Agenda Overview for the IT Services Market, 2013
Published: 4 January 2013
Analyst(s): Bryan Britz, Kathryn Hale, Bob Igou
“The IT services market continues to bridge legacy offerings and new cloud delivery paradigms. IT services providers able to adapt to change, improve competitiveness and identify growth opportunities will thrive.
IT services growth opportunities exist for service providers able both to help existing clients assimilate, integrate, manage and retire technology investments in the Nexus of Forces (cloud, social, mobile and information) and in emerging markets, and to attract new clients for established and emerging services.
However, this requires IT services providers to adapt to significant changes, including the growing influence of business leaders in technology investment decisions. Business leaders expect technology to deliver new capabilities for their business, resulting in specific, tangible business outcomes.
The Nexus of Forces demands new approaches and skills, but at the same time, many organizations remain burdened by legacy systems and tethered to existing investments. They must continue to run operations on a daily basis while transitioning from legacy IT to new operating models enabled by the Nexus of Forces.
Nexus of Forces
In response to these forces, providers are transforming their business models, including sales and delivery models, while the competitive landscape morphs and expands. Improving competitiveness requires providers to increase their focus on differentiation, enhance their approaches to market segmentation, develop the right skills required for these new market opportunities, and better articulate the business value. Success in these activities will enable providers to develop strategies that create demand and, in turn, increase their market share. Thriving, let alone surviving, in these conditions is equally challenging for established market share leaders, as it is for disruptive new entrants.
How will the providers in the IT services market compete and evolve their businesses?
Navigating a business in a changing market requires agility in adapting to changes and continuously improving to become more competitive. The impact of cloud computing on the entire IT services market remains the most significant factor that will determine the IT services marketplace of the
future. Traditional IT services sales and delivery models are primarily artifacts of a highly client specific and reactive approach to selling and delivering services.
What are the critical success factors to succeed in the IT services marketplace?
IT services have historically flourished because they have helped IT organizations assimilate, integrate, manage and eventually retire technology investments. Specialized skills, global delivery, verticalized service portfolios and satisfied customer references have formed the foundation of success for IT services providers in a competitive market. However, these critical success factors are only growing more complex and demanding. Several trends are driving this complexity. These include the shift toward hybrid IT environments, intellectual property (IP)-based solution orientation displacing labor, service segmentation convergence, and an increased need for economies of scale and experience.
What are the implications of changing IT services buying criteria and behaviors?
Clients remain cost-focused in decision making, but innovation, agility and excellence will not take a back seat to cost cutting forever. Buying criteria, and even the functional roles of the buyers themselves, are evolving to emphasize an orientation toward business outcomes and short-term return on investments. Clients increasingly expect industrialized, predesigned and preconfigured solutions from IT services providers, not just the skills to effectively execute a project. Given these changes, transforming the service sales and delivery models to more effectively resonate with clients is perhaps one of the most significant strategic initiatives for most service providers.
What is the market size and growth potential for specific IT services segments?
In a changing IT services market, providers are challenged to identify where they should place their strategic bets. To make sound investment decisions that yield financial rewards, providers need to first assess and determine the size, appeal and growth potential of the market segment under consideration. This requires IT services providers to draw on detailed market forecasts that support business planning processes.
What is the outlook for key demand drivers in IT services?
When developing strategies and prioritizing investments, understanding the underlying fact bases and assumptions as well as alternative scenarios is critical in helping to create consensus and support for the overall business case. Gartner’s extensive research into organizations’ spending plans, priorities, wants, needs and overall strategic IT initiatives allows us to help service providers understand subtle, and occasionally radical, changes in the underlying demand drivers that are behind using externally provided services.
What IT services opportunities exist in emerging technologies?
Gartner’s Nexus of Forces (cloud, social, mobile and information) is reshaping the future of IT and IT services. IT services providers have yet to explore the tremendous opportunities in the application of these technologies to unlock and even create new business value for clients. IT services providers thrive when they can help clients capitalize on such opportunities. At the same time, the Nexus of Forces represents the greatest sources of new market opportunities in the coming three to five years. Identifying the next wave of IT services opportunities related to the Nexus of Forces and understanding market readiness for services related to other emerging technologies are critical outcomes for strategy professionals and product managers alike.
Where will future new sources of demand and market opportunity come from?
