The Management Consulting Industry Confronts Globalization. Center for International Business Tuck School of Business at Dartmouth September 17, 2007

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1 Research team: The Management Consulting Industry Confronts Globalization Center for International Business Tuck School of Business at Dartmouth September 17, 2007 Team leader: Andrew Bernard, Jack Byrne Professor of International Economics and Director, Center for International Business, The Tuck School Center for International Business MBA Fellows: Paulo de Almeida, Aaron Cohn, Jeffrey Capone, Shintaro Hashimoto, Alejandro Lizcano Esteras, Kestas Sereiva, Penelope Welsh Introduction Manufacturing firms are well down the path of globalization. Beginning about thirty years ago, global forces, such as the emergence of low-cost competitors and rapid economic development in emerging markets, began to have profound effects on the structure and performance of manufacturers. Many firms responded by moving production to low-cost countries and attempting to penetrate new markets. Today, most manufacturers grapple not with the issue of whether to move outside their home countries, but the consequences of doing so, such as managing an international workforce and catering to diverse customer tastes. The world s service firms have been slower to globalize. For some service firms, offshoring requires a highly skilled workforce, which can significantly limit options. Other service firms 1

2 may find it difficult to sell overseas, as demand for their services may be weak in certain parts of the world. For example, services such as consulting and commercial banking are sold mostly to large corporations and are virtually non-existent outside the developed economies. Firms may also find it difficult or impossible to deliver highly skilled services remotely, necessitating global operations. This ushers in a host of issues related to finding and training local talent. All of these obstacles have conspired to limit the responses of many service firms to global forces. However, as the pace of globalization has accelerated, an increasing number of service firms have extended their operations internationally. The purpose of this research study was to assess the effects of global forces on one service sector, management consulting. We hypothesized that the largest consulting firms would have responded to global forces by moving some operations (such as accounting, human resources, research support) to low-cost countries. We also hypothesized that the effects of globalization on the firms clients, many of which are large manufacturers, would have led the firms to establish offices overseas. Our research methodology consisted of interviews with senior managers at select top- and midtier consulting firms headquartered in the United States. The number of firms included in the study was small because the industry is very concentrated. Client names have not been used in this report due to the sensitive nature of the subject matter. Interviews were conducted during the winter and spring of 2007 by Tuck Center for International Business MBA Fellows, under the supervision of Andrew Bernard, center director and Jack Byrne Professor of International Economics. 2

3 Factors Driving Globalization by Consulting Firms Revenue drivers of globalization: Client expansion Indigenous demand Concentration of industry expertise Cost is not a key driver Most globalization has been reactive, not proactive In seeking to understand the various factors driving globalization in the management consulting industry, we asked our sample of firms to discuss their reasons for expanding their organizations abroad. Prior to beginning this study, we hypothesized that these reasons would fall into two main categories: cost drivers and revenue drivers. For the most part, we found that cost factors play only a minor role, if any, in decisions concerning international expansion. On the other hand, revenue (i.e., client) factors are primary globalization drivers for all firms Cost Drivers While the globalization of cost centers as a means to reducing production and operating costs has been a major source of competitive advantage in the manufacturing sector, this phenomenon has not had a comparable impact on the management consulting industry. Among the larger firms in our study sample, the highest degree of cost globalization activity involves the outsourcing of basic, routine back-office functions to low-cost countries like India. The smaller companies stated that they do not have the necessary scale to make cost center globalization worthwhile. Basic functions outsourced by the larger firms typically include graphic design for slide decks, other PowerPoint production tasks, basic research, population of data into models, and low-value 3

