After the credit crunch had all but frozen IT outsourcing activity, there were signs at the end of 2009 that it might pick up in 2010. For most of the year, however, this was not the case. Data published by IT services advisory group TPI showed that in the third quarter of 2010 the total contract value of new major outsourcing deals stood at $14 billion, down about 20% from the same period in 2009.
Ed Thomas, an analyst at IT market watcher Ovum, explains that in 2010 lingering economic uncertainty continued to preclude long-term planning for businesses, preventing them from initiating large outsourcing deals.
“It was not a great year in terms of the number of deals signed and their value,” he says. “Companies have been putting off making decisions. [They] don’t have great visibility into their own sales going forward so it’s very difficult to make long-term plans for their IT.”
There were some notable outsourcing deals, especially towards the end of the year. In December, E.ON signed a $1.4 billion deal that will see the European utilities provider outsource its infrastructure to IT giant Hewlett-Packard. Days later, oil multinational BP announced that it would outsource maintenance of its entire data centre estate in the UK, and some of it in Europe, to the same vendor in a five-year, $400 million agreement.
But if there has been an uptick in outsourcing activity, it was not evident in the Effective IT Survey. A smaller proportion of this year’s respondents (31.6%) have used offshore BPO or development services than last year (36.3%), while the proportion that had ‘outsourced the IT department’ fell from 24.1% to 18.4%.
IT services providers will certainly be hoping that the private sector starts outsourcing in earnest again in 2011, however, because in the public sector they are entering a period of severe turbulence.
Governments around the world are looking to cut costs, and the UK’s has been as vocal as any in its intent to slash IT spending. The coalition government elected in May instigated a rethink of the way Whitehall procures IT, and the ‘megadeals’ that characterised Labour’s 13-year tenure are now off the agenda, it says. One clause in the memoranda of understanding that the Cabinet Office has agreed with IT suppliers is that it will not procure deals worth more than £100 million.
Analysing the government’s IT reforms, market watcher TechMarketView predicted a 10% reduction in public sector software and IT services (SITS) spending between 2009 and 2012. And because the public sector accounts for 30% of overall SITS spending in the UK, says founder Richard Holway, for suppliers this reduction will bring about the “longest and most severe [downturn] in the 50-year history of IT”.
Ovum’s Thomas is less certain of the outcome. “I’m not sure that we’ve seen the full impact of the measures introduced by the new government following the Spending Review just yet,” he observes. “We will see smaller deals in the public sector in the UK, but whether we will see fewer deals, therefore reducing total contract value, is hard to say at this point.”
Either way, the cuts have certainly reignited the question of whether the government should outsource IT work to offshore destinations such as India. It may (arguably) provide cost savings, but is certainly politically awkward.
“Government has always been unwilling to embrace offshoring,” explains Thomas, “with the key reason being that it’s a major political issue if they’re sending jobs to India when the UK has 2.5 million people unemployed.” He says that the government will probably explore delivering IT work from more cost-effective regions of the UK, such as the North East and Scotland.
Recently, though, there have been signs that the UK sector may be warming to the idea of offshoring, albeit through intermediaries that are closer to home. In November 2010, UK IT services provider 2e2, one of the government’s approved IT suppliers, outsourced 100 jobs to Patni. In January 2011, for example, John Neilson, the managing director of the NHS Shared Business Services venture (part-owned by IT services provider Steria), said the NHS is “wasting money” by not offshoring.
Unsurprisingly, Indian IT providers are eager to have a crack at the public sector market. In April 2010, HCL chief Vineet Nayar claimed that his company was disadvantaged by an “old boys’ network” of incumbent suppliers, which effectively shuts his company out of the game.
Acquiring a European supplier could be one route into the market, and in May 2010 a UK tabloid reported that UK IT services provider Logica was about to be acquired by India’s Infosys. Nothing came of that rumour, however.
Ed Thomas expects such gossip to resurface in 2011, although Indian providers may struggle to justify a deal to investors. “Indian vendors are very wary when it comes to acquisitions; they shy away from spending a lot of money on one company,” he explains. “They have this dilemma that whatever company they go for, it will inevitably be margin dilutive. [Indian providers] are operating at 20%+ profit margins, which the European vendors simply aren’t doing. But it would be really interesting if this finally came to fruition.”
As historically lucrative markets such as the UK and US appear to be drying up, IT services providers of all nationalities are looking elsewhere for opportunities to expand. In September, for example, French outsourcer Capgemini paid 233 million for a stake in Brazil’s leading IT services business, CPM Braxis. Although the Latin American nation is touted as an offshore outsourcing destination, Capgemini said its primary objective was to break into Brazil’s fast-growing domestic market.
Closer to home, French outsourcing giant Atos Origin announced in December that it is to acquire the IT services division of German engineering giant Siemens for $1.1 billion. Atos CEO Theirry Breton said that the deal would create Europe’s second-largest IT services company (by market share) behind IBM. He explained that the acquisition will help Atos compete in German and Eastern European markets, which are poised to return higher growth than Atos’s traditional markets of France, Spain and the UK.
The agreement includes a separate seven-year, 5.5 billion deal for Siemens to outsource its IT support to Atos. Breton described this as “the biggest worldwide IT contract ever signed”.
On the same day, Capgemini announced a bid for Hannover-based IT services business CS Consulting. That Germany’s economy is outpacing the rest of Europe has clearly not gone unnoticed by IT services suppliers.