How to align investments to capture growth opportunities remains a challenging decision in an overall business environment where uncertainty has become the new certainty. Emerging markets continue to offer higher-growth opportunities and are showing a greater propensity to adopt cloudbased services than mature markets. Similarly, many service providers are finding that IT services spending by the largest enterprises and government entities is not creating the new growth that is more often found in midsize enterprises. Successfully capturing the growth available in emerging markets and with midsize enterprises is critical for providers seeking to gain market share”.
So I apologise for the length of this post however the Economist has a Special Report [this week] : Outsourcing and offshoring
Offshoring – Welcome Home (extract)
“Offshoring in services is, to be sure, still going strong overall. But early pioneers of services offshoring are bringing work back home, having discovered that looking after customers and developing new IT tools are in fact a “core” part of business. For many firms, sending call centres overseas has turned into a nightmare. “We just can’t get the accents right,” confesses one Indian outsourcing executive. As with manufacturing, the advantages of outsourcing services are falling. For an American firm, the gap between the cost of employing an Indian software programmer and the cost of a local one will fall to under 20% by 2015, predicts Offshore Insights, a Pune-based advisory firm. All this could add up to the “Death of Outsourcing”, says a paper by KPMG, whose consultants have long advised Western firms on sending work overseas”.
Services – The next big thing
Developed countries are beginning to take back service-industry jobs too
“HARLEY DAVIDSON, A motorcycle-maker, had a difficult time after the financial crisis and nearly took the road out of Milwaukee, Wisconsin, its home town since 1901, to go in search of cheaper labour. It stayed in the end, but had to prune other costs. Last summer it announced it would outsource 70 information-technology and other back-office jobs to India’s Infosys. “Just more and more of our great motorcycle company being done by other countries,” lamented one hog-owner from Pennsylvania in an online forum on hearing the news. In fact, Infosys will be serving Harley and other firms from a new office full of Americans in Milwaukee.
This is the 18th new office Infosys has opened in America in recent years. The company will hire a total of around 2,000 locals in the year to March 2013, up on last year’s 1,200. Other big firms are hiring at a similar level. According to NASSCOM, the trade body for India’s IT sector, the industry has doubled the number of locals it has hired in America in the past five years. It now employs 280,000 people there and is planning to recruit many more in the next few years.
So far companies are not reshoring services even on the modest scale seen in manufacturing. That is partly because information goes down the wire, so rising transport costs do not play a role. But as the previous section has shown, the offshoring of services is slowing down because most of the work that can be done remotely has already gone, and because firms are becoming more aware of the disadvantages of sending work to the other side of the world. More and more companies want IT and business-process tasks to be done locally, especially when the work is complex and strategic. Indian offshoring firms are responding by hiring in developed markets.
A survey of outsourcing executives by HfS Research in Boston last summer found that America is seen as the world’s most desirable region for expanding IT and business-services centres in the next two years. India now comes second, despite its lower labour costs. Chief information officers once rushed to send their software-development work offshore, said CIO magazine last year, but now they want to keep it nearby. The magazine cited the example of Standard & Poor’s, a credit-rating agency, which used to offshore much of its IT work but now wants to send it no farther away than three hours from Manhattan.
You do not have to go far outside the big cities to find that costs come right down. In a study of job-creation in America McKinsey found that workers for high-level IT support in the cheaper parts of the country cost less than in Brazil or eastern Europe and just 24% more than in India. In a paper, “IT Services: The new Allure of Onshore Locales”, McKinsey’s consultants show that labour costs in different parts of America can vary by as much as 30%, with similar differentials between, say, the cost of skilled IT workers in Paris and northern France, or eastern and western Germany.
Hiring locals certainly helps to placate public opinion, but the business argument for it is even more important. Since most routine tasks have already been sent offshore, low-cost vendors are now trying to win higher-value work, such as managing human resources and complex, multi-faceted projects. But to get that kind of business they have to be near their clients. For example, one outsourcing vendor, Cognizant, with a CEO of Indian origin and a big Indian workforce but headquarters in New Jersey, is currently taking market share from rivals such as Infosys. The Indian component of its workforce makes up about 60% of the total, compared with around 80-90% for TCS and others. A typical recent deal, says Malcolm Frank, the firm’s head of strategy, was one it did in 2012 with the American arm of ING, a Dutch bank, under which Cognizant will take over business processes for insurance. Instead of sending the work to India, the firm will open new centres in Iowa and North Dakota and take on ING’s existing employees. “The client wanted local voices answering the telephones,” says Mr Frank, “and the economics of that part of the US means that the numbers work for us.”
