financial Structure tricity often deter international investors from relocating to Nigeria. Financial structure is a key determinant of an offshoring loca- ·. Transportation: The Nigerian transportation system will re- tion's attractiveness. Countries that can offer reliable services at main an area of weakness in the country's business environ- a low cost will be more competitive than those countries with ment unless resources are devoted toward improving the road network, especially in the major urban areas. Table 2. How Attractive Is Nigeria as an Offshoring Destination? Labor Quality and Availability Financial structure People skills/availability Business environment Beyond cost, the quality and availability of labor is Compensation costs Labor availability Infrastructure an important factor in determining the attractive- Infrastructure costs Labor quality Regulatory policies ness of a country for offshoring activities. Real estate costs Reputation Stability ·. Population size: Nigeria has the population size Regulatory costs to compete successfully in global markets. Factor rating (1­4) 3.5 Factor rating (1­3) 0.75 Factor rating (1­3) 0.75 ·. Literacy: English is widely spoken in Nigeria, Source: Authors' estimations. and this can provide the country with a 3 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK www.worldbank.org/economicpremise competitive edge. In terms of adult literacy, Nigeria ranks outsourcing business functions to Nigerian offshoring firms. ahead of many countries competing for a share of the off- ·. Reputation: The Niger Delta crisis, kidnappings, and the shore services market, with male literacy at 75 percent and country's reputation for scams have resulted in a poor inter- female literacy at 60 percent. national reputation. Nigeria's reputation will have to be ad- ·. Education quality: On the other hand, Nigeria needs to ex- dressed to attract significant foreign investment and success- pand its tertiary education and offer more technical and sci- fully develop an offshoring sector. entific subjects. Nigeria lags behind other offshoring desti- Summary of Nigeria's Competitive Position nations in tertiary education enrollment, a trend that could hamper Nigeria's ability to grow its offshoring sector. Nigeria's main strengths as a potential offshoring destination ·. Education investment: The government continues to under- lie in its relatively low-wage and cost structure. The country's invest in the education system compared to South Africa, large size and youthful population are also assets for companies India, and China. In the medium term, Nigeria will have to wishing to establish large-scale call centers and similar opera- pay closer attention to educational outcomes to become tions. The country's good record on contract enforcement and truly competitive in the global economy. flexible labor market regulations increase its competitiveness, ·. Technical training: The quality and availability of technical as do recent steps to streamline business registration. and vocational training, particularly in IT, must be im- There remain several challenges, however, that the country proved. Nigeria has very few specialized technology, IT, and will need to overcome before it can increase its role in the off- management colleges, and the effectiveness of existing shoring industry. These include the relatively low number of schools is typically hampered by financing and human ca- university graduates and their low productivity in comparison pacity constraints. with competitor nations, the relatively high costs of telecom- Business Environment munications connectivity, and the limited availability of broad- band technology. The country's poor infrastructure, particu- When selecting potential investment locations, international larly electricity and roads, also challenge potential offshoring firms generally look for a stable political, legal, and macroeco- operations. Despite steps in the right direction, there remains nomic environment. Providing such an environment has been tremendous scope for improving the business environment a challenge for Nigeria, but there have been some positive de- and improving the state of the country's basic infrastructure. velopments: ·. Contracts: Contract enforcement is an area where Nigeria Conclusions and Policy Recommendations has become stronger, yet further progress can be made. A The following section proposes policy recommendations for contract still takes more than a year to be enforced and costs developing an offshoring industry in Nigeria. 