4 transactional activities, such as timesheet processing. In all cases, these firms maintain part of these operations in house, often due to the time-sensitivity of certain deliverables. Interestingly, the benefit of cost center outsourcing most often emphasized by these firms, even more so than cost reduction, is the 24-hour productivity and turnaround time provided by time zone diversification. While the outsourcing of basic tasks certainly appears to be the most prominent form of cost center globalization in the industry, one large firm discussed a different approach. While the firm claims that it does not outsource any activities and does not believe that support functions have sufficient strategic importance to warrant the opening of dedicated offices, the firm does consolidate such operations in existing offices based on geographic cost advantages. So, for example, if information technology activities can be more cost-effectively handled by the labor pool available in a given geography, the firm would choose to localize IT functions in existing offices within that geography. Revenue Drivers As noted previously, revenue considerations, or client demand factors, constitute the primary drivers of globalization activity in the management consulting industry. Within this broad category of factors, the firms described two approaches to globalization, one reactive and one proactive. The reactive approach, which is responsible for most international expansion activity, drives globalization of operations as a response to explicit, existing client needs in a given 4

5 geography. In contrast, the proactive approach represents a forward-looking strategy for international growth. All of the firms have historically been pulled into new geographies by client demand for service in those locations. International expansion activities of U.S.- or Europe-based clients are certainly one key source of client pull. However, there are other important client considerations as well. One large firm noted the importance of having an office presence in countries that are critical to specific industries. For example, U.S.-based clients in the automotive industry expect their consulting firm partners to have offices in Japan. Thus, client demand for firm presence in a given geography may be based on knowledge benefits rather than on a client s intention to produce or sell in that geography. Another important consideration noted by several firms is indigenous client demand. While clients with global operations can generally be served from remote offices, it is particularly important to have an office in a country if a firm wants to serve locally-focused clients that are based in that country. In fact, one smaller firm indicated that it does not plan to expand beyond its existing office base for example, by establishing an office in Asia until it has sufficient additional demand from local companies in other geographies. While client demand has historically been the main prerequisite for globalization of consulting firm operations, the existence of such demand is not, by itself, a sufficient justification for expansion abroad. The majority of firms have established screening criteria to guide decisions related to the opening of new international offices. For some firms, these criteria are laid out formally in company documents, while for others, they reside in the tacit knowledge of upper 5

6 management. In aggregate, the firms ask the following questions when deciding whether to open a new office: Is there a critical mass of clients, in general, that can be served from the office? Is there a critical mass of large, global companies that are based in the country? Are there companies based in the country that have the potential to become large, global companies? Does demand for consulting services in the country appear sustainable in the long term? Do existing clients care whether the firm has a presence in the country? Will companies that are based in the new geography contribute to the firm s global knowledge base? That is, will knowledge acquired while working with companies in this new geography be useful for other clients operating elsewhere in the world? Does opening a new office in the country fit with the needs and strategy of the firm as a whole? In other words, does the new location make sense when considered as part of a larger portfolio of office locations? Are there partners who are willing to relocate to the country to manage the office? It is important to note that although most globalization efforts in the management consulting industry tend to be opportunistic in nature, occurring primarily in reaction to existing client demand rather than in advance of it, some firms have taken proactive steps to identify international opportunities. For example, one large firm claims that it has always invested in Asia ahead of the business, citing the opening of its Tokyo office only three years after the founding of the company in the U.S. At another firm, the executive committee regularly reviews 6

7 expansion opportunities, with South Africa, the Middle East, and Eastern Europe constituting the most recent geographies under consideration. While we hypothesize that proactive expansion strategies may be more widespread than noted here, some of the firms were reluctant to discuss such strategies due to competitive concerns. How Firms Globalize Region-specific knowledge centers in existing offices Partner-led growth Acquisition Joint ventures Contractors Once the decision has been made to expand operations into a new geography, the management consulting firms in our sample presently utilize, or are currently considering, five distinct models to achieve this growth. These models differ in the degree of control exercised by the firms over global operations. Ordered from most to least control, the five models are: region-specific knowledge centers, partner-led growth, acquisition, joint venture, and contracting. Franchise growth, while not being used by any of the firms in the study, was cited by one firm. Region-specific knowledge centers In this first model, firm knowledge about a given geographic area or economy is centralized within an existing office located outside the geography in question. Rather than open a new office in the region, the firm brings the capabilities necessary to serve clients operating in that 7