Some big firms which originally led the way in the offshoring of services are now taking work back in-house and onshore. For most of the past decade, General Electric had been aiming to outsource the vast majority of its global IT jobs, with most of that outsourced work going to India. When Charlene Begley, the firm’s chief information-technology officer, recently re-evaluated its global balance of labour, she found that half the IT work was being done by outside providers and the firm was losing some of the skills it needed. With the rise of mobile devices and iPads, GE wanted to be able to develop new applications for customers far more quickly. Now the firm is hiring 1,100 IT engineers for a centre it opened in Michigan in 2009. The company has said that the new American employees will not replace GE’s offshore workforce, but the move is seen in the industry as an important sign of the times. GE was one of the firms that made it respectable to outsource, so its decision to bring some of the IT work home is expected to prompt other companies to follow.
The most prominent reshorer of services has been General Motors. Like GE, GM has had plenty of experience with outsourcing. Between 1984 and 1996 it owned EDS, a company founded by Ross Perot that pretty much invented the outsourcing industry. In July 2012 GM announced that it was reversing its rule of outsourcing 90% of its IT work to other firms. In a few years’ time it hopes to be doing 90% of the work inside the firm. In the process it will be reshoring many of those jobs.
GM’s reasons for doing this may well apply to many other firms too. “IT has become more pervasive in our business and we now consider it a big source of competitive advantage,” says Randy Mott, GM’s chief information officer, who has been responsible for the reversal of the outsourcing strategy. While the work was being done by outsiders, he said, most of the resources that GM was devoting to IT were spent on keeping things going as they were rather than on thinking up new ways of doing them. The company reckons that having its IT work done mostly in-house and nearby will give it more flexibility and speed and encourage more innovation.
Don’t call us
Of all the back-office work that has been outsourced, the call-centre business is the one that has made the most abrupt exit from India. With information technology, outsourcing firms such as TCS and Wipro are dealing with global companies, but with call centres they are dealing with customers. “We just can’t get the accents right,” sighs one Mumbai-based outsourcing executive. They tried hard to get workers in Bombay and Bangalore to enunciate their vowels just so. One recent web sketch showed operators imitating Sean Connery, a Scottish actor, for the Scottish market. But many customers had trouble understanding them and were infuriated.
For India, the call-centre business is “on its deathbed”, says Mr Kapoor. The Philippines has won a lot of work, thanks to its cultural affinity with America. And many firms, especially in financial services, have brought call centres back to America, Britain and Europe, often with the twist that to speak to someone in your own country you have to pay extra”.
India’s outsourcing business
On the turn
India is no longer the automatic choice for IT services and back-office work
“Hackett, a Florida-based firm that advises companies on outsourcing, estimates that over the period from 2002 to 2016 offshoring is likely to claim a total of 2.1m business-services jobs (including IT, human resources, procurement and finance) at big American and European companies. Still more jobs will have been lost in business processes, including call centres and claims processing. Hackett says that about 150,000 business-services jobs a year are still being shifted from Europe and America; the offshoring of services remains in full swing. But the firm also predicts that the migration of services to India and to other offshore locations such as China and Brazil will slow down after 2014 and stop entirely by 2022.
The main reason for this startling prediction is that most of the easily offshorable jobs have already gone. Pralay Das, an equity analyst with Elara Capital in Mumbai, estimates that American and European banks and financial-services firms have already offshored about 80% of what they can reasonably send to India and other offshore locations.
A second reason is that a lot of the jobs that might have been offshored by Western firms in the coming years have already been wiped out by productivity improvements. New jobs in Western economies tend to be of a more demanding, higher-level kind and are less likely to be sent abroad.
All this has sent the Indian IT and BPO industry into a funk. There are fears that it will either stop growing or be forced to accept much lower profit margins as demand for its services falls. It is clear that for Indian IT vendors, demand for traditional outsourcing, meaning routine software and application development and maintenance, is already levelling off, says Pankaj Kapoor, an equity analyst at Standard Chartered Bank in Mumbai. The work used to roll in at you, explains an executive at one large Indian vendor; now you have to go out and search for it.