27 percent of the claim, but this is considerably faster and less costly than many of Nigeria's competitors. Potential Target Markets ·. Labor regulation: Flexible labor regulations present a signifi- Nigeria should begin by focusing on the lower end of the busi- cant advantage for Nigeria. Unlike many other developing ness process outsourcing (BPO) value chain. Before it can ven- countries, Nigeria's labor system is straightforward and not ture into higher value-added business services and become com- overly complex, allowing firms to employ the most efficient petitive in offshoring, Nigeria should explore the following areas: number of workers while also providing adequate worker ·. Domestic industry: Nigeria can begin by developing its do- protection. mestic outsourcing industry by creating call centers for do- ·. E-commerce: The lack of electronic communication and e- mestic companies and government services as a first step to transaction legislation has hampered growth in the Nigerian offshoring. offshoring sector and has kept potential investors away. IT ·. Back office processes: Nigeria can compete effectively for back industries in developed countries are extremely protective office jobs, such as accounting and data management. How- of intellectual property and want to operate in countries ever, back office processes add less value, and Nigeria should that have a tradition of protecting and respecting intellectu- eventually try to move into high value-added services. al property rights. However, the fact that Asian countries are ·. Customer contact: This is a space in which Nigeria can effec- also struggling with this means that Nigeria has some space tively compete due to its large pool of workers with English to develop its own intellectual property protection regime. language ability. ·. Export-processing zones (EPZs): Nigeria has a long experience Nigeria does not yet have the ability to focus on the knowl- with EPZs, and similar zones such as offshoring parks can edge services and research and development market segments, play a facilitating role in the industry's growth. Building on and firms looking to offshore these services are likely to look at the experience of its "one-stop-shop" EPZs, Nigeria should more established markets. However, if Nigeria can develop a consider similar streamlined mechanisms to attract IT and successful domestic outsourcing capability in higher value ser- other businesses interested in setting up in the country or vices such as research and development, it will be better able to 4 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK www.worldbank.org/economicpremise attract international investors who are looking to move up the forts made to rebrand Nigeria--the "good people: great nation" value chain. campaign--are an excellent start. The government can work Creating the Brain Gain with private companies using the investment promotion com- mission and the country's network of overseas embassies to Nigeria can attract attention to its offshoring potential by lever- promote a Nigerian role in the provision of international ser- aging its large overseas population as a network for outsourcing. vices. Other possible policy initiatives could include: It is estimated that 15 million Nigerians are living and working ·. IT park development: International experience suggests that overseas around the world. Since personal connections play an tax incentives are likely to have limited impact. More impor- important role in determining the choice of a particular coun- tant in Nigeria are measures to ease the constraints to doing try as an offshore destination, the Nigerian diaspora could be business and the establishment of dedicated IT parks that used to facilitate a "brain gain," where Nigerians living overseas can provide reliable power, high bandwidth, and security to create a channel for developing the reputation of Nigeria's off- encourage multinationals and other international firms to shore service industry. The Nigerian government could encour- locate to Nigeria. age this by promoting dual citizenship, compiling a database of ·. People skills and availability: Nigeria must refocus on educa- expatriate Nigerian professionals, and mobilizing its embassies tion with resources specifically devoted to developing the to support such an effort. service and IT skills of students. The curricula of universi- Enterprise-Level Strategies ties and schools could be revised to give students the specific skills that offshoring firms seek. This is a policy that has Local enterprises wanting to provide services to foreign firms been successful in India, and more recently in the Arab Re- must make a concerted effort to market their unique strengths public of Egypt. and develop focused business plans with clearly established ·. Incentives for training: The government can create incentives goals for long-term growth. Local firms should be proactive in for firms to provide workers with suitable training programs searching for local partners and should look internationally to that expand and improve the quality of services provided by expand both their funding resources and client base. Key issues Nigeria. to tackle include: ·. Improved telecommunications and IT infrastructure: Improved ·. Cost competitiveness: Firms should research the cost struc- infrastructure is a prerequisite for developing an offshoring tures of competitors as well as the services provided and con- industry. Fostering the development of ICT infrastructure stantly aim to provide higher