8 region into an existing office. For example, one firm opened an Asia-focused knowledge center staffed by Asian-born employees in an office located in Germany. With an increasing number of global clients interested in the Asian markets, consultants in this center are often the first points of contact and work as specialists linking Europe and Asia. These consultants represent many different nationalities from the region, and from other emerging markets, and thus provide a global perspective in their engagements. Partner-led growth In the partner-led growth model, offices in new geographies are opened by partners from other offices around the world. Partners then hire first-year associates from the native labor pools within these countries. The outside partners remain in the new offices until the local associates become partners themselves and are able to operate the offices independently. This globalization model takes longer to implement than some of the others because, as noted by one of the firms, it takes at least six years for local associates to grow into the partner role. However, there are two advantages to this approach. First, seeding the new offices with foreign partners ensures a uniform, global corporate culture across the firm. Second, building the office with native talent improves the firm s access to local knowledge and expertise and better positions the firm to serve local clients. Acquisition 8

9 Rather than building a consulting business from scratch in a new geography, some firms choose to acquire existing management consulting businesses in the new region. One key consideration in following this model is selecting target firms that are aligned with the culture and consulting approach of the acquiring firm. Several of the firms noted the problems that could arise from a mismatch in culture, which they also attempt to mitigate by sending over experienced partners from the parent firm after the acquisition. Despite these potential problems, the acquisition model of international expansion provides the benefits of rapid execution and of local knowledge and expertise. Joint venture One of the smaller firms indicated that it is currently exploring joint ventures with foreign consulting firms as a means of entering new markets. Partnerships with foreign firms with similar interests and needs in a given region may be a particularly attractive option for smaller consultancies that do not have the resources or critical mass of clients in a region to justify the opening of new, dedicated offices. It is not clear how partnering firms would share ownership or control in these joint ventures, nor is it clear how project work would be divided between firms. As with the acquisition model, potential business partners would also have to face the risks of divergent corporate cultures. However, as with most of these globalization models, joint venturing would provide firms with local knowledge and expertise. Contracting 9

10 Due to security concerns in certain parts of the world, such as the Middle East and Africa, that make it difficult to staff projects with non-native personnel, some management consulting firms choose to hire native contractor consultants to do project work in those high-risk regions. Hiring locals on a contract basis provides firms with flexible access to country-specific knowledge, language skills, and cultural understanding. Of course, this flexibility comes at a price, as the contracting model provides the least amount of direct control over foreign operations, as compared with the other globalization models discussed here. This lack of direct control carries obvious risks for the firms client relationships, reputation, and brand image. Other models mentioned While it is not clear from our interviews that this approach is currently utilized by any of the firms in our study sample, one large firm described a franchise model as a potential avenue for international growth in the management consulting industry. In this model, the company hires experienced consultants from the local talent pool in a new geography to both lead and staff new offices and then trains them in the firm s culture. Although globally there are common practices in the firm, different offices are fairly independent. While this model allows rapid growth of new offices and provides access to local knowledge and expertise, it potentially dilutes the firm s culture. In addition, much of the globalization activity occurring in the industry today involves regions that, historically, have not had well-developed management consulting industries, making the hiring of experienced, local consulting talent especially difficult. Issues and Challenges that Firms Face as They Globalize 10