It is not only that the offshoring of jobs is reaching saturation point, but also that Western companies, after a decade of experience, are changing their attitude to the practice. KPMG, a global consulting firm, even announced “The Death of Outsourcing” in a research paper last year. After all, offshoring important tasks to an outside provider is quite a risky thing to do and carries significant hidden costs. Companies in services as well as manufacturing are now far more aware of the pitfalls. Until recently the most important reason for companies to send large chunks of important business functions abroad was to drive down costs. A decade ago wages in emerging markets were a tenth of their level in the rich world, an opportunity too good to miss. During the recession of 2008-09, says Cliff Justice, KPMG’s leading expert on outsourcing and offshoring, the race offshore accelerated, and more higher-value and complex work was sent overseas too.
But now many companies are finding that they lost their connection with important business functions, says Mr Justice. At the same time the cost advantage that drew firms offshore in the first place is disappearing. Salaries for software engineers are going up rapidly and inflation is high. For IBM, says Bundeep Rangar, chief executive of IndusView, an advisory firm, the total cost of its employees in India used to be about 80% less than in America; now the gap is 30-40% and narrowing fast.
The industry also continues to have a huge labour turnover, which can mean quality problems. That is chiefly because the vast majority of the work being offshored is repetitive and dull, and often well below the qualification levels of the people doing it. Increasingly, local industries such as retail, insurance and banking are offering more interesting jobs with better career prospects than much of what is on offer in IT and business-process outsourcing.
To be sure, much of the work that has gone to India in recent years is more demanding, but in that part of the market the cost of labour has soared. Good analysts and product developers in India and China are few and far between, so pay for such jobs has been rising by up to 30% a year. According to Mr Justice, pay for workers with such skills in India and China can be even higher than in America or Europe, with all the disadvantages of being several time zones away from head office
Reasons why not
When outsourcing abroad was still relatively new in the 1990s, the idea was that outside partners would be better than insiders at IT and back-office work because they were specialists. And even if they were no better at it, at least they were a lot cheaper. This line of thinking is known inside the industry as “your mess for less”. It has now become clear that outside firms usually cannot do boring back-office work any better and often do it worse. Many offshore outsourcing relationships have proved disappointing and some have ended in lawsuits.
Some chief executives found that outsourcing relationships turned sour after a few years. The boss of one global European engineering firm points out that outsourcing partners are mainly concerned with their own profits. “They give you a good deal for two to three years and then they suck your blood,” he says. A firm that outsources a lot of IT also risks losing its expertise in a key area and can get trapped in legacy systems, he adds.
Some American firms that have outsourced a lot to India and elsewhere are building “shadow capability” in services in their home countries, says KPMG’s Mr Justice. Using unofficial budgets, he says, some chief information officers are hiring people back home to do the same kind of work that their offshore teams do, just to have them next door. Only a small number of firms have gone to such extremes, yet the fact that it happens at all indicates the value that firms place on proximity, says Mr Justice. And some of the biggest original pioneers of outsourcing, including General Electric and General Motors, have already taken the plunge and brought their IT work home”.
So if you have read thus far then thanks.
Gartner will bang on about the Nexus of Forces that connects cloud, social, mobile and information at their events, in their analyst reports and research papers.
Gartner predict that the “Nexus of Forces represents the greatest sources of new market opportunities in the coming three to five years”.
There is nothing new in their message. Hyper Hybrid Clouds, social collaboration, mobility, analytics and big data are already on the CIO agenda.
In contrast, the Economist report sets out the shift from offshore to reshoring of manufacturing and technology services by creating new local jobs for knowledge workers.
My own experience in the market is that Indian Pure plays are actively hiring local resources, many with an IBM Sales Executive background, to present a “look alike” image to the customer. People buy from people they are engaged with.
The growth opportunities for IT service providers will become increasingly difficult and will to some extent be driven by the Nexus of Four Forces but the winners will be the companies who can innovate by providing a differentiated rather than commodity service.
It is not about insurance claims processing or large multi-year infrastructure contracts it is as Gartner state that IT budget spend is now pervasive across the organisation and the CMO will have different buyer values than the CIO, CTO, CISO.
I agree with Gartner that all technology delivered solutions must be directed at the customer where the “mission is accomplished”
IT Service Providers should keep an eye on the storm clouds that are rolling in as reported by the Economist.