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By David Gumpert An Unseen Peril of Outsourcing An offshore alliance seemed to answer a struggling outfit's prayers. Instead, the U.S. parent has been wound up and its intellectual crown jewels are in India This is a story about two companies in two countries -- a story that may provide some idea of one of the unexpected directions the ongoing trend to overseas outsourcing could be taking. The first outfit is AM Communications, an American outfit, and the second, India-based NeST Group. First, a little history. Late in the summer of 1998, a mutual contact hooked up Javad "Jay" Hassan, an Indian-born American who had worked for IBM and other outfits, with Alvin Hoffman, the largest shareholder of AM Communications (AM), a small, publicly-held company based in Quakertown, Pa., that developed and owned software used by cable-TV operators to monitor their systems. AM, which began in the mid-1970s installing lines for cable-TV systems, had seen its ups and downs -- and fiscal 1998 (ended March 31) was one of its down periods. Sales, which the previous year had been $16 million, came in at around $9 million, due to the loss of several key customers. "The company was about broke at the time," recalls Hoffman, a stockbroker by profession, who invested what he estimates to have been around $8 million of his own money in AM Communications after becoming involved in 1987. By 1998, things were so grim he feared a distress sale or bankruptcy if he couldn't find a savior. NEW GAME PLAN. That's when Hassan entered the picture, negotiating a deal in late 1998 to become CEO and assuming the voting rights for most of Hoffman's stock. The cost to Hassan for gaining control of an established public company? Nothing, according to SEC documents. "He was a visionary," recalls Hoffman in explaining his willingness to turn over control to Hassan. That vision was to bring AM's costs down by outsourcing programming and other tasks to India while steering the company into high-margin services. Says Hoffman: "He was ahead of his time with outsourcing." There also was another component to the deal. On the same day in November that Hassan became CEO and took over voting control, AM entered into a consulting agreement with "Network Systems & Technologies (NeST), an affiliate of Mr. Hassan, which is located in Trivandrum, India," according to documents AM filed with the SEC. In other words, Hassan would direct work to a company in which he had a stake and from which AM was to receive preferential rates. That consulting agreement went into effect pronto, and by the end of the next month -- December, 1998 -- more than $200,000 of AM business had been sent to NeST. "He (Hassan) had this vision for a new kind of company, a virtual company, that would own a technology or customer base and outsource everything else," recalls Joe Rocci, at the time AM's vice-president of product technology. "Right from the beginning, the deal was that he [Hassan] would take AM's operating costs way down by taking everything, and I mean everything, to India," adds Rocci, who has since left the company. "In the course of two years, we had moved 50 to 60 engineering jobs and all of manufacturing, probably about 80 jobs, to India." WELCOME PROFITS. In Hassan's view, outsourcing was the only way to save AM. "We needed $5 million worth of new R&D in software and hardware to turn the company around," he says. "No one was willing to give us $5 million. I said, 'Why not give the NeST people the business?'" He was convinced the $5 million worth of work could be done for $1 million by NeST. For a while, it seemed as if AM and NeST were making out just fine. AM's revenues increased, and NeST's billings to AM increased as well. Hassan engineered a couple of acquisitions of service-related companies and AM's revenues headed up -- to $16 million in fiscal 2001 and $28.7 million in 2002. The outfit even made some money -- a bit over $1 million in 2001 and $700,000 in 2002. Between the end of 1998 and the start of 2000, NeST billed more than $1.8 million of outsourcing charges to AM, for which it was paid in AM warrants convertible to stock -- an arrangement that reflected the American operation's weak financial position. Beginning in 2000, NeST began receiving cash for its outsourcing services -- collecting $10.1 million from AM between Apr. 1, 2000, and Mar. 30, 2002, for development and manufacturing services, according to documents AM filed with the SEC.
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