11 Maintaining the firm s culture A lack of qualified local talent Ensuring quality of output Weak indigenous demand Limited transferability of consulting frameworks As management consulting firms seek to expand internationally through the approaches discussed above, they often encounter a number of potential issues or challenges, five of which are discussed here. The alignment of new offices with global corporate culture One of the primary issues firms face as they globalize is maintaining the homogeneity of their corporate cultures. It is both very important and very difficult to maintain the cultural identity of the company in a globalized world. On the one hand, consulting companies must adapt to the cultures of local clients and of the regions in which those clients operate. Conversely, consulting firms must maintain their unique identities and operational standards across decentralized offices scattered throughout the world. As indicated in the previous section, one strategy that firms employ to balance these two competing priorities is to bring partners from well-established offices to the new offices to inculcate local, often native consultants with the global, corporate culture. This approach melds the global best practices and corporate culture of the firm with the local knowledge, expertise, and cultural understanding of local employees. However, one drawback of this solution is that it 11

12 restricts the speed of globalization, as it may take time to identify partners who are able and willing to move to a new office and to complete the relocation. The search for local, qualified talent Another major challenge that firms face when expanding internationally is finding local, qualified talent with which to staff new offices. Often, the native populations of new geographies do not contain enough individuals with appropriate skills or consulting experience. One reason for this dearth of local consulting talent is that there is often no sizable existing local management consulting industry in the countries or regions that are the focus of globalization activity today. Beyond the limitations of native labor pools, new offices are sometimes located in countries or regions with poor security conditions, so employees from other parts of the world are reluctant to move there. As such, firms frequently have trouble staffing offices even if they are willing to invest in creating them. Once the decision has been made to open and staff an office in a new geography rather than pursue one of the other globalization models described in the previous section, the firms typically follow three strategies for staffing the new office with consultants. First, a firm may hire experienced foreign nationals who are living and working in the U.S. and transfer them to the new offices in their home countries. Second, a firm may recruit foreign nationals directly out of U.S. or Western universities and train them in established offices for a few years before relocating them to new offices in their home countries. This is often an attractive option for foreign students who wish to gain work experience in the U.S. or other Western countries before 12

13 returning home. Finally, a firm may recruit foreign nationals in their home countries, relocate them to established offices for training, and then return them to their home countries to staff local offices. Regardless of approach, these staffing methods often require three to eight years before a new office is fully staffed with native hires. However, as one firm noted, the goal for staffing a new office is to move as quickly as possible from shorter-term visitors from elsewhere to longer-term visitors from elsewhere and finally to natives of the host country. Interestingly, in direct contrast to firms that have difficulty finding talent abroad, smaller firms often experience the opposite problem. These smaller firms often have difficulty recruiting talent in the U.S. and recruit internationally as a solution to their staffing problems. Large, wellknown firms can have their pick of the top candidates in the U.S., including those candidates graduating from U.S. MBA programs, while smaller firms with less prestige often have greater success recruiting abroad. They can find well-trained, good quality candidates in Asia, whom they are able to attract by offering the opportunity to work in the Western world. These employees, however, are not necessarily native speakers of English, so while they add great value to the quantitative aspect of the business, they are not ideal for other aspects of the job, such as putting together presentations in English or handling other communication-related tasks. Ensuring quality of output As in any industry that demands a geographically decentralized operating model, consulting firms may find it difficult to guarantee a consistent level of quality and customer service across the various offices around the world. This difficulty may stem from ineffective global training 13

14 processes or from misalignment of culture, mission, values and operational procedures across the company. Another aspect of the challenge of ensuring global consistency in quality relates to the publishing activities of consulting firms. As mentioned by one of the firms, even in a purely domestic consulting operation it is difficult to manage the stream of public studies, white papers, articles, books, and other works that consultants within the firm seek to publish. As a firm becomes increasingly global, ensuring the relevance and consistency of published output originating from consultants in different offices in various corners of the world becomes increasingly difficult. Limitations on market potential In considering global expansion, consulting companies are somewhat limited by the number of countries that can support a consulting industry. As noted in the first section of this paper, a candidate country must have an economy that is large enough to attract and support large industries and multi-billion dollar companies before larger consulting firms will consider opening an office in that country. Since consulting companies depend so heavily on long-term client relationships for business, the presence of multi-billion dollar companies is a significant requirement. However, the number of countries that meet this criterion is quite small, with the number of billion-dollar companies per country declining rapidly when looking at countries outside of North America, the EU, and Japan. 14