quality services at the lowest in areas outside major cities will also yield benefits to Nigeria cost possible. It is important to continuously and efficiently in the long run, because it will allow services to be delivered innovate and tailor services to client needs efficiently to re- across the country. The government should encourage tech- tain a noticeable cost advantage. nologies, such as voice-over-Internet protocol, that lower ·. Human resources: To ensure that employees can meet cus- communications costs. tomer service demands and keep up with new techniques ·. Legal framework: From a regulatory standpoint, the Nigerian and innovations, firms should initiate in-house or on-site government must also address the lack of a robust legal certified training programs with a continuous focus on im- framework for offshoring, intellectual property rights, and proving performance and the quality of services provided to e-commerce, which is currently deterring foreign direct in- ensure customer satisfaction and attract international inves- vestment. The legal framework should be conducive to tors. emerging industries and enable businesses to start up with- ·. ICT systems: Local firms must ensure that they have well-de- out the challenges of multiple administrative barriers. Al- veloped ICT systems. Unreliable ICT infrastructure hinders though Nigeria has made positive steps in this direction, the ability of firms to provide services promptly, reliably, more could be done with respect to reforms such as proper- and efficiently. Companies should make detailed assess- ty registration and reducing the time taken to pay taxes. ments of ICT requirements and address any resulting gaps ·. Outsourcing government services: Government can provide a as quickly as possible. Firms should also engage with public push to this industry by outsourcing services such as data authorities to highlight where government support is need- entry, for example, for health, education, and land records; ed in relevant sectors. establishing a three-digit number for emergency services (such as 911 in the United States); and establishing a gov- Government Policy Framework and ernment information center to provide information over Suggested Reforms the phone on the most essential public services. The government of Nigeria could play a useful role in market- Such reforms would go a long way to making Nigeria an at- ing offshoring opportunities in the country's services industry tractive country for foreign investors, and would considerably to potential domestic and international clients. The recent ef- help Nigeria's efforts to develop a strong offshoring industry. 5 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK www.worldbank.org/economicpremise These lessons are also applicable across the region, and in this Note way the development of Nigeria's offshoring sector could be a 1. This policy note is based on a longer World Bank (2009) re- role model for other African countries on how to successfully port, Transforming Nigeria into Africa's Offshoring Hub. build a strong offshoring industry. References About the Authors Farrell, Diana, Martha Laboissière, Robert Pascal, and others. The Emerging Ismail Radwan is Lead Private Sector Development Specialist Global Labor Market: Part III--How Supply and Demand for Offshore Talent Meet. McKinsey Global Institute, San Francisco. in the Africa Financial and Private Sector Development Unit. Ghani, Ejaz. 2010. The Services Revolution in South Asia. New York: Oxford Uni- Nicholas Strychacz is a Consultant in the Africa Poverty Re- versity Press. duction and Economic Management Unit. This work is fund- Global Services Media. 2010. [[Q: need more information, title, city, etc.]] ed by the Multi-Donor Trust Fund for Trade and Develop- ILO (International Labor Office). 2003. "Employment and Social Policy in Re- spect of Export Processing Zones (EPZs)." Geneva. ment supported by the governments of the United Kingdom, Kearney, A. T. 2004. Making Offshore Decisions. www.atkearney.com. Finland, Sweden, and Norway. The views expressed in this pa- ------. 2009. Geography of Offshoring Is Shifting. www.sourcingfocus.com. per reflect solely those of the authors and not necessarily the UNCTAD (United Nations Conference on Trade and Development). 2003. E- Commerce and Development Report 2003. New York and Geneva: UNCTAD. views of the funders, the World Bank Group, or its Executive Radwan, Ismail. 2009. Transforming Nigeria into Africa's Offshoring Hub. World Directors. Bank, Washington, DC. The Economic Premise note series is intended to summarize good practices and key policy findings on topics related to economic policy. They are produced by the Poverty Reduc- tion and Economic Management (PREM) Network Vice-Presidency of the World Bank. The views expressed here are those of the authors and do not necessarily reflect those of the World Bank. The notes are available at: www.worldbank.org/economicpremise. 6 POVERTY REDUCTION AND ECONOMIC MANAGEMENT (PREM) NETWORK www.worldbank.org/economicpremise