15 Global expansion targets may also be selected by region rather than by country. A cluster of countries with a significant presence of large industries and multinational companies may be a good expansion target and may justify setting up operations in one of the cluster countries. Europe provides many examples of such regional service models, where regional offices for example, in London, Frankfurt, the Czech Republic, and Poland serve their respective regions. In general, the BRIC (Brazil, Russia, India, and China) and Eastern EU countries currently present the largest opportunities because of their rapidly growing GDPs and the expanding presence of large multi-national companies within their borders. There is significant competition among consulting firms for the regions and countries that can support large-scale management consulting activity. Larger firms, in particular, are able to make significant strategic investments to educate the market and to stimulate demand for consulting services in regions and countries without established management consulting industries. While these investments take time to pay off, firms that actively and strategically build foreign markets for consulting services are well-positioned to establish long-term relationships with the largest clients in those new markets. The transferability of consulting frameworks Another potential globalization challenge that consulting firms may face is uncertainty surrounding the extensibility of their established consulting frameworks and problem-solving methods to client projects in new geographies. Consulting firms often use frameworks, both proprietary and general, to understand the businesses of their clients and the difficulties they face, 15

16 and to solve client problems. Companies outside the U.S. and, more generally, outside the Western world, may, for example, have different organizational structures and be subject to different industry forces for which traditional consulting tools and models used with Westernbased clients may not be as effective. Existing consulting frameworks may need to be modified before they can be effectively applied in new markets. Conclusions Globalization has yet to have a significant impact on the cost structure of management consulting firms. Unlike manufacturers, neither the large nor the mid-tier consulting firms have done much offshoring with the objective of reducing costs. In fact, the firms interviewed were more interested in the idea of offshoring to take advantage of 24-hour productivity than to reduce costs. Globalization has had some effect on location choices by firms. All of the firms interviewed have at least discussed how best to deliver services outside their home market, and the largest firms have established an international presence in a variety of ways. This is due largely to the needs of current clients, many of which are global manufacturers, although some of the largest firms have expanded proactively and in advance of demand. The largest firms seem to be much farther ahead in this area than their mid-tier counterparts. Interestingly none of the firms in this study mentioned foreign competitors. This can probably be attributed to the fact that the management consulting field is highly developed in only a few key geographies, including the United States. Thus, the US-based firms face relatively little foreign 16

17 competition. However, with the very fast rates of economic development in countries such as China and India, this situation could change over time. The large firms who have globalized proactively could find themselves in a favorable position should demand for consulting services in these markets increase. Firms consider or use a variety of means when establishing an international presence. All methods have advantages and disadvantages (for example, the partner-led model can be time consuming, while the acquisition or contract models can result in a heterogeneous firm culture), and the study did not indicate a method that was preferred by all. However, it was clear that all of the firms were discussing the different possible models of international expansion, and the largest firms had tried multiple models. Finally, the firms interviewed are all engaged in the search for talent. The ultimate goal of most firms is to staff offices with highly qualified local talent. However, it can be extremely difficult to find qualified local talent in countries without established consulting industries. Firms attempt to mitigate this in a variety of ways, all of which involve some period of training in an established office. The common denominator of all approaches is that they are time-consuming. In summary, to date consulting firms have faced limited overseas competition and few opportunities to reduce costs through offshoring. Furthermore, they have faced limited demand for their services outside the most developed countries, and considerable challenges in hiring talented consultants outside these countries as well. This has limited global expansion in the industry. However, with the rapid economic development of countries such as China and India, 17

18 this situation is likely to change over time. Firms that have found effective models for establishing offices and nurturing talent overseas are likely to enjoy a significant competitive advantage in the global consulting industry of the future. 18